Gates Industrial Corporation plc — Fiscal 2020 Form 10-K Summary
Reporting period: Fiscal year ended January 2, 2021, compared primarily with the year ended December 28, 2019. This is an annual filing rather than a standalone fourth-quarter filing. Gates manufactures engineered power transmission and fluid power products, with approximately 64% of sales from replacement channels and 36% from first-fit original-equipment channels. The company operates through Power Transmission and Fluid Power segments and sells in more than 120 countries.
Financial Performance and Position
| Metric | Fiscal 2020 | Fiscal 2019 | Change |
|---|---|---|---|
| Net sales | $2,793.0 million | $3,087.1 million | Down 9.5% |
| Gross profit | $1,034.7 million | $1,142.5 million | Down 9.4% |
| Gross margin | 37.0% | 37.0% | Flat |
| Operating income | $211.1 million | $346.8 million | Down 39.1% |
| Income from continuing operations | $90.3 million | $694.7 million | Down substantially |
| Net income attributable to shareholders | $79.4 million | $690.1 million | Down substantially |
| Diluted EPS | $0.27 | $2.37 | Down |
| Adjusted EBITDA | $506.6 million | $611.0 million | Down 17.1% |
| Adjusted EBITDA margin | 18.1% | 19.8% | Down 170 bps |
| Cash flow from operations | $309.0 million | $348.9 million | Down $39.9 million |
| Capital expenditures | $67.4 million | $83.1 million | Down $15.7 million |
- Core sales declined 8.4%, excluding a $34.5 million adverse foreign-exchange impact. Favorable pricing contributed $16.1 million.
- Power Transmission sales declined 7.5% to $1,800.2 million, with Adjusted EBITDA down 14.4% to $353.0 million and margin down to 19.6%.
- Fluid Power sales declined 13.0% to $992.8 million, with Adjusted EBITDA down 22.6% to $153.6 million and margin down to 15.5%.
- Fiscal 2020 net income benefited from a $19.3 million income-tax benefit. Fiscal 2019 included an unusually large $495.9 million tax benefit, primarily associated with the release of valuation allowances during the European corporate reorganization; this makes year-over-year earnings comparisons less meaningful.
- Fiscal 2020 restructuring expenses were $43.9 million, including $37.3 million reported as restructuring expense, $5.2 million of fixed-asset impairments and $1.4 million of inventory impairment. These costs were primarily related to facility closures and organizational changes.
Liquidity, Debt and Balance Sheet
- Cash and cash equivalents were $521.4 million at January 2, 2021, down from $635.3 million.
- Principal debt was $2,720.8 million, down from $2,985.0 million. Net debt declined to $2,199.4 million from $2,349.7 million.
- The company prepaid $300.0 million of its Dollar Term Loan on December 31, 2020. Debt carrying value was $2,708.7 million.
- Committed borrowing headroom was $386.7 million, consisting of an undrawn $185.0 million revolving facility and $230.2 million of asset-backed borrowing capacity, reduced by outstanding letters of credit.
- There were no cash drawings under either revolving facility. The company stated that it had adequate liquidity and capital resources for the next twelve months and did not expect to draw on committed facilities in the foreseeable future.
- Term loans mature March 31, 2024, while the $568.0 million of 6.25% senior notes mature January 15, 2026. The company had no meaningful debt maturities until 2024, apart from scheduled amortization.
- Approximately 28.0% of outstanding debt, or $762.9 million after hedging, had variable interest rates. The company remains exposed to interest-rate and LIBOR/EURIBOR transition risk.
- Operating cash flow exceeded capital expenditures by approximately $241.6 million before other investing and financing items.
Material Changes Versus Fiscal 2019
- COVID-19 caused significant demand declines, temporary facility closures and supply-chain and logistics disruptions, particularly in the first half of 2020. Sales improved sequentially in the third and fourth quarters; fourth-quarter sales grew 8.7% year over year.
- Industrial sales declined by $153.3 million on a core basis, while automotive sales declined by $106.3 million. Industrial replacement sales declined by $91.1 million.
- Gross margin held at 37.0% despite lower volumes, but Adjusted EBITDA margin declined because of reduced fixed-cost absorption.
- Restructuring activity accelerated, including closure of a Korean manufacturing facility, two North American facilities and European office and distribution-center changes. The restructuring reserve was $17.9 million at year-end.
- Debt reduction was a significant use of financing cash flow, with $353.8 million of net cash used in financing activities versus $59.3 million in Fiscal 2019.
- The company’s net unfunded pension obligation improved to $24.5 million from $62.9 million, although defined-benefit plans remain a future cash requirement.
Outlook, Commentary, Risks and Unusual Items
- Management expected further improvement in the first quarter of 2021 compared with the fourth quarter of 2020, but stated that the timing and trajectory of the recovery remained uncertain.
- Management’s 2021 priorities were employee and customer safety, supply-chain and operational control, tight management of discretionary costs and continued funding of selected growth initiatives.
- COVID-19 risks include renewed facility closures, supplier insolvencies, shipping delays, weaker customer demand, delayed payments, labor constraints, cybersecurity threats and potential impairment charges.
- The company expects most restructuring costs to be incurred during 2020 and 2021. Management did not provide a specific revenue or earnings target in the filing text.
- Goodwill of $2,120.2 million and the $469.4 million brand and trade-name asset passed Fiscal 2020 impairment testing. However, the audit identified goodwill and intangible-asset valuation as a critical audit matter because of the sensitivity to sales-growth forecasts and pandemic-related uncertainty.
- The company has no current plans to pay dividends. Dividend payments and share repurchases are subject to board discretion, debt covenants and available distributable reserves.
- Blackstone-affiliated entities owned approximately 84.7% of the ordinary shares as of January 2, 2021, making Gates a controlled company and creating governance and shareholder-concentration risks.
- Environmental remediation, product liability, warranty, intellectual-property, tax and other legal proceedings arise in the ordinary course. Management reported no material amounts accrued and did not expect currently known matters to have a material adverse effect.
- Unrecognized income-tax benefits were $121.6 million, with $111.5 million of tax liabilities excluded from the contractual-obligations table because settlement timing was uncertain.
Most Important Facts for Investors to Verify
- Whether post-pandemic volume recovery is sustained and whether industrial and Fluid Power demand return to prior levels.
- Whether restructuring actions deliver the expected cost savings without impairing service levels, capacity or revenue.
- Refinancing and covenant requirements surrounding the substantial 2024 term-loan maturity, including exposure to variable rates and benchmark-rate transition.
- The sustainability of cash generation after debt service, pension contributions, restructuring costs and capital expenditures.
- The recoverability of goodwill, brand assets and deferred tax assets if recovery assumptions weaken.
- Potential effects of raw-material inflation, foreign-exchange movements, customer concentration and supply-chain disruption.
- The implications of Blackstone’s controlling ownership, limited dividend prospects and potential future share issuance.