Attached files
| file | filename |
|---|---|
| EX-31.1 - SHS EXHIBIT 31.1 2010 10K - SAUER DANFOSS INC | exhibit311201010k.htm |
| EX-32.1 - SHS EXHIBIT 32.1 2010 10K - SAUER DANFOSS INC | exhibit321201010k.htm |
| EX-31.2 - SHS EXHIBIT 31.2 2010 10K - SAUER DANFOSS INC | exhibit312201010k.htm |
| EX-23.1 - SHS EXHIBIT 23.1 2010 10K - SAUER DANFOSS INC | exhibit231201010k.htm |
| EX-32.2 - SHS EXHIBIT 32.2 2010 10K - SAUER DANFOSS INC | exhibit322201010k.htm |
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2010
COMMISSION FILE NUMBER: 1-14097
SAUER-DANFOSS INC.
(Exact name of registrant as specified in its charter)
Delaware | 36-3482074 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |
2800 E. 13th Street, Ames, Iowa | 50010 | |
(Address of principal executive offices) | (Zip Code) |
(515) 239-6000
(Registrant's telephone number, including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $0.01 per share | New York Stock Exchange | |
(Title of each class) | (Name of each exchange on which registered) |
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of 1933. Yes o No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 (the "Act"). Yes o No x
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Act during the preceding 12 months (or for such shorter periods that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K: x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o | Accelerated filer x | Non-accelerated filer o (Do not check if a smaller reporting company) | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act): Yes o No x
The aggregate market value of the voting common stock of the registrant held by nonaffiliates based on the last sale price on June 30, 2010 was $141,069,244. (The registrant does not have any other authorized common equity.)
As of March 1, 2011 there were 48,413,316 shares of common stock, $0.01 par value, of the registrant outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the annual meeting of stockholders to be held June 17, 2011 are incorporated by reference into Part III.
PART I
Item 1. Business.
(a) | General Development of Business |
Sauer-Danfoss Inc. (the Company), a U.S. Delaware corporation, and its predecessor organizations have been active in the mobile hydraulics industry since the 1960s. Sauer-Danfoss is a global leader in the development, manufacture, and marketing of advanced systems for the distribution and control of power in mobile equipment. The Company designs, manufactures, and markets hydraulic, electronic, and mechanical components, as well as software and integrated systems that generate, transmit, and control power in mobile equipment. Principal products are hydrostatic transmissions, open circuit piston pumps, open circuit gear pumps and motors, low speed high torque motors, steering units, microprocessor controls, electrohydraulics, and control valves. The Company sells its products to original equipment manufacturers (OEMs) of highly engineered, off-road vehicles who use Sauer-Danfoss products to provide the hydraulic and electronic power for the propel, work, and control functions of their vehicles. The Company's products are sold primarily to the agriculture, construction, road building, turf care, material handling, and specialty vehicle markets. The Company conducts its business globally under the Sauer-Danfoss name.
On December 22, 2009 Danfoss A/S, the majority stockholder of the Company, issued a press release announcing its intention, through its wholly owned subsidiary, Danfoss Acquisition, Inc., to commence a cash tender offer to be followed (in certain circumstances) by a statutory merger for the purpose of acquiring all the outstanding shares of Company common stock not already owned, directly or indirectly, by Danfoss A/S for a price of $10.10 per share. On March 9, 2010 Danfoss A/S announced it would be launching the tender offer on March 10 for a price of $13.25 per share. On March 19, 2010 the Special Committee of the Sauer-Danfoss Board of Directors announced its recommendation that the stockholders of the Company accept the cash tender offer of $13.25 per share and tender their shares pursuant to the offer. On April 9, 2010 Danfoss A/S announced that it had increased its cash offer price to $14.00 per share. On April 16, 2010 the Special Committee requested the Company's management to prepare updated financial projections covering 2010 through 2012 so that it could use this information in analyzing the increased offer of $14.00 per share by Danfoss A/S. On April 23, 2010 the Special Committee recommended that stockholders reject Danfoss' $14.00 per share offer and withdrew its earlier recommendation of Danfoss' previous $13.25 per share offer. On April 30, 2010 Danfoss A/S announced that their $14.00 per share cash tender offer for outstanding shares of Sauer-Danfoss Inc. expired at midnight on April 29, 2010 without acceptance of the tendered shares, due to the minimum tender condition not being satisfied.
(b) | Financial Information About Segments |
The Company reports its operating segments based on its product lines of Propel, Work Function, Controls and Stand-Alone Businesses. Propel products include hydrostatic transmissions and related products that transmit the power from the engine to the wheel to propel a vehicle. Work Function products include hydrostatic steering units, geroller and gerotor motors used for both propel and work functions, as well as gear pumps and motors that transmit power for the work functions of the vehicle. Products in the Controls segment include electrohydraulic controls, microprocessors, and proportional valves that control and direct the power of a vehicle. Products in the Stand-Alone Businesses include cartridge valves and hydraulic integrated circuits (HICs), open circuit gear pumps and motors, directional control valves, inverters, light power hydrostatic transmissions, gear reduction drives, piston pumps and wheel motors. Information about the Company's reportable segments defined by product lines is set forth in Note 17 in the Notes to Consolidated Financial Statements on pages F-31 through F-34 of this report and is incorporated herein by reference.
(c) | Description of Business |
Information regarding the Company's principal products, by segment, and the business in general is presented below. Information regarding sales by the Company's segments and geographic regions is set forth in Note 17 in the Notes to Consolidated Financial Statements on pages F-31 through F-34, and is incorporated herein by reference. No individual customer accounted for 10 percent or more of the Company's total net sales in 2010, 2009, or 2008.
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Propel Segment
Hydrostatic Transmissions
Sauer-Danfoss designs, manufactures, and markets a range of closed circuit axial and bent axis piston hydrostatic transmissions for the propulsion of mobile equipment in the Americas, Europe, and the Asia-Pacific region. High-power (typically over 50 HP) and medium-power (typically 25 to 50 HP) applications for hydrostatic transmissions manufactured by the Company include construction, road building, specialty, and agricultural mobile equipment. Light-power (typically 15 to 25 HP) and bantam-power (typically under 15 HP) applications for hydrostatic transmissions manufactured by the Company include light agricultural and turf care mobile equipment. The Company manufactures these hydrostatic transmissions at its facilities in Ames, Iowa; Freeport, Illinois; Neumünster, Germany; Dubnica nad Váhom, Slovakia; Povazská Bystrica, Slovakia; Shanghai, China; and Osaka, Japan.
Open Circuit Piston Pumps
Sauer-Danfoss designs, manufactures, and markets open circuit piston pumps used to transform mechanical power from the engine to hydraulic power for the various functions of the vehicle. The advantages of open circuit piston pumps compared to other types of pumps, such as vane or gear pumps, are the high degree of control within the work function hydraulic system and the more efficient use of engine power. These products are designed and manufactured at facilities in Ames, Iowa and Dubnica nad Váhom, Slovakia.
Work Function Segment
Low Speed High Torque Motors
Sauer-Danfoss designs, manufactures, and markets a complete line of geroller and gerotor motors used for both propel and work functions in all served markets. These motors are manufactured at the Company's Ames, Iowa; Nordborg, Denmark; and Bielany Wroclawskie, Poland facilities.
Steering Units
Sauer-Danfoss designs, manufactures, and markets hydrostatic steering units to customers throughout the world. These steering units convert steering wheel motion into hydraulic flow and pressure to provide steering motion for agricultural tractors, combines, turf care, marine, and earthmoving equipment. The Company manufactures steering units in Nordborg, Denmark; Wroclaw, Poland; and Pune, India.
Controls Segment
Electronic Components
Sauer-Danfoss designs, manufactures and markets a portfolio of electronic controls, including microprocessor-based controllers, intelligent displays, joysticks and electronic sensors through its electronic and mechatronic operations in Minneapolis, Minnesota; Älmhult, Sweden; Neumünster, Germany; and Nordborg, Denmark. The software to integrate all these components into systems is also developed by Sauer-Danfoss and licensed to customers to let them develop their own solutions in an easy-to-use, graphical environment. Electronic controls and software are used by OEMs to network hydrostatic transmissions and work function hydraulics of mobile equipment into comfortable, safe and efficient systems.
Proportional Valves Group (PVG)
Sauer-Danfoss designs, manufactures and markets a variety of proportional valves to meet its customers' needs, ranging from very sophisticated electrohydraulic valves for highly sophisticated forestry and agricultural harvesting equipment, to simpler mechanically actuated valves for construction equipment. These products are manufactured in facilities located in Povazská Bystrica, Slovakia; Nordborg, Denmark; and Easley, South Carolina.
Stand-Alone Businesses Segment
Open Circuit Gear Pumps and Motors
Sauer-Danfoss designs, manufactures, and markets a broad range of high-performance standard gear pumps and motors under the brand “TurollaOCG.” Gear pumps and motors are the most widely used type of mobile hydraulic pumps and motors in the industry. The Company manufactures gear pumps and motors at its Bologna, Italy; Ames, Iowa; and Povazská Bystrica, Slovakia facilities.
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Cartridge Valves and HICs
Sauer Danfoss designs, manufactures and markets a broad portfolio of cartridge valves to meet its customers' needs for power control under the brand “Comatrol.” The business works directly with its customers in designing and manufacturing custom HICs that combine multiple cartridge valves into a complete hydraulic control solution to regulate speed, control direction and modulate force. These valves range from very simple, low-cost mechanical cartridges used on compact utility tractors, to complex electrohydraulically actuated valves for complex applications such as forestry and agricultural harvesting equipment. The Company manufactures cartridge valves and HICs in facilities located in Reggio Emilia, Italy; Easley, South Carolina; and Shanghai, China.
Directional Control Valves
Sauer-Danfoss designs, manufactures and markets directional control valves for compact utility tractors, construction equipment, material handling and mobile equipment in general. These products are manufactured in facilities located in Caxias do Sul, Brazil; and Pune, India.
Inverters
Sauer-Danfoss designs, manufactures and markets a broad range of high-performance inverters for mobile applications under the brand "Schwarzmüller Inverter." Inverters are used to drive alternating current (AC) motors and transform electrical power from a battery to mechanical power. Typical applications are traction, steering and hydraulic pump systems in material handling vehicles and other battery powered / electrical hybrid applications. The advantage of inverter driven AC-systems compared to hydraulic solutions is the high degree of control and efficiency. These products are designed at the Company's facility in Kaiserslautern, Germany and manufactured in Almhült, Sweden and by contractors in Germany.
Light Duty Hydrostatic Transmissions
Sauer-Danfoss designs, manufactures and markets high-performance light duty hydrostatic transmissions, gear reduction drives, piston pumps, and wheel motors for both the consumer and commercial markets in the lawn and garden industry under the brand "Hydro-Gear." These products are manufactured at its facilities in Sullivan, Illinois and Princeton, Kentucky.
Major Markets and Applications
Construction and Road Building | Agriculture and Turf Care | Material Handling and Specialty Vehicles | ||
Chip spreaders | Combines | Industrial lift trucks | ||
Concrete pumps | Commercial wide-area, | Logging equipment | ||
Concrete saws | walk-behind mowers | Marine equipment | ||
Crawler dozers | Commercial zero-turn mowers | Mining equipment | ||
Crawler loaders | Cotton pickers | Oil field equipment | ||
Ditchers/trenchers | Detasslers | Railway maintenance vehicles | ||
Excavators | General turf maintenance | Rough terrain fork lifts | ||
Grinders | equipment | Self-propelled boom aerial lifts | ||
Landfill compactors | Harvesters | Self-propelled scissor aerial lifts | ||
Pavers | Lawn and garden tractors | Snow groomers | ||
Planers | Seeders | Sweepers | ||
Rollers | Sprayers | Tree shakers | ||
Skid steer loaders | Tractors | Truck and bus fan drives | ||
Transit mixers | Windrowers | Warehouse trucks | ||
Utility tractors | ||||
Wheel loaders |
General Characteristics
Sauer-Danfoss sells both standard and customized products, with most products being built to order. With respect to some of the most technologically demanding vehicles, such as those used in agriculture, forestry, construction, and road building, Sauer-Danfoss' engineers work closely with customers from design through manufacture of the final product. The research and design phase, which is funded by the Company, can range from a few weeks to as long as four to six years for a major application. Once the design has been accepted and the customer has placed an order, the manufacturing process typically takes only a few days.
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Sauer-Danfoss operates 19 manufacturing facilities in the Americas, Europe, and the Asia-Pacific region. The Company's decentralized manufacturing capabilities allow it to adapt its products to local market needs and to provide flexibility to meet customer delivery requirements. The Company sells and distributes its products directly to large OEMs and serves smaller OEMs through Company-owned sales companies or independent distributors.
In accordance with standard industry practice for the mobile equipment industry, the Company warrants its products to be free from defects in material and workmanship. The warranty period varies from one to three years, from the date of first use or from the date of original shipment of the product from Sauer-Danfoss. The Company's warranty expense has been two percent or less of net sales in each of the past three years.
Because many of its products are designed and developed in conjunction with its customers' design teams to fit their specific needs and to minimize inventory levels, the Company primarily manufactures products to order. The Company typically machines components with long lead times according to a sales forecast and machines certain unique components for specific customers according to firm orders. Inventories at the Company's manufacturing sites consist primarily of raw materials and machined iron housings and components. Limited amounts of assembled finished units are maintained in inventory at the manufacturing sites. Some of the Company's sales locations maintain inventory that consists primarily of finished units manufactured specifically for distribution to customers in those locations.
The Company does not accept orders subject to late delivery penalties. On occasion, the Company sells its products to government agencies, including products used for military applications, but it does not design its products to meet specific government standards and usually only enters into contracts for the supply of commercial products. There are no government contracts of material value to the Company.
Raw Materials
The Company purchases iron housings and components from various U.S., European, and Asian foundries and metal suppliers. The principal materials used by the Company are iron, steel, brass, and aluminum. All materials used by the Company are generally available from a number of sources in quantities sufficient to meet current requirements. The Company has a global supplier quality program that it uses to ensure all suppliers meet the Company's quality expectations.
Patents, Trademarks, and Licenses
The Company owns or licenses rights to 525 patents and trademarks relating to its business. While the Company considers its patents and trademarks important in the operation of its business and in protecting its technology from being used by competitors, its business is not dependent on any single patent or trademark or group of related patents or trademarks.
To ensure worldwide availability of the Company's design of products, the Company has, in the past, licensed its technology to unaffiliated companies in certain countries. The Company does not currently have any such license agreements in place. The Company currently has license agreements in place as part of joint ventures in which the Company participates to manufacture or distribute the Company's technology.
Seasonality
Seasonal patterns in retail demand for agricultural, construction, road building, and turf care equipment sold by the Company's customers result in variations in the volume and mix of products sold by the Company during various times of the year. Historically, the Company has higher sales levels in the first half of the year, although this was not the case in 2010. Seasonal demand must be estimated in advance, and products must be manufactured in anticipation of such demand in order to achieve efficient utilization of labor and production resources.
Working Capital
The Company has historically funded its working capital requirements through cash flow from operations and its various credit facilities. As described in Note 8 in the Notes to the Consolidated Financial Statements on page F-16 through F-17 of this report, the Company has a credit facility in place which allows it to borrow up to $500 million from Danfoss A/S, the Company's majority shareholder. The Company is reliant on Danfoss A/S as its primary external source of working capital financing.
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Backlog
At December 31, 2010 the Company's backlog (consisting of accepted but unfilled customer orders primarily scheduled for delivery during 2011) was $814 million, an increase of 63 percent from December 31, 2009, excluding the impact of currency fluctuation. Historically, backlog comparisons have been a good indicator of the Company's future business level, but the value of those comparisons depends on the degree to which customer ordering behavior remains constant from year to year. Customers can increase, cancel, or reschedule orders, so some customers place orders in excess of their actual needs in order to ensure that adequate quantities will be available. In such a case, the customer may ultimately cancel a portion of its order.
Competition
The mobile hydraulics industry is very competitive. Sauer-Danfoss competes based on technological product innovation, quality, and customer service. The Company believes that to be successful over the long term, suppliers to mobile equipment manufacturers must have the ability to capitalize on the changing needs of the industry by providing technological innovation, shorter product development times, and reduced manufacturing lead times at globally competitive price levels.
Propel Segment
The closed circuit hydrostatic transmission market is highly concentrated and intensely competitive. There are a small number of manufacturers of hydrostatic transmissions with which the Company competes worldwide that are not captive suppliers of OEMs. These include Bosch Rexroth AG, Eaton Corporation, and Linde AG. In addition, the Company competes with alternative products, such as mechanical transmissions, of other manufacturers.
The Company competes with a number of smaller companies that typically offer a single, specialized product on a more limited geographic basis as a component of a closed circuit hydrostatic transmission system.
In terms of global supply of closed circuit hydrostatic transmissions, the Company believes it is the world leader in terms of product range, market share, and geographic coverage. Only Bosch Rexroth AG offers similar geographic coverage.
Work Function Segment
Low speed high torque motors (LSHT) and hydrostatic steering units are provided to the market from more than ten competitors, the major ones being Eaton Corporation, Zhenjiang Hydraulic Components Manufacturing Co., Ltd., White Drive Products, Parker-Hannifin Corporation, Ognibene S.p.A., Bosh Rexroth AG and M+S Hydraulic. Sauer-Danfoss believes it occupies the number two position in the global market for LSHT. The Company believes it has the largest European market share for steering units. As steering systems' technical demands grow, Sauer-Danfoss is providing electronic control of steering and complete electrical steering solutions to meet the growing demands of the steering market.
Controls Segment
In the electronic components market, which covers both propulsion and work function, there are only a few global competitors providing both the hydraulic and electronic elements of the system. The main competition comes from major OEMs, who produce electronic controls for their own use, or niche competitors who focus on a specific market segment, region, or technology. The Company believes it is well positioned to establish itself as a technology leader, as there is no clearly established technology in this sector that is deemed to be an industry standard. It also believes it will experience higher than average market growth levels as a result of the industry applying more electronics to meet the needs of new safety and emissions regulations.
The proportional valves group marketplace is fragmented among a number of suppliers, most of which are focused on limited valve types or flow ranges. Sauer-Danfoss provides a comprehensive line of proportional valves to meet the specific needs of its customers. Competitors who provide partial lines include HAWE Hydraulics, Bucher Hydraulics, HUSCO International, and Walvoil S.p.A., plus many others. Full-line global proportional valves competitors are limited to Parker-Hannifin Corporation, Bosch Rexroth AG, and Eaton Corporation. Sauer-Danfoss believes growth in this market will be higher than average market levels related to its new product introductions and the implementation of new emissions regulations.
Stand-Alone Businesses Segment
The open circuit gear pumps and motors market is fragmented among a large number of suppliers of all types of products and with intensive competition on pricing at the component level. There are approximately ten major companies that compete on a global basis, including Bosch Rexroth AG, Parker-Hannifin Corporation, Casappa S.p.A. and Haldex, and in Japan, Shimadzu Corporation. The supply of standard gear pumps and motors is particularly fragmented among more than 50 companies worldwide. Most of these competitors have a limited product range and operate in a limited geographic market.
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The control valves marketplace is fragmented among a large number of suppliers, most of which are focused on limited valve types or flow ranges. Sauer-Danfoss provides a comprehensive line of HICs, cartridge and directional control valves to meet the specific needs of its customers. Competitors who provide partial lines include HydraForce, HUSCO International, Sun Hydraulics Corporation, and Walvoil S.p.A., plus many others. Complete global control valve line competitors are limited to Parker-Hannifin Corporation, Bosch Rexroth AG, and Eaton Corporation.
The inverters market is dominated by Zapi. Other relevant competitors are Curtis and Danaher, while the biggest vehicle manufacturers in the material handling market such as Kion and Jungheinrich design and produce their own inverters. Sauer-Danfoss' unique selling point is the full graphical programmability of its inverters which gives distributors and customers a high flexibility to design their own applications and opens new distribution channels and markets.
The hydrostatic drive systems market for the lawn and garden industry is highly concentrated and intensely competitive. In addition, the Company competes with alternative products, such as mechanical transmissions of other manufacturers. With respect to global supply of small-sized hydrostatic transmissions, the Company believes it is the world leader in terms of product range and market share.
Research and Development
The Company's research and development expenditures during 2010, 2009, and 2008 were $51.6 million, $61.4 million, and $82.9 million, respectively.
Environmental Matters
In all countries in which it operates, the Company is subject to environmental laws and regulations concerning emissions to air, discharge to waterways, and the generation, handling, storage, transportation, treatment, and disposal of waste materials. These laws and regulations are constantly evolving, and it is impossible to predict accurately the effect they will have on the Company in the future. The regulations are subject to varying and conflicting interpretations and implementation. In some cases, compliance can only be achieved by additional capital expenditures. The Company cannot accurately predict what capital expenditures, if any, may be required to comply with applicable environmental laws and regulations in the future; however, the Company does not currently estimate that any future capital expenditures for environmental control facilities will be material. The Company is not currently subject to any governmental remediation order, nor is the Company aware of any environmental issues that would have a materially adverse effect on the Company.
Employees
As of December 31, 2010, 2009, and 2008 the Company had approximately 6,000, 6,100, and 9,600 employees, respectively. Of its full-time employees at December 31, 2010, approximately 1,900 were located in the Americas with the remainder located in Europe and the Asia-Pacific region. From time to time, the Company also retains consultants, independent contractors, and temporary and part-time workers.
Financial Information about Geographic Areas
Information regarding the Company's net sales and long-lived assets by geographic area is set forth in Note 17 in the Notes to Consolidated Financial Statements on pages F-31 through F-34 of this report, and is incorporated herein by reference.
Available Information
The Company maintains an internet website and the address of that site is http://www.sauer-danfoss.com. The Company provides access to its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934 through its internet website as soon as reasonably practicable after the Company electronically files such material with, or furnishes it to, the Securities and Exchange Commission (SEC). The SEC maintains an internet website that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC. The address of the SEC site is http://www.sec.gov.
Item 1A. Risk Factors.
The Company's business, financial condition, results of operations and cash flows can be affected by a number of factors, including but not limited to those set forth below and elsewhere in this annual report on Form 10-K, any one of which could cause actual results to vary materially from recent results or from anticipated future results.
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Worldwide Economic Conditions
The worldwide economy, which faced significant disruptions and widespread recession during 2008 and 2009, showed signs of improvement in 2010. The Company's sales growth over the course of 2010 was aided by these improving conditions. It remains impossible to forecast, however, whether the worldwide economy will continue to improve during 2011 or may slip back into a recessionary state. Economic indicators are, at best, mixed on both global and regional levels. If the worldwide economy indeed declines, or if its rate of improvement slows, during 2011, the effects on the Company's business, financial condition, and results of operations could be material and adverse.
The economic downturn that, in 2008 and 2009, adversely affected the Company in a number of ways, should be viewed as a cautionary sign for the future. If the global economy were to experience another downturn, the Company's performance and financial condition could suffer as it did during those years.
One feature of the recession of 2008 and 2009 that had a particularly significant impact on the Company was the extreme contraction of credit markets. Although there are some signs that global credit markets are becoming somewhat more accessible, continued tight credit markets could have a material impact on the Company's customers and suppliers and their ability to finance their operations, which could result in a decrease in, or deferral of, orders for the Company's products or an increase in the Company's cost of production. Depressed demand for the Company's products could result in decreased revenues, profitability and cash flows and could impair the Company's ability to maintain operations and fund obligations to others.
Another feature of the recent worldwide recession that had a material impact on the Company's business was the response of central banking authorities and national governments to the economic crisis. Whether or not the global economy continues to show signs of improvement, changes in U.S., European, and other nations' fiscal and monetary policies and laws affecting banking, liquidity, exchange rates, taxes, and governmental spending levels may have a material and adverse effect on the Company's business, financial condition, and results of operations.
Avoidance of Credit Default; Dependence on Affiliate Borrowing
The Company has a Credit Agreement with Danfoss A/S, the Company's majority stockholder, under which the Company may borrow up to approximately $500 million. The Credit Agreement consists of a revolving credit facility that matures in September 2013 and two term loans that require repayment in September 2015. In borrowing funds from Danfoss A/S, the Company is dependent on Danfoss A/S for the Company's working capital and other funding needs. If Danfoss A/S were unable to borrow or otherwise generate sufficient funds to meet the Company's borrowing requirements or were to become unwilling to continue lending to the Company on reasonable terms, the Company has the right to seek alternative financing sources. If such alternative funding were not available on reasonable terms, the Company's business, results of operations, and financial position could be adversely affected.
Goodwill and Long-Lived Assets Impairment
If the price of the Company's stock were to decline to the point that its market capitalization were lower than its carrying value, the Company may be required to perform interim impairment tests on goodwill or other long-lived assets. There may be other triggering events that indicate that the carrying amount of goodwill or long-lived assets may not be recoverable from future cash flows. If the Company determines that any goodwill or other long-lived asset amounts need to be written down to fair values, this could result in a charge that may be material to the Company's operating results and financial condition.
International Operations
The Company depends on the strength of the economies in various parts of the world, particularly in the U.S., Europe, and the Asia-Pacific region. As a result of this worldwide exposure, net revenue and profitability may be harmed as a result of economic conditions in the major markets in which the Company operates, including, but not limited to, recessions, inflation and deflation, general weakness in the agriculture, construction and specialty markets, changes in governmental laws and policies, government embargoes or foreign trade restrictions, duties and tariffs, import and export controls, and changes in consumer purchasing power.
Technology Change
The hydraulic industry and markets for component parts of mobile hydraulics are subject to technological change, evolving industry standards, changing customer requirements and improvements in and expansion of product offerings. Although the Company believes that it has the technological capabilities to remain competitive, technological advances or developments by competitors or others could result in the Company needing to make significant capital expenditures in order to remain competitive and to avoid material adverse effects on its business, financial condition and results of operations.
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Common Business System
The Company has implemented a common business system at the majority of its locations. Any significant problems incurred related to operation of the system may delay or stop manufacturing and hinder the Company's ability to ship product in a timely manner or affect the Company's ability to access financial information. These problems could result in the loss of customers, a decrease in revenue, or significant costs to correct the problem.
Raw Material Availability
The Company purchases raw materials and component parts from suppliers to be used in the manufacture of products. During the worldwide economic recession, many of the Company's raw material suppliers reduced their output. As the worldwide market has begun to improve in recent months, suppliers have increased production. In the event of a short-term substantial increase in demand, the Company may experience price increases and difficulties in purchasing raw materials.
Pricing and Competitive Pressures from OEM Customers
A majority of the Company's sales are directly to OEM customers. OEM customers continue to use their positions as volume purchasers in the mobile hydraulics market to obtain preferential pricing and to obtain substantial quality assurance protection from the Company and other suppliers.
Currency Exchange Rates
The Company has a number of manufacturing sites throughout the world and sells products in several countries other than those where the product is manufactured. As a result, the Company has exposure to changing exchange rates between the various currencies in its customers' countries and the currencies in which the Company's manufacturing facilities are located. The Company's most significant foreign currency exposures are the euro, Japanese yen, Brazilian real, Polish zloty, British pound, Chinese yuan and Danish kroner. Exchange rate fluctuations between these currencies and against the U.S. dollar or euro could adversely affect the Company's results of operations. The Company enters into forward contracts to reduce the impact of currency fluctuations on cash flows related to forecasted sales denominated in currencies other than the functional currency of the selling location.
Cyclicality: Risks Associated with General Economic Conditions
The capital goods industry in general, and the mobile hydraulics industry in particular, are subject to economic cycles. Cyclical downturns had a material adverse effect on the demand for the Company's products in recent years. Future cyclical downturns may negatively impact the Company's business, financial condition, and results of operations. Demand for the Company's products is dependent upon the general condition of the off-highway mobile equipment industry which may be affected by numerous factors, including levels of construction activity, weather conditions, interest rates and access to financing. The Company's results of operations are also subject to price competition and the cost of supplies and labor, both of which are affected by general economic conditions. The Company derives substantial sales from cyclical industries, including the turf care, material handling, construction and agricultural equipment industries.
Income Tax Estimates
The Company is subject to income taxes in the U.S. and numerous non-U.S. jurisdictions. Significant judgment is required in determining the Company's worldwide provision for income taxes. In the ordinary course of business, there are many transactions and calculations where the ultimate tax determination is uncertain. The Company is periodically under audit by tax authorities. Although management believes its tax estimates are reasonable, the final outcome of tax audits and any related litigation could be materially different than that which is reflected in historical income tax provisions and accruals. If the outcome of a given tax audit or related litigation is materially different from the Company's estimates, the determination could result in material differences between the Company's originally reported income tax provision or net income (loss) and the final reported financial results.
Catastrophic Events
Unforeseen events, including war, terrorism and other international conflicts, public health issues, and natural disasters such as earthquakes, hurricanes or other adverse weather and climate conditions, whether occurring in the U.S. or abroad, could disrupt the Company's operations, disrupt the operations of suppliers or customers, or result in political or economic instability. These events could reduce demand for hydraulic and electronic products and make it difficult or impossible for the Company to manufacture products, deliver products to customers, or to receive products from suppliers.
The foregoing list is not exhaustive. There can be no assurance that the Company has correctly identified and appropriately assessed all factors affecting the Company or that the publicly available and other information with respect to these matters is complete and correct. Additional risks and uncertainties not presently known to the Company or that are currently believed to be immaterial also may adversely impact the Company's business. Should any risks or uncertainties develop into actual events, these
9
developments could have a material adverse effect on the Company's business, financial condition, and results of operations.
Item 2. Properties.
Sauer-Danfoss Inc. conducts its manufacturing operations at 19 locations; six in the United States, two each in Slovakia, Poland and Italy, and one each in Brazil, China, Denmark, Germany, India, Japan, and Sweden. The following table sets forth certain information relating to the Company's principal manufacturing facilities:
Location | Segment that Uses the Facility | Approx. Area in Sq. Ft. | Owned/Leased | ||||
United States | |||||||
Ames, Iowa | Propel, Work Function and Stand-Alone Businesses | 359,100 | Owned | ||||
Sullivan, Illinois | Stand-Alone Businesses | 205,000 | Owned | ||||
Freeport, Illinois | Propel | 197,000 | Owned | ||||
Easley, South Carolina | Controls and Stand-Alone Businesses | 184,000 | Owned | ||||
Minneapolis, Minnesota | Controls | 75,000 | Leased | ||||
Princeton, Kentucky | Stand-Alone Businesses | 68,000 | Owned | ||||
South America | |||||||
Caxias do Sul, Brazil | Stand-Alone Businesses | 90,000 | Leased | ||||
Europe | |||||||
Nordborg, Denmark | Work Function and Controls | 734,200 | Leased | ||||
Neumünster, Germany | Propel and Controls | 421,500 | Owned | ||||
Povazská Bystrica, Slovakia | Propel, Controls and Stand-Alone Businesses | 386,900 | Owned | ||||
Dubnica nad Váhom, Slovakia | Propel | 249,700 | Owned | ||||
Bielany Wroclawskie, Poland | Work Function | 223,000 | Leased | ||||
Wroclaw, Poland | Work Function | 126,000 | Owned | ||||
Bologna, Italy | Stand-Alone Businesses | 85,000 | Owned | ||||
Reggio Emilia, Italy | Stand-Alone Businesses | 76,500 | Leased | ||||
Älmhult, Sweden | Controls and Stand-Alone Businesses | 50,000 | Leased | ||||
India | |||||||
Pune, India | Work Function and Stand-Alone Businesses | 63,600 | Owned | ||||
Asia | |||||||
Shanghai, China | Propel and Stand-Alone Businesses | 105,000 | Leased | ||||
Osaka, Japan | Propel | 120,000 | Leased | ||||
Total | 3,819,500 | ||||||
Item 3. Legal Proceedings.
The Company was named as a defendant in four putative stockholder class action complaints (collectively, the Lawsuits) challenging the proposal by Danfoss Acquisition Inc., a wholly owned subsidiary of Danfoss A/S (Danfoss), to make a tender offer to purchase all of the outstanding shares of Company common stock not presently held, directly or indirectly, by Danfoss (Proposed Tender Offer). When the Proposed Tender Offer was not consummated, the Lawsuits were dismissed as moot. The only remaining issue is resolution of the application by certain plaintiffs in the Delaware Chancery Court for attorneys' fees and expenses in the amount of $0.8 million. The Company is vigorously opposing the plaintiffs' application and a ruling by the Court is expected in the next several months. It is not possible at this time to predict the amount, if any, of legal fees and expenses that might be awarded.
10
From time to time, the Company is involved in other legal matters in the ordinary course of its business. The Company intends to defend itself vigorously against all such claims. It is the Company's policy to accrue for amounts related to lawsuits brought against it if it is probable that a liability has been incurred and an amount can be reasonably estimated. Although the outcome of such matters cannot be predicted with certainty and no assurances can be given with respect to such matters, the Company believes that the outcome of those ordinary-course matters in which it is currently involved will not have a materially adverse effect on its results of operations, liquidity, or financial position.
EXECUTIVE OFFICERS OF THE COMPANY
The following table sets forth certain information regarding the executive officers of the Company:
Name | Age | Position | Year Appointed | |||
Sven Ruder(1) | 54 | President and Chief Executive Officer | 2009 | |||
Jesper V. Christensen(2) | 41 | Executive Vice President and Chief Financial Officer, Treasurer | 2009 | |||
C. Kells Hall(3) | 62 | Executive Vice President and President Propel Division | 2009 | |||
Wolfgang Schramm(4) | 56 | Executive Vice President and President Controls Division | 2007 | |||
Marc A. Weston(5) | 42 | Executive Vice President and Chief Marketing Officer | 2010 | |||
Anne Wilkinson(3) | 45 | Executive Vice President - Human Resources | 2010 | |||
Kenneth D. McCuskey(3) | 56 | Vice President and Chief Accounting Officer, Secretary | 2000 | |||
(1) | Prior to joining the Company, Mr. Ruder was employed as President of the Motion Controls Division of Danfoss A/S, the majority stockholder of the Company. |
(2) | Prior to joining the Company, Mr. Christensen was employed as Vice President, Finance, IT & HR in the Motion Controls Division of Danfoss A/S, the majority stockholder of the Company. |
(3) | These executive officers have served in various capacities with the Company or its subsidiaries for more than the past five years. |
(4) | Prior to joining the Company, Mr. Schramm was employed by Visteon Corporation as Executive Director Advanced Technology. |
(5) | Prior to joining the Company, Mr. Weston was employed by The Timken Company as Vice President Strategic Planning. |
Item 4. Reserved
11
PART II
Item 5. Market for the Company's Common Stock, Related Stockholder Matters and Company Purchases of Common Stock.
Market and Dividend Information
The Company's Common Stock is traded on the New York Stock Exchange. As of March 1, 2011 there were 163 stockholders of record.
The Company historically paid a quarterly dividend. Quarterly dividends are subject to Board of Directors approval. On March 13, 2009 the Board of Directors voted to suspend the Company's quarterly dividend indefinitely, beginning with the dividend that would ordinarily have been declared during the first quarter of 2009. The Board of Directors reevaluates the payment of dividends on an ongoing basis.
The following table sets forth the high and low prices on the New York Stock Exchange for the Company's Common Stock since January 1, 2009, and the quarterly cash dividends declared in 2010 and 2009:
1st | 2nd | 3rd | 4th | Full Year | |||||||||||||||
2010 | |||||||||||||||||||
High | $ | 13.30 | $ | 18.24 | $ | 21.68 | $ | 32.88 | $ | 32.88 | |||||||||
Low | $ | 11.10 | $ | 12.16 | $ | 11.22 | $ | 20.58 | $ | 11.10 | |||||||||
Dividends | $ | — | $ | — | $ | — | $ | — | $ | — | |||||||||
2009 | |||||||||||||||||||
High | $ | 10.13 | $ | 7.08 | $ | 8.19 | $ | 12.68 | $ | 12.68 | |||||||||
Low | $ | 2.43 | $ | 2.37 | $ | 4.50 | $ | 6.71 | $ | 2.37 | |||||||||
Dividends | $ | — | $ | — | $ | — | $ | — | $ | — | |||||||||
12
Performance Graph
The following graph shows a comparison of the cumulative total returns from December 31, 2005 to December 31, 2010, for the Company, the Russell 2000 Index, the Morningstar Diversified Industrials Index ("Morningstar Group Index"), and the Hemscott, Inc.—Diversified Machinery Index ("Hemscott Group Index"). This year the Morningstar Diversified Industrials Index has been included because the Company was notified that the index used in prior years, the Hemscott Group Index, will soon no longer be available. Both the Morningstar Group Index and the Hemscott Group Index are published indexes that the Company believe provide good representations of the industry.
The graph assumes that $100 was invested on December 31, 2005 in the Company's common stock, the Russell 2000 Index, and the Morningstar Group Index and the Hemscott Group Index, the last two of which are peer group indexes, and that all dividends were reinvested.
COMPARISON OF 5-YEAR CUMULATIVE TOTAL RETURN
AMONG SAUER-DANFOSS INC.,
RUSSELL 2000 INDEX, MORNINGSTAR GROUP INDEX AND HEMSCOTT GROUP INDEX
ASSUMES $100 INVESTED ON 12/31/05
ASSUMES DIVIDEND REINVESTMENT
FISCAL YEAR ENDING 12/31/2010
13
Equity Compensation Plan Information
The following table summarizes, as of December 31, 2010, information about compensation plans under which equity securities of the Company are authorized for issuance:
Plan Category | Number of Securities to be Issued upon Exercise of Outstanding Options, Warrants and Rights (a) | Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights (b) | Number of Securities Remaining Available for Future Issuance under Equity Compensation Plans (Excluding Securities Reflected in Column(a)) (c) | ||||||
Equity compensation plans approved by security holders | 76,486 | $ | — | 3,380,516 | |||||
The Company does not have any equity compensation plans that were not approved by security holders. Refer to Note 13 in the Notes to the Consolidated Financial Statements on pages F-28 through F-29 of this report for a description of the equity compensation plans.
Column (a) includes only performance units that have vested but the payout of which has been deferred. Subsequent to December 31, 2010, the Company's Compensation Committee determined that the performance units granted in 2008 would vest at 0.0 percent of the target levels because the performance criteria established when such units were awarded had not been met. Therefore no amounts are included above for the 2008 performance units. No performance units were granted in 2009. In 2010, the Company awarded only cash-based awards, so they are not included in this table.
Column (c) includes 3,380,516 shares available for issuance under the Company's 2006 Omnibus Incentive Plan. The plan permits the Company to issue common stock at times other than upon the exercise of options, warrants, or rights; for example, issuance in the form of restricted stock grants.
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Item 6. Selected Financial Data.
SELECTED FINANCIAL DATA
2010 | 2009 | 2008 | 2007 | 2006 | |||||||||||||||
(in millions except per share) | |||||||||||||||||||
Operating Data: | |||||||||||||||||||
Net sales | $ | 1,640.6 | $ | 1,159.0 | $ | 2,090.5 | $ | 1,972.5 | $ | 1,739.1 | |||||||||
Gross profit | 498.1 | 128.0 | 435.6 | 427.7 | 396.8 | ||||||||||||||
Selling, general and administrative | 195.5 | 209.7 | 258.5 | 233.8 | 215.6 | ||||||||||||||
Research and development | 51.6 | 61.4 | 82.9 | 70.6 | 61.9 | ||||||||||||||
Impairment charges | — | 50.8 | 58.2 | — | 1.5 | ||||||||||||||
Loss on sale of businesses and asset disposals | 7.6 | 16.4 | 9.6 | 9.4 | 1.7 | ||||||||||||||
Total operating expenses | 254.7 | 338.3 | 409.2 | 313.8 | 280.7 | ||||||||||||||
Total interest expense, net | 49.4 | 48.4 | 24.6 | 22.7 | 17.8 | ||||||||||||||
Net income (loss) attributable to Sauer-Danfoss Inc. | 213.4 | (345.8 | ) | (29.1 | ) | 47.2 | 54.0 | ||||||||||||
Per Share Data: | |||||||||||||||||||
Income (loss) per common share, basic | $ | 4.41 | $ | (7.15 | ) | $ | (0.60 | ) | $ | 0.98 | $ | 1.13 | |||||||
Income (loss) per common share, diluted | $ | 4.40 | $ | (7.15 | ) | $ | (0.60 | ) | $ | 0.98 | $ | 1.12 | |||||||
Cash dividends declared per share | $ | — | $ | — | $ | 0.72 | $ | 0.72 | $ | 0.60 | |||||||||
Weighted average basic shares outstanding | 48.4 | 48.3 | 48.2 | 48.1 | 47.7 | ||||||||||||||
Weighted average diluted shares outstanding | 48.5 | 48.3 | 48.2 | 48.3 | 48.2 | ||||||||||||||
Balance Sheet Data: | |||||||||||||||||||
Inventories | $ | 201.0 | $ | 177.6 | $ | 325.5 | $ | 318.8 | $ | 272.3 | |||||||||
Property, plant and equipment, net | 408.1 | 513.5 | 598.4 | 562.8 | 504.0 | ||||||||||||||
Total assets | 1,128.2 | 1,068.3 | 1,467.7 | 1,500.4 | 1,307.1 | ||||||||||||||
Total debt (1) | 281.5 | 533.2 | 491.4 | 444.0 | 349.6 | ||||||||||||||
Stockholders' equity | 369.1 | 154.6 | 477.9 | 586.0 | 515.5 | ||||||||||||||
Debt to total capital | 43.3 | % | 77.5 | % | 50.7 | % | 43.1 | % | 40.4 | % | |||||||||
Other Data: | |||||||||||||||||||
Backlog (at year-end) | $ | 814.2 | $ | 509.5 | $ | 743.7 | $ | 921.4 | $ | 631.0 | |||||||||
Depreciation and amortization | 97.3 | 117.1 | 113.0 | 102.3 | 95.7 | ||||||||||||||
Capital expenditures | 26.2 | 43.0 | 198.6 | 135.6 | 116.2 | ||||||||||||||
EBITDA (2) | 344.2 | (89.9 | ) | 175.6 | 212.6 | 207.6 | |||||||||||||
Cash flows from (used in): | |||||||||||||||||||
Operating activities | 269.3 | 86.8 | 183.5 | 98.1 | 167.9 | ||||||||||||||
Investing activities | (18.0 | ) | (42.2 | ) | (187.5 | ) | (122.2 | ) | (109.3 | ) | |||||||||
Financing activities | (249.2 | ) | (24.7 | ) | 4.7 | 22.1 | (45.0 | ) | |||||||||||
(1) | Total debt includes notes payable and bank overdrafts, long-term debt due within one year, and long-term debt. |
(2) | EBITDA represents net income plus net interest expense, income tax expense, depreciation and amortization, long-lived asset impairment charge and noncontrolling interest. The impairment charge is included as it will reduce depreciation in future years. EBITDA may not be comparable to similarly titled measures reported by other companies. While EBITDA should not be construed as a substitute for operating income or a better indicator of liquidity than cash flow from operating activities, which are determined in accordance with accounting principles generally accepted in the United States, it is included herein to provide additional information as management of the Company believes it provides an indication with respect to the ability of Sauer-Danfoss to meet its future debt service, |
15
capital expenditures, and working capital requirements. The following table further demonstrates how EBITDA is derived from cash flows from operating activities:
2010 | 2009 | 2008 | 2007 | 2006 | |||||||||||||||
Cash flows from operating activities | $ | 269.3 | $ | 86.8 | $ | 183.5 | $ | 98.1 | $ | 167.9 | |||||||||
Increase (decrease) in working capital, excluding the effects of acquisitions | |||||||||||||||||||
Accounts receivable, net | 63.8 | (91.4 | ) | (71.7 | ) | 38.5 | 24.5 | ||||||||||||
Inventories | 28.5 | (153.4 | ) | 16.8 | 36.6 | 14.2 | |||||||||||||
Prepaid and other current assets | 8.1 | 5.0 | 7.9 | 11.1 | 6.1 | ||||||||||||||
Accounts payable | (77.6 | ) | 54.2 | 14.5 | (11.0 | ) | (27.2 | ) | |||||||||||
Accrued liabilities | (16.6 | ) | 20.7 | (23.6 | ) | 1.5 | (14.0 | ) | |||||||||||
Deferred income taxes and other | 70.5 | (121.2 | ) | 9.5 | (3.7 | ) | 1.3 | ||||||||||||
Interest expense, net | 49.4 | 48.4 | 24.6 | 22.7 | 17.8 | ||||||||||||||
Income tax | (51.2 | ) | 61.0 | 14.1 | 18.8 | 17.0 | |||||||||||||
EBITDA | $ | 344.2 | $ | (89.9 | ) | $ | 175.6 | $ | 212.6 | $ | 207.6 | ||||||||
16
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Safe Harbor Statement
This Management's Discussion and Analysis of Financial Condition and Results of Operations, as well as other portions of this annual report on Form 10-K, contain certain statements that constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. All statements regarding future performance, growth, sales and earnings projections, conditions or developments are forward-looking statements. Words such as “anticipates,” “in the opinion,” “believes,” “intends,” “expects,” “may,” “will,” “should,” “could,” “plans,” “forecasts,” “estimates,” “predicts,” “projects,” “potential,” “continue,” and similar expressions may be intended to identify forward-looking statements.
Actual future results may differ materially from those described in the forward-looking statements due to a variety of factors. Readers should bear in mind that past experience is never a perfect guide to anticipating actual future results. Risk factors affecting the Company's forward-looking statements include, but are not limited to, the following: general, worldwide economic conditions, including the relative strength or weakness of the commercial and public-sector construction markets, the level of interest rates, crude oil prices, commercial and consumer confidence, and currency exchange rates; specific economic conditions in the agriculture, construction, road building, turf care, material handling and specialty vehicle markets and the impact of such conditions on the Company's customers in such markets; the cyclical nature of some of the Company's businesses; the ability of the Company to win new programs and maintain existing programs with its original equipment manufacturer (OEM) customers; the highly competitive nature of the markets for the Company's products as well as pricing pressures that may result from such competitive conditions; the continued operation and viability of the Company's significant customers; the Company's execution of internal performance plans; difficulties or delays in manufacturing; the effectiveness of the Company's cost-reduction and productivity improvement efforts; the success of the Company's transition from managing in an environment of shrinking sales to one of sales growth; competing technologies and difficulties entering new markets, both domestic and foreign; changes in the Company's product mix; future levels of indebtedness and capital spending; the ability and willingness of Danfoss A/S, the Company's majority stockholder, to lend money to the Company at sufficient levels and on terms favorable enough to enable the Company to meet its capital needs; the Company's ability to access the capital markets or traditional credit sources to supplement or replace the Company's borrowings from Danfoss A/S if the need should arise; the Company's ability over time to reduce the relative level of debt compared to equity on its balance sheet; claims, including, without limitation, warranty claims, field recall claims, product liability claims, charges or dispute resolutions; the ability of suppliers to provide materials as needed and the Company's ability to recover any price increases for materials in product pricing; the Company's ability to attract and retain key technical and other personnel; labor relations; the failure of customers to make timely payment, especially in light of the persistence of tight credit markets; any inadequacy of the Company's intellectual property protection or the potential for third-party claims of infringement; credit market disruptions and significant changes in capital market liquidity and funding costs affecting the Company and its customers; sovereign debt crises, in Europe or elsewhere, and the reaction of other nations to such crises; energy prices; the impact of new or changed tax and other legislation and regulations in jurisdictions in which the Company and its affiliates operate; actions by the U.S. Federal Reserve Board and the central banks of other nations; actions by other regulatory agencies, including those taken in response to the global credit crisis; actions by rating agencies; changes in accounting standards; worldwide political stability, including developments in the Middle East; the effects of terrorist activities and resulting political or economic instability; natural catastrophes; U.S. military action overseas; and the effect of acquisitions, divestitures, restructurings, product withdrawals, and other unusual events.
The Company cautions the reader that this list of cautionary statements and risk factors is not exhaustive. The Company expressly disclaims any obligation or undertaking to release publicly any updates or changes to these forward-looking statements to reflect future events or circumstances.
About the Company
Sauer-Danfoss Inc. and subsidiaries (the Company) is a worldwide leader in the design, manufacture, and sale of engineered hydraulic and electronic systems and components that generate, transmit and control power in mobile equipment. The Company's products are used by original equipment manufacturers (OEMs) of mobile equipment, including construction, road building, agricultural, turf care, material handling, and specialty equipment. The Company designs, manufactures, and markets its products in the Americas, Europe, and the Asia-Pacific region, and markets its products throughout the rest of the world either directly or through distributors.
17
Executive Summary of 2010 Compared to 2009
The nature of the Company's operations as a global producer and supplier in the fluid power industry means the Company is impacted by changes in local economies, including currency exchange rate fluctuations. In order to gain a better understanding of the Company's base results, a financial statement user needs to understand the impact of those currency exchange rate fluctuations. The following table summarizes the change in the Company's results from operations by separately identifying changes due to currency fluctuations and the underlying change in operations from 2009 to 2010. This analysis is more consistent with how the Company's management internally evaluates results.
(in millions) | 2009 | Currency fluctuations | Underlying change | 2010 | |||||||||||
Net Sales | $ | 1,159.0 | $ | (4.5 | ) | $ | 486.1 | $ | 1,640.6 | ||||||
Gross Profit | 127.9 | (6.0 | ) | 376.2 | 498.1 | ||||||||||
% of Net Sales | 11.0 | % | 30.4 | % | |||||||||||
Selling, general and administrative | 209.7 | (1.7 | ) | (12.5 | ) | 195.5 | |||||||||
Research and development | 61.4 | (0.7 | ) | (9.1 | ) | 51.6 | |||||||||
Impairment charges | 50.8 | — | (50.8 | ) | — | ||||||||||
Loss on sale of businesses and asset disposals | 16.4 | (0.2 | ) | (8.6 | ) | 7.6 | |||||||||
Total operating costs | 338.3 | (2.6 | ) | (81.0 | ) | 254.7 | |||||||||
Operating income (loss) | (210.4 | ) | (3.4 | ) | 457.2 | 243.4 | |||||||||
% of Net Sales | (18.2 | )% | 14.8 | % | |||||||||||
Interest expense, net | (48.4 | ) | 0.6 | (1.6 | ) | (49.4 | ) | ||||||||
Loss on early retirement of debt | (15.8 | ) | — | 13.4 | (2.4 | ) | |||||||||
Other, net | 3.3 | 0.5 | (0.3 | ) | 3.5 | ||||||||||
Income (loss) before income taxes | (271.3 | ) | (2.3 | ) | 468.7 | 195.1 | |||||||||
% of Net Sales | (23.4 | )% | 11.9 | % | |||||||||||
Income tax | (61.0 | ) | (0.2 | ) | 112.4 | 51.2 | |||||||||
Net income (loss) | (332.3 | ) | (2.5 | ) | 581.1 | 246.3 | |||||||||
Net income attributable to noncontrolling interest, net of tax | (13.5 | ) | (0.3 | ) | (19.1 | ) | (32.9 | ) | |||||||
Net income (loss) attributable to Sauer-Danfoss Inc. | $ | (345.8 | ) | $ | (2.8 | ) | $ | 562.0 | $ | 213.4 | |||||
Net sales for the year ended December 31, 2010 increased 42 percent compared to the year ended December 31, 2009, excluding the effects of currency, and 43 percent excluding the effects of currency and the 2009 divestiture of the electric drives business. Net sales increased in all regions and segments. Excluding the impacts of currency and divestitures, sales increased 68 percent in Asia-Pacific, 46 percent in the Americas and 30 percent in Europe. Sales in the Propel segment were up 55 percent, followed by increases of 39 percent in the Work Function segment, 33 percent in the Controls segment, and 29 percent in the Stand-Alone Businesses segment.
Gross profit increased significantly during the year ended December 31, 2010, excluding the impact of currency, due to increased sales volume, procurement savings of $16.3 million, fixed cost reductions including depreciation of $20.7 million, and reduced field recall costs of $11.5 million. Gross profit was negatively impacted in 2009 by inventory valuation allowances of $13.8 million and restructuring charges of $5.8 million related to the closure of the Hillsboro, Oregon; Lawrence, Kansas; and Odense, Denmark locations. Partially offsetting the positive impact of increased sales and cost reductions in 2010 were additional restructuring costs of $3.1 million related to the closure of the Lawrence facility.
Selling, general and administrative costs decreased 6 percent during 2010 when compared to the same period in 2009, excluding the effects of currency. In 2009 the Company incurred severance costs of $18.2 million due to headcount reductions, as well as $4.5 million of restructuring costs related to the closure of the Hillsboro location and the exit from the electric drives business. The reduction in expenses related to these items in 2009 was partially offset in 2010 by additional restructuring costs of $0.5 million related to the closure of the Lawrence facility, costs of $3.5 million related to a stock tender offer initiated by Danfoss Acquisition, Inc., incentive plan costs of $13.2 million, and a $1.5 million pension settlement with a former executive. Research and development costs decreased 15 percent excluding the effects of currency due to cost reduction efforts in light of the recent economic downturn. The Company reported goodwill impairment charges of $50.8 million during the first quarter of 2009 related
18
to the valves reporting unit.
During 2009 the Company incurred costs of $6.3 million related to the sale of its alternating current (AC) electric motor business for the material handling market, as well as a loss of $2.7 million on the sale of its steering column business in Kolding, Denmark. These activities were part of the Company's plan to divest of product lines that do not fit the Company's long-term strategic direction. In 2010 the Company incurred additional costs of $4.4 million related to the exit from the AC motor product line and $1.1 million related to the sale of the steering column business in Kolding, Denmark. In addition, the Company recognized costs of $2.3 million related to a loss on sale of fixed assets and write-down of the building in Lawrence, Kansas. Partially offsetting these costs in 2010 was a gain on sale of equipment of $1.1 million.
The Company refinanced various credit agreements during 2009, which resulted in a $15.8 million loss on early retirement of debt. This loss consisted of $8.1 million of prepayment penalties, $2.0 million to settle outstanding interest rate swap agreements related to debt repaid, and $5.7 million to write-off unamortized deferred financing costs. Further refinancing activities in 2010 resulted in a $2.4 million loss on early retirement of debt consisting of prepayment penalties of $1.7 million and $0.7 million related to the write-off of unamortized deferred financing costs.
Operating Results—2010 Compared to 2009
Sales Growth by Market
The following table summarizes the Company's sales growth by market. The table and following discussion is on a comparable basis, which excludes the effects of currency fluctuations.
Americas | Asia-Pacific | Europe | Total | ||||||||||||||||||||
$ Change | % Change | $ Change | % Change | $ Change | % Change | $ Change | % Change | ||||||||||||||||
Agriculture/Turf Care | $ | 74.7 | 26 | % | $ | 0.1 | 1 | % | $ | 27.3 | 17 | % | $ | 102.1 | 22 | % | |||||||
Construction/Road Building | 61.8 | 101 | 85.5 | 146 | 56.7 | 77 | 204.0 | 105 | |||||||||||||||
Specialty | 26.5 | 77 | (12.5 | ) | (34 | ) | 33.5 | 19 | 47.5 | 19 | |||||||||||||
Distribution | 58.8 | 54 | 46.7 | 67 | 27.0 | 34 | 132.5 | 51 | |||||||||||||||
Agriculture/Turf Care
Sales into the agriculture/turf care market showed a strong increase in the Americas and Europe during the year ended December 31, 2010 compared to 2009, while sales in the Asia-Pacific region remained level. The agricultural market in the Americas showed improvement due to improving commodity prices, while sales in Brazil benefited from a strong sugar-cane market. In Europe, many customers have ceased inventory reduction efforts and sales are more in line with market demand. The strong demand for tractors with hydraulic steering in India, which is reported as part of Europe, has contributed to the sales growth in the European market. Sales in the turf care market improved due to growing consumer confidence.
Construction/Road Building
The construction/road building markets experienced strong sales increases in all regions during the year ended December 31, 2010 compared to 2009. The Asia-Pacific region had the strongest sales growth at 146 percent, largely due to low sales in 2009 as a result of customers' efforts to reduce inventory levels. Other factors driving the strong sales in the Asia-Pacific region included an expanding demand for transit mixers in China, as well as favorable road building markets and increased demand for rollers. Sales in the Americas and Europe also showed strong improvement as customers are no longer working to reduce inventory levels and equipment production corresponds with increased demand.
Specialty
Specialty vehicles are comprised of a variety of markets including forestry, material handling, marine, waste management and waste recycling. Overall sales into the specialty vehicle market increased 13 percent compared to 2009. Sales in the Americas benefited from an increased demand for aerial lifts and a strong overall market in Brazil. Sales in Europe increased due to the recovery of the forestry and mining markets, as well as increased demand for telehandlers and truck-mounted cranes. Sales in China continue to suffer as a result of a saturated railway market resulting in lower sales to the carrier business for railroad construction.
Distribution
Products related to all of the above markets are sold to distributors, who then serve smaller OEMs.
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Order Backlog
The following table shows the Company's order backlog and orders written activity for 2009 and 2010, separately identifying the impact of currency fluctuations.
(in millions) | 2009 | Currency fluctuation | Underlying change | 2010 | |||||||||||
Backlog at December 31 | $ | 509.5 | $ | (14.3 | ) | $ | 319.0 | $ | 814.2 | ||||||
Orders written | 913.3 | (4.8 | ) | 1,047.3 | 1,955.8 | ||||||||||
Total order backlog at the end of 2010 was $814.2 million, compared to $509.5 million at the end of 2009. On a comparable basis, excluding the impact of currency fluctuation, order backlog increased 63 percent compared to 2009. New sales orders written for 2010 were $1,955.8 million, an increase of 115 percent compared to 2009, excluding the impact of currency fluctuations.
Business Segment Results
The following discussion of operating results by reportable segment relates to information as presented in Note 17 in the Notes to Consolidated Financial Statements. Segment income is defined as the respective segment's portion of the total Company's net income, excluding net interest expense, income taxes, and noncontrolling interest. Propel products include hydrostatic transmissions and related products that transmit the power from the engine to the wheel to propel a vehicle. Work Function products include steering motors and motors that transmit power for the work functions of the vehicle. Controls products include electrohydraulic controls, microprocessors, and valves that control and direct the power of a vehicle. In 2010 the Company added an additional reportable segment, Stand-Alone Businesses, which include open circuit gear pumps and motors, cartridge valves and HICs, directional control valves, inverters and light duty hydrostatic transmissions that transmit, control and direct the power of a vehicle, but are marketed under their own names and operate as independent businesses.
The following table provides a summary of each segment's net sales and segment income, separately identifying the impact of currency fluctuations during the year.
(in millions) | 2009 | Currency fluctuation | Underlying change | 2010 | |||||||||||
Net sales | |||||||||||||||
Propel | $ | 463.6 | $ | 0.2 | $ | 253.4 | $ | 717.2 | |||||||
Work Function | 233.8 | (4.0 | ) | 90.9 | 320.7 | ||||||||||
Controls | 185.5 | (2.7 | ) | 60.4 | 243.2 | ||||||||||
Stand-Alone Businesses | 276.1 | 2.0 | 81.4 | 359.5 | |||||||||||
Segment income (loss) | |||||||||||||||
Propel | $ | (23.3 | ) | $ | (2.5 | ) | $ | 190.8 | $ | 165.0 | |||||
Work Function | (69.5 | ) | (0.4 | ) | 98.6 | 28.7 | |||||||||
Controls | (23.8 | ) | (1.2 | ) | 74.1 | 49.1 | |||||||||
Stand-Alone Businesses | (66.5 | ) | 0.1 | 102.2 | 35.8 | ||||||||||
Global Services and other expenses, net | (23.9 | ) | 1.1 | (8.9 | ) | (31.7 | ) | ||||||||
Propel Segment
Sales in the Propel segment increased 55 percent during 2010, excluding the effects of currency fluctuations, mainly due to weak global economic conditions in 2009. Segment income increased significantly in 2010 due to a 21 percentage point increase in gross profit margin, mainly due to higher sales volume in relation to fixed production costs, as well as a reduction in field recall costs of $11.2 million, reduced depreciation of $5.7 million, reduced inventory valuation allowances of $9.4 million, and fixed cost reductions of $6.1 million. Also contributing to the increase in segment income was a $0.8 million gain on sale of equipment. In 2009 the Propel segment incurred a loss on sale of equipment of $3.1 million. Operating expenses decreased in part due to $15.0 million in severance costs recognized in 2009, partially offset in 2010 by annual incentive plan costs of $3.3 million.
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Work Function Segment
Sales in the Work Function segment increased 39 percent in 2010 compared to 2009, excluding the effects of currency fluctuations, mainly due to improved global economic conditions. The increase in segment income of $98.6 million, excluding the effects of currency fluctuations, was driven by a 29 percentage point increase in gross profit margin due to increased sales volume in relation to fixed production costs, as well as fixed cost reductions of $7.9 million. Also contributing to the increase in segment income was a reduction in ongoing operating costs of $2.8 million. In 2009 the Company recognized severance costs of $7.7 million due to headcount reductions related to lower sales, as well as restructuring costs of $4.5 million related to the closure of the Lawrence, Kansas facility and the sale of the steering column business in Kolding, Denmark. Partially offsetting the positive impact of increased sales and cost reductions in 2010 were additional restructuring costs of $4.0 million related to the closure of the Lawrence facility, costs of $1.1 million related to future lease payments on the Kolding, Denmark facility, and annual incentive plan costs of $1.0 million.
Controls Segment
Net sales in the Controls segment increased 33 percent from 2009, excluding the effects of currency fluctuations. Sales increased 36 percent excluding the effects of both currency and the 2009 divestiture of the electric drives business. Segment income increased $74.1 million in 2010 largely due to higher sales volume. In addition, costs of $6.3 million related to the sale of the alternating current (AC) product line, restructuring costs of $6.0 million related to the exit from the electric drives business, and severance costs of $4.4 million were recognized in 2009. Partially offsetting the reduced costs related to these items in 2010 was a loss on sale of business of $3.5 million, net of royalty income, related to the exit from the electric drives business and annual incentive plan costs of $1.6 million.
Stand-Alone Businesses Segment
Net sales in the Stand-Alone Businesses segment increased 29 percent from 2009, excluding the effects of currency fluctuations. Segment income increased $102.2 million in 2010 due to higher sales volume, as well as reduced depreciation of $2.4 million. In 2009 the Stand-Alone Businesses segment incurred a goodwill impairment charge of $50.8 million related to the valves reporting unit, severance costs of $3.3 million related to headcount reductions due to lower sales, and restructuring costs of $4.6 million related to the closure of the Lawrence, Kansas facility and the Hillsboro, Oregon facilities. Partially offsetting the positive impact of increased sales and reduced costs in 2010 were annual incentive plan costs of $0.9 million.
Global Services and other expenses, net
Segment costs in Global Services and other expenses, net, relate to internal global service departments. Global services include such costs as consulting for special projects, tax and accounting fees paid to outside third parties, internal audit, certain insurance premiums, and the amortization of intangible assets from certain business combinations. Global services and other expenses increased $8.9 million, or 37 percent excluding the impacts of currency. The increase in 2010 was partially due to costs of $1.5 million related to a pension settlement with a former executive, $3.5 million of costs related to a stock tender offer initiated by Danfoss Acquisition, Inc. which expired without the minimum tender conditions being satisfied, and $6.4 million of incentive plan costs. Also contributing to the increase was a reduction in gain on foreign currency transactions of $3.1 million during 2010. Partially offsetting the negative impact of these items was the fact that there was $3.1 million of severance costs incurred during 2009.
Income Taxes
The Company recognized an income tax benefit of $51.2 million on income of $195.1 million in 2010.
In 2010 the Company reversed $99.1 million of valuation allowance related to net deferred tax assets in the U.S. Future taxable income projections support the realization of the U.S. net deferred tax assets. Other non-deductible expenses and the worldwide earnings mix also impacted 2010 income tax expense.
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Executive Summary of 2009 Compared to 2008
The following table summarizes the change in the Company's results from operations by separately identifying changes due to currency fluctuations and the underlying change in operations from 2008 to 2009. This analysis is more consistent with how the Company's management internally evaluates results.
(in millions) | 2008 | Currency fluctuations | Underlying change | 2009 | |||||||||||
Net Sales | $ | 2,090.5 | $ | (36.1 | ) | $ | (895.4 | ) | $ | 1,159.0 | |||||
Gross Profit | 435.6 | (4.2 | ) | (303.5 | ) | 127.9 | |||||||||
% of Net Sales | 20.8 | % | 11.0 | % | |||||||||||
Selling, general and administrative | 258.5 | (8.4 | ) | (40.4 | ) | 209.7 | |||||||||
Research and development | 82.9 | (2.3 | ) | (19.2 | ) | 61.4 | |||||||||
Impairment charges | 58.2 | — | (7.4 | ) | 50.8 | ||||||||||
Loss on sale of businesses and asset disposals | 9.6 | 0.1 | 6.7 | 16.4 | |||||||||||
Total operating costs | 409.2 | (10.6 | ) | (60.3 | ) | 338.3 | |||||||||
Operating income (loss) | 26.4 | 6.4 | (243.2 | ) | (210.4 | ) | |||||||||
% of Net Sales | 1.3 | % | (18.2 | )% | |||||||||||
Interest expense, net | (24.6 | ) | 1.3 | (25.1 | ) | (48.4 | ) | ||||||||
Loss on early retirement of debt | — | — | (15.8 | ) | (15.8 | ) | |||||||||
Other, net | 0.9 | 0.1 | 2.3 | 3.3 | |||||||||||
Income (loss) before income taxes | 2.7 | 7.8 | (281.8 | ) | (271.3 | ) | |||||||||
% of Net Sales | 0.1 | % | (23.4 | )% | |||||||||||
Income tax expense | (14.0 | ) | 0.6 | (47.6 | ) | (61.0 | ) | ||||||||
Net loss | (11.3 | ) | 8.4 | (329.4 | ) | (332.3 | ) | ||||||||
Net income attributable to noncontrolling interest, net of tax | (17.8 | ) | — | 4.3 | (13.5 | ) | |||||||||
Net loss attributable to Sauer-Danfoss Inc. | $ | (29.1 | ) | $ | 8.4 | $ | (325.1 | ) | $ | (345.8 | ) | ||||
Net sales for the year ended December 31, 2009 decreased 43 percent compared to the year ended December 31, 2008, excluding the effects of currency. Net sales decreased in all regions and segments. Excluding the impacts of currency, sales declined 48 percent in Europe, 42 percent in the Americas and 27 percent in Asia-Pacific. Sales in the Work Function segment decreased by 49 percent, sales in the Controls segment were down 44 percent, followed by a reduction of 39 percent in the Propel segment.
Gross profit declined 70 percent during the year ended December 31, 2009, excluding the impact of currency. This decline was primarily driven by reduced sales volume. Other contributing factors included inventory valuation allowances of $13.8 million, accelerated depreciation of $4.0 million, and restructuring charges of $5.8 million related to the closure of the Hillsboro, Oregon; Lawrence, Kansas; and Odense, Denmark locations.
Selling, general and administrative costs decreased 16 percent during 2009 when compared to the same period in 2008, excluding the effects of currency. This decrease is primarily due to cost reduction efforts taken as a result of the economic downturn, as well as a reduction in costs of $6.6 million related to the implementation of a common business system. Offsetting these cost reductions were severance costs of $18.2 million and $4.5 million of restructuring costs related to the closure of the Hillsboro location and the exit from the electric drives business in 2009, compared to similar costs of $4.9 million in 2008. Research and development costs decreased 23 percent excluding the effects of currency due to cost reduction efforts.
The Company reported goodwill impairment charges of $50.8 million during the first quarter of 2009 related to the valves reporting unit within the Controls segment. In 2008 the Company reported impairment charges of $58.2 million, consisting of $22.9 million of goodwill impairment, and property, plant and equipment impairment of $35.3 million. The goodwill impairment related to the motors and steering reporting units within the Work Function segment and the electric drives reporting unit within the Controls segment. The impairment charges were incurred as a result of lower profitability in the
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reporting units than the Company had previously expected, and lower future expectations in certain end markets. The property, plant and equipment impairment related to the Work Function segment and resulted from lower earnings expectations related to the products produced within the asset group.
During the year ended December 31, 2009 the Company sold its alternating current (AC) electric motor business for the material handling market. In connection with this transaction the Company incurred charges of $6.3 million during 2009 and $8.4 million in 2008. In addition, during 2009 the Company incurred a loss of $2.7 million on the sale of its steering column business in Kolding, Denmark. These activities were part of the Company's plan to divest of product lines that do not fit the Company's long-term strategic direction. During the year ended December 31, 2008, the Propel segment recorded a gain of $1.4 million related to the sale of the LaSalle, Illinois plant.
The Company refinanced various credit agreements during 2009, which resulted in higher interest rates and an increase to interest expense of $25.1 million over 2008. This also resulted in a $15.8 million loss on early retirement of debt in 2009.
Operating Results—2009 Compared to 2008
Sales Growth by Market
The following table summarizes the Company's sales growth by market. The table and following discussion is on a comparable basis, which excludes the effects of currency fluctuations.
Americas | Asia-Pacific | Europe | Total | ||||||||||||||||||||
$ Change | % Change | $ Change | % Change | $ Change | % Change | $ Change | % Change | ||||||||||||||||
Agriculture/Turf Care | $ | (90.7 | ) | (24 | )% | $ | (3.2 | ) | (24 | )% | $ | (76.5 | ) | (31 | )% | $ | (170.4 | ) | (26 | )% | |||
Construction/Road Building | (82.9 | ) | (58 | ) | (33.9 | ) | (36 | ) | (147.7 | ) | (66 | ) | (264.5 | ) | (57 | ) | |||||||
Specialty | (86.7 | ) | (71 | ) | (6.6 | ) | (15 | ) | (194.1 | ) | (51 | ) | (287.4 | ) | (53 | ) | |||||||
Distribution | (96.3 | ) | (46 | ) | (21.2 | ) | (25 | ) | (55.6 | ) | (39 | ) | (173.1 | ) | (39 | ) | |||||||
Agriculture/Turf Care
Sales into the agriculture/turf care market decreased in all regions during the year ended December 31, 2009 compared to 2008. Sales into the agriculture market in the Americas remained strong during the first quarter, then declined sharply as commodity prices began a downward trend and customers focused on inventory reduction. Commodity prices began to stabilize during the fourth quarter, while the Brazilian market showed improvement during the second half of the year compared to the first and second quarters. The European agriculture market continued to decline due to falling commodity prices and the worldwide economic crisis. Turf care sales continue to suffer from depressed housing markets and reduced consumer spending. The Asia-Pacific region contributes less than 5 percent of the sales in the agriculture/turf care market, and therefore does not significantly impact the total.
Construction/Road Building
Construction /road building sales were down in all regions during the year ended December 31, 2009 compared to 2008. The sales decline was due to poor economic conditions worldwide, depressed housing and non-residential construction markets, and customers' focus on reducing inventory levels. Non-residential construction slowed rapidly in the Americas, and state government budget problems caused road building to remain at extraordinarily low levels. The Asia-Pacific region experienced strong sales in China due to government stimulus programs and strong demand for transit mixers. However, this was more than offset by reduced sales in Japan, which depends heavily on export markets.
Specialty
Specialty vehicles are comprised of a variety of markets including forestry, material handling, marine, waste management and waste recycling. Overall sales into the specialty vehicle market decreased 53 percent compared to 2008. Material handling sales were down across all regions due to poor economic conditions worldwide and severely depressed non-residential construction markets. Offsetting the reduced material handling sales in the Asia-Pacific region was an increase in specialty sales in China due to investments made by the Chinese government, as well as increased sales related to the carrier business for railroad construction. The divestiture of the electric drives business also had a negative impact on sales in Europe and Asia-Pacific.
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Distribution
Products related to all of the above markets are sold to distributors, who then serve smaller OEMs.
Order Backlog
The following table shows the Company's order backlog and orders written activity for 2008 and 2009, separately identifying the impact of currency fluctuations.
(in millions) | 2008 | Currency fluctuation | Underlying change | 2009 | |||||||||||
Backlog at December 31 | $ | 743.7 | $ | 9.8 | $ | (244.0 | ) | $ | 509.5 | ||||||
Orders written | 1,927.7 | (24.9 | ) | (989.5 | ) | 913.3 | |||||||||
Total order backlog at the end of 2009 was $509.5 million, compared to $743.7 million at the end of 2008. On a comparable basis, excluding the impact of currency fluctuation, order backlog decreased 33 percent compared to 2008. New sales orders written for 2009 were $913.3 million, a decrease of 51 percent compared to 2008, excluding the impact of currency fluctuations. The decrease in backlog and order entry is due to the global recession.
Business Segment Results
In 2010 the Company changed its reportable segments however it is not practicable to report the 2008 information in the new format. Therefore the following table provides a summary of each segment's net sales and segment income, separately identifying the impact of currency fluctuations during the year under the previous segmentation methodology.
(in millions) | 2008 | Currency fluctuation | Underlying change | 2009 | |||||||||||
Net sales | |||||||||||||||
Propel | $ | 1,016.6 | $ | (7.5 | ) | $ | (395.7 | ) | $ | 613.4 | |||||
Work Function | 561.4 | (14.1 | ) | (272.6 | ) | 274.7 | |||||||||
Controls | 512.5 | (14.5 | ) | (227.1 | ) | 270.9 | |||||||||
Segment income (loss) | |||||||||||||||
Propel | $ | 156.8 | $ | 1.1 | $ | (157.9 | ) | $ | — | ||||||
Work Function | (65.7 | ) | 4.4 | (20.6 | ) | (81.9 | ) | ||||||||
Controls | (21.4 | ) | 2.5 | (82.2 | ) | (101.1 | ) | ||||||||
Global Services and other expenses, net | (42.4 | ) | (0.1 | ) | 18.6 | (23.9 | ) | ||||||||
Propel Segment
The Propel segment experienced a 39 percent decrease in sales, excluding the effects of currency fluctuations, during 2009 due to weak global economic conditions. The Propel segment experienced an 11 percentage point decrease in operating profit margin in 2009 compared to 2008 mainly due to reduced sales volume resulting in less absorption of fixed production costs, as well as additional inventory reserves of $8.3 million and accelerated depreciation of $3.4 million due to changing the production location of a product line. Contributing to the reduction in segment income was a $12.7 million increase in severance costs over 2008, an increase in field recall costs of $6.6 million, and a loss on disposal of fixed assets of $3.1 million. Operating expenses were reduced by $19.7 million due to a focus on reducing costs and lower payroll costs as a result of headcount reductions. In addition, in 2008 the Propel segment recognized a gain on sale of a building of $1.4 million.
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Work Function Segment
Sales in the Work Function segment decreased 49 percent in 2009 compared to 2008, excluding the effects of currency fluctuations, due to weak global economic conditions. The reduction in segment income of $20.6 million, excluding the effects of currency fluctuations, was driven by reduced sales, restructuring costs of $3.7 million related to the closure of the Lawrence, Kansas facility, $2.7 million related to the sale of the steering column business in Kolding, Denmark, and an increase in severance costs of $1.7 million over 2008 due to headcount reductions related to lower sales. Offsetting the impact of these items in the year-over-year comparison was a reduction in expedited freight costs of $8.4 million, reduced depreciation of $4.4 million due to the impairment of long-lived assets at December 31, 2008, and a reduction in total operating expenses of $18.7 million. In 2008 the Work Function segment recognized impairment charges of $17.4 million and $35.3 million, for goodwill and property, plant and equipment, respectively.
Controls Segment
Net sales in the Controls segment decreased 44 percent from 2008, excluding the effects of currency fluctuations, due to weak global economic conditions. Segment income decreased $82.2 million during 2009 due to decreased sales levels, a goodwill impairment charge of $50.8 million related to the valves reporting unit, and an increase to employee severance costs of $2.2 million compared to 2008. In addition, costs of $6.3 million related to the alternating current (AC) product line, which was sold in the second quarter of 2009, and restructuring costs of $8.7 million related to the closure of the Hillsboro, Oregon facility and the exit of the electric drives business were recognized in 2009. Excluding the restructuring and severance costs, operating expenses were reduced by $22.5 million. Also, in 2008 the Controls segment recognized goodwill impairment charges of $5.5 million.
Global Services and other expenses, net
Segment costs in Global Services and other expenses, net, relate to internal global service departments, along with the operating costs of the Company's executive office. Global services include such costs as consulting for special projects, tax and accounting fees paid to outside third parties, internal audit, certain insurance premiums, and the amortization of intangible assets from certain business combinations. Global services and other expenses decreased $18.6 million, or 44 percent excluding the impacts of currency. This was partially due to fact that 2008 costs included $1.6 million for an acquisition that was not consummated and $6.6 million associated with the implementation of a common business system. In 2009 the Company recognized a $4.4 million gain on foreign currency transactions compared to a $1.0 million gain in 2008.
Income Taxes
The Company incurred an income tax expense of $61.0 million on a loss of $271.2 million in 2009.
In 2009 the Company recorded $50.8 million for the impairment of goodwill which was not deductible for income tax purposes and therefore no tax benefit was recorded on this expense. Valuation allowances of $126.9 million were recorded as tax expense in 2009 which relates to impaired tax assets in the U.S., Italy, China, and Denmark. Other non-deductible expenses and the worldwide earnings mix also impacted 2009 income tax expense.
Market Risk
The Company is naturally exposed to various market risks, including changes in foreign currency exchange rates and interest rates.
Foreign Currency Changes
The Company has operations and sells its products in many different countries of the world and therefore, conducts its business in various currencies. The Company's financial statements, which are presented in U.S. dollars, can be impacted by foreign exchange fluctuations through both translation risk and transaction risk. Translation risk is the risk that the financial statements of the Company, for a particular period or as of a certain date, may be affected by changes in the exchange rates that are used to translate the financial statements of the Company's operations from foreign currencies into U.S. dollars. Transaction risk is the risk from the Company receiving its sale proceeds or holding its assets in a currency different from that in which it pays its expenses and holds its liabilities.
In previous years, the Company had been well balanced between its U.S. and European operations because the Company generated its sales in the same region in which it incurred its expenses, or shipped products between geographic regions on a balanced basis. However, in recent years the balance has shifted and the amount of sales made in U.S. dollars has increased, whereas the production costs are in a currency other than the U.S. dollar, increasing the Company's exposure to transaction risk. In 2010 the Company sold a total of $154.8 million of product into the U.S. that had been produced in European-based currencies
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compared to sales into Europe of $53.9 million of product produced in U.S. dollars. In 2010 the results were favorable as the dollar strengthened in comparison to other currencies. The Company produces and sells its product in several regions of the world, however the U.S. and European transactions comprise the majority of the imbalance between regions.
The Company enters into forward contracts to minimize the impact of currency fluctuations on cash flows related to forecasted sales denominated in currencies other than the functional currency of the selling location. The forecasted sales represent sales to both external and internal parties. Any effects of the forward contracts related to sales to internal parties are eliminated in the consolidation process until the related inventory has been sold to an external party. The forward contracts qualify for hedge accounting and therefore are subject to effectiveness testing at the inception of the contract and throughout the life of the contract. In 2010, as a result of hedge accounting for the forward contracts, the Company recognized a decrease to net sales of $0.8 million and other expense of $0.3 million. The fair value of forward contracts included on the balance sheet at December 31, 2010 was a net liability of $0.9 million.
The Company is also impacted by translation risk in terms of comparing results from period to period. Fluctuations of currencies against the U.S. dollar can be substantial and therefore, significantly impact comparisons with prior periods. Translation affects the comparability of both the income statement and the balance sheet. As shown in the table below, the translation impact on net sales was not significant in 2010. This is because the U.S. dollar strengthened against the euro during the first half of the year, while it weakened during the second half of the year.
Percentage Sales Growth Over Prior Year | ||||||||
2010 | 2009 | 2008 | ||||||
As Reported | 41.6 | % | (44.6 | )% | 6.0 | % | ||
Without Currency Translation Impact | 41.9 | (42.8 | ) | 1.7 | ||||
The change in the exchange rate affects the comparability of the balance sheet between 2010 and 2009 as the balance sheet accounts are translated at the exchange rate as of December 31. The U.S. dollar strengthened 8.7 percent against the euro and 9.5 percent against the Danish kroner from December 31, 2009 to December 31, 2010. The strengthening of the dollar has resulted in approximately 36 percent of the Company's total balance sheet being stated approximately 9.0 percent lower than the prior year.
Interest Rate Changes
The Company has used interest rate swap agreements on a limited basis to manage the interest rate risk on its total debt portfolio. During March 2009 the Company settled both of its interest rate swap agreements due to repayment of the underlying debt agreements, resulting in a loss of $2.0 million recognized in the Consolidated Statement of Operations as a component of loss on early retirement of debt.
The following table summarizes the maturity of the Company's debt obligations for fixed and variable rate debt (amounts in millions):
Fixed Rate Debt | Variable Rate Debt | ||||||
2011 | $ | 0.7 | $ | 50.5 | |||
2012 | 1.4 | — | |||||
2013 | 1.2 | — | |||||
2014 | 0.9 | — | |||||
2015 | 199.1 | — | |||||
2016 and Thereafter | — | — | |||||
Total | $ | 203.3 | $ | 50.5 | |||
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Liquidity and Capital Resources
The Company's principal sources of liquidity have been cash flow from operations and from its credit facilities. The Company historically has accessed diverse funding sources, including short-term and long-term unsecured bank lines of credit in the United States, Europe, and Asia.
The Company has a Credit Agreement (Danfoss Agreement) with Danfoss A/S that is unsecured and permits the Company to borrow up to approximately $500 million. The Danfoss Agreement provides a term loan of approximately $200 million ($140 million and 45 million euro) that will mature in September 2015, as well as a revolving credit facility that permits borrowings of approximately $300 million ($180 million and 90 million euro) through September 2013. The Danfoss Agreement contains no financial covenants but it does contain a number of affirmative and negative covenants that, among other things, require the Company to obtain the consent of Danfoss A/S prior to engaging in certain types of transactions.
The Company expects to have sufficient sources of liquidity to meet its future funding needs for the foreseeable future.
Cash Flows from Operations
Cash provided by operations was $269.3 million in 2010 compared to $86.8 million in 2009. The increase was primarily due to the increase in net income, as well as a $77.6 million increase in accounts payable and a $16.6 million increase in accrued liabilities. These increases were partially offset by reduction in cash resulting from a $63.8 million increase in accounts receivable due primarily to increased sales levels in 2010, as well as a $28.5 million increase in inventories due to higher production volume.
Total cash of the Company increased $5.2 million from December 31, 2009 to December 31, 2010. At December 31, 2010 cash balances in China totaled $33.7 million, an increase of $11.8 million from December 31, 2009. The Company is paying dividends from its Chinese entities to the maximum extent possible under current regulations; however, due to the nature of the governmental and other regulatory controls, it is difficult to transfer cash out of China for reasons other than payment for goods shipped into that country. As the Company continues to consider expanding its manufacturing capabilities in low-cost regions, it will make every effort to utilize the cash balances in those regions to fund future expansions. Total cash outside of China decreased by $6.6 million in 2010. This is mainly due to a new line of credit that was established to fund day to day operations, allowing the Company to reduce the amount of cash on hand.
Cash Used in Investing Activities
Cash used in investing activities totaled $18.0 million in 2010. Capital expenditures for 2010 totaled $26.2 million compared to $43.0 million in 2009. The decrease in 2010 is the result of management's continued focus on conserving cash in light of the recent economic downturn.
Cash Used in Financing Activities
Net repayments used $232.9 million of cash during 2010 due to management's focus on reducing debt. Net borrowings provided cash of $22.3 million in 2009. During 2010 the Company paid $4.2 million in debt origination fees related to the Danfoss Credit Agreement, and $1.7 million in debt extinguishment costs. In 2009 the Company paid $10.6 million in debt origination fees related to the Original Credit Agreement and the 2009 Agreement, and $10.1 million in debt extinguishment and interest rate swap settlement costs.
The Company makes varying distributions to its noncontrolling interest partners from its various joint venture activities depending on the amount of undistributed earnings of the business and the needs of the partners. Distributions totaled $23.7 million in 2010 compared to $17.7 million in 2009. In 2010 the Company received $13.2 million net cash from Danfoss A/S in connection with the tax sharing agreement in Denmark. The Company paid no dividends in 2010, while $8.7 million in dividends were paid in the first quarter of 2009.
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Contractual Cash Obligations
The majority of the Company's contractual obligations to make cash payments to third parties are for financing obligations. These include future lease payments under both operating and capital leases. The following table discloses the Company's future commitments under contractual obligations as of December 31, 2010:
Contractual Cash Obligations(1) | Total | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 and Thereafter | ||||||||||||||||||||
Long-term debt(2) | $ | 253.8 | $ | 51.2 | $ | 1.4 | $ | 1.2 | $ | 0.9 | $ | 199.1 | $ | — | |||||||||||||
Interest on long-term debt(3) | 87.7 | 19.7 | 20.1 | 19.0 | 17.2 | 11.7 | — | ||||||||||||||||||||
Capital leases | 0.9 | 0.6 | 0.3 | — | — | — | — | ||||||||||||||||||||
Operating leases | 85.9 | 15.7 | 12.8 | 10.8 | 8.9 | 7.4 | 30.3 | ||||||||||||||||||||
Rental and service agreements with related person Danfoss A/S | 58.4 | 8.9 | 8.8 | 8.6 | 8.6 | 3.3 | 20.2 | ||||||||||||||||||||
Total contractual cash obligations | $ | 486.7 | $ | 96.1 | $ | 43.4 | $ | 39.6 | $ | 35.6 | $ | 221.5 | $ | 50.5 | |||||||||||||
The following assumptions are used in the calculation of the contractual cash obligations:
(1) | Commitments denominated in a currency other than the U.S. dollar are translated at the December 31, 2010 exchange rate. |
(2) | The annual amount borrowed under revolving credit agreements does not change from the $50.5 million borrowed at December 31, 2010, through the maturity date of the agreements. |
(3) | The margin rate on variable interest rate debt does not change from December 31, 2010. The base interest rate for future years is based on the interest yield curves as of December 31, 2010. |
In addition to the above contractual obligations, the Company has certain other funding needs that are non-contractual by nature, including funding of certain pension plans. In 2011 the Company anticipates contributing $16.8 million to its pension and health benefit plans.
Other Matters
Critical Accounting Estimates
The SEC's guidance surrounding the disclosure of critical accounting estimates requires disclosures about estimates a company makes in applying its accounting policies. However, such discussion is limited to "critical accounting estimates," or those that management believes meet two criteria: 1) the accounting estimate must require a company to make assumptions about matters that are highly uncertain at the time the accounting estimate is made, and 2) different estimates that the company reasonably could have used for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on the presentation of the company's financial condition, changes in financial condition or results of operations.
Besides the estimates that meet the two criteria for a "critical estimate" above, the Company makes many other accounting estimates in preparing its financial statements and related disclosures. All estimates, whether or not deemed critical, can affect the reported amounts of assets, liabilities, revenues, and expenses as well as disclosures of contingent assets and liabilities. Estimates are based on experience and information available prior to the issuance of the financial statements. Materially different results can occur as circumstances change and additional information becomes known, including estimates not deemed "critical" under the SEC's guidance.
The discussion below should be read in conjunction with disclosures elsewhere in this discussion and in the Notes to the Consolidated Financial Statements related to estimates, uncertainties, contingencies, and new accounting standards. Significant accounting policies are discussed in Note 1 to the Consolidated Financial Statements beginning on page F-5. The development and selection of accounting estimates, including those deemed "critical," and the associated disclosures in this discussion, have been discussed by management with the audit committee of the Board of Directors.
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Inventory Valuation As a manufacturer in the capital goods industry, inventory is a substantial portion of the assets of the Company, amounting to over 15 percent of total assets at December 31, 2010. The Company must periodically evaluate the carrying value of its inventory to assess the proper valuation. This includes recording period adjustments as needed to 1) record expenses due to excess capacity, 2) provide for excess and obsolete inventory, and 3) ensure that inventory is valued at the lower of cost or market. On a quarterly basis, management within each segment performs an analysis of the underlying inventory to identify the need for appropriate write-downs to cover each of these items. In doing so, management applies consistent practices based upon historical data such as actual loss experience, past and projected usage, actual margins generated from trade sales of its products, and finally its best judgment to estimate the appropriate carrying value of the inventory.
Warranty Provisions The Company warrants its various products over differing periods depending upon the type of product and application. Consequently, the Company records liabilities for the estimated warranty costs that may be incurred under its basic warranty based on past trends of actual warranty claims compared to the actual sales levels to which those claims apply. These liabilities are accrued at the time the sales of the products are recorded. Factors that affect the Company's warranty liability include the number of units in the field currently under warranty, historical and anticipated rates of warranty claims on those units and the cost per claim to satisfy the Company's warranty obligation. The anticipated rate of warranty claims is the primary factor impacting the Company's estimated warranty obligation. Each quarter, the Company reevaluates its estimates to assess the adequacy of its recorded warranty liabilities and adjusts the amounts as necessary.
In addition to its normal warranty liability, the Company, from time to time in the normal course of business, incurs costs to repair or replace defective products with a specific customer or group of customers. The Company refers to these as "field recalls" and in these instances, the Company will record a specific provision for the expected costs it will incur to repair or replace these products utilizing information from customers and internal information regarding the specific cost of materials and labor. Typically, field recalls are infrequent in occurrence, however, when they occur, field recalls can be for a large number of units and quite costly to rectify. Because of the sporadic and infrequent nature of field recalls, and due to the range of costs associated with field recalls, the Company cannot accurately estimate these costs at the time the products are sold. Therefore, these costs are recorded at the time information becomes known to the Company. As the field recalls are settled, the Company relieves the specific liability related to that field recall. These specific field recall liabilities are reviewed on a quarterly basis.
Goodwill and Long-Lived Asset Recovery A significant portion of the Company's total assets consist of property, plant and equipment (PP&E) and definite life intangibles, as well as goodwill. Changes in technology or in the Company's intended use of these assets, as well as changes in the broad global economy in which the Company operates, may cause the estimated period of use or the carrying value of these assets to change.
This requires the Company to periodically assess the estimated useful lives of its assets in order to match, through depreciation and amortization, the cost of those assets with the benefits derived over the period of usefulness. The useful lives of these assets can be shortened through greater use due to volume increases, a change in strategy regarding production of a certain product, rapidly changing technology such as the use of electronics and computer-operated controls, and through inadequate maintenance. Despite management's best efforts to determine the appropriate useful lives of its equipment, certain situations may arise that lead to an asset or group of assets becoming impaired, meaning their economic value becomes less than the value at which the Company is carrying the asset on its books. Examples of these situations are product rationalization efforts or restructuring of manufacturing facilities. When these situations arise, the Company tests the assets for impairment and will write down the asset in the period when the impairment becomes known. Goodwill is tested for impairment at least annually. Goodwill is also tested if an event occurs or conditions change that would more likely than not reduce the fair value of a reporting unit below its carrying value (triggering event).
The Company completes its annual goodwill impairment valuation on December 31 each year. The Company identified ten reporting units that are either operating segments or one level below operating segments. In performing the impairment valuation, the Company considers declines in market values, and reconciles the sum of the estimated fair values of its reporting units to the Company's market value (based on its stock price), plus a reasonable control premium, which is estimated as that amount which would be received to sell the Company as a whole in an orderly transaction between market participants.
When testing for goodwill impairment, the Company performs a first step of the goodwill impairment test to identify a potential impairment. In doing so, the Company compares the fair value of a reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds its fair value, goodwill may be impaired and a second step is performed to measure the amount of any impairment loss. In 2010 the Company determined that the fair value of goodwill for all reporting units was greater than their carrying values at December 31, 2010.
Estimates about fair value used in the first step of the goodwill impairment tests are calculated using an income approach based on the present value of future cash flows of each reporting unit. The income approach is supported by other valuation approaches, such as similar transaction and guideline analyses. Under the income approach, the Company determines fair value based on estimated future cash flows of each reporting unit, discounted by an estimated weighted-average cost of capital, which
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reflects the overall level of inherent risk of a reporting unit and the rate of return an outside investor would expect to earn. Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions, including revenue growth rates and operating margins, discount rates and future market conditions among others. Changes in economic and operating conditions impacting these assumptions could result in goodwill impairments in future periods. At December 31, 2010 the Company had $35.1 million of goodwill related to its propel and electronic components reporting units, which was tested for impairment and determined to not be impaired.
The Company tests its long-lived assets for recoverability at any time that an event or change in circumstances occurs that indicates the carrying amount of the long-lived assets may not be recoverable. Events or circumstances that may trigger a recoverability test include a significant change in the market price of similar long-lived assets; a change in the use of the long-lived asset due to product rationalization efforts or restructuring of manufacturing facilities; a significant adverse change in legal factors, business climate, industry or economic conditions ; an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of a long-lived asset; historical and projected operating losses associated with the use of a long-lived asset; or an expectation that more likely than not, a long-lived asset will be disposed of significantly before the end of its previously estimated useful life. The Company reviews these factors quarterly to determine whether a triggering event has occurred. No triggering events were noted in 2010.
Valuation of Trade Receivables The Company records trade receivables due from its customers at the time a sale is recorded in accordance with its revenue recognition policy. The future collectability of these amounts can be impacted by the Company's collection efforts, the financial stability of its customers, and the general economic climate in which it operates. The Company applies a consistent practice of establishing an allowance for accounts that it believes may become uncollectible through reviewing the historical aging of its receivables, looking at the historical losses incurred as a percentage of net sales, and by monitoring the financial strength of its customers regarding specific outstanding accounts receivable balances. In addition, local customary practices have to be taken into account due to varying payment terms being applied in various parts of the world where the Company conducts its business. If the Company becomes aware of a customer's inability to meet its financial obligations (e.g., where it has filed for bankruptcy), the Company establishes a specific allowance for the potential bad debt to reduce the net recognized receivable to the amount it reasonably believes will be collected. The valuation of trade receivables is reviewed quarterly.
Workers Compensation The Company has an insurance policy to cover workers compensation claims in the U.S., in which the Company pays the first $0.25 million per claim, per incident. The Company establishes its workers compensation reserve based on historic growth factors of claims and an estimate of incurred, but not reported claims. This analysis is performed on a quarterly basis.
U.S. Health Care Costs The Company self insures its U.S. health care costs for eligible employees and their qualified dependents. The Company purchases individual stop loss coverage to limit the exposure stemming from high value claims from any single member in a given year. The Company's individual stop loss coverage limit, which excludes vision, dental, and prescription drug costs, is $0.3 million. The Company establishes reserves for its health care cost based on historic claims data and an estimate of incurred, but not reported claims. This analysis is performed on a quarterly basis.
Pensions The Company has defined benefit pension plans for a portion of its employees. These plans are funded with plan assets. The measurement of the Company's pension obligations and costs is dependent on a variety of assumptions determined by management and used by the Company's actuaries. These assumptions include estimates of the present value of projected future pension payments to all plan participants, taking into consideration the likelihood of potential future events such as salary increases and other experience. These assumptions may have an effect on the amount and timing of future contributions. The plan trustee conducts an independent valuation of the fair value of pension plan assets.
The assumptions used in developing the required estimates include the following key factors:
Discount rates | Inflation | |
Salary growth | Expected return on plan assets | |
Retirement rates | Mortality rates |
The discount rate reflects the current rate at which the associated liabilities could be effectively settled at the end of the year. The Company sets its rate to reflect the yield of a portfolio of high quality, fixed-income debt instruments that would produce cash flows sufficient in timing and amount to settle projected future benefits.
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The inflation assumption is based on an evaluation of external market indicators. The salary growth assumptions reflect the Company's long-term actual experience, the near-term outlook and assumed inflation. The expected return on plan assets reflects asset allocations, investment strategy, and the views of investment managers and other large pension plan sponsors. Retirement and mortality rates are based primarily on actual plan experience and standard industry actuarial tables, respectively. The effects of actual results differing from the assumptions are accumulated and amortized over future periods and, therefore, generally affect recognized expense in such future periods.
The Company's funding policy for the U.S. plans is to contribute amounts sufficient to meet the minimum funding requirement of the Employee Retirement Income Security Act of 1974, plus any additional amounts the Company may deem to be appropriate. In 2011 the Company anticipates contributing $10.0 million to its U.S. plans, $2.1 million to its German plans, and $1.0 million to its U.K. plans.
Postretirement Benefits Other Than Pensions The Company provides postretirement health care benefits for certain employee groups in the U.S. This plan is contributory and contains certain other cost-sharing features such as deductibles and coinsurance. The Company does not pre-fund this plan and has the right to modify or terminate this plan in the future.
The postretirement liability, which is determined on an actuarial basis, is recognized in the Company's Consolidated Balance Sheets and the postretirement expense is recognized in the Consolidated Statements of Operations. The Company must determine the actuarial assumption for the discount rate used to reflect the time value of money in the calculation of the accumulated postretirement benefit obligation for the end of the current year and to determine the postretirement cost for the subsequent year. The discount rate reflects the current rate at which the associated liabilities could be effectively settled at the end of the year. The Company sets its rate to reflect the yield of a portfolio of high quality, fixed-income debt instruments that would produce cash flows sufficient in timing and amount to settle projected future benefits.
In addition, the Company must determine the actuarial assumption for the health care cost trend rate used in the calculation of the accumulated postretirement benefit obligation for the end of the current year and to determine the net periodic postretirement benefit cost for the subsequent year. As of December 31, 2010 a one-percentage point change in the assumed health care cost trend rate would impact the expense recognized in 2010 by $0.3 million and would affect the postretirement benefit obligation by $5.0 million. In 2011 the Company anticipates contributing $3.7 million to this plan.
Deferred Income Taxes and Valuation Allowances Tax regulations may require items to be included in the tax return at different times than the items are reflected in the financial statements. Some of the differences are permanent, such as expenses that are not deductible on a tax return, and some of the differences are temporary such as the rate of depreciation expense. Temporary differences create deferred tax assets and liabilities. Deferred tax assets generally are attributable to items that can be used as a tax deduction or credit in a tax return in future years but the amount has already been included as an expense in the financial statements. Deferred tax liabilities generally represent deductions that have been taken on the tax return but have not been recognized as expense in the financial statements. Valuation allowances are recorded to reduce deferred tax assets when it is more likely than not that a tax benefit will not be realized. Management believes it is more likely than not that the Company will realize the benefits of the net deferred tax assets reported on the Consolidated Balance Sheets.
Outlook
Management expects sales to increase by 10 to 20 percent in 2011 compared to 2010. If realized, the expected growth in sales, combined with a continued focus on controlling fixed expenses, will result in another year of strong earnings in 2011.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk.
Certain market risks are discussed on pages 25-26 of this report, and the other disclosure requirements are considered either not applicable or not material.
Item 8. Financial Statements and Supplementary Data.
The Consolidated Financial Statements, Report of Management, and Report of Independent Registered Public Accounting Firm are presented on pages F-1 through F-36 of this report.
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Item 9A. Controls and Procedures.
Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures
As required by Rules 13a-15(b) and 15d-15(b) under the Securities Exchange Act of 1934 (Exchange Act), the Company's management carried out an evaluation, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures as of December 31, 2010. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that, as of December 31, 2010, the Company's disclosure controls and procedures were effective to ensure that (a) information required to be disclosed in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission's rules and forms and (b) such information is accumulated and communicated to the Company's management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
Management's Report on Internal Control Over Financial Reporting
The Company's management, under the supervision of the Company's Chief Executive Officer and Chief Financial Officer, is responsible for establishing and maintaining a system of internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). This system is augmented by written policies and procedures, careful selection and training of financial management personnel, a continuing management commitment to the integrity of the system, and examinations by an internal audit function that coordinates its activities with the Company's Independent Registered Public Accounting Firm. Because of its inherent limitations, however, even the best internal control over financial reporting may not prevent or detect misstatements. It is also important to note that controls that are effective at a particular point in time may become ineffective at a later time due to changed conditions that may require new or modified controls or due to a deterioration in compliance with the controls. There were no changes in the Company's internal control over financial reporting during the fourth quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.
As required by Rules 13a-15(c) and 15d-15(c) of the Exchange Act, the Company's management, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, conducted an evaluation of the effectiveness of the Company's internal control over financial reporting, as of December 31, 2010, based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this evaluation, the Company's management concluded that the Company's internal control over financial reporting was effective as of December 31, 2010.
KPMG LLP, an independent registered public accounting firm has audited the Consolidated Financial Statements included in this Annual Report on Form 10-K and, as a part of the audit, has issued its report, included in Item 8, on the effectiveness of the Company's internal control over financial reporting.
Attestation Report of Independent Registered Public Accounting Firm
The attestation report required under this item is contained in Item 8 of this Annual Report on Form 10-K.
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PART III
Item 10. Directors, Executive Officers and Corporate Governance
Information regarding directors of the Company is set forth under the section entitled "ELECTION OF DIRECTORS" of the Company's Proxy Statement for the annual meeting of stockholders to be held June 17, 2011 (the "Proxy Statement"), and is incorporated herein by reference. Information regarding executive officers of the Company is set forth in Part I of this report under the caption "Executive Officers of the Company." Information regarding the Company's code of conduct and code of ethics is set forth under the section entitled "GOVERNANCE OF THE COMPANY—Code of Conduct and Code of Ethics" of the Proxy Statement, and is incorporated herein by reference. Information regarding the Company's audit committee is set forth under the section entitled "GOVERNANCE OF THE COMPANY—Audit Committee" of the Proxy Statement and is incorporated herein by reference. Copies of the Worldwide Code of Legal and Ethical Business Conduct and the Code of Ethics for Chief Executive Officer, Chief Financial Officer, Principal Accounting Officer or Controller and other Senior Finance Staff are posted on the Company's website at http://ir.sauer-danfoss.com, and printed copies of such codes may be obtained, without charge, by written request addressed to Kenneth D. McCuskey, Corporate Secretary, 2800 E. 13th Street, Ames, Iowa 50010.
The Company's Audit Committee Charter, Compensation Committee Charter, and Corporate Governance Guidelines are posted on the Company's website set forth in the preceding paragraph. Also, printed copies of such charters and guidelines may be obtained, without charge, by sending a written request to the Corporate Secretary at the address set forth in the preceding paragraph.
Item 11. Executive Compensation
Information as to Executive Compensation is set forth under the section entitled "EXECUTIVE COMPENSATION" of the Proxy Statement, and is incorporated herein by reference. Information regarding compensation committee interlocks is set forth under the section entitled "Compensation Committee Interlocks and Insider Participation" of the Proxy Statement, and is incorporated herein by reference. The Company's compensation committee's report is set forth under the section entitled "Compensation Committee Report" of the Proxy Statement, and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information regarding securities authorized for issuance under equity compensation plans is set forth in Part II on page 14 of this report. Information regarding security ownership is set forth under the section entitled "SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT" of the Proxy Statement, and is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions, and Director Independence
In connection with the acquisition of Danfoss Fluid Power in May 2000 and the acquisition of additional assets and business operations of the fluid power business of Danfoss A/S in January 2001, the Company has entered into several agreements with Danfoss A/S to purchase ongoing operational services from Danfoss A/S. Information regarding these relationships and agreements, in addition to other related person transactions, is set forth in Note 14 in the Notes to Consolidated Financial Statements on pages F-29 and F-30 of this report, and is incorporated herein by reference.
In 2010 the Company entered into a Credit Agreement (the Danfoss Agreement) with Danfoss A/S, which allows the Company to borrow up to approximately $500 million under an unsecured revolving credit facility. Information regarding these relationships and loan transaction is set forth in Notes 8 and 14 in the Notes to Consolidated Financial Statements on pages F-16 through F-17 and F-29 through F-30 of this report, respectively, and is incorporated herein by reference.
Additional information regarding related person transactions is set forth under the section entitled "GOVERNANCE OF THE COMPANY—Transactions with Related Persons" of the Proxy Statement, and is incorporated herein by reference. Information about the independence of the Company's directors is set forth in the Proxy Statement under the section entitled 'GOVERNANCE OF THE COMPANY' under the subheadings 'Board of Directors' and 'Basis for Board Determination of Independence of Directors', and is incorporated herein by reference.
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Item 14. Principal Accountant Fees and Services
Information regarding accounting services and fees is set forth under the section entitled "RATIFICATION OF APPOINTMENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM" of the Proxy Statement, and is incorporated herein by reference.
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PART IV
Item 15. Exhibits and Financial Statement Schedules.
(a) | The following documents are filed as a part of this report. |
(1) | The following consolidated financial statements and related information, included in Item 8, are filed as a separate section of this report: |
Consolidated Statements of Operations for the years ended December 31, 2010, 2009, and 2008, on page F-1.
Consolidated Balance Sheets as of December 31, 2010 and 2009, on page F-2.
Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss) for the years ended December 31, 2010, 2009, and 2008, on page F-3.
Consolidated Statements of Cash Flows for the years ended December 31, 2010, 2009, and 2008, on page F-4.
Notes to Consolidated Financial Statements, December 31, 2010, 2009, and 2008, on pages F-5 through F-34.
Report of Management and Report of Independent Registered Public Accounting Firm, KPMG LLP, on pages F-35 through F-36.
(2) | The following schedule: |
Schedule II, Valuation and Qualifying Accounts, on page F-37.
All other schedules for which provision is made in Regulation S-X of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and, therefore, have been omitted.
(3) | Exhibits |
Exhibit No. | Description of Document | |
3.1 | The Amended and Restated Certificate of Incorporation of the Company dated July 10, 2008, is attached as Exhibit 3.1 to the Company's Form 8-K filed on July 11, 2008, and is incorporated herein by reference. | |
3.2 | The Amended and Restated Bylaws of the Company dated July 10, 2008, are attached as Exhibit 3.2 to the Company's Form 8-K filed on July 11, 2008, and are incorporated herein by reference. | |
4 | The form of Certificate of the Company's Common Stock, $.01 Par Value, is attached as Exhibit 4 to the Company's Form 10-Q filed on August 16, 2000 and is incorporated herein by reference. | |
10.1(a) | The Registration Rights Agreement is attached as Exhibit 10.1(b) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by reference. | |
10.1(b) | The form of Indemnification Agreement entered into between the Company and certain of its directors and officers is attached as Exhibit 10.1(c) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by reference. | |
10.1(c) | The Lease Agreement for the Company's Osaka, Japan, facility is attached as Exhibit 10.1(d) to the Company's Form 10-K filed March 14, 2005, and is incorporated herein by reference. |
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Exhibit No. | Description of Document | |
10.1(d) | The Lease Agreement for the Company's Minneapolis, Minnesota, facility is attached as Exhibit 10.1(h) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by reference. | |
10.1(e) | Amendment No. 1 to the Lease Agreement for the Company's Minneapolis, Minnesota facility, effective March 1, 2003, is attached as Exhibit 10.1(e) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(f) | Amendment No. 2 to the Lease Agreement for the Company's Minneapolis, Minnesota facility, effective March 28, 2007, is attached as Exhibit 10.1(f) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(g) | The Lease Agreement for the Company's Shanghai/Pudong, China, facility is attached as Exhibit 10.1(j) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by reference. | |
10.1(h) | The Indenture of Lease agreement for the Company's Nordborg, Denmark, facility effective May 3, 2000, is attached as Exhibit 10.1(ah) to the Company's Form 10-K filed on March 30, 2001, and is incorporated herein by reference. | |
10.1 (i) | The Lease Agreement for the Company's leased facility in Caxias do Sul, Brazil, effective July 1, 2007, is attached as Exhibit 10.1(l) to the Company's Form 10-K filed on March 11, 2008, and is incorporated herein by reference. | |
10.1 (j) | The Lease Agreement for the Company's leased facility in Reggio Emilia, Italy, effective October 1, 2003, is attached as Exhibit 10.1(m) to the Company's Form 10-K filed on March 11, 2008, and is incorporated herein by reference. | |
10.1(k) | The Lease Agreement for the Company's leased facility in Bielany Wroclawskie, Poland, including Annex 1 effective May 16, 2008, and Annex 2 effective October 28, 2009, is attached as Exhibit 10.1(k) to the Company's Form 10-K filed on March 4, 2010, and is incorporated herein by reference. | |
10.1(l) | The Lease Agreement for the Company's leased facility in Älmhult, Sweden, effective May 2007, is attached as Exhibit 10.1(1) to the Company's Form10-K filed on March 4, 2010, and is incorporated herein by reference. | |
10.1(m) | The Employment Contract effective as of January 1, 2009 by and between Sauer-Danfoss GmbH & Co. OHG and Sven Ruder is attached as Exhibit 10.2 to the Company's Form 8-K filed on January 21, 2009, and is incorporated herein by reference. | |
10.1(n) | The Employment Contract by and between Sauer-Danfoss GmbH & Co. OHG and Hans J. Cornett dated December 12, 2008, is attached as Exhibit 10.1(r) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(o) | The Termination Agreement between Sauer-Danfoss GmbH & Co. OHG and Hans J. Cornett dated October 23, 2009, is attached as Exhibit 10.1(q) to the Company's Form 10-K filed on March 4, 2010, and is incorporated herein by reference. | |
10.1(p) | The Employment Contract by and between Sauer-Danfoss GmbH & Co. OHG and Thomas Kittel dated January 23, 2009, is attached as Exhibit 10.1(s) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(q) | The Executive Employment Agreement with Kenneth D. McCuskey dated December 15, 2008 and effective December 31, 2008, is attached as Exhibit 10.1(u) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. |
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Exhibit No. | Description of Document | |
10.1(r) | The Executive Employment Agreement with Wolfgang Schramm dated December 15, 2008 and effective December 31, 2008, is attached as Exhibit 10.1(w) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(s) | The Employment Contract dated April 6, 2009 and effective as of May 1, 2009 by and between Sauer-Danfoss GmbH & Co. OHG and Jesper V. Christensen is attached as Exhibit 10.1 to the Company's Form 10-Q filed on May 6, 2009, and is incorporated herein by reference. | |
10.1(t) | The Change in Control Agreement between Sauer-Danfoss (US) Company Inc. and Charles K. Hall dated March 8, 2004, is attached as Exhibit 10.1(x) of the Company's Form 10-K filed on March 4, 2010, and is incorporated herein by reference. | |
10.1(u) | The First Amendment to the Change in Control Agreement between Sauer-Danfoss (US) Company and Charles K. Hall dated December 20, 2008, is attached as Exhibit 10.1(y) of the Company's Form 10-K filed on March 4, 2010, and is incorporated herein by reference. | |
10.1(v) | The Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan is attached as Exhibit 10.1(p) to Amendment No. 1 to the Company's Form S-1 Registration Statement filed on April 23, 1998, and is incorporated herein by reference. | |
10.1(w) | The Amendment, effective May 3, 2000, to the Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan referred to in 10.1(v) above is attached as Exhibit 10.1(v) to the Company's Form 10-Q filed on August 16, 2000, and is incorporated herein by reference. | |
10.1(x) | The Amendment to the Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan effective December 4, 2002, is attached as Exhibit 10.1(bd) to the Company's Form 10-K filed on March 12, 2003, and is incorporated herein by reference. | |
10.1(y) | The Second Amendment to Sauer-Danfoss Inc. 1998 Long-Term Incentive Plan is attached as Exhibit 10 to the Company's Form 8-K filed on August 24, 2006, and is incorporated herein by reference. | |
10.1(z) | The Trademark and Trade Name Agreement dated May 3, 2000, between the Company and Danfoss A/S is attached as Exhibit 10.1(ac) to the Company's Form 10-Q filed on August 16, 2000, and is incorporated herein by reference. | |
10.1(aa) | The Sauer-Danfoss Inc. Deferred Compensation Plan for Selected Employees dated December 9, 2003, is attached as exhibit 10.1(bk) to the Company's Form 10-K filed on March 15, 2004, and is incorporated herein by reference. | |
10.1(ab) | First Amendment to the Sauer-Danfoss Inc. Deferred Compensation Plan for Selected Employees, effective December 31, 2005, is attached as exhibit 9.1 to the Company's Form 8-K filed on December 7, 2005, and is incorporated herein by reference. | |
10.1(ac) | The Sauer-Danfoss Inc. Supplemental Executive Savings & Retirement Plan (As Amended and Restated Effective as of January 1, 2008), is attached as Exhibit 10.1(ao) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(ad) | The Sauer-Danfoss Inc. 409A Deferred Compensation Plan for Selected Employees (As Amended and Restated Effective as of January 1, 2008), is attached as Exhibit 10.1(ar) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | |
10.1(ae) | The Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is filed as Appendix A to the Company's Definitive Proxy Statement filed on April 24, 2006, and is incorporated herein by reference. | |
10.1(af) | Form of Performance Unit Award Agreement under the Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan is attached as Exhibit 10.1 to the Company's Form 8-K filed on April 5, 2007, and is incorporated herein by reference. |
37
Exhibit No. | Description of Document | ||
10.1(ag) | Form of Sauer-Danfoss Inc. 2006 Omnibus Incentive Plan Restricted Stock Award Agreement is attached as Exhibit 10.1(aq) to the Company's Form 10-K filed on March 4, 2010, and is incorporated herein by reference. | ||
10.1(ah) | The Sauer-Danfoss Inc. Final Average Pay Supplemental Retirement Benefit Plan is attached as Exhibit 10 to the Company's Form 8-K filed on September 17, 2007, and is incorporated herein by reference. | ||
10.1(ai) | The Agreement dated December 8, 2008, by and among Sauer-Danfoss ApS, Schabmuller GmbH, Aurelius AG, and Aurelius Industriekapital GmbH is attached as Exhibit 10.1(bf) to the Company's Form 10-K filed on March 24, 2009, and is incorporated herein by reference. | ||
10.1(aj) | The Amended and Restated Credit Agreement dated as of September 7, 2010 by and between Danfoss A/S and the Company is attached as Exhibit 10.1 to the Company's Form 8-K filed on September 9, 2010, and is incorporated herein by reference. | ||
21 | Subsidiaries of the Registrant. | ||
23.1 | Consent of Independent Registered Public Accounting Firm. | ||
31.1 | Certification by the Chief Executive Officer Pursuant to Rule 13a-14(a). | ||
31.2 | Certification by the Chief Financial Officer Pursuant to Rule 13a-14(a). | ||
32.1 | Certification by the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350. | ||
32.2 | Certification by the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350. | ||
(b)The exhibits that are listed under Item 15(a)(3) above are filed or incorporated by reference hereunder.
38
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SAUER-DANFOSS INC. | |||
By: | /s/ KENNETH D. MCCUSKEY | ||
Kenneth D. McCuskey Vice President and Chief Accounting Officer, Secretary | |||
Date: March 3, 2011
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. Each person signing below also hereby appoints Sven Ruder and Kenneth D. McCuskey, and each of them singly, his or her lawful attorney-in-fact with full power to execute and file any and all amendments to this report together with exhibits thereto and generally to do all such things as such attorney-in-fact may deem appropriate to enable Sauer-Danfoss Inc. to comply with the provisions of the Securities Exchange Act of 1934 and all requirements of the Securities and Exchange Commission.
Signature | Title | Date | ||
/s/ SVEN RUDER | Director and President and Chief Executive Officer | March 3, 2011 | ||
Sven Ruder | ||||
/s/ JESPER V. CHRISTENSEN | Executive Vice President and Chief Financial Officer | March 3, 2011 | ||
Jesper V. Christensen | ||||
/s/ KENNETH D. MCCUSKEY | Vice President and Chief Accounting Officer, Secretary | March 3, 2011 | ||
Kenneth D. McCuskey | ||||
/s/ NIELS B. CHRISTIANSEN | Director | March 3, 2011 | ||
Niels B. Christiansen | ||||
/s/ JØRGEN M. CLAUSEN | Director | March 3, 2011 | ||
Jørgen M. Clausen | ||||
/s/ KIM FAUSING | Director | March 3, 2011 | ||
Kim Fausing |
39
/s/ RICHARD J. FREELAND | Director | March 3, 2011 | ||
Richard J. Freeland | ||||
/s/ PER HAVE | Director | March 3, 2011 | ||
Per Have | ||||
/s/ WILLIAM E. HOOVER, JR. | Director | March 3, 2011 | ||
William E. Hoover, Jr. | ||||
/s/ JOHANNES F. KIRCHHOFF | Director | March 3, 2011 | ||
Johannes F. Kirchhoff | ||||
/s/ ANDERS STAHLSCHMIDT | Director | March 3, 2011 | ||
Anders Stahlschmidt | ||||
/s/ STEVEN H. WOOD | Director | March 3, 2011 | ||
Steven H. Wood |
40
Sauer-Danfoss Inc. and Subsidiaries
Consolidated Statements of Operations
(Dollars in thousands, except per share data)
For the Years Ended December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Net sales | $ | 1,640,583 | $ | 1,159,031 | $ | 2,090,513 | |||||
Cost of sales | 1,142,455 | 1,031,078 | 1,654,903 | ||||||||
Gross profit | 498,128 | 127,953 | 435,610 | ||||||||
Selling, general and administrative | 195,494 | 209,713 | 258,491 | ||||||||
Research and development | 51,575 | 61,418 | 82,915 | ||||||||
Impairment charges | — | 50,841 | 58,208 | ||||||||
Loss on sale of businesses and asset disposals | 7,632 | 16,351 | 9,604 | ||||||||
Total operating expenses | 254,701 | 338,323 | 409,218 | ||||||||
Operating income (loss) | 243,427 | (210,370 | ) | 26,392 | |||||||
Nonoperating income (expenses): | |||||||||||
Interest expense | (50,901 | ) | (50,171 | ) | (25,654 | ) | |||||
Interest income | 1,455 | 1,775 | 1,026 | ||||||||
Loss on early retirement of debt | (2,421 | ) | (15,838 | ) | — | ||||||
Other, net | 3,525 | 3,369 | 966 | ||||||||
Nonoperating expenses, net | (48,342 | ) | (60,865 | ) | (23,662 | ) | |||||
Income (loss) before income taxes | 195,085 | (271,235 | ) | 2,730 | |||||||
Income tax | 51,183 | (61,019 | ) | (14,060 | ) | ||||||
Net income (loss) | 246,268 | (332,254 | ) | (11,330 | ) | ||||||
Net income attributable to noncontrolling interest, net of tax | (32,869 | ) | (13,512 | ) | (17,811 | ) | |||||
Net income (loss) attributable to Sauer-Danfoss Inc. | $ | 213,399 | $ | (345,766 | ) | $ | (29,141 | ) | |||
Net income (loss) per common share, basic | $ | 4.41 | $ | (7.15 | ) | $ | (0.60 | ) | |||
Net income (loss) per common share, diluted | $ | 4.40 | $ | (7.15 | ) | $ | (0.60 | ) | |||
Weighted average basic shares outstanding | 48,382,860 | 48,337,923 | 48,226,184 | ||||||||
Weighted average diluted shares outstanding | 48,469,519 | 48,337,923 | 48,226,184 | ||||||||
See accompanying notes to consolidated financial statements.
F- 1
Sauer-Danfoss Inc. and Subsidiaries
Consolidated Balance Sheets
(Dollars in thousands, except per share data)
December 31, | |||||||
2010 | 2009 | ||||||
Assets | |||||||
Current Assets: | |||||||
Cash and cash equivalents | $ | 44,039 | $ | 38,790 | |||
Accounts receivable (net of allowances of $4,925 and $5,640 in 2010 and 2009, respectively) | 213,896 | 155,968 | |||||
Inventories | 200,993 | 177,574 | |||||
Other current assets | 88,166 | 65,553 | |||||
Total current assets | 547,094 | 437,885 | |||||
Property, Plant and Equipment, net | 408,097 | 513,487 | |||||
Other Assets: | |||||||
Goodwill | 35,055 | 35,903 | |||||
Other intangible assets, net | 18,416 | 19,584 | |||||
Deferred income taxes | 108,009 | 54,458 | |||||
Other | 11,533 | 7,000 | |||||
Total other assets | 173,013 | 116,945 | |||||
$ | 1,128,204 | $ | 1,068,317 | ||||
Liabilities and Stockholders' Equity | |||||||
Current Liabilities: | |||||||
Notes payable and bank overdrafts | $ | 27,700 | $ | 54,069 | |||
Long-term debt due within one year | 51,187 | 142,007 | |||||
Accounts payable | 177,505 | 101,719 | |||||
Accrued salaries and wages | 56,442 | 58,169 | |||||
Accrued warranty | 28,183 | 28,820 | |||||
Other accrued liabilities | 48,564 | 30,806 | |||||
Total current liabilities | 389,581 | 415,590 | |||||
Long-Term Debt | 202,599 | 337,089 | |||||
Other Liabilities: | |||||||
Long-term pension liability | 70,083 | 72,400 | |||||
Postretirement benefits other than pensions | 49,277 | 41,047 | |||||
Deferred income taxes | 28,651 | 33,708 | |||||
Other | 18,876 | 13,889 | |||||
Total other liabilities | 166,887 | 161,044 | |||||
Total liabilities | 759,067 | 913,723 | |||||
Stockholders' Equity: | |||||||
Preferred stock, par value $.01 per share, authorized 4,500,000 shares, no shares issued or outstanding | — | — | |||||
Common stock, par value $.01 per share, authorized shares 75,000,000 in 2010 and 2009; issued and outstanding 48,408,259 in 2010 and 48,384,205 in 2009 | 484 | 484 | |||||
Additional paid-in capital | 348,289 | 334,873 | |||||
Accumulated deficit | (85,446 | ) | (298,845 | ) | |||
Accumulated other comprehensive income | 30,800 | 55,422 | |||||
Total Sauer-Danfoss Inc. stockholders' equity | 294,127 | 91,934 | |||||
Noncontrolling interest | 75,010 | 62,660 | |||||
Total stockholders' equity | 369,137 | 154,594 | |||||
$ | 1,128,204 | $ | 1,068,317 | ||||
See accompanying notes to consolidated financial statements.
F- 2
Sauer-Danfoss Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss)
(Dollars in thousands, except per share data)
Number of Shares Outstanding | Common Stock | Additional Paid-in Capital | Retained Earnings (Accumulated Deficit) | Accumulated Other Comprehensive Income | Noncontrolling Interest | Total | ||||||||||||||||||||
Year Ended December 31, 2008: | ||||||||||||||||||||||||||
Beginning Balance | 48,149,461 | $ | 481 | $ | 332,522 | $ | 110,812 | $ | 81,685 | $ | 60,544 | $ | 586,044 | |||||||||||||
Comprehensive income: | ||||||||||||||||||||||||||
Net income (loss) | — | — | — | (29,141 | ) | — | 17,811 | |||||||||||||||||||
Pension and postretirement adjustment | — | — | — | — | (22,440 | ) | — | |||||||||||||||||||
Unrealized losses on hedging activities | — | — | — | — | (6,861 | ) | — | |||||||||||||||||||
Currency translation | — | — | — | — | (24,389 | ) | 3,181 | |||||||||||||||||||
Total comprehensive loss | (61,839 | ) | ||||||||||||||||||||||||
Performance units vested | 110,837 | 2 | (2 | ) | — | — | — | — | ||||||||||||||||||
Restricted stock grant | 15,000 | — | — | — | — | — | — | |||||||||||||||||||
Restricted stock and performance unit compensation | (2,070 | ) | (2,070 | ) | ||||||||||||||||||||||
Tax benefits on performance unit compensation | 1,534 | 1,534 | ||||||||||||||||||||||||
Minimum tax withholding settlement | (3,492 | ) | — | (1,590 | ) | — | — | — | (1,590 | ) | ||||||||||||||||
Reversal of tax valuation allowance | — | — | 4,453 | — | — | — | 4,453 | |||||||||||||||||||
Noncontrolling interest distribution | — | — | — | — | (13,881 | ) | (13,881 | ) | ||||||||||||||||||
Cash dividends declared ($.72 per share) | — | — | — | (34,750 | ) | — | — | (34,750 | ) | |||||||||||||||||
Balance December 31, 2008 | 48,271,806 | 483 | 334,847 | 46,921 | 27,995 | 67,655 | 477,901 | |||||||||||||||||||
Year Ended December 31, 2009: | ||||||||||||||||||||||||||
Net income (loss) | — | — | — | (345,766 | ) | — | 13,512 | |||||||||||||||||||
Pension and postretirement adjustment | — | — | — | — | 6,386 | — | ||||||||||||||||||||
Unrealized gains on hedging activities | — | — | — | — | 4,357 | — | ||||||||||||||||||||
Currency translation | — | — | — | — | 16,684 | 712 | ||||||||||||||||||||
Total comprehensive loss | (304,115 | ) | ||||||||||||||||||||||||
Performance units vested | 101,899 | 1 | (1 | ) | — | — | — | — | ||||||||||||||||||
Restricted stock grant, net of forfeitures | 10,500 | — | — | — | — | — | — | |||||||||||||||||||
Restricted stock compensation | — | — | 253 | — | — | — | 253 | |||||||||||||||||||
Minimum tax withholding settlement | — | — | (226 | ) | — | — | — | (226 | ) | |||||||||||||||||
Noncontrolling interest distribution | — | — | — | — | — | (19,219 | ) | (19,219 | ) | |||||||||||||||||
Balance December 31, 2009 | 48,384,205 | 484 | 334,873 | (298,845 | ) | 55,422 | 62,660 | 154,594 | ||||||||||||||||||
Year Ended December 31, 2010: | ||||||||||||||||||||||||||
Net income | — | — | — | 213,399 | — | 32,869 | ||||||||||||||||||||
Pension and postretirement adjustment | — | — | — | — | (16,726 | ) | — | |||||||||||||||||||
Unrealized losses on hedging activities | — | — | — | — | (860 | ) | — | |||||||||||||||||||
Currency translation | — | — | — | — | (7,036 | ) | 3,157 | |||||||||||||||||||
Total comprehensive income | — | 224,803 | ||||||||||||||||||||||||
Performance units vested | 10,554 | — | — | — | — | — | — | |||||||||||||||||||
Restricted stock grant, net of forfeitures | 13,500 | — | — | — | — | — | — | |||||||||||||||||||
Restricted stock compensation | — | — | 326 | — | — | — | 326 | |||||||||||||||||||
Minimum tax withholding settlement | — | — | (64 | ) | — | — | — | (64 | ) | |||||||||||||||||
Capital contribution under tax sharing agreement | — | — | 14,919 | — | — | — | 14,919 | |||||||||||||||||||
Dividend distribution under tax sharing agreement | — | — | (1,765 | ) | — | — | — | (1,765 | ) | |||||||||||||||||
Noncontrolling interest distribution | — | — | — | — | — | (23,676 | ) | (23,676 | ) | |||||||||||||||||
Balance December 31, 2010 | 48,408,259 | $ | 484 | $ | 348,289 | $ | (85,446 | ) | $ | 30,800 | $ | 75,010 | $ | 369,137 | ||||||||||||
F- 3
Sauer-Danfoss Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Dollars in thousands)
For the Years Ended December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Cash Flows from Operating Activities: | |||||||||||
Net income (loss) | $ | 246,268 | $ | (332,254 | ) | $ | (11,330 | ) | |||
Adjustments to reconcile net income (loss) to net cash provided by operating activities: | |||||||||||
Depreciation and amortization | 97,336 | 117,130 | 112,962 | ||||||||
Restricted stock and performance unit compensation | 326 | 253 | (2,070 | ) | |||||||
Impairment charges | — | 50,841 | 58,208 | ||||||||
Loss on sale of businesses and asset disposals | 7,632 | 16,351 | 9,604 | ||||||||
Loss on early retirement of debt | 2,421 | 15,838 | — | ||||||||
Change in net pension and post-retirement benefits | (9,084 | ) | (2,794 | ) | (5,585 | ) | |||||
Change in deferred income taxes | (69,646 | ) | 51,894 | (25,937 | ) | ||||||
Minimum tax withholding payments on performance units | (64 | ) | (226 | ) | (1,590 | ) | |||||
Change in operating assets and liabilities: | |||||||||||
Accounts receivable, net | (63,805 | ) | 91,434 | 71,679 | |||||||
Inventories | (28,531 | ) | 153,386 | (16,799 | ) | ||||||
Other current assets | (8,051 | ) | (4,990 | ) | (7,918 | ) | |||||
Accounts payable | 77,643 | (54,197 | ) | (14,495 | ) | ||||||
Accrued liabilities | 16,634 | (20,680 | ) | 23,596 | |||||||
Other | 250 | 4,858 | (6,807 | ) | |||||||
Net cash provided by operating activities | 269,329 | 86,844 | 183,518 | ||||||||
Cash Flows from Investing Activities: | |||||||||||
Purchases of property, plant and equipment | (26,218 | ) | (42,972 | ) | (198,634 | ) | |||||
Proceeds from sale of property, plant and equipment | 4,604 | 4,507 | 11,141 | ||||||||
Proceeds from sale of businesses | — | 744 | — | ||||||||
Repayments from (advances to) noncontrolling interest partners | 3,578 | (4,500 | ) | — | |||||||
Net cash used in investing activities | (18,036 | ) | (42,221 | ) | (187,493 | ) | |||||
Cash Flows from Financing Activities: | |||||||||||
Net borrowings (repayments) on notes payable and bank overdrafts | (21,812 | ) | (15,685 | ) | 3,493 | ||||||
Net borrowings (repayments) on revolving credit facility | (85,390 | ) | (58,705 | ) | 17,019 | ||||||
Repayments of long-term debt | (326,394 | ) | (540,500 | ) | (22,948 | ) | |||||
Borrowings of long-term debt | 200,737 | 637,232 | 54,235 | ||||||||
Payments for debt financing costs | (4,185 | ) | (10,575 | ) | — | ||||||
Payments of prepayment penalties | (1,674 | ) | (8,064 | ) | — | ||||||
Settlement of interest rate swaps | — | (2,000 | ) | — | |||||||
Cash dividends | — | (8,689 | ) | (34,728 | ) | ||||||
Distribution to noncontrolling interest partners | (23,676 | ) | (17,694 | ) | (13,881 | ) | |||||
Capital Contribution under tax sharing agreement | 14,919 | — | — | ||||||||
Dividend distribution under tax sharing agreement | (1,765 | ) | — | — | |||||||
Other | — | — | 1,534 | ||||||||
Net cash provided by (used in) financing activities | (249,240 | ) | (24,680 | ) | 4,724 | ||||||
Effect of Exchange Rate Changes on Cash and Cash Equivalents | 3,196 | (4,298 | ) | (4,393 | ) | ||||||
Cash and Cash Equivalents: | |||||||||||
Net increase (decrease) during the year | 5,249 | 15,645 | (3,644 | ) | |||||||
Beginning balance | 38,790 | 23,145 | 26,789 | ||||||||
Ending balance | $ | 44,039 | $ | 38,790 | $ | 23,145 | |||||
Supplemental Cash Flow Disclosures: | |||||||||||
Interest paid | $ | 50,822 | $ | 43,345 | $ | 22,876 | |||||
Income taxes paid | $ | 18,896 | $ | 2,741 | $ | 34,351 | |||||
See accompanying notes to consolidated financial statements.
F- 4
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
(1) Summary of Significant Accounting Policies:
Basis of Presentation and Principles of Consolidation—
Sauer-Danfoss Inc., a U.S. Delaware corporation, and subsidiaries (the Company) is a worldwide leader in the design, manufacture, and sale of engineered hydraulic and electronic systems and components that generate, transmit and control power in mobile equipment. The Company's products are used by original equipment manufacturers of mobile equipment, including construction, road building, agricultural, turf care, material handling, and specialty vehicle equipment. The Company's products are sold throughout the world either directly or through distributors.
The consolidated financial statements represent the consolidation of all companies in which the Company has a controlling interest and are stated in accordance with accounting principles generally accepted in the U.S. (U.S. GAAP). All significant intercompany balances, transactions, and profits have been eliminated in the consolidated financial statements.
Correction of Immaterial Errors—
In assessing the realizability of net deferred tax assets at June 30, 2009 it was determined that it was not more likely than not that deferred tax assets in the U.S. would be realized due to continued losses and deteriorating forecasts. Therefore a valuation allowance was established to reduce the net deferred tax assets to an amount that was more likely than not realizable, including a balance related to the pension plan in the U.S. At December 31, 2009 the deferred tax asset related to the U.S pension plan was reduced, resulting in a reduction to the valuation allowance. The offsetting entry was recorded in accumulated other comprehensive income. In 2010 it was determined that the offsetting entry should have been recorded as an income tax benefit of $5,573 in the consolidated statements of operations in 2009.
In 2010 the Company changed its method of recognizing pension expense for its U.S. defined benefit pension plans. Previously a market related value of plan assets, which reflected the changes in fair value of plan assets over a five year period, was used to calculate the expected return on plan assets, a component of net periodic pension expense. In 2010 a change was made to use the fair value of plan assets to calculate the expected return on plan assets, which is consistent with how the non-U.S. plans recognize pension expense. As a result of this change $2,909 of income was recognized in the net pension expense in 2010.
The Company made the correction for these two items in 2010 as the errors were determined to be immaterial to the overall financial statements in 2010 and in all previous years.
Use of Estimates—
In preparing the consolidated financial statements in conformity with U.S. GAAP, management must make decisions that impact the reported amounts of assets, liabilities, revenues, expenses, and the related disclosures, including disclosures of contingent assets and liabilities. Such decisions include the selection of the appropriate accounting principles to be applied and the assumptions on which to base accounting estimates. Estimates are used in determining, among other items, employee incentive accruals, inventory valuation, warranty reserves, allowance for doubtful accounts, pension and postretirement accruals, valuation allowances on deferred tax assets, useful lives for intangible assets, and future cash flows associated with impairment testing for goodwill and other long-lived assets. These estimates and assumptions are based on management's best estimates and judgments. Management evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors that management believes to be reasonable under the circumstances, including the current economic environment, adjusting such estimates and assumptions when facts and circumstances dictate. A number of these factors include, among others, the economic conditions, restricted credit markets, foreign currency, and higher commodity costs, all of which impact such estimates and assumptions. As future events and their effects cannot be determined with precision, actual amounts could differ significantly from those estimated at the time the consolidated financial statements are prepared. Changes in those estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.
Revenue Recognition—
Net sales are recorded when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred, the price is fixed or determinable, and collectability is reasonably assured. Estimates for future warranty expense are recorded when the related revenue is recognized. Timing of revenue recognition is consistent with when the risks and rewards of ownership and title to the product have transferred to the customer.
F- 5
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Cash and Cash Equivalents—
Cash equivalents are considered by the Company to be all highly liquid instruments purchased with original maturities of three months or less. At December 31, 2010 cash and cash equivalents balances in China totaled approximately $33,700. The Company is paying dividends from its Chinese entities to the maximum extent possible under current regulations; however, due to the nature of the governmental and other regulatory controls it is difficult to transfer cash out of this country for reasons other than payment for goods shipped into the country.
Trade Receivables—
The Company records trade receivables due from its customers at the time sales are recorded in accordance with its revenue recognition policy. The future collectability of these amounts can be impacted by the Company's collection efforts, the financial stability of its customers, and the general economic climate in which the Company and its customers operate. The Company applies a consistent practice of establishing an allowance for accounts that it believes may become uncollectible through reviewing the historical write-offs of accounts, aging of its receivables, and by monitoring the economic environment and financial strength of its customers. If the Company becomes aware of a customer's inability to meet its financial obligations (e.g., where it has filed for bankruptcy), the Company establishes a specific allowance for the potential bad debt to reduce the net recognized receivable to the amount it reasonably believes will be collected. The analysis of the valuation of trade receivables is performed quarterly.
Inventories—
Inventories are valued at the lower of cost or market, using various cost methods, and include the cost of material, labor, and factory overhead. The last-in, first-out (LIFO) method was adopted in 1987 and is used to value inventories at the U.S. locations which existed at that time. Inventories at all of the non-U.S. locations and the U.S. locations obtained through acquisition after 1987, which produce products different than those produced at U.S. locations existing at 1987, are valued under the first-in, first-out (FIFO) inventory valuation method. The percentage of year-end inventory valued under the LIFO and FIFO cost methods was 13% and 87%, respectively, for 2010, and 9% and 91%, respectively, for 2009.
Property, Plant and Equipment and Depreciation—
Property, plant and equipment are stated at historical cost, net of accumulated depreciation. Depreciation is generally computed using the straight-line method for building equipment and buildings over 10 to 37 years and for machinery and equipment over 3 to 8 years (3 to 12 years for additions in 1999 and prior). Additions and improvements that substantially extend the useful life of a particular asset are capitalized. Repair and maintenance costs ($26,839, $21,732, and $45,818 in 2010, 2009, and 2008, respectively) are charged to expense. When property, plant and equipment are retired or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts and any gain or loss is included in the consolidated statements of operations.
Goodwill and Other Intangible Assets—
Goodwill represents the excess of the purchase price over the estimated fair values of net assets acquired in the purchase of businesses. Goodwill is not amortized, but tested for impairment at least annually or when events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. The Company recorded goodwill impairment charges of $50,841 and $22,908 in 2009 and 2008, respectively. See Note 6 for further discussion.
Intangible assets consist primarily of trade names, technology, and customer relationships and are recorded at fair value at the time of acquisition. Intangible assets are amortized on a straight-line basis over their estimated useful lives, which range from three to thirty five years.
Impairment of Long-Lived Assets and Assets to be Disposed Of—
The Company periodically assesses whether events or circumstances have occurred that may indicate the carrying value of its long-lived tangible and intangible assets may not be recoverable. The carrying value of long-lived tangible and intangible assets to be held and used is evaluated for recoverability based on the expected future undiscounted operating cash flows. When the evaluation indicates the carrying value of an asset or group of assets is impaired, the Company determines the fair value of assets, using discounted cash flows or determining the liquidation value of the long-lived assets, and recognizes an impairment loss to the extent that the carrying value of the assets exceeds the fair value of the assets. In 2008 the Company recognized an impairment charge for long-lived assets of $35,300 in the Work Function segment as discussed in Note 5.
F- 6
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Product Warranty—
The Company warrants its various products over differing periods, generally up to two years or 2000 hours, depending upon the type of product and application. Consequently, the Company records warranty liabilities for the estimated costs that may be incurred under its basic warranty based on past trends of actual warranty claims compared to the actual sales levels to which those claims apply. These liabilities are accrued at the time the sales of the products are recorded. Factors that affect the Company's warranty liability include the number of units in the field currently under warranty, historical and anticipated rates of warranty claims on those units and the cost per claim to satisfy the Company's warranty obligation. The anticipated rate of warranty claims is the primary factor impacting the Company's estimated warranty obligation.
In addition to its normal warranty liability, the Company, from time to time in the normal course of business, incurs costs to repair or replace defective products with a specific customer or group of customers. The Company refers to these actions as field recalls and in these instances, the Company records a specific provision for the expected costs it will incur to repair or replace these products utilizing information from customers and internal information regarding the specific cost of materials and labor. Due to the sporadic and infrequent nature of field recalls, and the potential for a range of costs associated with field recalls, the Company cannot accurately estimate these costs at the time the products are sold. Therefore, these costs are recorded at the time information becomes known to the Company. As the field recalls are carried out, the Company relieves the specific liability related to that field recall. These specific field recall liabilities are reviewed on a quarterly basis.
The following table represents the change in the Company's accrued warranty and field recall liability:
December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Balance, beginning of period | $ | 28,820 | $ | 25,491 | $ | 19,401 | |||||
Payments | (11,877 | ) | (18,474 | ) | (22,856 | ) | |||||
Provisions for warranties and field recalls | 12,435 | 21,456 | 28,996 | ||||||||
Currency impact | (1,195 | ) | 347 | (50 | ) | ||||||
Balance, end of period | $ | 28,183 | $ | 28,820 | $ | 25,491 | |||||
Income Taxes—
The provision for income taxes has been determined using the asset and liability approach of accounting for income taxes. Under this approach, deferred taxes represent the future tax consequences expected to occur when the reported amounts of assets and liabilities are recovered or paid. The provision for income taxes represents income taxes paid or payable for the current year plus the change in deferred taxes during the year. Deferred taxes result from differences between the financial and tax bases of the Company's assets and liabilities, net operating loss carryforwards, and tax credit carryforwards and are adjusted for changes in tax rates and tax laws when changes are enacted. Valuation allowances are recorded to reduce deferred tax assets when the Company is unable to conclude that realization of the deferred tax assets is more likely than not.
F- 7
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Income (Loss) Per Share—
Basic net income (loss) per common share is based on the weighted average number of common shares outstanding in each year. Diluted net income per common share assumes that outstanding common shares were increased by shares issuable upon (i) vesting of restricted stock shares, and (ii) granting of shares deferred under the long-term incentive plan. Restricted stock and shares under the long term incentive plan both have an exercise price of zero. Diluted net loss per share for 2009 and 2008 excludes the dilutive effect of restricted stock and performance units as these shares were anti-dilutive.
Net Income (Loss) Attributable to Sauer-Danfoss Inc. | Shares | Earnings (Loss) Per Share | ||||||||
December 31, 2010 | ||||||||||
Basic net income | $ | 213,399 | 48,382,860 | $ | 4.41 | |||||
Effect of dilutive securities: | ||||||||||
Restricted stock | — | 5,892 | — | |||||||
Performance units | — | 80,767 | (0.01 | ) | ||||||
Diluted net income | $ | 213,399 | 48,469,519 | $ | 4.40 | |||||
December 31, 2009 | ||||||||||
Basic net loss | $ | (345,766 | ) | 48,337,923 | $ | (7.15 | ) | |||
Effect of dilutive securities: | ||||||||||
Restricted stock | — | — | — | |||||||
Performance units | — | — | — | |||||||
Diluted net loss | $ | (345,766 | ) | 48,337,923 | $ | (7.15 | ) | |||
December 31, 2008 | ||||||||||
Basic net loss | $ | (29,141 | ) | 48,226,184 | $ | (0.60 | ) | |||
Effect of dilutive securities: | ||||||||||
Restricted stock | — | — | — | |||||||
Performance units | — | — | — | |||||||
Diluted net loss | $ | (29,141 | ) | 48,226,184 | $ | (0.60 | ) | |||
Fair Value of Financial Instruments—
The carrying values of cash and cash equivalents, accounts and other receivables, notes payable and bank overdrafts, and accounts payable approximate fair value because of the short-term nature of these instruments.
The fair value of long-term debt is calculated by discounting scheduled cash flows through maturity using estimated market discount rates. The discount rate is estimated using the rates currently offered for long-term debt of similar remaining maturities and credit characteristics. At December 31, 2010 and 2009 the Company estimated the fair value of its long-term debt, including amounts due within one year, to be the same as its carrying values of $253,786 and $479,096, respectively. These estimates are subjective in nature and involve uncertainties and, therefore, cannot be determined with precision. Changes in assumptions could significantly affect these estimates.
The fair value of derivative instruments is discussed in Note 7.
F- 8
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Translation of Non-U.S. Currencies—
Assets and liabilities of consolidated non-U.S. subsidiaries with functional currencies other than the U.S. dollar are translated into U.S. dollars at exchange rates in effect at the end of each period, while revenues and expenses are translated at average exchange rates prevailing during the period. The resulting translation adjustments are included in accumulated other comprehensive income. Gains or losses on transactions denominated in non-functional currencies and the related tax effects are reflected in the consolidated statements of operations.
Derivatives and Hedging—
It is the Company's policy that derivative transactions are executed only to manage exposures arising in the normal course of business and not for the purpose of creating speculative positions or trading. All derivatives are recorded at fair value on the balance sheet as current or long-term other assets or other liabilities depending on whether the maturity date of the derivative contract is within one year from the balance sheet date.
The Company utilizes forward contracts to minimize the impact of currency fluctuations on cash flows related to forecasted sales denominated in currencies other than the functional currency of the selling location. The forward contracts qualify for hedge accounting and therefore are subject to effectiveness testing at the inception of the contract and throughout the life of the contract. Until March 2009, the Company used interest rate swaps to establish fixed interest rates on outstanding borrowings. There was no ineffectiveness of the interest rate swaps and therefore, the changes in fair value of the derivatives was recorded in accumulated other comprehensive income.
When, and if, a derivative is determined not to be highly effective as a hedge, or the underlying hedged transaction is no longer likely to occur, or the derivative is terminated, the hedge accounting is discontinued and any past or future changes in the derivative's fair value that will not be effective as an offset to the income effects of the item being hedged are recognized currently in the statement of operations. Any changes in fair values of derivatives not qualifying as hedges would be reported immediately in other income (expense) on the consolidated statement of operations; however, the Company did not have any derivatives that did not qualify as hedges in 2010 or 2009, other than disclosed in Note 7.
Employee Stock-Based Compensation—
The fair value method is used to account for employee-stock compensation.
(2) Sale of Businesses and Termination of Joint Venture:
In 2009 the Company sold the assets of its steering column business which was located in Kolding, Denmark, recognizing a loss on sale of approximately $2,700 in the Work Function segment. The loss was related to the write-down of inventory and machinery to the proceeds of the sale, which approximated fair value. Also included in the loss amount was severance costs for employees at the Kolding location and future building lease costs because the buyer moved production operations to a different location. In 2010 the Company recognized additional expense of approximately $1,100 related to future building lease costs.
In December 2008 the Company signed a sales agreement to sell its alternating current (AC) motor business related to the material handling market. The closing of the transaction occurred in 2009 when the transfer of the machinery and inventory covered by the purchase agreement was completed. Losses of approximately $4,400, $6,300 and $8,400 in 2010, 2009 and 2008, respectively, are reported in the Controls segment. In 2008 the machinery and inventory were written down to the proceeds expected to be received upon transfer of the assets. The expense in 2009 relates to the write-off of a customer relationship intangible asset, employee retention costs, and additional write-downs to machinery and inventory balances due to revisions of the sales agreement during 2009. In 2010 the Company recognized additional expense primarily related to a write-down of the carrying value of a building and an additional write-down of inventory. The inventory was held on consignment and the purchaser revised their estimates of future inventory purchases from the Company. As part of the sales agreement, the Company will recognize a commission payment in 2010 through 2012 based on the level of AC motor sales made by the purchaser. The Company recognized commission income of approximately $900 in 2010 which is included in Other, net on the consolidated statements of operations.
In July 2009 the Company and Topcon Positioning Systems, Inc. (Topcon), the noncontrolling interest partner, agreed to terminate the joint venture they have operated since April 2001 through TSD Integrated Controls, LLC (TSD). The termination was effective September 1, 2009 but is subject to a three-year wind down period as contemplated in the 2001 joint venture agreement. During the wind-down period, the Company and Topcon will each receive distributions of certain assets of TSD and
F- 9
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
royalties on sales of TSD products. The effects of this wind-down will not have a material impact on the Company's operations.
(3) Restructuring Charges:
In September 2009 the Company announced its plans to close the Lawrence, Kansas plant, and transfer the majority of the production lines to the Ames, Iowa and Freeport, Illinois locations to reduce costs and increase efficiencies. Costs related to the Lawrence plant closing are included in the Work Function and Stand-Alone Businesses segments. This project was completed in 2010. The land and building at the Lawrence, Kansas location is available for sale and is classified in other current assets on the consolidated balance sheet.
In December 2008 the Company decided to close the Hillsboro, Oregon plant and transfer the production lines to the Easley, South Carolina location. The costs related to the closure of Hillsboro are included in the Stand-Alone Businesses segment. The relocation of production activities from Hillsboro was completed in 2009.
In 2007, in preparation for disposing of the direct current (DC) electric motor business the Company incurred restructuring costs to transfer all DC production lines to one location and all alternating current (AC) production lines to another location. The costs related to the transfer of electric motors production lines and costs related to the relocation of certain production lines between facilities are included in the Controls segment. The projects were substantially completed in 2008. The Company sold its AC electric motor business related to the material handling market in June 2009. The losses related to the sale of the business, as discussed in Note 2, of approximately $4,400, 6,300, and $8,400, in 2010, 2009, and 2008, respectively, are not included in the restructuring charges below.
The following table summarizes the restructuring charges incurred, as well as the cumulative charges incurred on these projects.
Work Function | Controls | Stand-Alone Businesses | Total | ||||||||||||
Charges incurred in 2010 | $ | 4,012 | $ | — | $ | 1,805 | $ | 5,817 | |||||||
Charges incurred in 2009 | 1,799 | 6,009 | 4,595 | 12,403 | |||||||||||
Charges incurred in 2008 | — | 47 | 960 | 1,007 | |||||||||||
Cumulative charges incurred | 5,811 | 10,930 | 7,360 | 24,101 | |||||||||||
The restructuring costs incurred are reported in the consolidated statement of operations as detailed in the following table:
Cost of Sales | Selling, General and Administrative Expenses | Loss on Asset Disposals | Total | ||||||||||||
Charges incurred in 2010 | $ | 3,075 | $ | 472 | $ | 2,270 | $ | 5,817 | |||||||
Charges incurred in 2009 | 5,813 | 4,500 | 2,090 | 12,403 | |||||||||||
Charges incurred in 2008 | 40 | 585 | 382 | 1,007 | |||||||||||
Cumulative charges incurred | 13,113 | 6,226 | 4,762 | 24,101 | |||||||||||
F- 10
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The following table summarizes the restructuring charges incurred and the activity in accrued liabilities during 2010, 2009 and 2008.
Employee Termination Costs | Building and Lease Cancellation Costs | Accelerated Depreciation and Loss on Asset Disposals | Equipment Moving Costs | Other | Total | ||||||||||||||||||
Balance as of January 1, 2008 | $ | 375 | $ | — | $ | — | $ | — | $ | — | $ | 375 | |||||||||||
Charges to expense | 625 | — | 382 | — | — | 1,007 | |||||||||||||||||
Payments made / other | (375 | ) | — | (382 | ) | — | — | (757 | ) | ||||||||||||||
Balance as of December 31, 2008 | 625 | — | — | — | — | 625 | |||||||||||||||||
Charges to expense | 2,275 | 2,162 | 4,569 | 829 | 2,568 | 12,403 | |||||||||||||||||
Payments made / other | (2,049 | ) | (1,607 | ) | (4,569 | ) | (829 | ) | (2,568 | ) | (11,622 | ) | |||||||||||
Balance as of December 31, 2009 | 851 | 555 | — | — | — | 1,406 | |||||||||||||||||
Charges to expense | — | — | 2,767 | 812 | 2,238 | 5,817 | |||||||||||||||||
Payments made / other | (851 | ) | (555 | ) | (2,767 | ) | (812 | ) | (2,238 | ) | (7,223 | ) | |||||||||||
Balance as of December 31, 2010 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | — | |||||||||||
The employee termination costs in the table above relate to the restructuring projects described in this footnote. The table excludes employee termination costs related to headcount reductions that were the result of reduced sales volumes related to the worldwide economic downturn of approximately $13,900 and $11,100 included in cost of sales in 2009 and 2008, respectively and approximately $18,700 and $4,400 included in selling, general and administrative expense in 2009 and 2008, respectively.
(4) Inventories:
The composition of inventories is as follows:
December 31, | |||||||
2010 | 2009 | ||||||
Raw materials | $ | 93,653 | $ | 89,063 | |||
Work in progress | 46,746 | 44,176 | |||||
Finished goods and parts | 80,828 | 64,263 | |||||
LIFO allowance | (20,234 | ) | (19,928 | ) | |||
Total | $ | 200,993 | $ | 177,574 | |||
The Company recorded a LIFO decrement of approximately $25,900 in 2009.
F- 11
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
(5) Property, Plant and Equipment and Property Held for Sale:
The cost and related accumulated depreciation of property, plant and equipment are summarized as follows:
December 31, | |||||||
2010 | 2009 | ||||||
Cost— | |||||||
Land and improvements | $ | 14,469 | $ | 16,785 | |||
Buildings and improvements | 138,617 | 156,008 | |||||
Machinery and equipment | 953,170 | 1,022,728 | |||||
Construction in progress | 28,914 | 46,418 | |||||
Plant and equipment under capital leases | 4,380 | 4,700 | |||||
Total costs | 1,139,550 | 1,246,639 | |||||
Less—accumulated depreciation | (731,453 | ) | (733,152 | ) | |||
Net property, plant and equipment | $ | 408,097 | $ | 513,487 | |||
Depreciation expense for 2010, 2009, and 2008 was $95,504, $115,252, and $110,934, respectively.
In 2008 the Company determined that an impairment test of property, plant, and equipment was necessary due to the change in worldwide economic conditions and resulting decrease in Company sales. The Company determined that an impairment charge of $35,300 was required to write down the carrying value of the motors asset group within the Work Function segment. The assets were written down to fair value as measured by the liquidation value of the assets.
In 2009 the Company decided that the land and building at the Lawrence, Kansas location would be sold. This location was exited in the second quarter of 2010 as discussed in Note 3. The Company intends to sell the building, which was written down by approximately $2,000 in 2010 to a carrying value of approximately $3,500. The building is classified in other current assets in the Work Function segment.
The Company exercised the buy-out option in the capital lease for the building in Odense, Denmark in 2009. This location was previously used for the design and manufacture of electric drives until the business was exited in the second quarter of 2009 as discussed in Note 2. The Company intends to sell the building, which was written down by approximately $2,000 in 2010 to a carrying value of approximately $6,800. The building is classified in other current assets in the Controls segment.
In 2007 the Company decided that the land and building at the LaSalle, Illinois location would be sold. In 2008 the property was sold for a gain of approximately $1,400. The gain was reported in the Propel segment.
(6) Goodwill and Intangible Assets:
Goodwill is required to be tested for impairment annually and if an event or conditions change that would more likely than not reduce the fair value of a reporting unit below its carrying value. The Company completes its annual impairment test as of December 31 of each year.
The Company has identified ten reporting units that are either operating segments or one level below operating segments. As an overall reasonableness test in its step one analysis the Company reconciled the sum of the estimated fair values of its reporting units to the Company's market value (based on its stock price at the measurement date), plus a reasonable control premium, which is estimated as that amount which would be received to sell a majority share of the Company in an orderly transaction between market participants versus the market value of the minority shares as evidenced by the stock price.
When testing for goodwill impairment, the Company performs a first step of the goodwill impairment test to identify a potential impairment. In doing so, the Company compares the fair value of a reporting unit with its carrying amount. If the carrying amount of a reporting unit exceeds its fair value, goodwill may be impaired and a second step of the goodwill impairment test is performed to measure the amount of any impairment loss. Estimates about fair value used in the first step of the goodwill impairment tests have been calculated using an average of the income approach based on the present value of future cash flows of each reporting unit and the guideline public company model. Under the income approach, the Company determined fair value based on estimated future cash flows of each reporting unit, discounted by an estimated weighted-average cost of capital, which reflects the overall
F- 12
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
level of inherent risk of a reporting unit and the rate of return an outside investor would expect to earn. Determining the fair value of a reporting unit is judgmental in nature and requires the use of significant estimates and assumptions, including revenue growth rates and operating margins, discount rates and future market conditions among others. Changes in economic and operating conditions impacting these assumptions could result in goodwill impairments in future periods.
In the second step of the goodwill impairment test, the Company compares the implied fair value of reporting unit goodwill with the carrying amount of that goodwill. If the carrying amount of reporting unit goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess. The implied fair value of goodwill is determined in the same manner that the amount of goodwill recognized in a business combination is determined. The Company allocates the fair value of a reporting unit to all of the assets and liabilities of that unit, including intangible assets, as if the reporting unit had been acquired in a business combination. Any excess of the value of a reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill.
At December 31, 2010 the Company has $35,055 of goodwill related to its propel and electronic components reporting units which was tested for impairment, as required annually. The fair value of the propel and electronic components reporting units substantially exceeded the carrying value, resulting in no impairment.
The Company considered the decrease in its market value in the first quarter of 2009 to be a triggering event that required goodwill to be tested for impairment at March 31, 2009. As a result of that testing the Company determined that the implied fair value of goodwill for the valves reporting unit was less than its carrying value by $50,841, which was recorded as a goodwill impairment charge.
In 2008 the Company determined that the implied fair value of goodwill for the motors, steering, and electric drives reporting units was less than its carrying value by $22,908, which was recorded as a goodwill impairment charge in 2008.
The changes in the carrying amounts of goodwill for the years ended December 31, 2009 and 2010 are as follows:
Propel Segment | Controls Segment | Stand-Alone Businesses | Total | ||||||||||||
Balance at January 1, 2009 | |||||||||||||||
Goodwill | $ | 26,651 | $ | 8,654 | $ | 50,841 | $ | 86,146 | |||||||
Accumulated Impairment Losses | — | — | — | — | |||||||||||
26,651 | 8,654 | 50,841 | 86,146 | ||||||||||||
Impairment | — | — | (50,841 | ) | (50,841 | ) | |||||||||
Translation adjustment | 440 | 158 | — | 598 | |||||||||||
Balance as of Dec 31, 2009 | |||||||||||||||
Goodwill | 27,091 | 8,812 | 50,841 | 86,744 | |||||||||||
Accumulated Impairment Losses | — | — | (50,841 | ) | (50,841 | ) | |||||||||
27,091 | 8,812 | — | 35,903 | ||||||||||||
Translation Adjustment | (625 | ) | (223 | ) | — | (848 | ) | ||||||||
Balance as of Dec 31, 2010 | |||||||||||||||
Goodwill | 26,466 | 8,589 | 50,841 | 85,896 | |||||||||||
Accumulated Impairment Losses | — | — | (50,841 | ) | (50,841 | ) | |||||||||
$ | 26,466 | $ | 8,589 | $ | — | $ | 35,055 | ||||||||
F- 13
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The following table summarizes the components of the other intangible asset balances at December 31, 2010 and 2009:
Trade Name | Technology | Customer Relationships | Other | Total | |||||||||||||||
December 31, 2010 | |||||||||||||||||||
Cost | $ | 19,000 | $ | 10,700 | $ | 1,313 | $ | 1,967 | $ | 32,980 | |||||||||
Accumulated amortization | (5,429 | ) | (7,132 | ) | (493 | ) | (1,510 | ) | (14,564 | ) | |||||||||
Other intangible assets, net | $ | 13,571 | $ | 3,568 | $ | 820 | $ | 457 | $ | 18,416 | |||||||||
December 31, 2009 | |||||||||||||||||||
Cost | $ | 19,000 | $ | 10,700 | $ | 1,334 | $ | 2,137 | $ | 33,171 | |||||||||
Accumulated amortization | (4,887 | ) | (6,417 | ) | (320 | ) | (1,963 | ) | (13,587 | ) | |||||||||
Other intangible assets, net | $ | 14,113 | $ | 4,283 | $ | 1,014 | $ | 174 | $ | 19,584 | |||||||||
The weighted average useful lives for the intangible assets are 35, 15, 14, and 4 years for trade name, technology, customer relationships, and other, respectively. Amortization of intangible assets was $1,832, $1,878, and $2,028 in 2010, 2009, and 2008, respectively. Amortization expense is expected to be approximately $1,700 in 2011, $1,500 in 2012, $1,500 in 2013, and $1,300 in 2014 and 2015.
(7) Fair Value and Derivative Financial Instruments:
The Company holds certain assets and liabilities that are required to be measured at fair value on a recurring basis. These include the Company's derivative instruments related to foreign currency exchange contracts which are recognized at fair value. All derivative instruments are designated as and qualify for hedge accounting treatment, other than those contracts that no longer qualify as highly effective. Fair value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. It is the Company's policy to maximize the use of observable inputs and minimize the use of unobservable inputs when developing fair value measurements. The fair values of the foreign currency exchange contracts are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. Therefore, the Company has categorized these contracts as Level 2 in the fair value hierarchy.
The following table shows the Company's financial assets and liabilities that were accounted for at fair value on a recurring basis:
Balance Sheet Classification | December 31, | |||||||
2010 | 2009 | |||||||
Assets: | ||||||||
Foreign currency exchange contracts | Other current assets | $ | 184 | $ | 791 | |||
Liabilities: | ||||||||
Foreign currency exchange contracts | Other accrued liabilities | 867 | 322 | |||||
Foreign currency exchange contracts | Other liabilities | 255 | — | |||||
$ | 1,122 | $ | 322 | |||||
The Company uses derivative financial instruments to manage risk and not for trading or other speculative purposes.
The Company enters into forward contracts to hedge the value of the U.S. dollar or euro cash flow at locations that do not have the U.S. dollar or euro as their functional currency but conduct certain transactions in U.S. dollars or euros. The objective of all outstanding forward contracts is to hedge forecasted transactions in U.S. dollars or euros through the cash settlement date. The Company enters into forward contracts that mature from two to eighteen months after the contract date.
F- 14
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The Company had foreign currency forward contracts outstanding in notional amounts as follows:
December 31, | |||||
2010 | 2009 | ||||
U.S. dollar | 37,200 | 19,800 | |||
Euro | 10,200 | — | |||
Interest rate swaps, designated as cash flow hedges, were used by the Company to establish fixed interest rates on outstanding borrowings. The interest rate swaps were settled in 2009 for a loss of $2,000 in connection with the debt repayment discussed in Note 8.
Changes in the fair value of derivative financial instruments are recognized in the statement of operations or in stockholders' equity as a component of other comprehensive income depending on whether the transaction related to the hedged risk has occurred and whether the contract qualifies as highly effective. Changes in fair values of derivatives that are accounted for as cash flow hedges are recorded in other comprehensive income. The amount of gain (loss), net of tax, recorded as a component of accumulated other comprehensive income related to foreign currency exchange contracts was a loss of $652 and a gain of $208 at December 31, 2010 and 2009, respectively. At December 31, 2010 the Company expects to reclassify $419 of loss, net of tax, on derivative instruments from accumulated other comprehensive income to the statement of operations during the next twelve months due to the actual fulfillment of forecasted transactions.
The following table summarizes the amount of gain (loss) reclassified from accumulated other comprehensive income into the consolidated statement of operations for 2010, 2009, and 2008:
December 31, | |||||||||||
Statement of Operations Classification | 2010 | 2009 | 2008 | ||||||||
Net Sales | $ | (824 | ) | $ | (5,487 | ) | $ | 7,805 | |||
Other, net | (269 | ) | 864 | (54 | ) | ||||||
Interest expense, net | — | (151 | ) | (278 | ) | ||||||
$ | (1,093 | ) | $ | (4,774 | ) | $ | 7,473 | ||||
The Company formally assesses at a hedge's inception, and on an ongoing basis, whether the derivatives that are used in the hedging transaction have been highly effective in offsetting changes in the cash flows of the hedged items and whether those derivatives are expected to remain highly effective. When it is determined that a derivative has ceased to be highly effective as a hedge the Company discontinues hedge accounting prospectively. When the Company discontinues hedge accounting because it is no longer probable that the forecasted transaction will occur by the end of the originally expected period, but it is probable that the transaction will occur within the two months following the forecasted period, the gain or loss on the derivative remains in accumulated other comprehensive income and is reclassified to net earnings when the forecasted transaction affects net earnings. However, if it is probable that a forecasted transaction will not occur within two months after the forecasted period, the gains and losses that were accumulated in other comprehensive income will be recognized immediately in net earnings. In all situations in which hedge accounting is discontinued and the derivative remains outstanding, the Company carries the derivative at its fair value on the consolidated balance sheet, recognizing future changes in the fair value in other income or expense, net. In 2009 the Company had derivative contracts with notional amounts of $3,300 that no longer qualified for hedge accounting as the sales were not expected to occur in the month originally specified. In 2009 income of $376 was recognized in other, net related to changes in the fair value of derivative contracts that were no longer deemed highly effective, which is included in the $864 in the table above. The sales related to the derivative contracts no longer deemed highly effective occurred within two months following the originally specified period. All derivative contracts qualified for hedge accounting in 2010.
In addition, any portion of the hedge that is deemed ineffective due to the absolute value of the cumulative change in the derivative being greater than the cumulative change in the hedged item is recorded immediately in other income (expense) on the consolidated statement of operations. There was no significant hedge ineffectiveness in 2010 or 2008. Except for the hedge ineffectiveness discussed above, there was no other significant hedge ineffectiveness in 2009.
F- 15
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
(8) Long-Term Debt:
Long-term debt outstanding at December 31, 2010 and 2009 consisted of the following:
2010 | 2009 | ||||||||||||||
Long-term Debt Due Within One Year | Long-term Debt | Long-term Debt Due Within One Year | Long-term Debt | ||||||||||||
Danfoss A/S Multicurrency Term Loan and Revolving Credit Facilities | $ | 50,455 | $ | 199,134 | $ | 140,869 | $ | 332,370 | |||||||
Other Borrowings | 732 | 3,465 | 1,138 | 4,719 | |||||||||||
Total | $ | 51,187 | $ | 202,599 | $ | 142,007 | $ | 337,089 | |||||||
Related Person Loans
In September 2010, the Company entered into an amended and restated credit agreement with Danfoss A/S (the Danfoss Agreement), the Company's majority stockholder, which replaced the 2009 Credit Agreement discussed below. The Danfoss Agreement includes two, five-year term loans of approximately $200,000 ($140,000 and 45,000 euro) and a three-year revolving credit facility of approximately $300,000 ($180,000 and 90,000 euro). The term loan bears interest at a fixed rate of 8.00% and 8.25% for the U.S. dollar and euro loans, respectively. The revolving credit facility bears interest at a rate equal to the U.S. prime rate or LIBOR, as in effect at times specified in the Danfoss Agreement, plus 3.9%. The principal amount outstanding under the revolving credit facility at December 31, 2010 was $50,455, and the loans thereunder had a weighted average interest rate of 4.30%. The Company paid closing fees of approximately $4,200 ($2,750 and 1,125 euro) to Danfoss A/S, which were capitalized and will be amortized to interest expense over the term of the Danfoss Agreement. The Company pays a quarterly commitment fee equal to 1.17% of the average daily unused portion of the Danfoss Agreement.
In November 2009, the Company entered into an unsecured term loan and revolving credit facility agreement with Danfoss A/S (the 2009 Credit Agreement) which replaced the Original Credit Agreement discussed below. The 2009 Credit Agreement was scheduled to mature on April 29, 2011 but was replaced by the Danfoss Agreement discussed above. Under the original terms of the 2009 Credit Agreement the Company was able to borrow up to $690,000. In May and August 2010, upon the request of the Company, the borrowing capacity of the 2009 Credit Agreement was reduced to $540,000 and $500,000, respectively. The principal amount outstanding under the 2009 Credit Agreement bore interest at a rate equal to the U.S. prime rate or LIBOR, as in effect at times specified in the 2009 Credit Agreement, plus 10%. The balance of the revolving credit facilities at December 31, 2009 was $140,869, and the loans had a weighted average interest rate of 10.3%. The 2009 Credit Agreement also included term loans of 92,000 euro and $200,000, with interest at an annual rate of 11.8% and 11.4%, respectively. The Company was required to pay a quarterly commitment fee equal to 4% of the average daily unused portion of the 2009 Credit Agreement.
In March 2009, the Company entered into a Multicurrency Term Loan and Revolving Credit Facilities agreement with Danfoss A/S (the Original Credit Agreement), which was scheduled to mature on September 30, 2010, but was terminated in November, 2009 and replaced by the 2009 Credit Agreement discussed above. Under the Original Credit Agreement the Company was able to borrow up to $490,000. Borrowings under the Original Credit Agreement bore interest at LIBOR, CIBOR or EURIBOR, plus a margin of 8.0%. The Original Credit Agreement also included term loans of 92,000 euro and $180,000, which accrued interest at an annual rate of 9.8% and 9.4%, respectively. Debt issuance costs of approximately $8,600 were capitalized but subsequently taken to interest expense when the Original Credit Agreement was replaced by the 2009 Credit Agreement. The Company was also required to pay a commitment fee of 4.0% on the unused portion of the Original Credit Agreement.
In November 2009, the Company entered into an agreement with Danfoss A/S whereby Danfoss A/S, from time to time, provides letters of intent to banks, financial institutions and other relevant third parties to provide comfort for credit facilities made available to the Company. In exchange for this service, Danfoss A/S charges the Company a facility fee based on a percentage, 1.1% at December 31, 2010, of all issued and outstanding letters of intent.
The Company incurred interest expense of $42,620 and $39,693 and commitment fee expense of $6,060 and $3,542 related to the debt with Danfoss A/S during the years ended December 31, 2010 and 2009, respectively. In addition, the
F- 16
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Company incurred facility fee expense of $2,152 and $1,253 in 2010 and 2009, respectively.
The Danfoss Agreement contains no financial covenants but does contain a number of affirmative and negative covenants that, among other things, requires the Company to obtain the consent of Danfoss A/S prior to engaging in certain types of transactions. The Danfoss Agreement contains customary representations and warranties regarding the Company and its business and operations. The Agreement also sets forth a number of events of default for, among other things, failure to pay principal or interest, breaches of representations, warranties and covenants and various events relating to the bankruptcy or insolvency of the Company or its subsidiaries.
Other Borrowings
The Company borrows locally when favorable terms are available. In May 2007, the Company borrowed $150 from the Ames, Iowa Economic Development Commission. The loan bears interest at an annual rate of 4.13%, and the outstanding balance on the loan at December 31, 2010 was $82. In February, 2007 the Company borrowed 150,000 Indian rupee from Deutsche Bank AG. The loan bears interest at an annual rate of 11.75%, and the outstanding balance at December 31, 2010 was 75,000 Indian rupee (approximately $1,600). In December 2006, the Company borrowed $750 from the Iowa Department of Economic Development. The loan does not bear interest, and the outstanding balance at December 31, 2010 was $589. In April, 2005 the Company borrowed 150,000 Indian rupee from The Hong Kong and Shanghai Banking Corporation. The loan bears interest at a variable rate ranging from 8.20% to 9.36%, and had an outstanding balance of 85,980 Indian rupee (approximately $1,900) at December 31, 2010. A Danish subsidiary maintains a line of credit for purposes of centralizing cash management for the European locations. Sauer-Danfoss Inc. guarantees this line of credit up to 20,000 euro (approximately $28,000).
Loss on Early Retirement of Debt
The Company recognized a loss on early retirement of debt of $2,421 and $15,838 during the years ended December 31, 2010 and 2009, respectively. The loss in 2010 consisted of prepayment penalties of $1,674 and $747 related to the write-off of unamortized deferred financing costs. In 2009, the loss consisted of $8,064 of prepayment penalties, $2,000 to settle outstanding interest rate swap agreements related to debt repaid, and $5,774 to write-off unamortized deferred financing costs.
Repayment of Borrowings
Payments required to be made on long-term debt outstanding as of December 31, 2010 during the years ending 2011 through 2015 and for 2016 and thereafter are $51,187, $1,400, $1,198, $869, $199,132 and $0, respectively.
(9) Pension and Postretirement Benefits other than Pensions:
The Company has defined benefit pension plans covering a significant number of its employees. The benefits under these plans are based primarily on years of service and compensation levels. The Company also provides health benefits for certain retired employees and certain dependents when the employee becomes eligible for these benefits by satisfying plan provisions that include certain age and service requirements. The measurements for the pension and health benefits plans were performed at December 31.
F- 17
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
Pension Benefits
Pension expense for 2010, 2009, and 2008 for these defined benefit plans consists of the following components:
December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Service cost | $ | 3,807 | $ | 4,021 | $ | 4,371 | |||||
Interest cost | 13,291 | 13,573 | 13,635 | ||||||||
Expected return on plan assets | (11,643 | ) | (11,144 | ) | (12,202 | ) | |||||
Amortization of prior service cost | (354 | ) | (231 | ) | (318 | ) | |||||
Amortization of net loss | 3,878 | 2,886 | 1,871 | ||||||||
Settlement | 1,541 | — | — | ||||||||
Correction of error | (2,909 | ) | — | — | |||||||
Net periodic pension expense | 7,611 | 9,105 | 7,357 | ||||||||
Adjustments included in other comprehensive (income) loss: | |||||||||||
Net actuarial losses (gains) | 4,865 | (2,655 | ) | 38,735 | |||||||
Amortization of actuarial losses | (3,878 | ) | (2,886 | ) | (1,871 | ) | |||||
Amortization of prior service (cost) credit | 354 | 231 | 318 | ||||||||
Settlement / curtailment / plan amendment | (1,541 | ) | (2,427 | ) | 100 | ||||||
Correction of error | 2,909 | — | — | ||||||||
Total (gain) loss recognized in other comprehensive (income) loss | 2,709 | (7,737 | ) | 37,282 | |||||||
Total recognized in comprehensive (income) loss | $ | 10,320 | $ | 1,368 | $ | 44,639 | |||||
In 2010 a former executive of the Company received a lump sum distribution which resulted in settlement expense of $1,541.
In 2010 the Company changed its method of recognizing pension expense for its U.S. defined benefit pension plans. Previously a market related value of plan assets which reflected the changes in fair value of plan assets over a five year period was used to calculate the expected return on plan assets, a component of net periodic pension expense. In 2010 a change was made to use the fair value of plan assets to calculate the expected return on plan assets, which is consistent with how the non-U.S. plans recognize pension expense. As a result of this change $2,909 of income was recognized in 2010.
The Company expects to incur income of $199 related to the amortization of prior service costs and expense of $3,699 for amortization of net loss in 2011.
The weighted average assumptions used to determine net periodic pension expense are as follows:
December 31, | ||||||||
2010 | 2009 | 2008 | ||||||
Discount rate | 5.8 | % | 6.2 | % | 6.2 | % | ||
Rate of compensation increase | 3.5 | % | 1.5 | % | 3.7 | % | ||
Expected long-term rate of return on plan assets | 7.2 | % | 7.3 | % | 7.3 | % | ||
The discount rate reflects the current rate at which the associated liabilities could be effectively settled. The Company sets its rate to reflect the yield of a portfolio of high quality, fixed-income debt instruments that would produce cash flows sufficient in timing and amount to settle projected future benefits. The rate of compensation increase assumption reflects the Company's long-term actual experience, the near-term outlook and assumed inflation. The expected long-term rate of return on plan assets reflects asset allocations, investment strategy, and the views of investment managers and other large pension plan sponsors.
F- 18
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The following table sets forth the plans' funded status as of the respective balance sheet dates:
December 31, | |||||||
2010 | 2009 | ||||||
Reconciliation of benefit obligation: | |||||||
Benefit obligation at January 1 | $ | (238,281 | ) | $ | (220,473 | ) | |
Service cost | (3,807 | ) | (4,021 | ) | |||
Interest cost | (13,291 | ) | (13,573 | ) | |||
Plan participant contributions | (887 | ) | (1,068 | ) | |||
Plan curtailment(1) | — | 2,427 | |||||
Actuarial loss | (11,214 | ) | (9,554 | ) | |||
Benefit payments | 13,695 | 13,648 | |||||
Effect of exchange rate changes | 6,405 | (5,667 | ) | ||||
Benefit obligation at December 31 | (247,380 | ) | (238,281 | ) | |||
Reconciliation of fair value of plan assets: | |||||||
Fair value of plan assets at January 1 | 164,360 | 135,550 | |||||
Actual return on plan assets | 17,992 | 23,353 | |||||
Employer contributions | 14,923 | 10,415 | |||||
Effect of exchange rate changes | (3,745 | ) | 5,019 | ||||
Plan participant contributions | 887 | 1,068 | |||||
Benefit payments | (11,636 | ) | (11,045 | ) | |||
Fair value of plan assets at December 31 | 182,781 | 164,360 | |||||
Funded status at December 31 | (64,599 | ) | (73,921 | ) | |||
Net amount recognized | $ | (64,599 | ) | $ | (73,921 | ) | |
(1) | Reduced benefit obligation due to plan curtailment is related to the significant reduction in plan participants in the U.S. plan. |
The weighted average assumptions used to determine the benefit obligation are as follows:
December 31, | |||||
2010 | 2009 | ||||
Discount rate | 5.3 | % | 5.8 | % | |
Rate of compensation increase | 3.5 | % | 3.5 | % | |
Amounts recognized in the consolidated balance sheets as of:
December 31, | |||||||
2010 | 2009 | ||||||
Long-term pension asset | $ | 5,539 | $ | 371 | |||
Current pension liability | (55 | ) | (1,892 | ) | |||
Long-term pension liability | (70,083 | ) | (72,400 | ) | |||
Net amount recognized | $ | (64,599 | ) | $ | (73,921 | ) | |
F- 19
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The total accumulated benefit obligation for all pension plans at December 31, 2010 and 2009 was $231,903 and 224,764, respectively.
The aggregate projected benefit obligation, accumulated benefit obligation, and fair value of plan assets for pension plans with projected and accumulated benefit obligations in excess of plan assets as of December 31, 2010 and 2009 were as follows:
Projected and Accumulated Benefit Obligation Exceeds the Fair Value of Plan Assets | |||||||||||||||
U.S. Plans | Non-U.S. Plans | ||||||||||||||
December 31, | December 31, | ||||||||||||||
2010 | 2009 | 2010 | 2009 | ||||||||||||
Projected benefit obligation | $ | 148,460 | $ | 133,780 | $ | 51,797 | $ | 54,199 | |||||||
Accumulated benefit obligation | 139,504 | 124,967 | 48,063 | 52,475 | |||||||||||
Fair value of plan assets | 106,792 | 90,988 | 23,325 | 22,702 | |||||||||||
Amounts recorded in accumulated other comprehensive income as of:
December 31, | |||||||
2010 | 2009 | ||||||
Actuarial loss | $ | 66,163 | $ | 65,002 | |||
Prior service cost | (2,740 | ) | (3,391 | ) | |||
$ | 63,423 | $ | 61,611 | ||||
These amounts have not yet been recognized as components of net periodic pension expense.
Plan Assets
The target asset allocation for the U.S. pension assets, on average, is 60% in equity securities and 40% in fixed income securities. This allocation is expected to earn an average annual rate of return of approximately 8.5% measured over a planning horizon of twenty years with reasonable and acceptable levels of risk. This expected level will be obtained, with an allowance for expenses, and cash investments, if equity securities realize an average annual return of 11.0% and fixed income securities produce an average annual yield of 6.0%.
The target asset allocation for the U.K. pension assets, on average, is 44% in equity securities, 55% in fixed income securities, and 1% in cash. This allocation is expected to earn an average annual rate of return of approximately 5.8%.
The target asset allocation for the German pension assets is 10% in equity securities and 90% in fixed income securities. This allocation is expected to earn an average annual rate of return of approximately 4.5% measured over a long-term planning horizon. This expected level will be obtained, with an allowance for expenses, and cash investments, if equity securities realize an average annual return of 7 to 8% and fixed income securities produce an average annual yield of 2.5 to 3%.
The weighted average asset allocations by asset category for the pension plans at December 31 are as follows:
U.S. Plans | U.K. Plans | German Plans | |||||||||||||||
2010 | 2009 | 2010 | 2009 | 2010 | 2009 | ||||||||||||
Equity securities | 65 | % | 66 | % | 44 | % | 42 | % | 14 | % | 14 | % | |||||
Fixed income securities | 34 | 33 | 55 | 50 | 81 | 81 | |||||||||||
Other | 1 | 1 | 1 | 8 | 5 | 5 | |||||||||||
Total | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | 100 | % | |||||
F- 20
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The following table presents the Company's plan assets using the fair value hierarchy as of December 31, 2010. The fair value hierarchy has three levels based on the reliability of the inputs used to determine fair value. Level 1 refers to fair values determined based on quoted prices in active markets for identical assets. Level 2 refers to fair values estimated using significant other observable inputs, and Level 3 includes fair values estimated using significant non-observable inputs.
Level 1 | Level 2 | Level 3 | Total | ||||||||||||
Fixed income securities | |||||||||||||||
Corporate bonds | $ | — | $ | 15,515 | $ | — | $ | 15,515 | |||||||
International index-linked government securities | 31,581 | — | — | 31,581 | |||||||||||
Fixed income funds | — | 36,335 | — | 36,335 | |||||||||||
Cash equivalents and short-term investments | 1,752 | — | — | 1,752 | |||||||||||
Equity securities | |||||||||||||||
Common and preferred stock | 2,413 | — | — | 2,413 | |||||||||||
Common/collective/pooled funds | 737 | 45,718 | — | 46,455 | |||||||||||
Derivatives | 39 | — | — | 39 | |||||||||||
International equity | 48,348 | — | — | 48,348 | |||||||||||
Total | $ | 84,870 | $ | 97,568 | $ | — | $ | 182,438 | |||||||
Receivables | 366 | ||||||||||||||
Payables | (23 | ) | |||||||||||||
Total plan assets | $ | 182,781 | |||||||||||||
Fixed income securities are primarily valued using a market approach with inputs that include broker quotes, benchmark yields, base spreads and reported trades.
Cash equivalents and short-term investments are primarily held in registered money market funds which are valued using a market approach based on the quoted market prices of identical instruments.
Common and preferred stock equity securities and international equity securities are valued using a market approach based on quoted market prices. Common/collective/pooled funds are common or collective trusts valued at their net asset values that are calculated by the investment manager or fund sponsor based on the quoted market prices of the underlying investments.
Postretirement Benefits
The Company has contributory health benefit plans covering certain groups of U.S. employees. Contributions are reviewed annually and are adjusted as appropriate. U.S. employees retiring after March 1, 1993, and hired prior to January 1, 1993, will receive the standard health benefits up to age 65 and then will be eligible for a Medicare reimbursement allowance based on years of service. U.S. employees hired after January 1, 1993, and retiring after age 65 with ten years of service, will be eligible at age 65 for a Medicare reimbursement allowance based on years of service.
These plans contain other cost-sharing features such as deductibles and coinsurance. The Company does not pre-fund these plans and has the right to modify or terminate any of these plans in the future. Health benefits for retirees of non-U.S. operations, where applicable, are provided through government-sponsored plans to which the Company contributes funds during the individuals' employment periods.
F- 21
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The components of the postretirement benefit expense of the Company-sponsored health benefit plans for 2010, 2009, and 2008, were as follows:
2010 | 2009 | 2008 | |||||||||
Service cost | $ | 172 | $ | 211 | $ | 225 | |||||
Interest cost | 2,865 | 2,597 | 2,634 | ||||||||
Amortization of prior service cost | (128 | ) | — | — | |||||||
Amortization of net loss | 1,676 | 921 | 1,030 | ||||||||
Postretirement benefit expense | $ | 4,585 | $ | 3,729 | $ | 3,889 | |||||
Adjustments included in other comprehensive (income) loss: | |||||||||||
Net actuarial losses (gains) | 9,582 | 6,296 | 2,495 | ||||||||
Amortization of actuarial losses | (1,676 | ) | (921 | ) | (1,030 | ) | |||||
Amortization of prior service (cost) credit | 128 | — | — | ||||||||
Settlement / curtailment / plan amendment | — | (2,860 | ) | — | |||||||
Total (gain) loss recognized in other comprehensive (income) loss | 8,034 | 2,515 | 1,465 | ||||||||
Total recognized in comprehensive (income) loss | 12,619 | 6,244 | 5,354 | ||||||||
The Company expects to incur income of $128 for amortization of prior service costs and expense of $1,983 for amortization of net loss in 2011.
F- 22
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The funded status of the Company-sponsored health benefit plans was as follows:
December 31, | |||||||
2010 | 2009 | ||||||
Reconciliation of benefit obligation: | |||||||
Benefit obligation at January 1 | $ | (43,875 | ) | $ | (41,060 | ) | |
Service cost | (172 | ) | (211 | ) | |||
Interest cost | (2,865 | ) | (2,597 | ) | |||
Plan participant contributions | (484 | ) | (495 | ) | |||
Plan amendment | — | 2,081 | |||||
Plan curtailment | — | 779 | |||||
Actuarial loss | (9,582 | ) | (6,296 | ) | |||
Benefit payments | 4,143 | 4,011 | |||||
Health care subsidy receipts | (124 | ) | (87 | ) | |||
Benefit obligation at December 31 | (52,959 | ) | (43,875 | ) | |||
Reconciliation of fair value of plan assets: | |||||||
Fair value of plan assets at January 1 | — | — | |||||
Employer contributions | 3,535 | 3,429 | |||||
Plan participant contributions | 484 | 495 | |||||
Health care subsidy receipts | 124 | 87 | |||||
Benefit payments | (4,143 | ) | (4,011 | ) | |||
Fair value of plan assets at December 31 | — | — | |||||
Benefit obligation | (52,959 | ) | (43,875 | ) | |||
Less current portion | 3,682 | 2,828 | |||||
Postretirement benefit obligation, long-term | $ | (49,277 | ) | $ | (41,047 | ) | |
Amounts recognized in accumulated other comprehensive income as of:
December 31, | |||||||
2010 | 2009 | ||||||
Actuarial loss | $ | 32,336 | $ | 24,430 | |||
Prior service credit | (1,953 | ) | (2,081 | ) | |||
$ | 30,383 | $ | 22,349 | ||||
The assumed weighted average rate of increase in the per capita cost of covered health benefits used to determine the accumulated postretirement benefit obligation at December 31, 2010 was assumed to be a 7.8% increase from 2010 to 2011, gradually decreasing to 4.5% through 2027 and for all future years. The benefit obligation at December 31, 2009 and the 2010 cost assumed an 8.0% increase from 2009 to 2010, gradually decreasing to 4.5% through 2027 and all future years.
A one percent increase in the assumed health care trend rates would have increased the accumulated postretirement benefit obligation at December 31, 2010, by $4,987, and increased postretirement benefit expense for 2010 by $264. A one percent decrease in the assumed health care trend rates would have decreased the accumulated postretirement benefit obligation at December 31, 2010, by $4,265, and decreased postretirement benefit expense for 2010 by $228.
The weighted average discount rate used to estimate the accumulated postretirement benefit obligation was 5.25%, 6.0%, and 6.25% for 2010, 2009, and 2008, respectively.
F- 23
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The benefits expected to be paid from the benefit plans, which reflect expected future years of service, and the Medicare subsidy expected to be received are as follows:
Pensions | Health Care | Health Care Subsidy Receipts | |||||||||
2011 | $ | 10,555 | $ | 3,826 | $ | 143 | |||||
2012 | 11,042 | 3,971 | 158 | ||||||||
2013 | 11,525 | 3,996 | 177 | ||||||||
2014 | 11,960 | 4,130 | 192 | ||||||||
2015 | 12,869 | 4,204 | 204 | ||||||||
2016-2020 | 74,046 | 20,505 | 1,217 | ||||||||
The Company plans to contribute approximately $16,800 to the Company pension and health benefit plans in 2011.
The Company also maintains two defined contribution plans, the Sauer-Danfoss Employees' Savings Plan and the Sauer-Danfoss LaSalle Factory Employee Savings Plan, for eligible employees. Company contributions include both base and matching amounts. The Company contributed approximately $2,200, $2,400, and $3,100 to these plans in 2010, 2009 and 2008, respectively.
(10) Income Taxes:
The Company's income (loss) before income taxes is as follows:
Years Ended December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
United States | $ | 50,472 | $ | (97,054 | ) | $ | 15,387 | ||||
European and other | 144,613 | (174,181 | ) | (12,657 | ) | ||||||
Total | $ | 195,085 | $ | (271,235 | ) | $ | 2,730 | ||||
The Company's primary German operation is treated as a flow-through entity for U.S. tax purposes. The above analysis of pretax income (loss) and the following analysis of the income tax provision by taxing jurisdiction are therefore not directly related.
The benefit (expense) for income taxes by taxing jurisdiction is as follows:
Years Ended December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Current | |||||||||||
United States | |||||||||||
Federal | $ | 225 | $ | 225 | $ | (1,575 | ) | ||||
State | (332 | ) | 254 | (1,487 | ) | ||||||
European and other | (24,608 | ) | (9,779 | ) | (30,012 | ) | |||||
Total current | (24,715 | ) | (9,300 | ) | (33,074 | ) | |||||
Deferred | |||||||||||
United States | |||||||||||
Federal | 73,628 | (50,659 | ) | (3,454 | ) | ||||||
State | 6,020 | (4,960 | ) | (102 | ) | ||||||
European and other | (3,750 | ) | 3,900 | 22,570 | |||||||
Total deferred | 75,898 | (51,719 | ) | 19,014 | |||||||
Total income tax benefit (expense) | $ | 51,183 | $ | (61,019 | ) | $ | (14,060 | ) | |||
F- 24
A reconciliation of tax benefit (expense) calculated using the U.S. statutory tax rate of 35% and recorded income tax expense based on the Company's income before income taxes is as follows:
Years Ended December 31, | |||||||||||
2010 | 2009 | 2008 | |||||||||
Tax benefit (expense) based on U.S. statutory tax rate | $ | (68,280 | ) | $ | 94,932 | $ | (956 | ) | |||
Statutory tax rate change | — | — | 93 | ||||||||
Foreign taxes (rate and other differences)—net | 15,017 | (14,652 | ) | (5,890 | ) | ||||||
State income taxes–net of federal benefit | 3,697 | (3,059 | ) | (1,033 | ) | ||||||
Tax effect of minority interest | 5,968 | 3,242 | 3,869 | ||||||||
Changes in tax reserves and allowances—net | 99,166 | (123,305 | ) | (3,051 | ) | ||||||
Non-deductible expenses/Non-taxable income—net | (1,805 | ) | (1,884 | ) | (971 | ) | |||||
U.S. & foreign goodwill impairment | — | (17,163 | ) | (6,281 | ) | ||||||
Other | (2,580 | ) | 870 | 160 | |||||||
Total income tax benefit (expense) | $ | 51,183 | $ | (61,019 | ) | $ | (14,060 | ) | |||
The components of the Company's net deferred tax assets and liabilities, determined on a jurisdictional and entity basis, are attributable to the following:
December 31, | |||||||||||||||
2010 | 2009 | ||||||||||||||
Assets | Liabilities | Assets | Liabilities | ||||||||||||
Net operating loss (NOL) and tax credit carryforwards | $ | 56,670 | $ | — | $ | 77,565 | $ | — | |||||||
Deferred compensation, postretirement medical and accrued pension benefits | 48,465 | (4,292 | ) | 39,288 | — | ||||||||||
Fixed asset basis differences | 15,899 | (9,682 | ) | 22,440 | (12,998 | ) | |||||||||
Inventory and warranty accruals | 10,248 | (1,407 | ) | 13,660 | (1,574 | ) | |||||||||
Intangible asset fair market value step-up | 4,481 | (8,791 | ) | 6,394 | (9,421 | ) | |||||||||
Other items | 18,422 | (8,196 | ) | 29,498 | (10,964 | ) | |||||||||
Gross deferred tax assets/liabilities | 154,185 | (32,368 | ) | 188,845 | (34,957 | ) | |||||||||
Valuation allowance | (28,935 | ) | — | (130,475 | ) | — | |||||||||
Net deferred tax assets/liabilities | 125,250 | (32,368 | ) | 58,370 | (34,957 | ) | |||||||||
Less current portion | (17,241 | ) | 3,717 | (3,912 | ) | 1,249 | |||||||||
Net deferred tax assets/liabilities, long-term | $ | 108,009 | $ | (28,651 | ) | $ | 54,458 | $ | (33,708 | ) | |||||
The ultimate realization of net deferred tax assets is dependent upon the generation of future taxable income during (i) the years in which temporary differences reverse and (ii) the years prior to the expiration of NOL and credit carryforwards. Management considers projected future taxable income and tax planning strategies in making this assessment.
In 2010 the Company determined that the valuation allowances on most of the net deferred tax assets in the U.S. that were established in 2009 were no longer necessary. Future taxable income projections support the realization of the U.S. deferred tax assets. The reversal of the U.S. valuation allowance accounts for a majority of the decrease in valuation allowances of approximately $102,000. Valuation allowances related to net deferred tax assets in Denmark and Italy comprise the majority of the valuation allowance at December 31, 2010.
As of December 31, 2010 and 2009, the Company had not provided U.S. federal income taxes on $148,477 and $126,686, respectively, of undistributed earnings recorded by certain subsidiaries outside the U.S. since these earnings were deemed permanently invested. Although it is not practicable to determine the deferred tax liability on the unremitted earnings, foreign tax credits would be available to reduce U.S. tax liability if these foreign earnings were remitted.
The Company files income tax returns in the U.S. federal jurisdiction, and various states and foreign jurisdictions. With few exceptions, the Company is no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 2006. During 2010, the Internal Revenue Service notified the Company of their intent to audit the Company's 2009 federal income tax return. The audit will commence during the first quarter of 2011.
F- 25
A reconciliation of the beginning and ending gross unrecognized tax benefits (UTB) is as follows:
Amount | |||
Gross UTB balance at January 1, 2010 | $ | 1,769 | |
Additions based on tax positions related to the current year | 614 | ||
Additions for tax positions of prior years | — | ||
Reductions for tax positions of prior years | — | ||
Settlements | — | ||
Foreign currency adjustments | (81 | ) | |
Reductions due to lapse of applicable statute of limitations | — | ||
Gross UTB balance at December 31, 2010 | $ | 2,302 | |
Net UTB impacting the effective tax rate at December 31, 2010 | $ | 281 | |
The total amount of UTB that, if recognized, would affect the effective tax rate as of December 31, 2010 and 2009 were $281 and $144, respectively. The total amount of UTB is not expected to significantly increase or decrease within the next twelve months. The net UTBs are included as components of deferred income tax assets and other liabilities in the consolidated balance sheets.
The Company recognizes interest and penalties related to unrecognized tax benefits in interest expense and other expense. Interest and penalties of $337 and $288 have been accrued as of December 31, 2010 and 2009, respectively. Interest and penalty expense of $61 and $90 were recognized for years ending December 31, 2010 and 2009, respectively.
The Company had the following tax return loss carryforwards available to offset future years' taxable income at December 31, 2010:
Amount | Expiration Dates | ||||
German NOL—National | $ | 1,336 | None | ||
German NOL—Trade | 4,111 | None | |||
U.S. NOL | 36,212 | 2011-2029 | |||
U.K. NOL | 10,333 | None | |||
Denmark NOL | 55,646 | None | |||
Italy NOL | 8,680 | 2014 | |||
Brazil NOL | 9,833 | None | |||
China NOL | 4,806 | 2012-2014 | |||
Other non-U.S. NOL | 2,816 | Various | |||
State NOL | 32,469 | 2011-2029 | |||
Foreign tax credits (available to offset U.S. taxes) | 14,892 | 2019-2020 | |||
State tax credits | 533 | 2011-2019 | |||
F- 26
(11) Accumulated Other Comprehensive Income:
The changes in accumulated other comprehensive income for the years ended December 31, 2008, 2009, and 2010 follows:
Currency Translation | Pension/ Postretirement Benefit Adjustment | Hedging Activities | Accumulated Other Comprehensive Income | ||||||||||||
Balance as of January 1, 2008 | $ | 118,067 | $ | (39,094 | ) | $ | 2,712 | $ | 81,685 | ||||||
Change in period | (23,295 | ) | (38,747 | ) | (9,185 | ) | (71,227 | ) | |||||||
Effect of exchange rate changes | — | 1,872 | (85 | ) | 1,787 | ||||||||||
Income tax benefit | (1,094 | ) | 14,435 | 2,409 | 15,750 | ||||||||||
Balance as of December 31, 2008 | 93,678 | (61,534 | ) | (4,149 | ) | 27,995 | |||||||||
Change in period | 16,676 | 5,222 | 6,174 | 28,072 | |||||||||||
Effect of exchange rate changes | — | (1,042 | ) | (44 | ) | (1,086 | ) | ||||||||
Income tax benefit (expense) | 8 | 2,206 | (1,773 | ) | 441 | ||||||||||
Balance as of December 31, 2009 | 110,362 | (55,148 | ) | 208 | 55,422 | ||||||||||
Change in period | (6,670 | ) | (10,743 | ) | (1,140 | ) | (18,553 | ) | |||||||
Effect of exchange rate changes | — | 985 | 70 | 1,055 | |||||||||||
Income tax benefit (expense) | (366 | ) | (6,968 | ) | 210 | (7,124 | ) | ||||||||
Balance as of December 31, 2010 | $ | 103,326 | $ | (71,874 | ) | $ | (652 | ) | $ | 30,800 | |||||
(12) Noncontrolling Interests:
Noncontrolling interests in net assets and income reflected in the accompanying consolidated financial statements for 2010, 2009, and 2008 consists of:
a) | A 40% noncontrolling interest held by Agri-Fab, Inc. in Hydro-Gear Limited Partnership, a U.S. limited partnership. |
b) | A 40% noncontrolling interest held by Shanghai Hydraulics and Pneumatics in Sauer Shanghai Hydraulic Transmission Co., Ltd., a Chinese equity business venture. |
c) | A 35% noncontrolling interest held by Daikin Industries Ltd. in Sauer-Danfoss-Daikin, Ltd., a Japanese corporation. |
d) | A 49.9% noncontrolling interest held by Topcon Positioning Systems in TSD Integrated Controls LLC, a U.S. limited partnership. |
e) | A 55% noncontrolling interest held by Daikin Industries Ltd. in Daikin-Sauer-Danfoss Manufacturing, Ltd., a Japanese corporation. |
The following table sets forth the components of noncontrolling interest in the consolidated balance sheets:
December 31, | |||||||
2010 | 2009 | ||||||
Hydro-Gear Limited Partnership | $ | 24,742 | $ | 28,187 | |||
Sauer Shanghai Hydraulic Transmission Co., Ltd. | 22,978 | 13,699 | |||||
Sauer-Danfoss-Daikin, Ltd. | 15,204 | 11,543 | |||||
TSD Integrated Controls LLC(1) | (648 | ) | (864 | ) | |||
Daikin-Sauer-Danfoss Manufacturing, Ltd. | 12,734 | 10,095 | |||||
Total | $ | 75,010 | $ | 62,660 | |||
(1) | In connection with the wind-down of the TSD joint venture discussed in Note 2 the noncontrolling interest partner has received distribution of assets in excess of their interest in the joint venture. There will be a settlement between the joint venture partners at the end of the wind-down period. |
F- 27
The Hydro-Gear Limited Partnership agreement indicates a termination date of December 31, 2035. This entity is consolidated in the Company's financial statements. The agreement indicates that if the partnership were to terminate the partnership would be liquidated and the resulting proceeds would be distributed in accordance with each partner's ownership percentage.
(13) Equity-Based Compensation:
The Company's 2006 Omnibus Incentive Plan (2006 Incentive Plan) provides for the grant of stock options, stock appreciation rights, restricted stock, performance units, performance shares, and other incentive awards to officers and key employees and qualifies certain awards for the performance-based exception to obtain favorable tax treatment. The total number of shares of common stock that may be subject to awards or be issued under the 2006 Incentive Plan shall not exceed 3,500,000 shares. The settlement of performance units is in shares of Company stock or cash as determined by the Compensation Committee of the Board of Directors. The performance units entitle the participants to receive an amount equal to the Company's dividends during the vesting period.
All grants to employees in 2010 under the 2006 Incentive Plan were cash-based awards. There were no grants to employees under the 2006 Incentive Plan in 2009. In 2008 the Compensation Committee granted 328,053 performance units under the 2006 Incentive Plan, 307,945 of which were to be settled 100 percent in Company stock with shares withheld having a value to meet the minimum statutory withholding requirements and 20,108 performance units granted to certain individuals that were to be settled in cash. In 2007 the Compensation Committee granted 273,101 performance units under the 2006 Incentive Plan, 213,553 of which were to be settled 100 percent in Company stock with shares withheld having a value to meet the minimum statutory withholding requirements and 59,548 performance units granted to certain individuals that were to be settled in cash. The units to be settled in cash are accounted for as liability units, with the remainder of the units accounted for as equity units.
The following chart summarizes performance unit activity under the Plan for the year ended December 31, 2010:
Equity Units | Number | Weighted Average Grant Date Fair Value | Weighted Average Vesting Period in Years | ||||||
Units oustanding at January 1 | 339,998 | $ | 23.90 | 3.0 | |||||
Units vested | (138,541 | ) | 31.18 | 3.0 | |||||
Units forfeited | (35,390 | ) | 18.89 | 3.0 | |||||
Units outstanding at December 31 | 166,067 | 18.89 | 3.0 | ||||||
The Compensation Committee sets performance goals for each performance unit grant and depending on the extent to which these goals are met will determine the number of performance units that will be paid out to the participants. Based on performance results for 2008 through 2010 the performance units granted in 2008 will not receive a payout as the minimum performance threshold was not met.
Compensation expense is recognized over the vesting period of three years, measured based on the market price of the Company's stock at the date of grant with an offsetting increase in additional paid-in capital. The expense related to the grants that will be settled in cash is based on the market price of the Company's stock as of the balance sheet date. In accordance with the terms of the performance unit grants of the previous President and CEO of the Company, who retired on January 1, 2009, the grants related to performance periods after he left the company would be paid at 100% of the performance target and therefore the expense for his 2007 and 2008 grants were fully expensed in 2008, rather than over the three year performance period.
In 2007 the Compensation Committee awarded 10,000 shares of restricted stock under the 2006 Incentive Plan. Vesting of 5,000 of the shares occurred in both 2009 and 2008. The restricted stock awards entitle the participants to full dividend and voting rights. The value of the award was established based on the market value of the stock as of the grant date.
Compensation income or expense recognized in selling, general, and administrative expenses in conjunction with the performance units and restricted stock outstanding was expense of $18 in 2009 and income of $2,260 in 2008. The income recognized in 2008 was due to reducing the accrual related to the performance units to be settled in cash and the accrual related to the 2007 performance unit grant due to the decrease in financial performance during 2008. The tax expense recognized related to the 2008 income was $814 and tax benefits recognized related to expense was $6 in 2009. The Company did not recognize any additional compensation expense related to the outstanding performance units and restricted stock under this plan in 2010.
F- 28
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The 2006 Incentive Plan also allows for grants of equity based shares to directors of the Company. The Company awarded 13,500 shares of restricted stock in 2010 and 2009 and 15,000 shares of restricted stock in 2008 to non-employee directors. The restricted stock awards entitle the participants to full dividend and voting rights. Unvested shares are restricted as to disposition and subject to forfeiture under certain circumstances. In 2009, 3,000 shares of restricted stock were forfeited prior to being vested. The value of each award was established based on the market value of the stock as of the grant date. Expense is computed based on the market value of the restricted shares at the grant date, which is amortized ratably over the three year vesting period of the grants. In 2010, related to the cash tender offer initiated by Danfoss Acquisition to acquire the outstanding shares of stock, the board of directors removed the transfer restrictions on the restricted stock granted in 2007, 2008, and 2009. Expense recognized in conjunction with the restricted stock outstanding to non-employee directors in 2010, 2009, and 2008 amounted to $326, $235, and $448, respectively.
(14) Related Person Transactions:
In connection with the acquisition of Danfoss Fluid Power on May 3, 2000, the Company entered into several agreements with Danfoss A/S to purchase ongoing operational services from Danfoss A/S. These services include rental of shared facilities, administrative support and information technology support. These fees are paid on a monthly basis. Total expense recognized for goods and services purchased from Danfoss A/S for 2010, 2009, and 2008 was approximately $36,000, $43,800, and $87,100, respectively. At December 31, 2010 and 2009 approximately $9,600 and $10,000 owed to Danfoss A/S is included in accounts payable on the consolidated balance sheet. Payments required under these agreements as of December 31, 2010, during the years ending 2011 through 2015 and 2016 and thereafter, are $8,178, $8,081, $7,843, $7,843, $2,614, and $34,561, respectively. The Company also sold products to Danfoss A/S totaling approximately $6,500, $3,200, and $6,800 during 2010, 2009, and 2008, respectively. At December 31, 2010 and 2009 approximately $1,600 and $800 due from Danfoss A/S is included in accounts receivable on the consolidated balance sheet.
The subsidiaries in Denmark file a joint tax return with Danfoss A/S as required under the laws of Denmark. The Company has elected to provide for taxes on a separate entity basis for U.S. GAAP. The difference in the amount of cash paid or received under these two methods is reported as a capital contribution or a dividend distribution in the consolidated statements of stockholders' equity and comprehensive income (loss). In 2010 the Company received approximately $14,900 from Danfoss A/S related to the usage of the Company's net operating loss (NOL) carryforwards generated in Denmark on the joint tax return for 2009. The Company paid approximately $1,800 to Danfoss A/S in 2010 as the Company is generating taxable income in Denmark in 2010.
The Company can borrow up to $500,000 under a term loan and revolving credit facility with Danfoss A/S. Refer to Note 8 for additional discussion of the Danfoss Agreement which was entered into in September 2010.
In 2008 the Company entered an Agreement for Transfer of Business and Sale of Inventory (Agreement) with Danfoss LLC, a subsidiary of Danfoss A/S. The Agreement replaced a Distribution and Service Agreement which had been in place with Danfoss A/S under which Sauer-Danfoss product had been sold in the Commonwealth of Independent States. The Company purchased primarily customer relationships and inventory in this transaction for approximately $1,200.
The Company purchases inventory components from Shanghai Hydraulics and Pneumatics, a noncontrolling interest owner in an entity included in the Company's consolidated financial statements. Purchases were approximately $6,300, $4,000, and, $5,600 in 2010, 2009, and 2008, respectively.
The Company purchases inventory components from Agri-Fab, Inc., a noncontrolling interest owner in an entity included in the Company's consolidated financial statements. Purchases were approximately $1,000 in each year for 2010, 2009, and 2008. The Company also began to loan excess cash to Agri-Fab, Inc. in 2009. The balance outstanding from Agri-Fab, Inc. at December 31, 2010 and 2009 was $0 and $4,500, respectively. The Company recorded interest income of approximately $300 in both 2010 and 2009.
The Company sold product totaling approximately $4,300, $2,300 and $4,100 in 2010, 2009 and 2008, respectively, to Daikin Industries Ltd. (Daikin), a noncontrolling interest owner in an entity consolidated by the Company. The Company also purchases inventory components and ongoing operational services from Daikin. These services include shared facilities and administrative support. Total expense recognized for goods and services purchased from Daikin in 2010, 2009, and 2008 were approximately $6,200, $5,200 and $6,500, respectively. In 2010 the Company entered an Agreement with Daikin to loan excess cash or borrow funds as needed. At December 31, 2010 the balance outstanding was $986.
F- 29
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The Company began to purchase product from Topcon Positioning Systems, Inc., a noncontrolling interest owner in an entity included in the Company's consolidated financial statements, in 2009 as a result of the termination of the joint venture agreement discussed in Note 2. Purchases were approximately $1,900 and $300 in 2010 and 2009, respectively.
The Company had sales to Faun Umwelttechnik GmbH & Co., a company owned by a director of the Company, of approximately $1,700, $2,000 and $1,000 in 2010, 2009 and 2008, respectively.
(15) Commitments, Contingencies, and Guarantees:
The Company leases certain facilities and equipment under operating leases, many of which contain renewal options. Total rental expense on all operating leases during 2010, 2009, and 2008 was $29,395, $23,910, and $26,254, respectively. Rent is expensed on a straight-line basis over the term of the leases.
Minimum future rental commitments under all noncancelable operating leases as of December 31, 2010, during the years ending 2011 through 2015 and for 2016 and thereafter, are $15,747, $12,819, $10,769, $8,865, $7,442, and $30,263, respectively.
The Company also leases certain facilities and equipment under capital leases. The liability related to these capital leases is included in current other accrued liabilities and other long-term liabilities on the consolidated balance sheets. Minimum future lease payments under all noncancelable capital leases as of December 31, 2010, during the years ending 2011 through 2015 and for 2016 and thereafter, are $610, $275, $36, $5, $0, and $0, respectively.
The Company was named as a defendant in four putative stockholder class action complaints (collectively, the Lawsuits) challenging the proposal by Danfoss Acquisition Inc., a wholly owned subsidiary of Danfoss A/S, to make a tender offer to purchase all the outstanding shares of Company common stock not presently held, directly or indirectly, by Danfoss A/S. When the proposed tender offer was not consummated, the Lawsuits were dismissed as moot. The only remaining issue is resolution of the application by certain plaintiffs in the Delaware Chancery Court for attorney's fees and expenses in the amount of $790. The Company is vigorously opposing the plaintiff's application and a ruling by the Court is expected in 2011. It is not possible at this time to predict the amount, if any, of legal fees and expenses that might be awarded.
The Company, from time to time, is involved in various legal matters considered normal in the course of its business. The Company intends to vigorously defend against all such claims. It is the Company's policy to accrue for amounts related to these matters if it is probable that a liability has been incurred and an amount can be reasonably estimated. Although the outcome of such matters cannot be predicted with certainty and no assurances can be given with respect to such matters, the Company believes that the outcome of these matters in which it is currently involved will not have a materially adverse effect on its results of operations, liquidity or financial position.
F- 30
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
(16) Quarterly Financial Data (Unaudited):
Summarized quarterly data is set forth in the following table:
First | Second | Third | Fourth | Total | |||||||||||||||
2010 | |||||||||||||||||||
Net sales | $ | 386,770 | $ | 432,226 | $ | 392,649 | $ | 428,938 | $ | 1,640,583 | |||||||||
Gross profit | 112,506 | 132,077 | 118,984 | 134,561 | 498,128 | ||||||||||||||
Net income attributable to Sauer-Danfoss Inc. | 20,724 | 34,555 | 32,100 | 126,020 | 213,399 | ||||||||||||||
Basic net income per common share (1) | $ | 0.43 | $ | 0.71 | $ | 0.66 | $ | 2.60 | $ | 4.41 | |||||||||
Diluted net income per common share | $ | 0.43 | $ | 0.71 | $ | 0.66 | $ | 2.60 | $ | 4.40 | |||||||||
2009 | |||||||||||||||||||
Net sales | $ | 349,695 | $ | 277,411 | $ | 253,074 | $ | 278,851 | $ | 1,159,031 | |||||||||
Gross profit | 58,018 | 30,803 | 14,954 | 24,178 | 127,953 | ||||||||||||||
Net loss attributable to Sauer-Danfoss Inc. | (78,406 | ) | (121,826 | ) | (70,801 | ) | (74,733 | ) | (345,766 | ) | |||||||||
Basic net income (loss) per common share | $ | (1.62 | ) | $ | (2.52 | ) | $ | (1.46 | ) | $ | (1.55 | ) | $ | (7.15 | ) | ||||
Diluted net income (loss) per common share | $ | (1.62 | ) | $ | (2.52 | ) | $ | (1.46 | ) | $ | (1.55 | ) | $ | (7.15 | ) | ||||
2008 | |||||||||||||||||||
Net sales | $ | 617,399 | $ | 611,538 | $ | 490,188 | $ | 371,388 | $ | 2,090,513 | |||||||||
Gross profit | 147,725 | 138,006 | 111,866 | 38,013 | 435,610 | ||||||||||||||
Net income (loss) attributable to Sauer-Danfoss Inc. | 27,863 | 22,706 | 10,901 | (90,611 | ) | (29,141 | ) | ||||||||||||
Basic net income (loss) per common share | $ | 0.58 | $ | 0.47 | $ | 0.23 | $ | (1.88 | ) | $ | (0.60 | ) | |||||||
Diluted net income (loss) per common share (1) | $ | 0.57 | $ | 0.47 | $ | 0.22 | $ | (1.88 | ) | $ | (0.60 | ) | |||||||
(1) Basic and diluted net income (loss) per common share is computed independently for each of the periods presented. Accordingly, the sum of the quarterly basic and diluted net income (loss) per common share may not agree to the annual total.
(17) Segment and Geographic Information:
Beginning in 2010, the Company changed the way segments are reported to reflect the changes in its organizational structure around its various product lines of Propel, Work Function, Controls and Stand-Alone Businesses. To permit comparisons to at least one prior year, the Company has compiled information for 2009 on the same basis as that used in 2010. It was not practicable to compile information for 2008 on the same basis.
The Company's reportable segments are organized around its various product lines of Propel, Work Function, Controls and Stand-Alone Businesses. Propel products include hydrostatic transmissions and related products that transmit the power from the engine to the wheel to propel a vehicle. Work Function products include steering motors and motors that transmit power for the work functions of the vehicle. Controls products include electrohydraulic controls, microprocessors, and valves that control and direct the power of a vehicle. Stand-Alone Businesses, an aggregation of two operating segments, includes open circuit gear pumps and motors, cartridge valves and hydraulic integrated circuits, directional control valves, inverters, and light duty hydrostatic transmissions that transmit, control and direct the power of a vehicle and are marketed under their own names and operate as independent businesses. Segment costs in Global Services relate to internal global service departments and include costs such as
F- 31
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
consulting for special projects, tax and accounting fees paid to outside third parties, certain insurance premiums, and amortization of intangible assets from certain business combinations.
The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates individual segment performance based on segment income or loss defined as the respective segment's portion of the total Company's net income, excluding net interest expense, income taxes, and noncontrolling interest. The following table presents the significant items by reportable segment as of and for the years ended December 31, 2010, and 2009, respectively:
Propel | Work Function | Controls | Stand-Alone Businesses | Global Services | Total | ||||||||||||||||||
2010 | |||||||||||||||||||||||
Net sales | $ | 717,193 | $ | 320,716 | $ | 243,163 | $ | 359,511 | $ | — | $ | 1,640,583 | |||||||||||
Segment income (loss) | 165,047 | 28,674 | 49,113 | 35,796 | (31,678 | ) | 246,952 | ||||||||||||||||
Interest income | 1,455 | ||||||||||||||||||||||
Interest expense | (50,901 | ) | |||||||||||||||||||||
Loss on early retirement of debt | (2,421 | ) | |||||||||||||||||||||
Income before income taxes | 195,085 | ||||||||||||||||||||||
Total assets | 380,574 | 198,560 | 119,415 | 169,230 | 260,425 | 1,128,204 | |||||||||||||||||
Depreciation and amortization | 35,957 | 22,640 | 14,794 | 21,814 | 2,131 | 97,336 | |||||||||||||||||
Capital expenditures | 10,408 | 4,355 | 4,279 | 5,771 | 1,405 | 26,218 | |||||||||||||||||
2009 | |||||||||||||||||||||||
Net sales | $ | 463,590 | $ | 233,843 | $ | 185,503 | $ | 276,095 | $ | — | $ | 1,159,031 | |||||||||||
Segment loss | (23,317 | ) | (69,506 | ) | (23,779 | ) | (66,461 | ) | (23,938 | ) | (207,001 | ) | |||||||||||
Interest income | 1,775 | ||||||||||||||||||||||
Interest expense | (50,171 | ) | |||||||||||||||||||||
Loss on early retirement of debt | (15,838 | ) | |||||||||||||||||||||
Loss before income taxes | (271,235 | ) | |||||||||||||||||||||
Total assets | 341,532 | 220,064 | 128,743 | 155,855 | 222,123 | 1,068,317 | |||||||||||||||||
Depreciation and amortization | 45,984 | 24,251 | 17,891 | 26,399 | 2,605 | 117,130 | |||||||||||||||||
Capital expenditures | 15,148 | 13,658 | 8,090 | 5,500 | 576 | 42,972 | |||||||||||||||||
F- 32
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
The following table presents comparative information for the three years ended December 31, 2010, in the format of the Company's prior segment reporting. This is being included because the Company does not have comparable information for its new segmentation for the year ended December 31, 2008.
Propel | Work Function | Controls | Global Services | Total | |||||||||||||||
2010 | |||||||||||||||||||
Net sales | $ | 906,557 | $ | 374,145 | $ | 359,881 | $ | — | $ | 1,640,583 | |||||||||
Segment income (loss) | 205,816 | 27,098 | 45,716 | (31,678 | ) | 246,952 | |||||||||||||
Interest income | 1,455 | ||||||||||||||||||
Interest expense | (50,901 | ) | |||||||||||||||||
Loss on early retirement of debt | (2,421 | ) | |||||||||||||||||
Income before income taxes | 195,085 | ||||||||||||||||||
Total assets | 461,260 | 223,441 | 183,078 | 260,425 | 1,128,204 | ||||||||||||||
Depreciation and amortization | 46,957 | 27,315 | 20,933 | 2,131 | 97,336 | ||||||||||||||
Capital expenditures | 15,345 | 4,712 | 4,756 | 1,405 | 26,218 | ||||||||||||||
2009 | |||||||||||||||||||
Net sales | $ | 613,433 | $ | 274,654 | $ | 270,944 | $ | — | $ | 1,159,031 | |||||||||
Segment loss | (24 | ) | (81,932 | ) | (101,107 | ) | (23,938 | ) | (207,001 | ) | |||||||||
Interest income | 1,775 | ||||||||||||||||||
Interest expense | (50,171 | ) | |||||||||||||||||
Loss on early retirement of debt | (15,838 | ) | |||||||||||||||||
Loss before income taxes | (271,235 | ) | |||||||||||||||||
Total assets | 404,990 | 243,947 | 197,257 | 222,123 | 1,068,317 | ||||||||||||||
Depreciation and amortization | 57,584 | 31,740 | 25,201 | 2,605 | 117,130 | ||||||||||||||
Capital expenditures | 19,336 | 14,390 | 8,670 | 576 | 42,972 | ||||||||||||||
2008 | |||||||||||||||||||
Net sales | $ | 1,016,609 | $ | 561,416 | $ | 512,488 | $ | — | $ | 2,090,513 | |||||||||
Segment income (loss) | 156,805 | (65,699 | ) | (21,386 | ) | (42,362 | ) | 27,358 | |||||||||||
Interest income | 1,026 | ||||||||||||||||||
Interest expense | (25,654 | ) | |||||||||||||||||
Income before income taxes | 2,730 | ||||||||||||||||||
Total assets | 541,489 | 330,628 | 272,186 | 323,373 | 1,467,676 | ||||||||||||||
Depreciation and amortization | 48,111 | 38,411 | 23,485 | 2,955 | 112,962 | ||||||||||||||
Capital expenditures | 98,982 | 54,312 | 36,714 | 8,626 | 198,634 | ||||||||||||||
F- 33
Sauer-Danfoss Inc. and Subsidiaries
Notes to Consolidated Financial Statements (Continued)
December 31, 2010, 2009, and 2008
(Dollars in thousands, except per share data)
A summary of the Company's net sales and long-lived assets by geographic area is presented below:
Net Sales(1) | Long-Lived Assets(2) | ||||||||||||||||||
2010 | 2009 | 2008 | 2010 | 2009 | |||||||||||||||
United States | $ | 612,787 | $ | 424,680 | $ | 740,506 | $ | 110,738 | $ | 138,416 | |||||||||
China | 192,483 | 102,715 | 95,804 | 10,042 | 9,090 | ||||||||||||||
Germany | 144,657 | 120,084 | 229,101 | 57,089 | 71,354 | ||||||||||||||
Italy | 81,537 | 64,021 | 145,666 | 12,072 | 16,316 | ||||||||||||||
Denmark(3) | 20,693 | 16,405 | 36,146 | 109,500 | 144,282 | ||||||||||||||
Other countries | 588,426 | 431,126 | 843,290 | 173,660 | 196,516 | ||||||||||||||
Total | $ | 1,640,583 | $ | 1,159,031 | $ | 2,090,513 | $ | 473,101 | $ | 575,974 | |||||||||
(1)Net sales are attributed to countries based on location of customer.
(2)Long-lived assets include property, plant and equipment net of accumulated depreciation, goodwill, intangible assets net of accumulated amortization, and certain other long-lived assets.
(3)Majority of this country's sales are shipped outside of the home country where the product is produced.
No single customer accounted for 10% or more of total consolidated net sales in any year presented.
(18) Subsequent Events:
The Company has evaluated subsequent events through March 3, 2011, the date the financial statements were issued, to ensure that the Form 10-K includes appropriate disclosure of events recognized in the consolidated financial statements as of December 31, 2010, and events that occurred subsequent to December 31, 2010 but were not recognized in the consolidated financial statements.
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Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Sauer-Danfoss Inc.:
We have audited the accompanying consolidated balance sheets of Sauer-Danfoss Inc. and subsidiaries (the Company) as of December 31, 2010 and 2009, and the related consolidated statements of operations, stockholders' equity and comprehensive income (loss), and cash flows for each of the years in the three-year period ended December 31, 2010. In connection with our audits of the consolidated financial statements, we also have audited the related financial statement schedule. We also have audited the Company's internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company's management is responsible for these consolidated financial statements and financial statement schedule, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule and an opinion on the Company's internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risks. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Sauer-Danfoss Inc. and subsidiaries as of December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2010, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
/s/ KPMG LLP
Des Moines, Iowa
March 3, 2011
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Report of Management
Management Oversight
Sauer-Danfoss believes that good corporate governance promotes ethical business practices, demands meticulous accounting policies and procedures, and includes a structure with effective checks and balances. The management of Sauer-Danfoss is responsible for the integrity and objectivity of the financial information presented in this annual report on Form 10-K. Sauer-Danfoss believes that the consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States applying certain estimates and judgments as required.
Our management is responsible for establishing and maintaining a system of internal controls over financial reporting. This system is augmented by written policies and procedures, careful selection and training of financial management personnel, a continuing management commitment to the integrity of the system, and through examinations by an internal audit function that coordinates its activities with the Company's independent auditors.
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal controls over financial reporting based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on our evaluation under the framework in Internal Control—Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2010.
Independent Oversight
All of our directors are skilled business leaders. The members of the Board and each committee have express authority to retain outside advisors. The Board and each committee perform annual self-evaluations in order to assess their performance and to ensure that the Board and committee structure is providing effective oversight of corporate management.
Our Audit Committee is composed entirely of independent outside directors. The Committee meets periodically with management, the internal auditors, and the independent auditors, both separately and jointly, to discuss internal accounting controls and the quality of financial reporting. To ensure complete independence, the internal auditors and representatives of KPMG LLP have full access to meet with the Audit Committee, with or without management representatives present, to discuss the results of their audits and their opinions on the adequacy of internal controls and the quality of financial reporting. The Audit Committee has the direct responsibility for the appointment of the independent registered public accounting firm to be retained for the coming year, subject to stockholder approval.
Disclosure Controls
We have established rigorous procedures to ensure that we provide complete and accurate disclosure in our publicly filed documents. Our Disclosure Committee, made up of key individuals from various corporate functions, meets at least quarterly to review public filings and earnings releases, and to discuss any potential disclosure issues that may arise. We have established a "whistle-blower" hotline for employees, customers, suppliers or any stakeholder anywhere in the world to anonymously submit any concern they may have regarding corporate controls or ethical breaches. All complaints are investigated, and where necessary, concerns involving our financial statements, public disclosures or management are directed to our Audit Committee.
Code of Legal and Ethical Business Conduct
The Sauer-Danfoss Code of Legal and Ethical Business Conduct is based not just solely on what we have a right to do, but even more importantly, on what is the right thing to do. Annually, we reiterate the vital importance of our Code of Legal and Ethical Business Conduct by requiring employees in key functional areas to certify their compliance with the standards of the Code.
SVEN RUDER President and Chief Executive Officer | JESPER V. CHRISTENSEN Executive Vice President and Chief Financial Officer |
F- 36
Schedule II
Sauer-Danfoss Inc. and Subsidiaries
Valuation and Qualifying Accounts
Years Ended December 31, 2008, 2009, and 2010
(in thousands)
Balance at Beginning of Year | Charged to Costs and Expenses | Receivables Written Off/ Settlement of Claims | Foreign Currency Translation Adjustment | Balance at End of Year | ||||||||||||
For the year ended December 31, 2008 | ||||||||||||||||
Allowance for doubtful accounts | $ | 5,133 | 1,394 | (1,000 | ) | (317 | ) | $ | 5,210 | |||||||
For the year ended December 31, 2009 | ||||||||||||||||
Allowance for doubtful accounts | $ | 5,210 | 728 | (860 | ) | 562 | $ | 5,640 | ||||||||
For the year ended December 31, 2010 | ||||||||||||||||
Allowance for doubtful accounts | $ | 5,640 | 332 | (757 | ) | (290 | ) | $ | 4,925 | |||||||
F- 37
EXHIBITS
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