Air Products & Chemicals, Inc. (APD) FY 2023 MD&A

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

This Management’s Discussion and Analysis contains “forward-looking statements” within the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, including statements about business outlook. These forward-looking statements are based on management’s expectations and assumptions as of the date of this Annual Report on Form 10-K and are not guarantees of future performance. Actual performance and financial results may differ materially from projections and estimates expressed in the forward-looking statements because of many factors not anticipated by management, including, without limitation, those described in "Forward-Looking Statements" and Item 1A, Risk Factors, of this Annual Report on Form 10-K.

This discussion should be read in conjunction with the consolidated financial statements and the accompanying notes contained in this Annual Report on Form 10-K. Unless otherwise stated, financial information is presented in millions of U.S. Dollars, except for per share data. Except for net income, which includes the results of discontinued operations, financial information is presented on a continuing operations basis.

The financial measures discussed below are presented in accordance with U.S. generally accepted accounting principles ("GAAP"), except as noted. We present certain financial measures on an "adjusted," or "non-GAAP," basis because we believe such measures, when viewed together with financial results computed in accordance with GAAP, provide a more complete understanding of the factors and trends affecting our historical financial performance. For each non-GAAP financial measure, including adjusted diluted earnings per share ("EPS"), adjusted EBITDA, adjusted EBITDA margin, adjusted effective tax rate, and capital expenditures, we present a reconciliation to the most directly comparable financial measure calculated in accordance with GAAP. These reconciliations and explanations regarding the use of non-GAAP measures are presented under the “Reconciliations of Non-GAAP Financial Measures” section beginning on page 33.

Comparisons included in the discussion that follows are for fiscal year 2023 versus ("vs.") fiscal year 2022. A discussion of changes from fiscal year 2021 to fiscal year 2022 and other financial information related to fiscal year 2021 is available in Part II, Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, of our Annual Report on Form 10-K for the fiscal year ended 30 September 2022, which was filed with the SEC on 22 November 2022.

For information concerning activity with our related parties, refer to Note 24, Supplemental Information, to the consolidated financial statements.

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BUSINESS OVERVIEW

Founded in 1940, Air Products and Chemicals, Inc. is a world-leading industrial gases company that has built a reputation for its innovative culture, operational excellence, and commitment to safety and the environment. Approximately 23,000 passionate, talented, and committed employees from diverse backgrounds together are driven by Air Products’ higher purpose to create innovative solutions that benefit the environment, enhance sustainability, and reimagine what is possible to address the challenges facing customers, communities, and the world.

Our products and services enable our customers to improve their environmental performance, product quality, and productivity. Our core business provides essential gases, related equipment, and applications expertise to customers in dozens of industries, including refining, chemicals, metals, electronics, manufacturing, medical, and food. We also develop, engineer, build, own, and operate some of the world’s largest clean hydrogen projects that will support the transition to low- and zero-carbon energy in the heavy-duty transportation and industrial sectors. Additionally, we are the world leader in the supply of LNG process technology and equipment and provide turbomachinery, membrane systems, and cryogenic containers globally. For additional information on our product and service offerings, including production, distribution, and end use, refer to Item 1, Business, of this Annual Report on Form 10-K.

Air Products conducts business in approximately 50 countries and regions throughout the world. Our industrial gases business is organized and operated regionally in the Americas, Asia, Europe, and Middle East and India segments and generates the majority of our sales via our on-site and merchant supply modes. Approximately half our total revenue is generated through the on-site supply mode, which is governed by contracts that are generally long-term in nature with provisions that allow us to pass through changes in energy costs to our customers. Our Corporate and other segment includes the results of our sale of equipment businesses, costs for corporate support functions and global management activities, and other income and expenses not directly associated with the regional segments, such as foreign exchange gains and losses. For additional information regarding our supply modes and business segments, refer to Note 6, Revenue Recognition, and Note 25, Business Segment and Geographic Information, to the consolidated financial statements.

2023 IN SUMMARY

In fiscal year 2023, we achieved earnings growth through pricing discipline in our merchant business as well as improved on-site volumes, including higher demand for hydrogen, despite inflation, higher maintenance activities, and higher costs to support our long-term strategy. Due to the structure of our contracts, which generally contain fixed monthly charges and/or minimum purchase requirements, our on-site business generates stable cash flow and consistently contributes about half our total sales, regardless of the economic environment. We also recognized higher income from our equity affiliates due to the contribution of the second phase of the Jazan gasification and power project and positive results from other unconsolidated joint ventures across the regions.

Additionally, we successfully secured capital to fund low- and zero-carbon hydrogen growth projects. In March, we issued our inaugural green bonds in concurrent $600 and €700 million debt offerings, making Air Products the first U.S. chemical company to qualify green and blue hydrogen projects as an eligible expenditure category. Additionally, in May, our NEOM Green Hydrogen Company joint venture completed financial close on the world’s largest green hydrogen-based ammonia production facility, securing $6.1 billion of non-recourse financing from local, regional, and international banks and financial institutions. This funding is an important strategic milestone that will allow us to continue executing projects that will accelerate the energy transition while creating long-term value for our shareholders.

In addition to investing in high return projects, we believe creating shareholder value includes paying quarterly cash dividends on our common stock, which we have increased for 41 consecutive years. In fiscal year 2023, we increased our dividend to $1.75 per share, representing an 8% increase, or $0.13 per share, from the previous dividend of $1.62 per share.

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Fiscal Year 2023 Highlights

•Sales of $12.6 billion decreased 1%, or $98.6, as lower energy cost pass-through to customers of 6% and unfavorable currency of 3% were mostly offset by higher pricing of 5% and higher volumes of 3%.

•Operating income of $2.5 billion increased 7%, or $155.8, as our pricing actions and higher volumes were partially offset by higher costs and unfavorable currency. Additionally, we recorded higher charges for business and asset actions in fiscal year 2023 compared to fiscal year 2022. Operating margin of 19.8% increased 140 basis points ("bp") from 18.4% in the prior year, which included a positive impact from lower energy cost pass-through to customers in 2023.

•Equity affiliates' income of $604.3 increased 26%, or $122.8, primarily due to a higher contribution from the Jazan Integrated Gasification and Power Company ("JIGPC") joint venture, which completed the second phase of the asset purchase associated with the Jazan gasification and power project in January 2023, as well as higher income from our affiliates in Italy and Mexico. The prior year included recognition of the remaining deferred profit associated with air separation units previously sold to Jazan Gas Project Company, which was partially offset by an impairment charge related to two small affiliates in our Asia segment.

•Net income of $2.3 billion increased 3%, or $72.1, primarily due to favorable pricing, net of power and fuel costs, partially offset by a charge for business and asset actions, higher non-service pension costs, and higher other costs. Net income margin of 18.6% increased 80 bp from 17.8% in the prior year, which included a positive impact from lower energy cost pass-through.

•Adjusted EBITDA of $4.7 billion increased 11%, or $454.8, and adjusted EBITDA margin of 37.3% increased 390 bp from 33.4% in the prior year.

•Diluted EPS of $10.30 increased 2%, or $0.22 per share, and adjusted diluted EPS of $11.51 increased 12%, or $1.26 per share. A summary table of changes in diluted EPS is presented below.

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Changes in Diluted EPS Attributable to Air Products

The per share impacts presented in the table below were calculated independently and may not sum to the total change in diluted EPS due to rounding.

The table below summarizes the diluted per share impact of our non-GAAP adjustments in fiscal years 2023 and 2022:

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OUTLOOK

The guidance below should be read in conjunction with the Forward-Looking Statements of this Annual Report on Form 10-K.

The first pillar of our two-pillar growth strategy is our core industrial gas business, which is supported by a consistent stream of revenue due to the structure of our on-site contracts. We expect new on-site projects, including the natural gas-to-syngas processing facility in Uzbekistan, as well as several new LNG sale of equipment projects to contribute to our results in 2024. To mitigate the impact of ongoing inflationary pressures, we are focused on actions we can control, such as maintaining pricing discipline in our merchant business. Additionally, we expect to see cost improvement in certain areas of our organization as a result of strategic business actions taken earlier in 2023.

The second pillar of our strategy is our blue and green hydrogen projects, many of which are already under execution. We anticipate benefits from tax incentives created by the U.S. Inflation Reduction Act of 2022 for carbon sequestration and clean hydrogen production in future years once our projects in these areas come on-stream, such as our blue hydrogen and blue ammonia clean energy complex in Louisiana. We are also gaining support from foreign regulators for our projects outside the U.S., including the recently announced blue hydrogen project in the Netherlands. We believe the infrastructure readiness we are preparing now will continue to be a competitive advantage for Air Products, allowing us to create sustainable growth opportunities that deliver value to our shareholders, customers, employees, and communities around the world.

RESULTS OF OPERATIONS

DISCUSSION OF CONSOLIDATED RESULTS

Sales

The table below summarizes the major factors that impacted consolidated sales for the periods presented:

Sales of $12.6 billion decreased 1%, or $98.6, as lower energy cost pass-through to customers of 6% and unfavorable currency of 3% were mostly offset by higher pricing of 5% and higher volumes of 3%. Lower natural gas prices in the Americas and Europe segments drove the lower energy cost pass-through to our on-site customers. Unfavorable currency was primarily attributable to strengthening of the U.S. Dollar against the Chinese Renminbi. Pricing actions in our merchant business improved sales across each of our regional segments, while the volume improvement was primarily attributable to our on-site business in the Americas and Asia segments.

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Cost of Sales and Gross Margin

Cost of sales of $8.8 billion decreased 5%, or $505.5, due to lower energy cost pass-through to customers of $791 and a favorable impact from currency of $213, partially offset by higher costs associated with sales volumes of $311 and unfavorable other costs of $188. The unfavorable costs were driven by inflation, project development activities, and planned maintenance. Gross margin of 29.9% increased 340 bp from 26.5% in the prior year primarily due to favorable pricing and lower energy cost pass-through to customers, partially offset by the impact of higher costs. The favorable impact from lower energy cost pass-through to customers was about 200 bp.

Selling and Administrative Expense

Selling and administrative expense of $957.0 increased 6%, or $56.4, primarily due to higher employee compensation, inflation, and additional costs to support growth, partially offset by a favorable impact from currency. Selling and administrative expense as a percentage of sales increased to 7.6% from 7.1% in the prior year.

Research and Development Expense

Research and development expense of $105.6 increased 3%, or $2.7. Research and development expense as a percentage of sales of 0.8% was flat versus the prior year.

Business and Asset Actions

In fiscal year 2023, we recorded a charge of $244.6 ($204.9 attributable to Air Products after tax, or $0.92 per share) for strategic actions intended to optimize costs and focus resources on our growth projects. Of the expense, $217.6 resulted from noncash charges to write off assets associated with exited projects that were previously under construction. The remaining expense included $27.0 for severance and other benefits associated with position eliminations and restructuring of certain organizations globally. Refer to Note 4, Business and Asset Actions, for additional information.

In fiscal year 2022, we divested our small industrial gas business in Russia due to Russia's invasion of Ukraine. As a result, we recorded a noncash charge of $73.7 ($61.0 after tax, or $0.27 per share), which included transaction costs and cumulative currency translation losses.

Other Income (Expense), Net

Other income of $34.8 decreased 38%, or $21.1, primarily due to lower income from the sale of assets and fees charged to our equity affiliates for use of patents and technology as well as an unfavorable foreign exchange impact.

Operating Income and Margin

Operating income of $2.5 billion increased 7%, or $155.8. Positive pricing, net of power and fuel costs, of $649 and higher volumes of $58 were partially offset by higher costs of $302 and an unfavorable currency impact of $78. The higher costs were driven by inflation, planned maintenance, and incentive compensation, as well as project development and other costs related to the execution of our growth strategy. Additionally, as discussed above, we recorded higher charges for business and asset actions in fiscal year 2023 compared to fiscal year 2022. Operating margin of 19.8% increased 140 bp from 18.4% in the prior year, primarily due to the impact of pricing as well as lower energy cost pass-through to customers, which positively impacted margin by about 100 basis points, partially offset by higher charges for business and asset actions and higher other costs.

Equity Affiliates’ Income

Equity affiliates' income of $604.3 increased 26%, or $122.8, primarily due to a higher contribution from the JIGPC joint venture, which completed the second phase of the asset purchase associated with the Jazan gasification and power project in January 2023, as well as higher income from our affiliates in Italy and Mexico. Additionally, the prior year included an impairment charge of $14.8 ($11.1 after tax, or $0.05 per share) related to two small affiliates in the Asia segment. These impacts were partially offset by the prior year recognition of the remaining deferred profit associated with air separation units previously sold to Jazan Gas Project Company, net of other project finalization costs.

For additional information on our equity affiliates, refer to Note 9, Equity Affiliates, to the consolidated financial statements.

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Interest Expense

Interest incurred increased 73%, or $123.9, driven by a higher average interest rate on variable-rate instruments in our debt portfolio as well as a higher debt balance, which is largely attributable to the U.S. Dollar- and Euro-denominated fixed-rate notes issued in March 2023 under our new Green Finance Framework as well as borrowings on our foreign credit facilities. Capitalized interest increased $74.4 due to a higher carrying value of projects under construction.

Other Non-Operating Income (Expense), Net

Other non-operating expense was $39.0 versus income of $62.4 in the prior year primarily due to higher non-service pension costs in 2023, which were driven by higher interest cost and lower expected returns on plan assets for the U.S. salaried pension plan and the U.K. pension plan. This impact was partially offset by higher interest income on cash and cash items due to higher interest rates.

Discontinued Operations

Income from discontinued operations, net of tax, was $7.4 ($0.03 per share) and $12.6 ($0.06 per share) in fiscal years 2023 and 2022, respectively. This primarily resulted from the release of unrecognized tax benefits on uncertain tax positions taken with respect to the sale of our former Performance Materials Division for which the statute of limitations expired.

Net Income and Net Income Margin

Net income of $2.3 billion increased 3%, or $72.1, primarily due to favorable pricing, net of power and fuel costs, partially offset by the charge for business and asset actions, higher non-service pension costs, and higher other costs. Net income margin of 18.6% increased 80 bp from 17.8% in the prior year due to the factors noted above as well as lower energy cost pass-through to customers, which positively impacted margin by about 100 bp.

Adjusted EBITDA and Adjusted EBITDA Margin

Adjusted EBITDA of $4.7 billion increased 11%, or $454.8, primarily due to higher pricing, net of power and fuel costs, partially offset by higher costs. Adjusted EBITDA margin of 37.3% increased 390 bp from 33.4% in the prior year due to the factors noted above as well as lower energy cost pass-through to customers, which positively impacted margin by about 200 bp.

Effective Tax Rate

The effective tax rate equals the income tax provision divided by income from continuing operations before taxes. Refer to Note 23, Income Taxes, to the consolidated financial statements for details on factors affecting the effective tax rate.

Our effective tax rate was 19.1% and 18.2% for the fiscal years ended 30 September 2023 and 2022, respectively. During fiscal year 2023, we recorded a charge for business and asset actions of $244.6 ($204.9 attributable to Air Products after tax). Refer to Note 4, Business and Asset Actions, to the consolidated financial statements for additional information. The charge included certain losses for which we could not recognize an income tax benefit and were subject to a valuation allowance of $36.0. Partially offsetting the valuation allowance cost was a $15.9 income tax benefit from a tax election related to a non-U.S. subsidiary.

Our effective tax rate for the current year was higher due to lower excess tax benefits on share-based compensation and the discrete tax impact of our business and asset actions discussed above. In addition, certain recurring income tax benefits had less of an impact on our effective tax rate in the current year as they did not increase in proportion to the increase in income. Our current rate is also higher due to nonrecurring benefits in several foreign jurisdictions due to the impact of tax rate changes and productivity credit claims in the prior year.

Our adjusted effective tax rate, which does not include the impact of our business and asset actions discussed above, was 18.9% and 18.1% for the fiscal years ended 30 September 2023 and 2022, respectively.

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DISCUSSION OF RESULTS BY BUSINESS SEGMENT

Americas

The table below summarizes the major factors that impacted sales in the Americas segment for the periods presented:

Sales of $5.4 billion were flat as higher volumes of 6% and higher pricing of 6% were offset by lower energy cost pass-through to customers of 11% and an unfavorable currency impact of 1%. The volume improvement was primarily attributable to our on-site business, including better demand for hydrogen. Additionally, we recovered higher costs in our merchant business through continued focus on pricing actions. Energy cost pass-through to our on-site customers was lower due to lower natural gas prices.

Operating income of $1.4 billion increased 23%, or $265.3, due to positive pricing, net of power and fuel costs, of $306 and favorable volumes of $78, partially offset by higher costs of $112 and an unfavorable currency impact of $7. Higher costs were driven by inflation, planned maintenance, and higher incentive compensation. Operating margin of 26.8% increased 490 bp from 21.9% in the prior year primarily due to favorable pricing and lower energy cost pass-through to customers, partially offset by higher costs. The favorable impact from lower energy cost pass-through to customers was about 250 bp.

Equity affiliates’ income of $109.2 increased 11%, or $11.0, driven by an affiliate in Mexico.

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Asia

The table below summarizes the major factors that impacted sales in the Asia segment for the periods presented:

Sales of $3.2 billion increased 2%, or $72.8, due to higher volumes of 3%, positive pricing of 3%, and higher energy cost pass-through to customers of 2%, partially offset by unfavorable currency impacts of 6%. Positive volume contributions from several new traditional industrial gas plants in our on-site business were partially offset by weak economic growth in China and lower activity in the electronics manufacturing industry. Higher power costs across the region were recovered by our merchant pricing actions. In our on-site business, the higher power costs increased energy cost pass-through to our customers. The unfavorable currency impact was primarily attributable to the strengthening of the U.S. Dollar against the Chinese Renminbi.

Operating income of $906.5 increased 1%, or $8.2, due to positive pricing, net of power and fuel costs, of $59 and higher volumes of $31, partially offset by an unfavorable currency impact of $56 and higher costs of $26. The higher costs were driven by project development, higher planned maintenance, and inflation. Operating margin of 28.2% decreased 40 bp from 28.6% in the prior year as higher costs were partially offset by our pricing actions.

Equity affiliates’ income of $29.7 increased 34%, or $7.6, driven by an affiliate in Thailand.

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Europe

The table below summarizes the major factors that impacted sales in the Europe segment for the periods presented:

Sales of $3.0 billion decreased 4%, or $123.0, due to lower energy cost pass-through to customers of 9% and an unfavorable currency impact of 2%, partially offset by higher pricing of 7%. Energy cost pass-through to our on-site customers was lower, reflecting lower natural gas prices across the region. Currency negatively impacted sales due to the strengthening of the U.S. Dollar against the Euro and the British Pound Sterling. The pricing improvement was attributable to our merchant business. Volumes were flat as improvement in hydrogen in our on-site business was offset by lower demand for merchant products.

Operating income of $663.4 increased 32%, or $160.0, as higher pricing, net of power and fuel costs, of $275 was partially offset by higher costs of $100 driven by inflation, higher incentive compensation, and planned maintenance, unfavorable business mix of $8, and an unfavorable currency impact of $7. Operating margin of 22.4% increased 610 bp from 16.3% in the prior year due to the factors noted above as well as lower energy cost pass-through to customers, which positively impacted margin by about 100 bp.

Equity affiliates’ income of $102.5 increased 31%, or $24.3, driven by an affiliate in Italy.

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Middle East and India

Sales of $162.5 increased 25%, or $33.0, driven by higher merchant volumes. Despite higher sales, operating income of $16.9 decreased 20%, or $4.2, primarily due to higher costs for business development and planned maintenance.

Equity affiliates' income of $349.8 increased 19%, or $55.9. In January 2023, we made an additional investment in the JIGPC joint venture, which completed the second phase of the asset purchase associated with the Jazan gasification and power project. The resulting higher contribution from JIGPC was partially offset by a prior year net benefit recognized for the remaining deferred profit associated with air separation units previously sold to Jazan Gas Project Company, net of other project finalization costs.

Corporate and other

Sales of $889.0 decreased 8%, or $81.8, and operating loss of $287.3 increased $102.6, primarily due to lower contributions from our sale of equipment businesses. Our Corporate and other segment also incurs costs to provide corporate support functions and global management activities that benefit all segments, which have increased to support our growth strategy.

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RECONCILIATIONS OF NON-GAAP FINANCIAL MEASURES

(Millions of U.S. Dollars unless otherwise indicated, except for per share data)

We present certain financial measures, other than in accordance with U.S. generally accepted accounting principles ("GAAP"), on an "adjusted" or "non-GAAP" basis. On a consolidated basis, these measures include adjusted diluted earnings per share ("EPS"), adjusted EBITDA, adjusted EBITDA margin, the adjusted effective tax rate, and capital expenditures. On a segment basis, these measures include adjusted EBITDA and adjusted EBITDA margin. In addition to these measures, we also present certain supplemental non-GAAP financial measures to help the reader understand the impact that certain disclosed items, or "non-GAAP adjustments," have on the calculation of our adjusted diluted EPS. For each non-GAAP financial measure, we present a reconciliation to the most directly comparable financial measure calculated in accordance with GAAP.

In many cases, non-GAAP financial measures are determined by adjusting the most directly comparable GAAP measure to exclude non-GAAP adjustments that we believe are not representative of our underlying business performance. For example, we exclude the impact of the non-service components of net periodic benefit/cost for our defined benefit pension plans as further discussed below. Additionally, we may exclude certain expenses associated with cost reduction actions, impairment charges, and gains on disclosed transactions. The reader should be aware that we may recognize similar losses or gains in the future.

When applicable, the tax impact of our pre-tax non-GAAP adjustments reflects the expected current and deferred income tax impact of our non-GAAP adjustments. These tax impacts are primarily driven by the statutory tax rate of the various relevant jurisdictions and the taxability of the adjustments in those jurisdictions.

We provide these non-GAAP financial measures to allow investors, potential investors, securities analysts, and others to evaluate the performance of our business in the same manner as our management. We believe these measures, when viewed together with financial results computed in accordance with GAAP, provide a more complete understanding of the factors and trends affecting our historical financial performance and projected future results. However, we caution readers not to consider these measures in isolation or as a substitute for the most directly comparable measures calculated in accordance with GAAP. Readers should also consider the limitations associated with these non-GAAP financial measures, including the potential lack of comparability of these measures from one company to another.

NON-GAAP ADJUSTMENT FOR NON-SERVICE PENSION COST (BENEFIT), NET

Our adjusted EPS and the adjusted effective tax rate exclude the impact of non-service related components of net periodic benefit/cost for our defined benefit pension plans. The prior year non-GAAP financial measures presented above and reconciled below have been recast accordingly to conform to the fiscal year 2023 presentation. Non-service related components are recurring, non-operating items that include interest cost, expected returns on plan assets, prior service cost amortization, actuarial loss amortization, as well as special termination benefits, curtailments, and settlements. The net impact of non-service related components is reflected within “Other non-operating income (expense), net” on our consolidated income statements. Adjusting for the impact of non-service pension components provides management and users of our financial statements with a more accurate representation of our underlying business performance because these components are driven by factors that are unrelated to our operations, such as recent changes to the allocation of our pension plan assets associated with de-risking as well as volatility in equity and debt markets. Further, non-service related components are not indicative of our defined benefit plans’ future contribution needs due to the funded status of the plans.

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ADJUSTED DILUTED EPS

The table below provides a reconciliation to the most directly comparable GAAP measure for each of the major components used to calculate adjusted diluted EPS from continuing operations, which we view as a key performance metric. In periods that we have non-GAAP adjustments, we believe it is important for the reader to understand the per share impact of each such adjustment because management does not consider these impacts when evaluating underlying business performance. Per share impacts are calculated independently and may not sum to total diluted EPS and total adjusted diluted EPS due to rounding.

(A ) Charge includes $5.0 attributable to noncontrolling interests.

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ADJUSTED EBITDA AND ADJUSTED EBITDA MARGIN

We define adjusted EBITDA as net income less income from discontinued operations, net of tax, and excluding non-GAAP adjustments, which we do not believe to be indicative of underlying business trends, before interest expense, other non-operating income (expense), net, income tax provision, and depreciation and amortization expense. Adjusted EBITDA and adjusted EBITDA margin provide useful metrics for management to assess operating performance. Margins are calculated independently for each period by dividing each line item by consolidated sales for the respective period and may not sum to total margin due to rounding.

The tables below present consolidated sales and a reconciliation of net income on a GAAP basis to adjusted EBITDA and net income margin on a GAAP basis to adjusted EBITDA margin:

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The tables below present sales and a reconciliation of operating income and operating margin by segment to adjusted EBITDA and adjusted EBITDA margin by segment for the fiscal years ended 30 September 2023 and 2022:

Americas

Asia

Europe

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Middle East and India

Corporate and other

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ADJUSTED EFFECTIVE TAX RATE

The effective tax rate equals the income tax provision divided by income from continuing operations before taxes. We calculate our adjusted effective tax rate by adjusting the numerator and denominator to exclude the tax and before tax impacts of our non-GAAP adjustments, respectively. The table below presents a reconciliation of the GAAP effective tax rate to our adjusted effective tax rate:

CAPITAL EXPENDITURES

Capital expenditures is a non-GAAP financial measure that we define as the sum of cash flows for additions to plant and equipment, including long-term deposits, acquisitions (less cash acquired), investment in and advances to unconsolidated affiliates, and investment in financing receivables on our consolidated statements of cash flows. Additionally, we adjust additions to plant and equipment to exclude NEOM Green Hydrogen Company (“NGHC”) expenditures funded by the joint venture's non-recourse project financing as well as our partners’ equity contributions to arrive at a measure that we believe is more representative of our investment activities. Substantially all the funding we provide to NGHC is limited for use by the venture for capital expenditures.

A reconciliation of cash used for investing activities to our reported capital expenditures is provided below:

(A)Reflects the portion of "Additions to plant and equipment, including long-term deposits" that is associated with NGHC, less our approximate cash investment in the joint venture.

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LIQUIDITY AND CAPITAL RESOURCES

We believe we have sufficient cash, cash flows from operations, and funding sources to meet our liquidity needs. As further discussed in the "Cash Flows From Financing Activities" section below, we have the ability to raise capital through a variety of financing activities, including accessing capital or commercial paper markets or drawing upon our credit facilities.

As of 30 September 2023, we had $1,497.1 of foreign cash and cash items compared to total cash and cash items of $1,617.0. We do not expect that a significant portion of the earnings of our foreign subsidiaries and affiliates will be subject to U.S. income tax upon repatriation to the U.S. Depending on the country in which the subsidiaries and affiliates reside, the repatriation of these earnings may be subject to foreign withholding and other taxes. However, since we have significant current investment plans outside the U.S., it is our intent to permanently reinvest the majority of our foreign cash and cash items that would be subject to additional taxes outside the U.S.

Cash Flows From Operations

In fiscal year 2023, cash provided by operating activities was $3,205.7. Business and asset actions of $244.6 included noncash charges to write off assets related to our exit from certain projects previously under construction as well as an expense for severance and other benefits. Refer to Note 4, Business and Asset Actions, to the consolidated financial statements for additional information. The impacts associated with our operating leases are reflected within "Other adjustments," which included a lump-sum payment of $209 for a land lease associated with the NGHC joint venture. Working capital accounts resulted in a net use of cash of $424.8. The use of cash of $213.3 within payables and accrued liabilities primarily resulted from lower prices for the purchase of natural gas, a decrease in value of derivatives that hedge intercompany loans, and payments for incentive compensation under the fiscal year 2022 plan. Inventories resulted in a use of cash of $129.4 primarily due to additional packaged gases inventory, including helium. The use of cash of $119.0 within other working capital was primarily driven by the timing of income tax payments. The source of cash of $130.7 from trade receivables was primarily attributable to collection of higher natural gas costs contractually passed through to on-site customers in fiscal year 2023.

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In fiscal year 2022, cash provided by operating activities was $3,170.6. Undistributed earnings of equity method investments of $214.7 reflects activity from the JIGPC joint venture, which began contributing to our results in late October 2021. We received cash distributions of approximately $155 from this joint venture during fiscal year 2022. Other adjustments of $304.9 included adjustments for noncash currency impacts of intercompany balances, deferred costs associated with new projects, contributions to pension plans, and payments made for leasing activities. Working capital accounts resulted in a net use of cash of $115.8. The use of cash of $475.2 within trade receivables included the impacts of higher underlying sales and higher natural gas costs passed through to our on-site customers. The source of cash of $532.5 within payables and accrued liabilities primarily resulted from higher natural gas costs and customer advances for sale of equipment projects. Other working capital accounts resulted in a use of cash of $77.0 primarily due to contract fulfillment costs and the timing of income tax payments.

Cash Flows From Investing Activities

In fiscal year 2023, cash used for investing activities was $5,916.4. The use of cash primarily resulted from capital expenditures of $4,626.4 for additions to plant and equipment, including long-term deposits, investments in and advances to unconsolidated affiliates of $912.0, and investments in financing receivables of $665.1. Refer to the Capital Expenditures section below for further detail. Maturities of time deposits and short-term treasury securities provided cash of $897.0, which exceeded purchases of investments of $640.1.

In fiscal year 2022, cash used for investing activities was $3,857.2. Capital expenditures primarily included $2,926.5 for additions to plant and equipment, including long-term deposits, and $1,658.4 for investments in and advances to unconsolidated affiliates. Proceeds from investments of $2,377.4 resulted from maturities of time deposits and short-term treasury securities and exceeded purchases of investments of $1,637.8.

Capital Expenditures

The components of our capital expenditures are detailed in the table below. Refer to page 38 for a definition of this non-GAAP measure as well as a reconciliation to cash used for investing activities.

(A)Includes contributions from noncontrolling partners in consolidated subsidiaries as discussed below.

(B)Reflects the portion of "Additions to plant and equipment, including long-term deposits" that is associated with NGHC, less our approximate cash investment in the joint venture.

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Capital expenditures in fiscal year 2023 totaled $5,224.4 compared to $4,650.0 in fiscal year 2022. The increase of $574.4 was driven by spending for plant and equipment, which was largely attributable to purchases associated with our low- and zero-carbon hydrogen projects, as well as ongoing maintenance capital spending. Higher spending for plant and equipment was partially offset by lower investments in and advances to unconsolidated affiliates, as the second phase of our investment in JIGPC of $908 in fiscal year 2023 was lower than the initial investment of $1.6 billion completed in fiscal year 2022. These investments included approximately $130 and $73 in fiscal years 2023 and 2022, respectively, received from a noncontrolling partner in one of our subsidiaries. We expect to complete a remaining investment of approximately $115. Refer to Note 9, Equity Affiliates, to the consolidated financial statements for additional information. Fiscal year 2023 also included an investment in financing receivables of $665.1, primarily for progress payments towards the purchase of a natural gas-to-syngas processing facility in Uzbekistan. Refer to Note 5, Acquisitions, to the consolidated financial statements for additional information.

Outlook for Investing Activities

It is not possible, without unreasonable efforts, to reconcile our forecasted capital expenditures to future cash used for investing activities because we are unable to identify the timing or occurrence of our future investment activity, which is driven by our assessment of competing opportunities at the time we enter into transactions. These decisions, either individually or in the aggregate, could have a significant effect on our cash used for investing activities.

We expect capital expenditures for fiscal year 2024 to be approximately $5.0 billion to $5.5 billion, which is driven by clean hydrogen and sustainable aviation fuel projects such as those being executed in California and Louisiana, United States, as well as Alberta, Canada. We anticipate capital expenditures to be funded with our current cash balance, cash generated from continuing operations, and additional financing activities.

As of the end of fiscal year 2023, we have committed capital of approximately $15 billion to projects intended to accelerate the energy transition. These low- and zero-carbon hydrogen and other first mover projects demonstrate our commitment to making investments that will make a meaningful difference on climate issues, allowing us to support our customers’ sustainability journeys, conserve resources, and care for our employees and communities.

Cash Flows From Financing Activities

In fiscal year 2023, cash provided by financing activities was $1,609.6. As further discussed below, the source of cash was primarily attributable to long-term debt proceeds of $3,516.2 as well as an increase in commercial paper and short-term borrowings of $268.2. These cash inflows were partially offset by dividend payments to shareholders of $1,496.6 and payments on long-term debt of $615.4.

The long-term debt proceeds included proceeds from our inaugural multi-currency green bonds that were issued during the second quarter in concurrent U.S. Dollar- and Euro-denominated fixed-rate note offerings with aggregate principal amounts of $600 and €700 million, respectively. Consistent with our Green Finance Framework, we have allocated the net proceeds to finance or refinance, in whole or in part, existing or future projects that are expected to have environmental benefits, including those related to pollution prevention and control, renewable energy generation and procurement, and sustainable aviation fuel. We expect to issue our first allocation report in 2024. Additionally, as further discussed below, the NGHC joint venture borrowed approximately $1.4 billion. These proceeds were partially offset by financing fees of approximately $150, which are reflected within "Other financing activities". Refer to the Credit Facilities section below as well as Note 16, Debt, to the consolidated financial statements for additional information.

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In fiscal year 2022, cash used for financing activities was $1,000.6. The use of cash was primarily driven by dividend payments to shareholders of $1,383.3 and payments on long-term debt of $400.0 for the repayment of a 3.0% Senior Note. These uses of cash were partially offset by long-term debt proceeds and short-term borrowings of $766.2 and $17.9, respectively.

Financing and Capital Structure

Total debt increased from $7,644.8 as of 30 September 2022 to $10,305.8 as of 30 September 2023, primarily due to non-recourse project financing secured by the NGHC joint venture for construction of the NEOM Green Hydrogen project, issuance of our inaugural green U.S. Dollar- and Euro-denominated fixed-rate notes, and an increase in outstanding commercial paper. Total debt includes related party debt of $328.3 and $781.0 as of 30 September 2023 and 30 September 2022, respectively.

Various debt agreements to which we are a party include financial covenants and other restrictions, including restrictions pertaining to the ability to create property liens and enter into certain sale and leaseback transactions. As of 30 September 2023, we were in compliance with all of the financial and other covenants under our debt agreements.

2021 Credit Agreement

We have a five-year $2.75 billion revolving credit agreement maturing 31 March 2026 with a syndicate of banks (the “2021 Credit Agreement”), under which senior unsecured debt is available to us and certain of our subsidiaries. The 2021 Credit Agreement provides a source of liquidity and supports our commercial paper program. No borrowings were outstanding under the 2021 Credit Agreement as of 30 September 2023. At this time, we do not expect to access the facility for additional liquidity.

The only financial covenant in the 2021 Credit Agreement is a maximum ratio of total debt to total capitalization (equal to total debt plus total equity) not to exceed 70%. The 2021 Credit Agreement defines total debt as the aggregate principal amount of all indebtedness, excluding limited recourse debt of any project finance subsidiary. Accordingly, this calculation does not consider borrowings associated with NGHC. Total debt to total capitalization was 36.6% and 35.8% as of 30 September 2023 and 30 September 2022, respectively.

Foreign Credit Facilities

We also have credit facilities available to certain of our foreign subsidiaries totaling $1,596.8, of which $1,041.4 was borrowed and outstanding as of 30 September 2023. The amount borrowed and outstanding as of 30 September 2022 was $457.5. The increase from 30 September 2022 was driven by borrowings on a new variable-rate Saudi Riyal loan facility that matures in October 2026. The interest rate on the facility is based on the Saudi Arabian Interbank Offered Rate plus an annual margin of 1.35%. We entered into this facility in October 2022 and utilized a portion of the proceeds to repay a variable-rate 4.10% Saudi Riyal Loan Facility of $195.6, which was presented within long-term debt on our consolidated balance sheet as of 30 September 2022.

NEOM Green Hydrogen Project Financing

In May 2023, NGHC secured non-recourse project financing of approximately $6.1 billion, which is expected to fund approximately 73% of the NEOM Green Hydrogen Project and will be drawn over the construction period. At the same time, NGHC secured additional non-recourse credit facilities totaling approximately $500 primarily for working capital needs. As of 30 September 2023, the joint venture had borrowed $1.4 billion of the available financing. Refer to Note 3, Variable Interest Entities, to the consolidated financial statements for additional information.

Dividends

The Board of Directors determines whether to declare cash dividends on our common stock and the timing and amount based on financial condition and other factors it deems relevant. In fiscal year 2023, the Board of Directors increased the quarterly dividend to $1.75 per share, representing an 8% increase, or $0.13 per share, from the previous dividend of $1.62 per share. We expect to continue increasing our quarterly dividend as we have done for the last 41 consecutive years.

Dividends are paid quarterly, usually during the sixth week after the close of the fiscal quarter. On 21 July 2023, the Board of Directors declared a quarterly dividend of $1.75 per share that was payable on 13 November 2023 to shareholders of record at the close of business on 2 October 2023. On 15 November 2023, the Board of Directors declared a quarterly dividend of $1.75 per share that is payable on 12 February 2024 to shareholders of record at the close of business on 2 January 2024.

Discontinued Operations

In fiscal years 2023 and 2022, cash provided by operating activities of discontinued operations of $0.6 and $59.6, respectively, resulted from cash received as part of state tax refunds related to the sale of our former Performance Materials Division in fiscal year 2017.

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PENSION BENEFITS

We and certain of our subsidiaries sponsor defined benefit pension plans and defined contribution plans that cover a substantial portion of our worldwide employees. The principal defined benefit pension plans are the U.S. salaried pension plan and the U.K. pension plan. These plans were closed to new participants in 2005, after which defined contribution plans were offered to new employees. The shift to defined contribution plans is expected to continue to reduce volatility of both plan expense and contributions. For additional information, refer to Note 17, Retirement Benefits, to the consolidated financial statements.

Net Periodic Cost (Benefit)

The table below summarizes the components of net periodic cost/benefit for our U.S. and international defined benefit pension plans for the fiscal years ended 30 September:

Net periodic cost was $110.9 in fiscal year 2023 versus a benefit of $3.6 in the prior year. The increased costs from the prior year were primarily attributable to higher non-service costs, which were driven by higher interest cost and lower expected returns on plan assets due to a smaller beginning balance of plan assets. The net impact of non-service related items are reflected within "Other non-operating income (expense), net" on our consolidated income statements.

Service costs result from benefits earned by active employees and are reflected as operating expenses primarily within "Cost of sales" and "Selling and administrative expense" on our consolidated income statements. The amount of service costs capitalized in fiscal years 2023 and 2022 was not material.

The table below summarizes the assumptions used in the calculation of net periodic cost/benefit for the fiscal years ended 30 September:

2024 Outlook

In fiscal year 2024, we expect to recognize pension expense of approximately $120 to $130 primarily driven by approximately $100 to $110 of non-service related costs, including lower estimated expected returns on plan assets due to a smaller beginning balance of plan assets and higher interest cost, partially offset by a decrease in actuarial loss amortization.

In fiscal year 2023, we recognized net actuarial losses of $4.4 in other comprehensive income. Actuarial gains and losses are amortized into pension expense over prospective periods to the extent they are not offset by future gains or losses. Future changes in the discount rate and actual returns on plan assets could impact the actuarial gain or loss and resulting amortization in years beyond fiscal year 2024.

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Pension Funding

Funded Status

The projected benefit obligation represents the actuarial present value of benefits attributable to employee service rendered to date, including the effects of estimated future salary increases. The plan funded status is calculated as the difference between the projected benefit obligation and the fair value of plan assets at the end of the period.

The table below summarizes the projected benefit obligation, the fair value of plan assets, and the funded status for our U.S. and international plans as of 30 September:

The net unfunded liability of $78.2 as of 30 September 2023 increased $15.9 from $62.3 as of 30 September 2022, as increases to the projected benefit obligation from the service and interest cost components of net period pension cost were greater than actuarial gains from higher discount rates.

Company Contributions

Pension funding includes both contributions to funded plans and benefit payments for unfunded plans, which are primarily non-qualified plans. With respect to funded plans, our funding policy is that contributions, combined with appreciation and earnings, will be sufficient to pay benefits without creating unnecessary surpluses.

In addition, we make contributions to satisfy all legal funding requirements while managing our capacity to benefit from tax deductions attributable to plan contributions. With the assistance of third-party actuaries, we analyze the liabilities and demographics of each plan, which help guide the level of contributions. During 2023 and 2022, our cash contributions to funded pension plans and benefit payments for unfunded pension plans were $32.6 and $44.7, respectively.

For fiscal year 2024, cash contributions to defined benefit plans are estimated to be $35 to $45. The estimate is based on expected contributions to certain international plans and anticipated benefit payments for unfunded plans, which are dependent upon the timing of retirements. Actual future contributions will depend on future funding legislation, discount rates, investment performance, plan design, and various other factors.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Refer to Note 1, Basis of Presentation and Major Accounting Policies, and Note 2, New Accounting Guidance, to the consolidated financial statements for a description of our major accounting policies and information concerning implementation and impact of new accounting guidance.

The accounting policies discussed below are those policies that we consider to be the most critical to understanding our financial statements because they require management's most difficult, subjective, or complex judgments, often as the result of the need to make estimates about the effects of matters that are inherently uncertain. These estimates reflect our best judgment about current and/or future economic and market conditions and their effect based on information available as of the date of our consolidated financial statements. If conditions change, actual results may differ materially from these estimates. Our management has reviewed these critical accounting policies and estimates and related disclosures with the Audit and Finance Committee of our Board of Directors.

Depreciable Lives of Plant and Equipment

Plant and equipment, net at 30 September 2023 totaled $17,472.1, and depreciation expense totaled $1,325.8 during fiscal year 2023. Plant and equipment is recorded at cost and depreciated using the straight-line method, which deducts equal amounts of the cost of each asset from earnings every year over its estimated economic useful life.

Economic useful life is the duration of time an asset is expected to be productively employed by us, which may be less than its physical life. Assumptions on the following factors, among others, affect the determination of estimated economic useful life: wear and tear, obsolescence, technical standards, contract life, market demand, competitive position, raw material availability, and geographic location.

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The estimated economic useful life of an asset is monitored to determine its appropriateness, especially when business circumstances change. For example, changes in technology, changes in the estimated future demand for products, excessive wear and tear, or unanticipated government actions may result in a shorter estimated useful life than originally anticipated. In these cases, we would depreciate the remaining net book value over the new estimated remaining life, thereby increasing depreciation expense per year on a prospective basis. Likewise, if the estimated useful life is increased, the adjustment to the useful life decreases depreciation expense per year on a prospective basis.

Our regional segments have numerous long-term customer supply contracts for which we construct an on-site plant adjacent to or near the customer’s facility. These contracts typically have initial contract terms of 10 to 20 years. Depreciable lives of the production assets related to long-term supply contracts are generally matched to the contract lives. Extensions to the contract term of supply frequently occur prior to the expiration of the initial term. As contract terms are extended, the depreciable life of the associated production assets is adjusted to match the new contract term, as long as it does not exceed the remaining physical life of the asset.

Our regional segments also have contracts for liquid or gaseous bulk supply and, for smaller customers, packaged gases. The depreciable lives of production facilities associated with these contracts are generally 15 years. These depreciable lives have been determined based on historical experience combined with judgment on future assumptions such as technological advances, potential obsolescence, competitors’ actions, etc.

In addition, we may purchase assets through transactions accounted for as either an asset acquisition or a business combination. Depreciable lives are assigned to acquired assets based on the age and condition of the assets, the remaining duration of long-term supply contracts served by the assets, and our historical experience with similar assets. Management monitors its assumptions and may potentially need to adjust depreciable life as circumstances change.

Impairment of Assets

There were no triggering events in fiscal year 2023 that would require impairment testing for any of our asset groups, reporting units that contain goodwill, or indefinite-lived intangibles assets. We completed our annual impairment tests for goodwill and other indefinite-lived intangible assets and concluded there were no indications of impairment. Refer to the “Impairment of Assets” subsections below for additional detail.

Impairment of Assets: Plant and Equipment

Plant and equipment meeting the held for sale criteria are reported at the lower of carrying amount or fair value less cost to sell. Plant and equipment to be disposed of other than by sale may be reviewed for impairment upon the occurrence of certain triggering events, such as unexpected contract terminations or unexpected foreign government-imposed restrictions or expropriations. Plant and equipment held for use is grouped for impairment testing at the lowest level for which there is identifiable cash flows. Impairment testing of the asset group occurs whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. Such circumstances may include:

•a significant decrease in the market value of a long-lived asset grouping;

•a significant adverse change in the manner in which the asset grouping is being used or in its physical condition;

•an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of the long-lived asset;

•a reduction in revenues that is other than temporary;

•a history of operating or cash flow losses associated with the use of the asset grouping; or

•changes in the expected useful life of the long-lived assets.

If such circumstances are determined to exist, an estimate of undiscounted future cash flows produced by that asset group is compared to the carrying value to determine whether impairment exists. If an asset group is determined to be impaired, the loss is measured based on the difference between the asset group’s fair value and its carrying value. An estimate of the asset group’s fair value is based on the discounted value of its estimated cash flows.

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The assumptions underlying the undiscounted future cash flow projections require significant management judgment. Factors that management must estimate include industry and market conditions, sales volume and prices, costs to produce, inflation, etc. The assumptions underlying the cash flow projections represent management’s best estimates at the time of the impairment review and could include probability weighting of cash flow projections associated with multiple potential future scenarios. Changes in key assumptions or actual conditions that differ from estimates could result in an impairment charge. We use reasonable and supportable assumptions when performing impairment reviews and cannot predict the occurrence of future events and circumstances that could result in impairment charges.

In fiscal year 2023, there was no need to test for impairment on any of our asset groupings as no events or changes in circumstances indicated that the carrying amount of our asset groupings may not be recoverable.

Impairment of Assets: Goodwill

The acquisition method of accounting for business combinations requires us to make use of estimates and judgments to allocate the purchase price paid for acquisitions to the fair value of the net tangible and identifiable intangible assets. Goodwill represents the excess of the aggregate purchase price (plus the fair value of any noncontrolling interest and previously held equity interest in the acquiree) over the fair value of identifiable net assets of an acquired entity. Goodwill was $861.7 as of 30 September 2023. Disclosures related to goodwill are included in Note 11, Goodwill, to the consolidated financial statements.

We review goodwill for impairment annually in the fourth quarter of the fiscal year and whenever events or changes in circumstances indicate that the carrying value of goodwill might not be recoverable. The tests are done at the reporting unit level, which is defined as being equal to or one level below the operating segment for which discrete financial information is available and whose operating results are reviewed by segment managers regularly. We have five reportable business segments, seven operating segments and 11 reporting units, eight of which include a goodwill balance. Refer to Note 25, Business Segment and Geographic Information, for additional information. Reporting units are primarily based on products and subregions within each reportable segment. The majority of our goodwill is assigned to reporting units within our regional industrial gases segments.

As part of the goodwill impairment testing, we have the option to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value. However, we choose to bypass the qualitative assessment and conduct quantitative testing to determine if the carrying value of the reporting unit exceeds its fair value. An impairment loss will be recognized for the amount by which the carrying value of the reporting unit exceeds its fair value, not to exceed the total amount of goodwill allocated to that reporting unit.

To determine the fair value of a reporting unit, we initially use an income approach valuation model, representing the present value of estimated future cash flows. Our valuation model uses a discrete growth period and an estimated exit trading multiple. The income approach is an appropriate valuation method due to our capital-intensive nature, the long-term contractual nature of our business, and the relatively consistent cash flows generated by our reporting units. The principal assumptions utilized in our income approach valuation model include revenue growth rates, operating profit and/or adjusted EBITDA margins, discount rate, and exit multiple. Projected revenue growth rates and operating profit and/or adjusted EBITDA assumptions are consistent with those utilized in our operating plan and/or revised forecasts and long-term financial planning process. The discount rate assumption is calculated based on an estimated market-participant risk-adjusted weighted-average cost of capital, which includes factors such as the risk-free rate of return, cost of debt, and expected equity premiums. The exit multiple is determined from comparable industry transactions and where appropriate, reflects expected long-term growth rates.

If our initial review under the income approach indicates there may be impairment, we incorporate results under the market approach to further evaluate the existence of impairment. When the market approach is utilized, fair value is estimated based on market multiples of revenue and earnings derived from comparable publicly-traded industrial gases companies and/or regional manufacturing companies engaged in the same or similar lines of business as the reporting unit, adjusted to reflect differences in size and growth prospects. When both the income and market approach are utilized, we review relevant facts and circumstances and make a qualitative assessment to determine the proper weighting. Management judgment is required in the determination of each assumption utilized in the valuation model, and actual results could differ from the estimates.

In the fourth quarter of fiscal year 2023, we conducted our annual goodwill impairment test, noting no indications of impairment. The fair value of all our reporting units substantially exceeded their carrying value.

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Future events that could have a negative impact on the level of excess fair value over carrying value of the reporting units include, but are not limited to: long-term economic weakness, decline in market share, pricing pressures, inability to successfully implement cost improvement measures, increases to our cost of capital, changes in the strategy of the reporting unit, and changes to the structure of our business as a result of future reorganizations or divestitures of assets or businesses. Negative changes in one or more of these factors, among others, could result in impairment charges.

Impairment of Assets: Intangible Assets

Intangible assets, net with determinable lives at 30 September 2023 totaled $297.5 and consisted primarily of customer relationships, purchased patents and technology, and land use rights. These intangible assets are tested for impairment as part of the long-lived asset grouping impairment tests. Impairment testing of the asset group occurs whenever events or changes in circumstances indicate that the carrying value of the assets may not be recoverable. See the impairment discussion above under "Impairment of Assets – Plant and Equipment" for a description of how impairment losses are determined.

Indefinite-lived intangible assets at 30 September 2023 totaled $37.1 and consisted of trade names and trademarks. Indefinite-lived intangibles are subject to impairment testing at least annually or more frequently if events or changes in circumstances indicate that potential impairment exists. The impairment test for indefinite-lived intangible assets involves calculating the fair value of the indefinite-lived intangible assets and comparing the fair value to their carrying value. If the fair value is less than the carrying value, the difference is recorded as an impairment loss. To determine fair value, we utilize the royalty savings method, a form of the income approach. This method values an intangible asset by estimating the royalties avoided through ownership of the asset.

Disclosures related to intangible assets other than goodwill are included in Note 12, Intangible Assets, to the consolidated financial statements.

In the fourth quarter of fiscal year 2023, we conducted our annual impairment test of indefinite-lived intangibles, noting no indications of impairment.

Impairment of Assets: Equity Method Investments

Investments in and advances to equity affiliates totaled $4,617.8 at 30 September 2023. The majority of our equity method investments are ventures with other industrial gas companies. Summarized financial information of our equity affiliates is included in Note 9, Equity Affiliates, to the consolidated financial statements. We review our equity method investments for impairment whenever events or changes in circumstances indicate that the carrying amount of the investment may not be recoverable.

An impairment loss is recognized in the event that an other-than-temporary decline in fair value below the carrying value of an investment occurs. We estimate the fair value of our investments under the income approach, which considers the estimated discounted future cash flows expected to be generated by the investee, and/or the market approach, which considers market multiples of revenue and earnings derived from comparable publicly-traded industrial gas companies. Changes in key assumptions about the financial condition of an investee or actual conditions that differ from estimates could result in an impairment charge.

In fiscal year 2023, there was no need to test any of our equity affiliate investments for impairment as no events or changes in circumstances indicated that the carrying amount of the investments may not be recoverable.

Revenue Recognition: Cost Incurred Input Method

Revenue from equipment sale contracts is generally recognized over time as we have an enforceable right to payment for performance completed to date and our performance under the contract terms does not create an asset with alternative use. We use a cost incurred input method to recognize revenue by which costs incurred to date relative to total estimated costs at completion are used to measure progress toward satisfying performance obligations. Costs incurred include material, labor, and overhead costs and represent work contributing and proportionate to the transfer of control to the customer.

Accounting for contracts using the cost incurred input method requires management judgment relative to assessing risks and their impact on the estimates of revenues and costs. Our estimates are impacted by factors such as the potential for incentives or penalties on performance, schedule delays, technical issues, cost inflation, labor productivity, the complexity of work performed, the availability of materials, and performance of subcontractors. When adjustments in estimated total contract revenues or estimated total costs are required, any changes in the estimated profit from prior estimates are recognized in the current period for the inception-to-date effect of such change. When estimates of total costs to be incurred on a contract exceed estimates of total revenues to be earned, a provision for the entire estimated loss on the contract is recorded in the period in which the loss is determined.

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In addition to the typical risks associated with underlying performance of engineering, project procurement, and construction activities, our sale of equipment projects within our Corporate and other segment require monitoring of risks associated with schedule, geography, and other aspects of the contract and their effects on our estimates of total revenues and total costs to complete the contract.

Changes in estimates on projects accounted for under the cost incurred input method unfavorably impacted operating income by approximately $115 in fiscal year 2023 and $30 in fiscal year 2022.

We assess the performance of our sale of equipment projects as they progress. Our earnings could be positively or negatively impacted by changes to our contractual revenues and cost forecasts on these projects.

Revenue Recognition: On-site Customer Contracts

For customers who require large volumes of gases on a long-term basis, we produce and supply gases under long-term contracts from large facilities that we build, own, and operate on or near the customer’s facilities. Certain of these on-site contracts contain complex terms and provisions regarding tolling arrangements, minimum payment requirements, variable components, pricing provisions, and amendments, which require significant judgment to determine the amount and timing of revenue recognition.

Income Taxes

We account for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the tax effects of temporary differences between the financial reporting and tax basis of assets and liabilities measured using enacted tax rates in effect for the year in which the differences are expected to be recovered or settled. As of 30 September 2023, accrued income taxes, including the amount recorded as noncurrent, was $240.6, and net deferred tax liabilities were $1,106.4. Tax liabilities related to uncertain tax positions as of 30 September 2023 were $96.5, excluding interest and penalties. Income tax expense for the fiscal year ended 30 September 2023 was $551.2.

Management judgment is required concerning the ultimate outcome of tax contingencies and the realization of deferred tax assets.

Actual income taxes paid may vary from estimates, depending upon changes in income tax laws, actual results of operations, and the final audit of tax returns by taxing authorities. Tax assessments may arise several years after tax returns have been filed. We believe that our recorded tax liabilities adequately provide for these assessments.

Deferred tax assets are recorded for operating losses and tax credit carryforwards. However, when we do not expect sufficient sources of future taxable income to realize the benefit of the operating losses or tax credit carryforwards, these deferred tax assets are reduced by a valuation allowance. A valuation allowance is recognized if, based on the weight of available evidence, it is considered more likely than not that some portion or all of the deferred tax asset will not be realized. The factors used to assess the likelihood of realization include forecasted future taxable income and available tax planning strategies that could be implemented to realize or renew net deferred tax assets in order to avoid the potential loss of future tax benefits. The effect of a change in the valuation allowance is reported in income tax expense.

A 1% increase or decrease in our effective tax rate may result in a decrease or increase to net income, respectively, of approximately $29.

Disclosures related to income taxes are included in Note 23, Income Taxes, to the consolidated financial statements.

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Pension and Other Postretirement Benefits

The amounts recognized in the consolidated financial statements for pension and other postretirement benefits are determined on an actuarial basis utilizing numerous assumptions. The discussion that follows provides information on the significant assumptions, expense, and obligations associated with the defined benefit plans.

Actuarial models are used in calculating the expense and liability related to the various defined benefit plans. These models have an underlying assumption that the employees render service over their service lives on a relatively consistent basis; therefore, the expense of benefits earned should follow a similar pattern.

Several assumptions and statistical variables are used in the models to calculate the expense and liability related to the plans. We determine assumptions about the discount rate, the expected rate of return on plan assets, and the rate of compensation increase. Note 17, Retirement Benefits, to the consolidated financial statements includes disclosure of these rates on a weighted-average basis for both the U.S. and international plans. The actuarial models also use assumptions about demographic factors such as retirement age, mortality, and turnover rates. Mortality rates are based on the most recent U.S. and international mortality tables. We believe the actuarial assumptions are reasonable. However, actual results could vary materially from these actuarial assumptions due to economic events and differences in rates of retirement, mortality, and turnover.

One of the assumptions used in the actuarial models is the discount rate used to measure benefit obligations. This rate reflects the prevailing market rate for high-quality, fixed-income debt instruments with maturities corresponding to the expected timing of benefit payments as of the annual measurement date for each of the various plans. We measure the service cost and interest cost components of pension expense by applying spot rates along the yield curve to the relevant projected cash flows. The rates along the yield curve are used to discount the future cash flows of benefit obligations back to the measurement date. These rates change from year to year based on market conditions that affect corporate bond yields. A higher discount rate decreases the present value of the benefit obligations and results in lower pension expense. With respect to impacts on pension benefit obligations, a 50 bp increase or decrease in the discount rate may result in a decrease or increase, respectively, to pension expense of approximately $15 per year.

The expected rate of return on plan assets represents an estimate of the long-term average rate of return to be earned by plan assets reflecting current asset allocations. In determining estimated asset class returns, we take into account historical and future expected long-term returns and the value of active management, as well as the interest rate environment. Asset allocation is determined based on long-term return, volatility and correlation characteristics of the asset classes, the profiles of the plans’ liabilities, and acceptable levels of risk. Lower returns on the plan assets result in higher pension expense. A 50 bp increase or decrease in the estimated rate of return on plan assets may result in a decrease or increase, respectively, to pension expense of approximately $17 per year.

We use a market-related valuation method for recognizing certain investment gains or losses for our significant pension plans. Investment gains or losses are the difference between the expected return and actual return on plan assets. The expected return on plan assets is determined based on a market-related value of plan assets. This is a calculated value that recognizes investment gains and losses on equities over a five-year period from the year in which they occur and reduces year-to-year volatility. The market-related value for non-equity investments equals the actual fair value. Expense in future periods will be impacted as gains or losses are recognized in the market-related value of assets.

The expected rate of compensation increase is another key assumption. We determine this rate based on review of the underlying long-term salary increase trend characteristic of labor markets and historical experience, as well as comparison to peer companies. A 50 bp increase or decrease in the expected rate of compensation may result in an increase or decrease to pension expense, respectively, of approximately $4 per year.

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Loss Contingencies

In the normal course of business, we encounter contingencies, or situations involving varying degrees of uncertainty as to the outcome and effect on our company. We accrue a liability for loss contingencies when it is considered probable that a liability has been incurred and the amount of loss can be reasonably estimated. When only a range of possible loss can be established, the most probable amount in the range is accrued. If no amount within this range is a better estimate than any other amount within the range, the minimum amount in the range is accrued.

Contingencies include those associated with litigation and environmental matters, for which our accounting policy is discussed in Note 1, Basis of Presentation and Major Accounting Policies, to the consolidated financial statements, and details are provided in Note 18, Commitments and Contingencies, to the consolidated financial statements. Significant judgment is required to determine both the probability and whether the amount of loss associated with a contingency can be reasonably estimated. These determinations are made based on the best available information at the time. As additional information becomes available, we reassess probability and estimates of loss contingencies. Revisions to the estimates associated with loss contingencies could have a significant impact on our results of operations in the period in which an accrual for loss contingencies is recorded or adjusted. For example, due to the inherent uncertainties related to environmental exposures, a significant increase to environmental liabilities could occur if a new site is designated, the scope of remediation is increased, a different remediation alternative is identified, or our proportionate share of the liability increases. Similarly, a future charge for regulatory fines or damage awards associated with litigation could have a significant impact on our net income in the period in which it is recorded.