# Modine Manufacturing Co: Form 10-Q for the period ended Dec 31, 2016

- Company: [Modine Manufacturing Co](/companies/mod.md) (CIK 67347)
- Form: 10-Q
- Filed: 2017-02-07
- Accepted by EDGAR: Feb 7, 2017, 15:24 ET
- Period: 2016-12-31
- Accession: 0001140361-17-004836
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/67347/000114036117004836/form10q.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/67347/000114036117004836/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2016-12-31.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2016-10-01 to 2016-12-31 | $349.8m | us-gaap:SalesRevenueNet |
| Revenue | 9 months, 2016-04-01 to 2016-12-31 | $1.01bn | us-gaap:SalesRevenueNet |
| Cost of revenue | 3 months, 2016-10-01 to 2016-12-31 | $291.1m | us-gaap:CostOfGoodsAndServicesSold |
| Cost of revenue | 9 months, 2016-04-01 to 2016-12-31 | $846.3m | us-gaap:CostOfGoodsAndServicesSold |
| Gross profit | 3 months, 2016-10-01 to 2016-12-31 | $58.7m | us-gaap:GrossProfit |
| Gross profit | 9 months, 2016-04-01 to 2016-12-31 | $168.4m | us-gaap:GrossProfit |
| Selling, general and administrative | 3 months, 2016-10-01 to 2016-12-31 | $51.1m | us-gaap:SellingGeneralAndAdministrativeExpense |
| Selling, general and administrative | 9 months, 2016-04-01 to 2016-12-31 | $144.4m | us-gaap:SellingGeneralAndAdministrativeExpense |
| Operating income | 3 months, 2016-10-01 to 2016-12-31 | $6.0m | us-gaap:OperatingIncomeLoss |
| Operating income | 9 months, 2016-04-01 to 2016-12-31 | $19.2m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2016-10-01 to 2016-12-31 | $4.5m | us-gaap:InterestExpense |
| Interest expense | 9 months, 2016-04-01 to 2016-12-31 | $10.5m | us-gaap:InterestExpense |
| Income tax | 3 months, 2016-10-01 to 2016-12-31 | −$700.0k | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 9 months, 2016-04-01 to 2016-12-31 | $1.3m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2016-10-01 to 2016-12-31 | $1.7m | us-gaap:NetIncomeLoss |
| Net income | 9 months, 2016-04-01 to 2016-12-31 | $6.2m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2016-10-01 to 2016-12-31 | $0.04 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 9 months, 2016-04-01 to 2016-12-31 | $0.13 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2016-10-01 to 2016-12-31 | $0.04 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 9 months, 2016-04-01 to 2016-12-31 | $0.13 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2016-10-01 to 2016-12-31 | 48,500,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 9 months, 2016-04-01 to 2016-12-31 | 47,700,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Capital expenditure | 9 months, 2016-04-01 to 2016-12-31 | $46.0m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Share repurchases | 9 months, 2016-04-01 to 2016-12-31 | $0 | us-gaap:PaymentsForRepurchaseOfCommonStock |
| Cash and equivalents | at 2016-12-31 | $50.0m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2016-12-31 | $494.1m | us-gaap:AssetsCurrent |
| Total assets | at 2016-12-31 | $1.39bn | us-gaap:Assets |
| Current liabilities | at 2016-12-31 | $393.3m | us-gaap:LiabilitiesCurrent |
| Total liabilities | at 2016-12-31 | $988.5m | us-gaap:Liabilities |
| Short-term borrowings | at 2016-12-31 | $70.6m | us-gaap:ShortTermBorrowings |
| Shareholders' equity | at 2016-12-31 | $397.8m | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 33,448 characters.

When we use the terms “Modine,” “we,” “us,” the “Company,” or “our” in this report, we are referring to Modine Manufacturing Company. Our fiscal year ends on March 31 and, accordingly, all references to quarters refer to our fiscal quarters. The quarter ended December 31, 2016 was the third quarter of fiscal 2017.

On November 30, 2016, we acquired Luvata Heat Transfer Solutions (“Luvata HTS”) for consideration totaling $415.6 million ($388.2 million, net of cash acquired). Luvata HTS is a leading global supplier of coils, coolers and coatings to the heating, ventilation, air conditioning, and refrigeration (“HVAC&R”) industry, with more than $500.0 million of net sales in calendar 2015. Our acquisition of Luvata HTS, in particular, addresses our “Diversify” and “Grow” commitments of our transformational Strengthen, Diversify and Grow strategy launched in fiscal 2016. We expect that the acquisition of Luvata HTS will increase our industrial business portfolio, broaden our customer base, reduce cyclical exposure, and expand our margin and growth profile. Commencing from the acquisition date, we have reported the financial results of Luvata HTS as the Commercial and Industrial Solutions (“CIS”) segment.

*Third Quarter Highlights:* Net sales in the third quarter of fiscal 2017 increased $21.1 million, or 6 percent, from the third quarter of fiscal 2016, primarily due to $34.7 million of incremental sales from our new CIS segment and higher sales volume to automotive customers, partially offset by lower sales volume to commercial vehicle and off-highway customers. Gross margin declined 100 basis points to 16.8 percent, primarily due to a $2.9 million inventory purchase accounting adjustment and unfavorable material costs driven by higher metals prices, partially offset by cost savings resulting from procurement initiatives. Selling, general and administrative (“SG&A”) expenses increased $7.8 million, primarily due to costs directly related to the acquisition of Luvata HTS. As a result, our net earnings of $1.9 million represent a $6.3 million decline compared with the same period in fiscal 2016.

*Year-to-Date Highlights:* Net sales in the first nine months of fiscal 2017 increased $5.9 million, or 1 percent, from the same period last year, primarily due to incremental sales from the CIS segment and higher sales volume to automotive customers, partially offset by lower sales volume to commercial vehicle and off-highway customers. Our gross margin and SG&A expenses, as compared with the prior year period, were favorably impacted by large pension settlement losses in the prior year. During fiscal 2016, we completed a voluntary lump-sum payout program offered to certain eligible former employees participating in our U.S. pension plans (see Note 4 of the Notes to Condensed Consolidated Financial Statements for additional information). As a result of this program, we recorded $40.3 million of non-cash pension settlement losses in the prior year to cost of sales ($8.5 million) and SG&A expenses ($31.8 million). Our year-to-date net earnings of $6.8 million represent a $15.6 million improvement compared with the same period in the prior year.

### CONSOLIDATED RESULTS OF OPERATIONS

The following table presents our consolidated financial results on a comparative basis for the three and nine months ended December 31, 2016 and 2015:

*(in millions)*

|  | Three months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales | Nine months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Net sales | $349.8 | 100.0% | $328.7 | 100.0% | $1,014.7 | 100.0% | $1,008.8 | 100.0% |
| Cost of sales | 291.1 | 83.2% | 270.1 | 82.2% | 846.3 | 83.4% | 847.5 | 84.0% |
| Gross profit | 58.7 | 16.8% | 58.6 | 17.8% | 168.4 | 16.6% | 161.3 | 16.0% |
| Selling, general and administrative expenses | 51.1 | 14.6% | 43.3 | 13.2% | 144.4 | 14.2% | 162.9 | 16.2% |
| Restructuring expenses | 1.6 | 0.5% | 1.6 | 0.5% | 6.0 | 0.6% | 5.2 | 0.5% |
| Gain on sale of facility | - | - | - | - | (1.2) | -0.1% | - | - |
| Operating income (loss) | 6.0 | 1.7% | 13.7 | 4.2% | 19.2 | 1.9% | (6.8) | -0.7% |
| Interest expense | (4.5) | -1.3% | (2.7) | -0.8% | (10.5) | -1.0% | (8.2) | -0.8% |
| Other expense – net | (0.3) | -0.1% | (0.4) | -0.1% | (0.6) | -0.1% | (0.5) | - |
| Earnings (loss) before income taxes | 1.2 | 0.3% | 10.6 | 3.2% | 8.1 | 0.8% | (15.5) | -1.5% |
| Benefit (provision) for income taxes | 0.7 | 0.2% | (2.4) | -0.7% | (1.3) | -0.1% | 6.7 | 0.7% |
| Net earnings (loss) | $1.9 | 0.5% | $8.2 | 2.5% | $6.8 | 0.7% | $(8.8) | -0.9% |

#### Comparison of Three Months Ended December 31, 2016 and 2015

Third quarter net sales of $349.8 million were $21.1 million, or 6 percent, higher than the third quarter of the prior year, primarily due to $34.7 million of incremental sales from the acquisition of Luvata HTS, which is reported in our CIS segment, and higher sales in our Asia segment, partially offset by lower sales in our Americas and Europe segments and a $4.2 million unfavorable impact of foreign currency exchange rate changes.

Third quarter gross profit increased $0.1 million, yet gross margin declined 100 basis points to 16.8 percent. The decline in gross margin was primarily due to a $2.9 million impact of an inventory purchase accounting adjustment, recorded at Corporate, related to sales of inventory that was written up to its estimated fair value upon acquisition, as well as unfavorable material costs driven by higher metals prices, partially offset by cost savings resulting from procurement initiatives. In addition, gross profit was negatively impacted by $0.7 million from foreign currency exchange rate changes. In the fourth quarter of fiscal 2017, we anticipate the inventory purchase accounting adjustment will negatively impact cost of sales by approximately $1.4 million.

SG&A expenses increased $7.8 million from the third quarter of fiscal 2016 to the third quarter of fiscal 2017, primarily due to $7.2 million of costs incurred directly related to the acquisition and integration of Luvata HTS, which consisted principally of costs for i) transaction advisors, ii) legal, accounting, and other professional services, and iii) incremental costs directly associated with integration activities, including third-party consulting fees, and $4.7 million of SG&A expenses in the CIS segment. These increases were partially offset by the absence of a $0.9 million pension settlement loss recognized in the prior year, lower compensation-related expenses, and a $0.6 million favorable impact of foreign currency exchange rate changes.

Restructuring expenses of $1.6 million in the third quarter of fiscal 2017 were consistent with the prior year and primarily consisted of costs related to plant consolidation activities in the Americas segment.

Operating income of $6.0 million in the third quarter of fiscal 2017 decreased $7.7 million compared with $13.7 million in the third quarter of fiscal 2016. This decline was primarily due to higher SG&A expenses associated with the acquisition of Luvata HTS.

Interest expense increased $1.8 million to $4.5 million in the third quarter of fiscal 2017, primarily due to new debt used to finance a significant portion of the acquisition of Luvata HTS. See Note 14 of the Notes to Condensed Consolidated Financial Statements for more information regarding our new credit agreements.

The benefit for income taxes was $0.7 million during the third quarter of fiscal 2017, compared with a provision for income taxes of $2.4 million in the third quarter of fiscal 2016. The $3.1 million change was primarily due to lower operating earnings.

Fiscal 2017 year-to-date net sales of $1,014.7 million were $5.9 million, or 1 percent, higher than the same period last year, primarily due to $34.7 million of incremental sales from the acquisition of Luvata HTS, which is reported as the CIS segment, and higher sales in our Asia and Europe segments, partially offset by lower sales in our Americas and Building HVAC segments.

Fiscal 2017 year-to-date gross profit of $168.4 million increased $7.1 million from the same period last year and gross margin improved 60 basis points to 16.6 percent. These increases were primarily due to the absence of $8.5 million of pension settlement losses recognized in the prior year and cost savings resulting from procurement initiatives, partially offset by the unfavorable impact of the $2.9 million inventory purchase accounting adjustment and temporary production inefficiencies in the Americas segment. Foreign currency exchange rate changes negatively impacted fiscal 2017 year-to-date gross profit by $1.3 million.

Fiscal 2017 year-to-date SG&A expenses decreased $18.5 million, or 11 percent, from the same period last year. The decrease was primarily due to the absence of $31.8 million of pension settlement losses recognized in the prior year, partially offset by $11.6 million of costs directly related to our acquisition and integration of Luvata HTS and $4.7 million of SG&A expenses in the CIS segment.

Restructuring expenses increased $0.8 million in the first nine months of fiscal 2017 compared with the prior year, primarily due to equipment transfer costs related to plant consolidation activities in the Americas segment.

During fiscal 2017, we sold a manufacturing facility within our Europe segment for cash proceeds of $4.3 million and recognized a $1.2 million gain as a result.

Operating income of $19.2 million during the first nine months of fiscal 2017 represents a $26.0 million improvement from an operating loss of $6.8 million in the same period last year, primarily due to the absence of the $40.3 million of pension settlement losses recognized in the prior year, partially offset by acquisition-related costs and the impact of the inventory purchase accounting adjustment totaling $14.5 million.

Interest expense increased $2.3 million to $10.5 million in the first nine months of fiscal 2017, primarily due to new debt used to finance a significant portion of the acquisition of Luvata HTS.

The provision for income taxes was $1.3 million during the first nine months of fiscal 2017, compared with a benefit for income taxes of $6.7 million in the prior year. The $8.0 million change was primarily due to $15.7 million of income tax benefits related to pension settlement losses in the prior year and a decrease in operating earnings. It is possible that approximately $6.0 million of the valuation allowance against our deferred tax assets in a foreign jurisdiction could be released in the fourth quarter of fiscal 2017 or in fiscal 2018. See Note 8 of the Notes to Condensed Consolidated Financial Statements for additional information regarding income tax valuation allowances.

#### SEGMENT RESULTS OF OPERATIONS

The following is a discussion of our segment results of operations for the three and nine months ended December 31, 2016 and 2015:

*(in millions)*

| Americas | Three months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales | Nine months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Net sales | $123.4 | 100.0% | $137.1 | 100.0% | $389.4 | 100.0% | $440.4 | 100.0% |
| Cost of sales | 105.1 | 85.2% | 114.4 | 83.5% | 330.2 | 84.8% | 367.6 | 83.5% |
| Gross profit | 18.3 | 14.8% | 22.7 | 16.5% | 59.2 | 15.2% | 72.8 | 16.5% |
| Selling, general and administrative expenses | 11.5 | 9.3% | 13.6 | 9.9% | 40.7 | 10.5% | 43.0 | 9.8% |
| Restructuring expenses | 1.4 | 1.1% | 1.4 | 1.0% | 5.2 | 1.3% | 5.0 | 1.1% |
| Operating income | $5.4 | 4.4% | $7.7 | 5.6% | $13.3 | 3.4% | $24.8 | 5.6% |

#### Comparison of Three Months Ended December 31, 2016 and 2015

Americas net sales decreased $13.7 million, or 10 percent, from the third quarter of fiscal 2016 to the third quarter of fiscal 2017, primarily due to lower sales volume to commercial vehicle and off-highway customers in North America and aftermarket customers in Brazil, partially offset by a $2.1 million favorable impact of foreign currency exchange rate changes. Gross profit decreased $4.4 million and gross margin decreased 170 basis points to 14.8 percent. These decreases were primarily due to lower sales volume and temporary production inefficiencies largely related to product launches and plant consolidation activities, partially offset by cost savings resulting from procurement initiatives and favorable material costs. SG&A expenses decreased $2.1 million, primarily due to a higher recovery of development costs and lower compensation-related expenses. Restructuring expenses in the third quarter of fiscal 2017 of $1.4 million consisted primarily of equipment transfer costs related to plant consolidation activities in North America. Operating income decreased $2.3 million, primarily due to lower gross profit, partially offset by lower SG&A expenses.

Americas year-to-date net sales decreased $51.0 million, or 12 percent, from the same period last year, primarily due to lower sales volume to commercial vehicle and off-highway customers, partially offset by higher sales volume to automotive customers and a $1.4 million favorable impact of foreign currency exchange rate changes. Gross profit decreased $13.6 million and gross margin decreased 130 basis points to 15.2 percent. These decreases were primarily due to lower sales volume and temporary production inefficiencies in North America, partially offset by favorable material costs and cost savings resulting from procurement initiatives. SG&A expenses decreased $2.3 million, primarily due to a higher recovery of development costs and lower compensation-related expenses, partially offset by a $1.6 million charge related to a legal matter in Brazil for which the Company has agreed to a settlement. Restructuring expenses of $5.2 million in fiscal 2017 consisted primarily of equipment transfer costs related to the plant consolidation activities and severance expenses. Operating income decreased $11.5 million to $13.3 million, primarily due to lower gross profit.

*(in millions)*

| Europe | Three months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales | Nine months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Net sales | $119.8 | 100.0% | $126.1 | 100.0% | $389.7 | 100.0% | $385.0 | 100.0% |
| Cost of sales | 101.3 | 84.6% | 108.9 | 86.3% | 329.9 | 84.7% | 338.0 | 87.8% |
| Gross profit | 18.5 | 15.4% | 17.2 | 13.7% | 59.8 | 15.3% | 47.0 | 12.2% |
| Selling, general and administrative expenses | 10.1 | 8.4% | 9.7 | 7.7% | 31.2 | 8.0% | 28.8 | 7.5% |
| Restructuring expenses (income) | 0.1 | 0.1% | (0.1) | - | (0.2) | -0.1% | (0.1) | - |
| Gain on sale of facility | - | - | - | - | (1.2) | -0.3% | - | - |
| Operating income | $8.3 | 6.9% | $7.6 | 6.0% | $30.0 | 7.7% | $18.3 | 4.8% |

#### Comparison of Three Months Ended December 31, 2016 and 2015

Europe net sales decreased $6.3 million, or 5 percent, from the third quarter of fiscal 2016 to the third quarter of fiscal 2017, primarily due to lower sales volume to commercial vehicle and off-highway customers and a $1.6 million unfavorable impact of foreign currency exchange rate changes, partially offset by higher sales volume to automotive customers. Gross profit increased $1.3 million and gross margin improved 170 basis points to 15.4 percent, primarily due to cost savings resulting from procurement initiatives, improved production efficiencies and favorable sales mix, partially offset by unfavorable material costs. SG&A expenses increased $0.4 million, primarily due to higher compensation-related expenses. Operating income increased $0.7 million to $8.3 million during the third quarter of fiscal 2017, primarily due to higher gross profit, partially offset by higher SG&A expenses.

Europe year-to-date net sales increased $4.7 million, or 1 percent, from the same period last year, primarily due to higher sales volume to automotive customers and a $1.7 million favorable impact of foreign currency exchange rate changes, partially offset by the planned wind down of certain automotive and commercial vehicle programs. Gross profit increased $12.8 million and gross margin improved 310 basis points to 15.3 percent, primarily due to cost savings resulting from procurement initiatives, favorable sales mix, and improved production efficiencies. SG&A expenses increased $2.4 million, primarily due to higher compensation-related expenses. During fiscal 2017, we sold a manufacturing facility for cash proceeds of $4.3 million and recorded a $1.2 million gain as a result. Operating income increased $11.7 million to $30.0 million, primarily due to higher gross profit.

*(in millions)*

| Asia | Three months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales | Nine months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Net sales | $28.6 | 100.0% | $18.7 | 100.0% | $78.2 | 100.0% | $56.1 | 100.0% |
| Cost of sales | 23.6 | 82.4% | 16.1 | 86.1% | 65.1 | 83.3% | 47.9 | 85.3% |
| Gross profit | 5.0 | 17.6% | 2.6 | 13.9% | 13.1 | 16.7% | 8.2 | 14.7% |
| Selling, general and administrative expenses | 2.4 | 8.4% | 2.7 | 14.2% | 8.2 | 10.4% | 9.1 | 16.3% |
| Operating income (loss) | $2.6 | 9.2% | $(0.1) | -0.3% | $4.9 | 6.3% | $(0.9) | -1.6% |

C*omparison of Three Months Ended December 31, 2016 and 2015*

Asia net sales increased $9.9 million, or 53 percent, from the third quarter of fiscal 2016 to the third quarter of fiscal 2017, primarily due to higher sales volume to automotive and off-highway customers in China and incremental sales from a joint venture formed in China during the fourth quarter of fiscal 2016, partially offset by a $1.3 million unfavorable impact of foreign currency exchange rate changes. Gross profit increased $2.4 million and gross margin improved 370 basis points to 17.6 percent, primarily due to higher sales volume. SG&A expenses decreased $0.3 million, primarily due to lower compensation-related expenses and the absence of acquisition-related costs incurred in the third quarter of fiscal 2016 associated with the recently-formed joint venture. Operating income of $2.6 million represents a $2.7 million improvement compared with the third quarter of fiscal 2016 and was primarily due to higher gross profit.

Asia year-to-date net sales increased $22.1 million, or 39 percent, from the same period last year, primarily due to higher sales volume to automotive and off-highway customers in China and incremental sales from our recently-formed joint venture in China, partially offset by a $3.4 million unfavorable impact of foreign currency exchange rate changes. Gross profit increased $4.9 million and gross margin improved 200 basis points to 16.7 percent, primarily due to higher sales volume. SG&A expenses decreased $0.9 million, primarily due to lower compensation-related expenses and the absence of the acquisition-related costs incurred in the prior year. Operating income of $4.9 million represents a $5.8 million improvement compared with the same period in fiscal 2016 and was primarily due to higher gross profit and lower SG&A expenses.

*(in millions)*

| Building HVAC | Three months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales | Nine months ended December 31, 2016 $'s | % of sales | 2015 $'s | % of sales |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Net sales | $47.2 | 100.0% | $50.9 | 100.0% | $132.8 | 100.0% | $141.0 | 100.0% |
| Cost of sales | 31.9 | 67.6% | 33.6 | 66.0% | 95.7 | 72.1% | 97.7 | 69.2% |
| Gross profit | 15.3 | 32.4% | 17.3 | 34.0% | 37.1 | 27.9% | 43.3 | 30.8% |
| Selling, general and administrative expenses | 8.5 | 18.1% | 10.4 | 20.5% | 26.1 | 19.7% | 30.4 | 21.6% |
| Restructuring expenses | 0.1 | 0.2% | 0.2 | 0.4% | 0.7 | 0.5% | 0.2 | 0.2% |
| Operating income | $6.7 | 14.1% | $6.7 | 13.1% | $10.3 | 7.7% | $12.7 | 9.0% |

#### Comparison of Three Months Ended December 31, 2016 and 2015

Building HVAC net sales decreased $3.7 million, or 7 percent, from the third quarter of fiscal 2016 to the third quarter of fiscal 2017, primarily due to a $3.4 million unfavorable impact of foreign currency exchange rate changes and lower heating and ventilation product sales in North America, partially offset by increased air conditioning product sales in the U.K. Gross profit decreased $2.0 million and gross margin declined 160 basis points to 32.4 percent, primarily due to unfavorable sales mix, unfavorable material costs and higher depreciation expense in the current year resulting from replacement assets associated with the Airedale fire, which were not yet in use during the third quarter of the prior year. In addition, gross profit was unfavorably impacted by $0.4 million from foreign currency exchange rate changes. SG&A expenses decreased $1.9 million, primarily due to lower compensation-related expenses, including the impact of previous headcount reductions, lower commission costs, and a $0.6 million favorable impact of foreign currency exchange rate changes. Restructuring expenses of $0.1 million in the third quarter of fiscal 2017 consisted of employee severance expenses. Operating income of $6.7 million during the third quarter of fiscal 2017 was consistent with the prior year, as lower gross profit was offset by lower SG&A expenses.

Building HVAC year-to-date net sales decreased $8.2 million, or 6 percent, from the same period last year, primarily due to a $8.1million unfavorable impact of foreign currency exchange rate changes and lower ventilation and heating product sales in North America, partially offset by increased air conditioning and ventilation product sales in the U.K. Gross profit decreased $6.2 million and gross margin declined 290 basis points to 27.9 percent, primarily due to unfavorable sales mix, unfavorable material costs, and higher depreciation expense in the current year resulting from replacement assets associated with the Airedale fire, which were not yet in use during the prior year. In addition, gross profit was unfavorably impacted by $1.1 million from foreign currency exchange rate changes. SG&A expenses decreased $4.3 million, primarily due to lower commission costs and compensation-related expenses and a $1.3 million favorable impact of foreign currency exchange rate changes. Restructuring expenses of $0.7 million consisted of employee severance expenses. Operating income of $10.3 million decreased $2.4 million compared with the prior year, primarily due to lower gross profit, partially offset by lower SG&A expenses.

#### Liquidity and Capital Resources

Our primary sources of liquidity are cash flow from operating activities, our cash and cash equivalents at December 31, 2016 of $50.0 million, and an available borrowing capacity of $155.5 million under lines of credit provided by banks in the United States and abroad. Given our extensive international operations, approximately $45.0 million of our cash and cash equivalents are held by our non-U.S. subsidiaries. Amounts held by non-U.S. subsidiaries are available for general corporate use; however, these funds may be subject to U.S. tax if repatriated. We have not encountered, and do not expect to encounter, any difficulty meeting the liquidity requirements of our global operations.

Net cash provided by operating activities for the nine months ended December 31, 2016 was $35.0 million, which was a $30.4 million decrease compared with the same period in the prior year. This decrease in operating cash flow was primarily due to payments for acquisition-related and restructuring costs, unfavorable net changes in working capital, and lower operating earnings in the current year, considering the pension settlement losses in the prior year were non-cash charges. Capital expenditures of $46.0 million during the first nine months of fiscal 2017 increased $3.7 million compared with the same period in fiscal 2016, primarily due to tooling and equipment purchases to support new product launches.

In November 2016, we completed our acquisition of Luvata HTS and financed the $363.9 million of cash consideration, net of cash acquired, through a combination of new long-term debt, cash on hand, and borrowings under our revolving credit facility. See Note 14 of the Notes to Condensed Consolidated Financial Statements for additional information regarding our new credit agreements.

#### Debt Covenants

Our debt agreements require us to maintain compliance with various covenants. The term loans require prepayments, as defined in the credit agreement, in the event the Company’s annual excess cash flow exceeds defined levels or in the event of certain asset sales. In addition, under our primary debt agreements in the U.S., we are subject to a leverage ratio covenant, which requires us to limit our consolidated indebtedness, less a portion of our cash balance, both as defined by the credit agreement, to no more than three and one-quarter times consolidated net earnings before interest, taxes, depreciation, amortization, and certain other adjustments (“Adjusted EBITDA”). As permitted by the credit agreements and in connection with our acquisition of Luvata HTS, the leverage ratio has been temporarily raised to no more than three and three-quarters times Adjusted EBITDA through the second quarter of fiscal 2018, and thereafter to no more than three and one-half times Adjusted EBITDA through the first quarter of fiscal 2019. We are also subject to an interest expense coverage ratio, which requires us to maintain Adjusted EBITDA of at least three times consolidated interest expense.

Our leverage ratio at December 31, 2016 was 2.8, which was below the maximum permitted ratio of 3.75. Our interest expense coverage ratio at December 31, 2016 was 7.2, which exceeded the minimum requirement of 3.0. We were in compliance with our debt covenants as of December 31, 2016 and expect to remain in compliance during the balance of fiscal 2017 and beyond.

#### Forward-Looking Statements

This report, including, but not limited to, the discussion under Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains statements, including information about future financial performance, accompanied by phrases such as “believes,” “estimates,” “expects,” “plans,” “anticipates,” “intends,” and other similar “forward-looking” statements, as defined in the Private Securities Litigation Reform Act of 1995. Modine’s actual results, performance or achievements may differ materially from those expressed or implied in these statements, because of certain risks and uncertainties, including, but not limited to, those described under “Risk Factors” in Item 1A. in Part I. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2016. Other risks and uncertainties include, but are not limited to, the following:

#### Market Risks:

- Economic, social and political conditions, changes, challenges and unrest, particularly in the geographic, product and financial markets where we and our customers operate and compete, including, in particular, foreign currency exchange rate fluctuations, tariffs, inflation, changes in interest rates, recession and recovery therefrom, restrictions and uncertainty associated with crossborder trade, and, in particular, the continuing recovery and/or instability of certain markets in which we operate in China and North America, the continued deterioration in and weak forecasts for the Brazilian economy, and the general uncertainties about the impact of potential regulatory and/or policy changes, including those related to tax and trade, that may be implemented in the United States, as well as continuing uncertainty regarding the longer-term implications of “Brexit”;
- The impact of potential increases in commodity prices, including our ability to successfully manage our exposure and/or pass increasing prices of aluminum, copper, steel and stainless steel (nickel) on to customers, as well as the inherent lag in timing of such pass-through arrangements; and
- The impact of current and future environmental laws and regulations on our business and the businesses of our customers, including our ability to take advantage of opportunities to supply alternative new technologies to meet environmental and/or energy standards and objectives.

#### Operational Risks:

- Our ability to integrate the former Luvata HTS operations into Modine, realize cost and revenue synergies in accordance with our expectations, and effectively manage any unanticipated risks that arise, while also maintaining appropriate focus on the rest of Modine’s business;
- The overall health and continually increasing price-down focus of our original equipment manufacturer customers in light of economic and market-specific factors, and the potential impact on us from any deterioration in the stability or performance of any of our major customers;
- Our ability to maintain current customer programs and compete effectively for new business, including our ability to offset or otherwise address increasing pricing pressures from competitors and price reduction and overall service pressures from customers, particularly in the face of macro-economic instability;
- Our ability to effectively and efficiently realize expected commercial and operational efficiencies and associated cost savings and other benefits associated with our Strengthen, Diversify and Grow transformational strategy;
- Unanticipated product or manufacturing difficulties or inefficiencies, including unanticipated program launch and product transfer challenges and warranty claims;
- Our ability to consistently obtain and retain profitable business in our Asia segment, and, in particular, in China;
- Unanticipated delays or modifications initiated by major customers with respect to product launches, product applications or requirements;
- Unanticipated problems with suppliers meeting our time, quantity, quality and price demands, and the overall health of our suppliers, particularly in light of some continuing economic challenges in areas of the world in which we and our suppliers operate;
- Our ability to consistently structure our operations in order to develop and maintain a competitive cost base with appropriately skilled and stable labor pools, while also positioning ourselves geographically, so that we can continue to support our customers with the technical expertise and market-leading products they demand and expect from Modine;
- Our ability to complete the transition of our Washington, Iowa production to other facilities efficiently and effectively;
- Costs and other effects of the investigation and remediation of environmental contamination;
- Increasingly complex and restrictive laws and regulations, including those associated with being a U.S. public company and others present in various jurisdictions in which we operate, and the costs associated with compliance therewith, not only for Modine’s current operations, but also for the recently-acquired Luvata HTS operations;
- Work stoppages or interference at our facilities or those of our major customers and/or suppliers; and
- Costs and other effects of unanticipated litigation, claims, or other obligations, including those associated with our acquisition of Luvata HTS, and the constant and increasing pressures associated with healthcare and insurance costs.

#### Strategic Risks:

- Our ability to successfully increase our presence in and focus on the “industrial” markets, with our Building HVAC Systems and Commercial and Industrial Solutions businesses, without shifting attention away from the Vehicular Thermal Systems business, where we enjoy and desire to preserve a leading position; and
- Our ability to identify and execute additional growth and diversification opportunities following the Luvata HTS integration in order to position us for long-term success.

#### Financial Risks:

- Our ability to fund our global liquidity requirements efficiently for Modine’s current operations, particularly those in our Asia business segment, and meet our long-term commitments in the event of any unexpected disruption in or tightening of the credit markets or extended recessionary conditions in the global economy;
- Our ability to bring our leverage ratio (net debt divided by Adjusted EBITDA, as defined in our credit agreements) back into our target range of 1.5-2.5x in an efficient manner following our acquisition of Luvata HTS;
- Costs arising from the integration of Luvata HTS and the timing and impact of purchase accounting adjustments;
- The impact of foreign currency exchange rate fluctuations, particularly the value of the euro, Brazilian real, and British pound, relative to the U.S. dollar; and
- Our ability to effectively realize the benefits of tax assets in various jurisdictions in which we operate.

In addition to the risks set forth above, we are subject to other risks and uncertainties as identified in our public filings with the U.S. Securities and Exchange Commission. We do not assume any obligation to update any forward-looking statements.

## Market risk

As filed, 452 characters.

The Company’s quantitative and qualitative disclosures about market risk are incorporated by reference from Part II, Item 7A. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2016. Other than incremental interest rate risk associated with new debt borrowings used to finance a significant portion of its acquisition of Luvata HTS, the Company’s market risks have not materially changed since the fiscal 2016 Form 10-K was filed.

## Controls and procedures

As filed, 1,414 characters.

#### Evaluation Regarding Disclosure Controls and Procedures

As of the end of the period covered by this quarterly report on Form 10-Q, the Company carried out an evaluation, at the direction of the General Counsel and under the supervision of the Company’s President and Chief Executive Officer and Vice President, Finance and Chief Financial Officer, of the effectiveness of the Company’s disclosure controls and procedures as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e), with the participation of the Company’s management. Based upon that evaluation, the President and Chief Executive Officer and Vice President, Finance and Chief Financial Officer concluded that the design and operation of the Company’s disclosure controls and procedures are effective as of December 31, 2016.

#### Changes in Internal Control Over Financial Reporting

On November 30, 2016, the Company acquired Luvata HTS. As part of its post-closing integration activities, the Company is engaged in assessing, refining and harmonizing the internal controls and processes of the acquired business with those of the Company.

Except for the change described above, there were no other changes in the Company’s internal control over financial reporting during the third quarter of fiscal 2017 that materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Filed Feb 7, 2017.
Source: SEC EDGAR, the filing index for accession 0001140361-17-004836. Last ingested by Listed: Nov 4, 2026, 20:14 ET. No prices; not investment advice.