FOX FACTORY HOLDING CORP (FOXF) FY 2023 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the consolidated financial statements and related notes thereto included elsewhere in this Annual Report in Form 10-K. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those discussed below. You should review the “Risk Factors” and “Special Note Regarding Forward-Looking Statements” sections of this Annual Report on Form 10-K for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
Overview
We design, engineer, manufacture and market performance-defining products and systems for customers worldwide. Our premium brand, performance-defining products and systems are used primarily on bikes, side-by-sides, on-road vehicles with and without off-road capabilities, off-road vehicles and trucks, ATVs, snowmobiles, and specialty vehicles and applications. In addition, we also offer premium baseball and softball gear and equipment. Virtually all of our revenues were from our product sales; miscellaneous sources of revenue such as royalty income and service related repair work and the associated sale of parts represented less than 1% of our sales in each of the years ended December 29, 2023, December 30, 2022 and December 31, 2021.
We have determined that we operate in one reportable segment, which is the manufacturing, sale and service of performance-defining products. Our products fall into the following three categories:
•powered vehicles, including side-by-sides, certain on-road vehicles with and without off-road capabilities, off-road vehicles and trucks, ATVs, snowmobiles, specialty vehicles and applications, including military, motorcycles, and commercial trucks;
•aftermarket applications, mainly consisting of products for off-road vehicles and trucks, side-by-sides, on-road vehicles with or without off-road capabilities, specialty vehicles and applications as well as lift kits and components with our shock products and aftermarket accessory packages for use in trucks; and
•specialty sports products, which consist primarily of bike suspension, component products, and gear and equipment for baseball and softball.
In each of the years ended December 29, 2023, December 30, 2022 and December 31, 2021, approximately 36%, 27% and 28%, respectively, of our net sales were attributable to net sales of powered vehicles products; approximately 38%, 31%, and 28%, respectively, of our net sales were attributable to net sales of aftermarket application products and approximately 27%, 42% and 45%, respectively, of our net sales were attributable to sales of specialty sports products.
Our North American net sales totaled $1,127.6 million, $1,009.2 million and $811.3 million, or 77%, 63% and 62% of our total net sales in fiscal years 2023, 2022 and 2021, respectively. Our international net sales totaled $336.6 million, $593.3 million and $487.8 million, or 23%, 37% and 38% of our total net sales in fiscal years 2023, 2022 and 2021, respectively. Sales attributable to countries outside the U.S. are based on shipment location. Our international sales, however, do not necessarily reflect the location of the end users of our products as many of our products are incorporated into bikes that are assembled at international locations and then shipped back to the U.S. We estimate, based on our internal projections and assumptions, that approximately one-third of the end users of our bike products are located outside the U.S.
Opportunities, challenges and risks
We intend to focus on generating sales of our performance-defining products through OEMs, aftermarket, and retail channels. To do this, we intend to continue to develop and introduce new and innovative products in our current end-markets and we intend to selectively develop products for applications and end-markets in which we do not currently participate. Currently, the majority of our sales are dependent on the demand for performance-defining products.
Our aftermarket distribution network currently consists of more than 5,000 retail dealers and distributors worldwide. To further penetrate the aftermarket channel, we intend to selectively add additional dealers and distributors in certain geographic markets, expand our internal sales force and strategically increase the number of aftermarket specific products and services that we offer for existing vehicle platforms. In addition, we believe international expansion represents a significant opportunity for us and we intend to selectively increase infrastructure investments and focus on identified geographic regions.
As a supplier to OEM customers, we are largely dependent on the success of the business of our OEM customers. Model year changes by our OEM customers may adversely impact our sales or cause our sales to vary from quarter to quarter. Losses in market share or a decline in the overall market of our OEM customers or the discontinuance by our OEM customers of their products that incorporate our products could negatively impact our business and our results of operations.
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In the fourth quarter of 2021, we completed the construction of an approximately 336,000 square foot state-of-the-art facility in Hall County, Georgia (the “Gainesville Facility”), to diversify our manufacturing platform and provide additional long-term capacity to support growth in our Powered Vehicles Group. The Gainesville Facility is being used for manufacturing, warehousing, distribution and office space.
From time to time, we have experienced, and may continue to experience, warranty costs and claims relating to our products. In the ordinary course of business, we reserve for such costs and claims in our financial statements. There is a risk, however, that in the future we will experience higher than expected warranty costs and claims, as well as other related costs. Please read “Risks Related to Our Business and Operations - Product recalls, and significant product repair and/or replacement due to product warranty costs and claims have had, and in the future, could have, a material adverse impact on our business” within Item 1A. Risk Factors.
We intend to evaluate selective potential acquisition opportunities for performance-defining products and technologies that we believe will help us extend our performance-defining product platform. Any acquisitions that we might make are subject to various risks and uncertainties and could have a negative impact on our results of operations. In addition, we may contractually obligate ourselves to contingent consideration or acquisition related compensation payments in conjunction with such acquisitions, which could have a negative impact on our cash flow and results of operations. See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - Material Cash Requirements for additional information.
Basis of presentation
Composition of net sales
Sales from:
•Product sales: consist of sales of performance-defining products and systems to customers worldwide. Sales are measured based on the consideration specified in a contract with a customer. We recognize sales when a performance obligation is satisfied by transferring control of a product to a customer, generally at the time of shipment for most products and over the time it takes to complete certain upfit packages. Contracts are generally in the form of purchase orders and are governed by standard terms and conditions. For larger OEMs, we may also enter into master agreements; and
•Shipping and handling fees: consists of shipping and handling fees billed to customers.
Net of:
•Rebates: consists of incentives we provide to customers based on sales of eligible products; and
•Sales returns allowances: consists of an estimate of our sales returns. This allowance is based upon estimates of the projected returns in future periods based on our experience with returns recorded in previous periods. Sales returns have not been significant to date.
Cost of sales
The cost of sales includes the cost of purchased parts and manufactured products (raw materials consumed, the cost to procure materials, labor costs, including wages, and employee benefits, and factory overhead to produce finished good products), including:
•the costs to inspect and repair products;
•shipping costs associated with inbound freight (such costs are capitalized as part of inventory and included in cost of sales as the inventory is sold);
•royalty expenses, including payments to certain parties for our use of licensed technology incorporated into our products;
•freight expenses incurred for certain shipments to customers;
•warranty costs associated with the repair or replacement of products under warranty; and
•reductions in the cost of inventory to its net realizable value, if required, for estimated excess, obsolescence or impaired balances.
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Gross profit/gross margin
Our gross profit equals our net sales minus cost of sales. Our gross margin measures our gross profit as a percentage of net sales.
Our gross margins fluctuate based on production volumes, product, customer and channel mix and overall supply chain and manufacturing efficiencies. Generally, we earn higher gross margins on our products sold to the aftermarket channel.
Operating expenses
Our operating expenses consist of the following:
•sales and marketing;
•research and development;
•general and administrative; and
•amortization of purchased intangibles.
Our sales and marketing expenses include costs related to our net sales, customer service and marketing personnel, including their wages, employee benefits and related stock-based compensation, and occupancy related expenses. Other significant sales and marketing expenses include commissions paid to outside sales representatives, promotional materials and products, our sales office costs, race support and sponsorships of events and athletes, advertising and promotions related to trade shows, and travel and entertainment.
Our research and development expenses consist primarily of salaries and personnel costs, including wages, employee benefits and related stock-based compensation for our engineering, research and development teams, occupancy related expenses, fees for third party consultants, service fees, and expenses for prototype tooling and materials, travel, and supplies. We expense research and development costs as incurred and such costs are included as research and development expenses on our consolidated statements of income.
Our general and administrative expenses include costs related to our executive, finance, legal, information technology, business development, human resources and administrative personnel, including wages, employee benefits and related stock-based compensation expenses. We record professional and contract service expenses, occupancy related expenses associated with corporate locations and equipment, and legal expenses in general and administrative expenses.
Our amortization of purchased intangibles includes amortization over their respective useful lives of our purchased intangible assets, such as customer lists and our core technology. Our intangible assets are evaluated for impairment whenever events or changes in circumstances indicate that the carrying value of the assets may not be fully recoverable. No impairments of intangible assets were identified in the years ended December 29, 2023, December 30, 2022 and December 31, 2021.
Income from operations
We define income from operations as gross profit less our operating expenses. We use income from operations as an indicator of the profitability of our business and our ability to manage costs.
Interest and other expense, net
Interest expense consists of interest charged to us under our credit facility and changes related to our interest rate swap.
Other expense, net, consists of foreign currency transaction gains and losses, gains and losses on the disposal of fixed assets, and other miscellaneous items.
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Income taxes
We are subject to income taxes in the U.S. (federal and state) and various other foreign jurisdictions. Our effective tax rate could be affected by numerous factors such as change in our business operations, acquisitions, investments, entry into new businesses and geographies, intercompany transactions, the relative amount of our foreign earnings, losses incurred in jurisdictions for which we are not able to realize related tax benefits, changes in our deferred tax assets and liabilities and their valuation, changes in the laws, regulations, administrative practices, principles, and interpretations related to tax, including changes to the global tax framework and other laws and accounting rules in various jurisdictions.
For the years ended December 29, 2023, December 30, 2022 and December 31, 2021, we had effective tax rates of 12.8%, 12.2% and 13.0%, respectively.
As of December 29, 2023, our deferred tax assets included foreign tax credits of approximately $51.2 million, which begin to expire in 2026 unless utilized.
Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. As of December 29, 2023, the Company determined a valuation allowance was not needed. In the future, our effective tax rate could vary as we update our assessment of valuation allowances for our deferred tax assets, including those associated with credit carryforwards. It is reasonably possible that we could record a material adjustment to the valuation allowance in the next 12 months.
We are subject to examination of our income tax returns by the U.S. Internal Revenue Service (“IRS”) and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our income tax liabilities and expense. Should actual events or results differ from our current expectations, charges or credits to our income tax expense may become necessary. Any such adjustments could have a significant impact on our effective tax rate.
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Results of operations
The table below summarizes our results of operations for the fiscal years ended December 29, 2023, December 30, 2022, and December 31, 2021:
| For the fiscal years ended | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | December 29, 2023 | December 30, 2022 | December 31, 2021 | |||||||||||
| Net sales | $ | 1,464.2 | $ | 1,602.5 | $ | 1,299.1 | ||||||||
| Cost of sales | 999.4 | 1,071.1 | 866.7 | |||||||||||
| Gross profit | 464.8 | 531.3 | 432.3 | |||||||||||
| Operating expenses: | ||||||||||||||
| General and administrative | 124.6 | 116.1 | 97.2 | |||||||||||
| Sales and marketing | 100.5 | 90.8 | 70.9 | |||||||||||
| Research and development | 53.2 | 56.2 | 46.6 | |||||||||||
| Amortization of purchased intangibles | 26.5 | 21.5 | 20.7 | |||||||||||
| Total operating expenses | 304.7 | 284.6 | 235.4 | |||||||||||
| Income from operations | 160.1 | 246.7 | 196.9 | |||||||||||
| Interest expense | 19.3 | 8.9 | 8.2 | |||||||||||
| Other expense, net | 2.1 | 4.0 | 0.4 | |||||||||||
| Income before income taxes | 138.7 | 233.8 | 188.4 | |||||||||||
| Provision for income taxes | 17.8 | 28.5 | 24.6 | |||||||||||
| Net income | $ | 120.8 | $ | 205.3 | $ | 163.8 |
*Amounts may not foot due to rounding.
The following table sets forth statement of income data as a percentage of net sales for the years indicated:
| For the fiscal years ended | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| December 29, 2023 | December 30, 2022 | December 31, 2021 | ||||||||||
| Net sales | 100.0 | % | 100.0 | % | 100.0 | % | ||||||
| Cost of sales | 68.3 | 66.8 | 66.7 | |||||||||
| Gross profit | 31.7 | 33.2 | 33.3 | |||||||||
| Operating expenses: | ||||||||||||
| General and administrative | 8.5 | 7.2 | 7.5 | |||||||||
| Sales and marketing | 6.9 | 5.7 | 5.5 | |||||||||
| Research and development | 3.6 | 3.5 | 3.6 | |||||||||
| Amortization of purchased intangibles | 1.8 | 1.3 | 1.6 | |||||||||
| Total operating expenses | 20.8 | 17.8 | 18.1 | |||||||||
| Income from operations | 10.9 | 15.4 | 15.2 | |||||||||
| Interest expense | 1.3 | 0.6 | 0.6 | |||||||||
| Other expense, net | 0.1 | 0.2 | — | |||||||||
| Income before income taxes | 9.5 | 14.6 | 14.5 | |||||||||
| Provision for income taxes | 1.2 | 1.8 | 1.9 | |||||||||
| Net income | 8.3 | % | 12.8 | % | 12.6 | % |
*Percentages may not foot due to rounding.
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Fiscal year ended December 29, 2023 compared to fiscal year ended December 30, 2022
Net Sales
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Powered Vehicle Group | $ | 523.9 | $ | 432.4 | $ | 91.5 | 21.2 | % | ||||||
| Aftermarket Applications Group | 551.1 | 489.1 | (291.8) | (59.7) | ||||||||||
| Specialty Sports Group | 389.2 | 681.0 | (42.8) | |||||||||||
| Total net sales | $ | 1,464.2 | $ | 1,602.5 | $ | (138.3) | (8.6) | % |
Net sales for the year ended December 29, 2023 decreased approximately $138.3 million, or 8.6%, compared to the year ended December 30, 2022. The net sales decrease reflects a decrease of 42.8% in Specialty Sports Group net sales and increases of 21.2% and 59.7% Powered Vehicle Group and Aftermarket Applications Group net sales, respectively, for the year ended December 29, 2023 compared to the prior fiscal year. The decrease in Specialty Sports Group net sales is primarily related to channel inventory recalibration and to a lesser extent lower end consumer demand, partially offset by the inclusion of $16.8 million net sales from our Marucci subsidiary that was acquired in November 2023. The increase in Powered Vehicle Group net sales was primarily due to strong demand in the OEM channel, partially offset by the impact of the UAW strike and the effects of macroeconomic environment. The increase in Aftermarket Applications Group net sales was mainly attributed to the inclusion of $65.6 million net sales from our Custom Wheel House subsidiary, which was acquired in March 2023, partially offset by a decrease in upfitting sales due to a change in product mix as a result of the UAW strike and higher interest rates impacting floor plan financing resulting in dealers taking a more conservative approach to inventory.
Cost of sales
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Cost of sales | $ | 999.4 | $ | 1,071.1 | $ | (71.7) | (6.7) | % |
Cost of sales for the year ended December 29, 2023 decreased approximately $71.7 million, or 6.7%, compared to the year ended December 30, 2022. The decrease in cost of sales was due to our decreased sales partially offset by certain business factors affecting gross margin, which are discussed below.
For the year ended December 29, 2023, our gross margin was 31.7% compared to 33.2% for the year ended December 30, 2022. The decrease in gross margin for the fiscal year 2023 was primarily due to a shift in our product line mix and amortization of acquired inventory valuation markups, offset by increased efficiencies at our North American facilities.
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Operating expenses
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Operating expenses: | ||||||||||||||
| General and administrative | $ | 124.6 | $ | 116.1 | $ | 8.5 | 7.3 | % | ||||||
| Sales and marketing | 100.4 | 90.8 | 9.6 | 10.6 | ||||||||||
| Research and development | 53.2 | 56.2 | (3.0) | (5.3) | ||||||||||
| Amortization of purchased intangibles | 26.5 | 21.5 | 5.0 | 23.3 | ||||||||||
| Total operating expenses | $ | 304.7 | $ | 284.6 | $ | 20.1 | 7.1 | % |
Total operating expenses for the year ended December 29, 2023 increased approximately $20.1 million, or 7.1%, over the comparable period in 2022. When expressed as a percentage of net sales, operating expenses increased to 20.8% of net sales for the year ended December 29, 2023, compared to 17.8% of net sales for the fiscal year ended December 30, 2022.
Within operating expenses, our sales and marketing expense increased by approximately $9.6 million primarily due to the inclusion of $10.6 million and $2.7 million Custom Wheel House and Marucci expenses, respectively, offset by cost controls. General and administrative expenses increased approximately $8.5 million mainly due to operating expenses associated with facility expansion and the inclusion of $3.9 million and $3.2 million Custom Wheel House and Marucci expenses, respectively, partially offset by cost controls. Research and development expenses decreased approximately $3.0 million driven by additional benefit from a state research and development tax credit. Amortization of purchased intangible assets for the year ended December 29, 2023 increased by approximately $5.0 million as compared to the year ended December 30, 2022, primarily due to the amortization of Custom Wheel House and Marucci intangible assets.
Income from operations
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Income from operations | $ | 160.1 | $ | 246.7 | $ | (86.6) | (35.1) | % |
As a result of the factors discussed above, income from operations for the year ended December 29, 2023 decreased approximately $86.6 million, or 35.1%, compared to the year ended December 30, 2022.
Interest and other expense, net
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Interest expense | $ | 19.3 | $ | 8.9 | $ | 10.4 | 116.9 | % | ||||||
| Other expense, net | 2.1 | 4.0 | (1.9) | (47.5) | ||||||||||
| Interest and other expense, net | $ | 21.4 | $ | 12.9 | $ | 8.5 | 65.9 | % |
Interest and other expense, net for the year ended December 29, 2023 increased by approximately $8.5 million to $21.4 million, compared to $12.9 million for the year ended December 30, 2022. Interest expense increased by $10.4 million due to higher debt and interest rates. Other expense, net decreased $1.9 million primarily due lower losses on foreign currency transactions.
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Income taxes
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Provision for income taxes | $ | 17.8 | $ | 28.5 | $ | (10.7) | (37.5) | % |
Income tax expense for the year ended December 29, 2023 decreased by approximately $10.7 million to $17.8 million compared to $28.5 million for the year ended December 30, 2022. The decrease in expense primarily resulted from a decrease in pre-tax profit, partially offset by the release of the valuation allowance for foreign tax credits in the prior year.
The effective tax rates were 12.8% and 12.2% for the years ended December 29, 2023 and December 30, 2022, respectively.
For the year ended December 29, 2023, the difference between our effective tax rate and the 21% federal statutory rate resulted from a lower tax rate on foreign derived intangible income and benefit from the U.S. research and development tax credit.
For the year ended December 30, 2022, the difference between our effective tax rate and the 21% federal statutory rate resulted from a lower tax rate on U.S. foreign derived earnings and the release of the valuation allocation for foreign tax credits, partially offset by other non-deductible expenses and state taxes.
Net income
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2023 | 2022 | Change ($) | Change (%) | ||||||||||
| Net income | $ | 120.8 | $ | 205.3 | $ | (84.5) | (41.2) | % |
As a result of the factors described above, our net income decreased $84.5 million, or 41.2%, to $120.8 million in the fiscal year ended December 29, 2023 from $205.3 million for the fiscal year ended December 30, 2022.
Fiscal year ended December 30, 2022 compared to fiscal year ended December 31, 2021
Net sales
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Powered Vehicle Group | $ | 432.4 | $ | 360.7 | $ | 71.7 | 19.9 | % | ||||||
| Aftermarket Applications Group | 489.1 | 359.4 | 129.7 | 36.1 | ||||||||||
| Specialty Sports Group | 681.0 | 579.0 | 102.0 | 17.6 | ||||||||||
| Total net sales | $ | 1,602.5 | $ | 1,299.1 | $ | 303.4 | 23.4 | % |
Net sales for the year ended December 30, 2022 increased approximately $303.4 million, or 23.4%, compared to the year ended December 31, 2021. The net sales increase reflects an increase of 36.1%, 19.9% and 17.6% in Aftermarket Applications Group, Powered Vehicle Group and Specialty Sports Group net sales, respectively, for the year ended December 30, 2022 compared to the prior fiscal year. The increase in Aftermarket Applications Group net sales was primarily due to strong performance from our upfitting product lines. The increase in Powered Vehicle product net sales was driven by increased demand in the OEM channel. The increase in Specialty Sports product net sales reflects higher demand primarily in the OEM channel.
Cost of sales
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Cost of sales | $ | 1,071.1 | $ | 866.7 | $ | 204.4 | 23.6 | % |
Cost of sales for the year ended December 30, 2022 increased approximately $204.4 million, or 23.6%, compared to the year ended December 31, 2021. The increase in cost of sales was driven primarily by an increase in product sales, as well as certain business factors affecting gross margin, which are discussed below.
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For the year ended December 30, 2022, our gross margin was 33.2% compared to 33.3% for the year ended December 31, 2021. The decrease in gross margin for the fiscal year 2022 was primarily due to increases in factory overhead and materials costs, each of which were driven higher by inflation. Additionally, the completion of the planned shutdown of our Watsonville Facility and transition of those production lines resulted in inefficiencies in the first half of fiscal year 2022 as we ramped up our Gainesville Facility.
Operating expenses
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Operating expenses: | ||||||||||||||
| General and administrative | $ | 116.1 | $ | 97.2 | $ | 18.9 | 19.4 | % | ||||||
| Sales and marketing | 90.8 | 70.9 | 19.9 | 28.1 | ||||||||||
| Research and development | 56.2 | 46.6 | 9.6 | 20.6 | ||||||||||
| Amortization of purchased intangibles | 21.5 | 20.7 | 0.8 | 3.9 | ||||||||||
| Total operating expenses | $ | 284.6 | $ | 235.4 | $ | 49.2 | 20.9 | % |
Total operating expenses for the year ended December 30, 2022 increased approximately $49.2 million, or 20.9%, over the comparable period in 2021. When expressed as a percentage of sales, operating expenses decreased to 17.8% of sales for the year ended December 30, 2022, compared to 18.1% of sales for the fiscal year ended December 31, 2021.
Within operating expenses, our sales and marketing expense increased by approximately $19.9 million primarily due to higher commissions costs of $9.7 million, higher headcount and employee-benefit related costs of $5.8 million, higher marketing-related costs of $4.0 million and various others. Research and development expenses increased approximately $9.6 million primarily due to headcount investments to support future growth. General and administrative expenses increased approximately $18.9 million due to higher headcount and employee benefit-related costs of $11.7 million and higher insurance and facility-related costs of $11.1 million. These increases were partially offset by lower acquisition-related compensation and decreases in other miscellaneous costs.
Amortization of purchased intangible assets for the year ended December 30, 2022 increased by approximately $0.8 million as compared to the year ended December 31, 2021, primarily due to the amortization of Shock Therapy intangible assets.
Income from operations
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Income from operations | $ | 246.7 | $ | 196.9 | $ | 49.8 | 25.3 | % |
As a result of the factors discussed above, income from operations for the year ended December 30, 2022 increased approximately $49.8 million, or 25.3%, compared to the year ended December 31, 2021.
Interest and other expense, net
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Interest expense | $ | 8.9 | $ | 8.2 | $ | 0.7 | 8.5 | % | ||||||
| Other expense, net | 4.0 | 0.3 | 3.7 | 1,233.3 | ||||||||||
| Interest and other expense, net | $ | 12.9 | $ | 8.5 | $ | 4.4 | 51.8 | % |
Interest and other expense, net for the year ended December 30, 2022 increased by approximately $4.4 million to $12.9 million, compared to $8.5 million for the year ended December 31, 2021. The increase in interest and other expense, net is primarily due to higher foreign currency losses, as well as increasing interest rates.
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Income taxes
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Provision for income taxes | $ | 28.5 | $ | 24.6 | $ | 3.9 | 15.9 | % |
Income tax expense for the year ended December 30, 2022 increased by approximately $3.9 million to $28.5 million compared to income tax expense of $24.6 million for the year ended December 31, 2021. The increase in expense resulted from an increase in pre-tax profit and decreased benefits from stock-based compensation deductions, partially offset by the release of the valuation allocation for foreign tax credits and the benefit of a lower tax rate on U.S. foreign derived earnings.
The effective tax rates were 12.2% and 13.0% for the years ended December 30, 2022 and December 31, 2021, respectively.
For the year ended December 30, 2022, the difference between our effective tax rate and the 21% federal statutory rate resulted from a lower tax rate on U.S. foreign derived earnings and the release of the valuation allocation for foreign tax credits, partially offset by other non-deductible expenses and state taxes.
For the year ended December 31, 2021, the difference between our effective tax rate and the 21% federal statutory rate resulted from a lower tax rate on U.S. foreign derived earnings and the benefit of excess stock based compensation deductions.
Net income
| For the fiscal years | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | 2022 | 2021 | Change ($) | Change (%) | ||||||||||
| Net income | $ | 205.3 | $ | 163.8 | $ | 41.5 | 25.3 | % |
As a result of the factors described above, our net income increased $41.5 million, or 25.3%, to $205.3 million in the fiscal year ended December 30, 2022 from $163.8 million for the fiscal year ended December 31, 2021.
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Liquidity and Capital Resources
Our primary cash needs are to support working capital, interest on debt, employee compensation, capital expenditures, acquisitions, debt repayments, and other general corporate purposes. Historically, we have generally financed our liquidity needs with operating cash flows, borrowings under our Prior Credit Facility and our 2022 Credit Facility, and the issuance of common stock. These sources of liquidity may be impacted by factors and events described in Special Note Regarding Forward-Looking Statements and Item 1A. Risk Factors.
As of December 29, 2023, we held $24.7 million of our $83.6 million of cash and cash equivalents in accounts of our subsidiaries outside of the U.S., which we may repatriate.
A summary of our operating, investing and financing activities is shown in the following table:
| For the years ended | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| (in millions) | December 29, 2023 | December 30, 2022 | December 31, 2021 | |||||||
| Net cash provided by operating activities | $ | 178.7 | $ | 187.1 | $ | 63.2 | ||||
| Net cash used in investing activities | (750.4) | (44.7) | (104.9) | |||||||
| Net cash provided by (used in) financing activities | 509.0 | (179.1) | (23.8) | |||||||
| Effect of exchange rate changes on cash and cash equivalents | 1.1 | 2.3 | (0.5) | |||||||
| Decrease in cash and cash equivalents | $ | (61.6) | $ | (34.4) | $ | (66.1) |
*Amounts may not foot due to rounding.
We expect that cash on hand, cash flow from operations and availability under our 2022 Credit Facility will be sufficient to fund our operations during the next 12 months from the date of this Annual Report on Form 10-K and beyond.
Operating activities
In the fiscal year ended December 29, 2023, net cash provided by operating activities was $178.7 million. Our investment in operating assets and liabilities is a result of an increase in prepaids and other current assets of $38.2 million primarily due to carrying more chassis to meet current year production needs for the upfitting product lines, and decreases in accounts payable of $44.0 million, accrued expenses and other liabilities of $21.4 million, and income taxes payable of $19.1 million, partially offset by decreases in accounts receivable of $64.5 million and inventory of $31.6 million. The change in our accounts receivable reflects a shift in our product line mix and the timing of customer collections. The change in our accounts payable is driven by timing of inventory purchases and vendor payments. The change in accrued expenses and other liabilities is primarily due to payments made for compensation and tax related accruals and our cost control measures, partially offset by acquired accrued expenses. The decrease in inventory excluding acquired inventory reflects our continued efforts to optimize inventory levels.
In the fiscal year ended December 30, 2022, cash provided by operating activities was $187.1 million. Cash invested in operating assets and liabilities is primarily the result of increases in inventory of $87.4 million and accounts receivable of $64.0 million, partially offset by a decrease in prepaids and other current assets of $18.1 million, and increases in accounts payable of $40.5 million, accrued expenses of $11.7 million and income taxes payable of $8.7 million. The increase in inventory is due to several factors, including natural growth to meet anticipated demand, receipt of long lead time items that had been delayed, and higher levels of safety stock to mitigate supply chain uncertainty. The increases in accounts receivable, accounts payable and accrued expenses reflect normal business growth, as well as the timing of customer collections and vendor payments. The decrease in prepaids and other current assets is primarily due to a lower supply of chassis as we worked through the safety stock that we had secured at the end of 2021.
In the fiscal year ended December 31, 2021, cash provided by operating activities was $63.2 million. Cash invested in operating assets and liabilities is primarily the result of increases in inventory of $150.4 million, prepaids and other current assets of $34.5 million, and accounts receivable of $20.2 million, offset by increases in net income taxes payable of $26.8 million, accrued expenses of $21.8 million, and accounts payable of $10.3 million. The increase in inventory is primarily due to additional raw material purchases to mitigate risks associated with supply chain uncertainty and shortages on certain parts needed to complete a suspension kit, as well as a higher balance of finished goods due to the timing of shipments. The increase in prepaids and other current assets is the result of increased chassis deposits. The increases in net income taxes payable, accrued expenses, accounts receivable and accounts payable are the result of normal business growth and the timing of vendor and tax payments.
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Investing activities
In the fiscal year ended December 29, 2023, cash used in investing activities was $750.4 million, which primarily consisted of $701.1 million in cash consideration for our acquisitions of Marucci and Custom Wheel House, $46.9 million in property and equipment additions, and $2.4 million in cash consideration for our purchase of other assets.
In the fiscal year ended December 30, 2022, cash used in investing activities was $44.7 million, which primarily consisted of $43.7 million in property and equipment additions, $3.5 million in cash consideration for our purchase of intellectual property assets, and $0.7 million in cash consideration to finalize our acquisition of Shock Therapy, partially offset by $3.2 million in proceeds from the sale of property and equipment.
In the fiscal year ended December 31, 2021, cash used in investing activities was $104.9 million, which primarily consisted of $54.8 million in property and equipment additions and $51.9 million of cash consideration for our acquisitions of Outside Van, Sola Sport and Shock Therapy, partially offset by $1.8 million in proceeds for the sale of property and equipment.
Financing activities
In the fiscal year ended December 29, 2023, net cash provided by financing activities was $509.0 million, which primarily consisted of proceeds from our 2022 Credit Facility of $793.5 million, which was used to support our working capital and the purchases of Marucci and Custom Wheel House, partially offset by $230.0 million in payments on our line of credit, $20.0 million in prepayments on our Term A Loan, $25.0 million to repurchase shares of our common stock, net of proceeds from the exercise of stock options, as part of our stock-based compensation program, and $6.2 million and $3.4 million in deferred debt issuance costs.
In the fiscal year ended December 30, 2022, net cash used in financing activities was $179.1 million, which primarily consisted of $404.3 million in payments on our line of credit, $382.5 million in payments on our term debt, $4.3 million to repurchase shares of our common stock, net of proceeds from the exercise of stock options, as part of our stock-based compensation program and $2.7 million in installment payments related to the purchase of the Tuscany non-controlling interest. These changes were partially offset by net proceeds from our 2022 Credit Facility of $602.4 million, which was used to refinance our Prior Credit Facility, and proceeds from the termination of our 2021 Swap Agreement of $12.3 million.
In the fiscal year ended December 31, 2021, net cash used in financing activities was $23.8 million, which primarily consisted of $12.5 million in payments on our term debt, $7.0 million to repurchase shares of our common stock, net of proceeds from the exercise of stock options, as part of our stock-based compensation program and $4.6 million in installment payments related to the purchase of the Tuscany non-controlling interest, partially offset by $0.3 million in proceeds received from the termination of our 2020 Swap Agreement.
Prior Credit Facility
In June 2019, the Company entered into a credit facility with Bank of America and other named lenders, which was periodically amended and restated and/or amended. The credit facility was amended and restated on March 11, 2020, and further amended on June 19, 2020, June 11, 2021 and December 16, 2021 (as amended, the “Prior Credit Facility”). The Prior Credit Facility (which was terminated on April 5, 2022 and replaced with the 2022 Credit Facility (as discussed below)), would have matured on March 11, 2025, and provided a senior secured revolving line of credit with a borrowing capacity of $250.0 million and a term loan of $400.0 million. The term loan was subject to quarterly amortization payments.
2022 Credit Facility
On April 5, 2022, the Company entered into a new credit agreement with Wells Fargo Bank, National Association, and other named lenders (the “2022 Credit Facility”), and concurrently repaid in full and terminated the Prior Credit Facility. The 2022 Credit Facility, which matures on April 5, 2027, provides for revolving loans, swingline loans and letters of credit up to an aggregate amount of $650.0 million.
On April 5, 2022, the Company borrowed $475.0 million under the 2022 Credit Facility, which was used to repay all outstanding amounts owed under the Prior Credit Facility and for general corporate purposes. Future advances under the 2022 Credit Facility will be used to finance working capital, capital expenditures and other general corporate purposes of the Company. To the extent not previously paid, all then-outstanding amounts under the 2022 Credit Facility are due and payable on the maturity date.
The Company paid $2.0 million in debt issuance costs in connection with the 2022 Credit Facility, which were allocated to the line of credit and amortized on a straight-line basis over the term of the facility. Additionally, the Company had $4.5 million of remaining unamortized debt issuance costs related to the Prior Credit Facility. The Company expensed $1.9 million of the remaining unamortized debt issuance costs and allocated $2.5 million to the 2022 Credit Facility.
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The Company may borrow, prepay and re-borrow principal under the 2022 Credit Facility during its term. Advances under the 2022 Credit Facility can be either Adjusted Term Secured Overnight Financing Rate (“SOFR”) loans or base rate loans. SOFR rate revolving loans bear interest on the outstanding principal amount thereof for each interest period at a rate per annum equal to Term SOFR for such calculation plus 0.10% plus a margin ranging from 1.00% to 2.00%. Base rate revolving loans bear interest on the outstanding principal amount thereof at a rate per annum equal to the highest of (i) Federal Funds Rate plus 0.50%, (ii) the rate of interest in effect for such day as publicly announced from time to time by the administrative agent as its “prime rate”, and (iii) Adjusted Term SOFR rate for a one-month tenor plus 1.00%, subject to the interest rate floors set forth therein, plus a margin ranging from 0.00% to 1.00%.
On November 14, 2023, in connection and concurrently with the closing of the Marucci acquisition, the Company entered into the First Incremental Facility Amendment (the “Amendment”) amending the 2022 Credit Facility. The Amendment provided the Company with a term loan in an amount of $400.0 million (the “Incremental Term A Loan”) and a delayed draw term loan in an amount of $200.0 million (the “Delayed Draw Term Loan” and, together with the Incremental Term A Loan, the “Incremental Term Loans”), each of which are permitted under the 2022 Credit Facility, subject to satisfaction of certain conditions. The Incremental Term A Loan was fully funded on November 14, 2023 and used to fund a portion of the consideration owed under the Marucci acquisition. The Delayed Draw Term Loan is available to the Company from and including December 6, 2023, until the earlier of (a) May 14, 2024 and (b) the date on which the Delayed Draw Term commitments have been terminated. Each Incremental Term Loan is subject to quarterly amortization payments of principal at a rate of 5.0% per annum. The Incremental Term Loans are in the form of term SOFR loans and base rate loans, at the option of the Company, and have an applicable margin ranging from 0.5% to 1.50% for base rate loans and 1.50% to 2.50% for term SOFR loans, subject to adjustment provisions. Each Incremental Term Loan has a maturity date of April 5, 2027, consistent with the 2022 Credit Facility.
The Company paid $10,063 in debt issuance costs, of which $6,709 were allocated to the Term A Loan and $3,354 were allocated to the Delayed Draw Term Loan. Loan fees allocated to the Term A Loan were amortized using the interest method over the term of the Credit Facility. Loan fees allocated to the Delayed Draw Term Loan were deferred as an asset until the debt is drawn. Upon the drawing of the Delayed Draw Term Loan, the fees will be reclassified to a contra-liability account and amortized over the term of the drawn debt using the interest method.
At December 29, 2023, the one-month SOFR and three-month SOFR rates were 5.34% and 5.36%, respectively. At December 29, 2023, our weighted-average interest rate on outstanding borrowing was 6.97%.
The 2022 Credit Facility is secured by substantially all of the Company’s assets, restricts the Company’s ability to make certain payments and engage in certain transactions, and requires that the Company satisfy customary financial ratios. The Company was in compliance with the covenants as of December 29, 2023.
Material Cash Requirements
As of December 29, 2023, we had the following material cash requirements related to commitments or contractual obligations (in millions):
| Payments due by period | Total | Less than 1 year | 1-3 years | 4-5 years | More than 5 years | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Long-term borrowings | $ | 750.0 | $ | — | $ | 40.0 | $ | 710.0 | $ | — | ||||||||
| Operating lease obligations | 101.0 | 16.6 | 25.4 | 16.5 | 42.4 | |||||||||||||
| Purchase obligations and other | 11.6 | 6.8 | 4.7 | — | — | |||||||||||||
| Total | $ | 862.6 | $ | 23.4 | $ | 70.2 | $ | 726.5 | $ | 42.4 |
*Amounts may not foot due to rounding.
Seasonality
Certain portions of our business are seasonal; we believe this seasonality is due to the delivery of new products. As we have diversified our product offerings and our product launch cycles, seasonal fluctuations are becoming less material.
Inflation
Historically, inflation has not had a material effect on our results of operations. However, significant increases in inflation, particularly those related to wages and increases in the cost of raw materials have and could continue to have an adverse impact on our business, financial condition and results of operations.
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Critical Accounting Policies and Estimates
We have adopted various accounting policies to prepare the consolidated financial statements in accordance with U.S. GAAP. Our significant accounting policies are described in Note 1. Description of the Business, Basis of Presentation and Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements. Some of those significant accounting policies require us to make difficult, subjective, or complex judgments or estimates. An accounting estimate is considered to be critical if it is made in accordance with GAAP and it meets both of the following criteria: (i) the estimate requires assumptions about matters that are highly uncertain at the time the accounting estimate is made, and (ii) different estimates reasonably could have been used, or changes in the estimate that are reasonably likely to occur may have a material impact on our financial condition or results of operations. The significant accounting policies that management believes are critical to the understanding and evaluating our reported financial results include the following: income taxes, inventory, warranty, goodwill and intangible assets, stock-based compensation, revenue recognition, provision for credit losses and fair value measurement. For further information see Note 1. Description of the Business, Basis of Presentation and Summary of Significant Accounting Policies of the Notes to Consolidated Financial Statements in this Annual Report on Form 10-K.
Critical Accounting Policies
Income taxes
We are subject to income taxes in the U.S. (federal and state) and foreign jurisdictions. We compute our provision for income taxes using the asset and liability method, under which deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities. Deferred tax assets and liabilities are measured using the currently enacted tax rates that are expected to apply to taxable income for the years in which those tax assets and liabilities are expected to be realized or settled. The income tax effects of these differences are classified as long-term deferred tax assets and liabilities in our consolidated balance sheets.
Significant judgments are required in order to determine the realizability of these deferred tax assets. In assessing the need for a valuation allowance, we evaluate all significant available positive and negative evidence, including but not limited to, historical operating results, forecasted earnings, estimates of future taxable income of a character necessary to realize the deferred asset, relative proportions of revenue and pre-tax income in the various domestic and jurisdictions in which we operate, and the existence of prudent and feasible tax planning strategies. Changes in the expectations regarding the realization of deferred tax assets could materially impact income tax expense in future periods.
Additionally, our judgments, assumptions, and estimates relative to the provision for income taxes take into account enacted tax laws, regulations, administrative practices, interpretations in various jurisdictions and possible outcomes of current and future audits conducted by tax authorities. Our effective tax rates could be affected by numerous factors, such as changes in our business operations, acquisitions, investments, entry into new businesses and geographies, intercompany transactions, the relative amount of our foreign earnings, losses incurred in jurisdictions for which we are not able to realize related tax benefits, changes in our deferred tax assets and liabilities and their valuation, changes in the laws, regulations, administrative practices, principles, and interpretations related to tax, including changes to the global tax framework and other laws and accounting rules in various jurisdictions.
We utilize a two-step approach to recognizing and measuring uncertain income tax positions. The first step is to determine if the weight of available evidence indicates that it is more likely than not that the tax position will be sustained on audit, including resolution of any related appeals or litigation processes. The second step is to measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. We consider many factors when evaluating tax positions such as the closing of a tax audit, the refinement of estimates, and the expiration of a statute of limitations that may require periodic adjustments that impact our tax provision in our consolidated statements of income. Interest and penalties associated with income taxes are recorded as income tax expense. Refer to Note 15. Income Taxes for further details.
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Inventories
Inventories are stated at the lower of actual cost (or standard cost which generally approximates actual costs on a first-in first-out basis) or net realizable value. Cost includes raw materials and inbound freight, as well as direct labor and manufacturing overhead for products we manufacture. Net realizable value is based on current replacement cost for raw materials and on a net realizable value for finished goods. Adjustments to reduce the cost of inventory to its net realizable value are made, if required, for estimated excess, obsolete or impaired balances.
We regularly monitor inventory quantities on hand and on order and record write-downs for excess and obsolete inventories based on our estimate of the demand for our products, potential obsolescence of technology, product life cycles, and when pricing trends or forecasts indicate that the carrying value of inventory exceeds our estimated selling price. These factors are affected by market and economic conditions, technology changes, and new product introductions and require estimates that may include elements that are uncertain. Actual demand may differ from forecasted demand and may have a material effect on our gross margin. If inventory is written down, a new cost basis will be established that cannot be increased in future periods.
Warranty
Unless otherwise required by law, the Company generally offers limited warranties on its products for one to three years. We accrue estimated costs related to warranty activities as a component of cost of sales upon product shipment or when information becomes available indicating that an adjustment to the warranty reserves is appropriate. Management estimates are based upon historical and projected product failure rates and historical costs incurred in correcting product failures. The warranty reserve is assessed from time to time for adequacy and adjusted as necessary for specifically identified warranty exposures. Actual warranty expenses are charged against our estimated warranty liability when incurred. Factors that affect our liability include the number of units, historical and anticipated rates of warranty claims, and the cost per claim. An increase in warranty claims or the related costs associated with satisfying these warranty obligations could increase our cost of sales and negatively affect our operating results. Total accrued warranty liabilities were approximately $20.0 million and $17.1 million as of December 29, 2023 and December 30, 2022, respectively. Refer to Note 8. Accrued Expenses for further details.
Goodwill, intangible assets and long-lived assets
Goodwill
Goodwill represents the excess of purchase price over the fair value of the net assets of businesses acquired. On an annual basis, the Company performs a qualitative assessment to determine if it is more likely than not that the fair value of the reporting unit is less than its carrying amount, including goodwill. If the Company determines that the fair value of the reporting unit is less than its carrying amount, it will perform a quantitative analysis; otherwise, no further evaluation is necessary.
For the quantitative impairment test, the Company compares the fair value of the reporting unit to its carrying value, including goodwill. The Company determines the fair value of the reporting unit based on a weighting of income and market approaches. If the fair value of the reporting unit exceeds the carrying value of the net assets assigned to that unit, goodwill is not impaired and no further testing is performed. If the carrying value of the net assets assigned to the reporting unit exceeds the fair value of the reporting unit, then the Company will recognize a loss equal to the excess, limited to the total amount of goodwill allocated to that reporting unit. Impairments, if any, are charged directly to earnings. We completed our most recent annual impairment test in the third quarter of 2023 at which time we had a single reporting unit for purposes of assessing goodwill impairment. No impairment charges have been incurred to date.
Indefinite-lived intangible assets
Certain trademarks and trade names are considered to be indefinite life intangibles, and are not amortized but are subject to testing for impairment annually.
Finite-lived intangible assets
We assess the recoverability of identifiable finite-lived intangible assets whenever events or changes in circumstances indicate that an asset or asset group’s carrying amount may be impaired. Impairment of certain finite-lived intangible assets, particularly customer relationships, certain trade names and core technology, is measured by comparing the carrying amount of the asset group to which the assets are assigned to the sum of the undiscounted estimated future cash flows the asset group is expected to generate. If the asset or asset group is considered to be impaired, the amount of such impairment would be measured by the difference between the carrying amount of the asset and its fair value.
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Acquisition of certain identifiable definite-lived and indefinite-lived assets
In conjunction with an acquisition of a business, the Company records identifiable definite-lived and indefinite-lived intangible assets acquired at their respective fair values as of the date of acquisition. The estimates used in assessing the fair value for the assets acquired include projected future cash flows, associated discount rates used to calculate present value, asset life cycles, customer retention rates and royalty rates. The fair value calculated for indefinite-lived intangible assets such as certain trade names, in addition to intangible assets that are definite-lived such as customer relationships and other technology-based assets may change during the finalization of the purchase price allocation, due to the significant estimates used in determining their fair value. As a result, the Company may make adjustments to the provisional amounts recorded for certain items as part of the purchase price allocation subsequent to the acquisition, not to exceed one year after the acquisition date, until the purchase accounting allocation is finalized.
Stock-based compensation
The Company measures stock-based compensation for all stock-based awards, including stock options and restricted stock units (“RSUs”), based on their estimated fair values on the date of the grant and recognizes the stock-based compensation cost for time-vested awards on a straight-line basis over the requisite service period. For performance-based RSUs, the number of shares ultimately expected to vest is estimated at each reporting date based on management’s expectations regarding the relevant performance criteria. To the extent shares are expected to vest, the stock-based compensation cost is recognized on a straight-line basis over the requisite service period. Stock-based compensation was $16.5 million, $16.4 million and $13.9 million for the fiscal years ended December 29, 2023, December 30, 2022 and December 31, 2021, respectively. Refer to Note 13. Stockholders’ Equity for further details. The fair value of each stock option granted is estimated using the Black-Scholes option-pricing model. The Company does not estimate forfeitures in recognizing stock-based compensation expense.
The determination of the grant date fair value of options using an option-pricing model is affected by our common stock fair value as well as assumptions including our expected stock price volatility over the expected term of the options, stock option exercise and cancellation behaviors, risk-free interest rates and expected dividends.
Stock-based compensation expenses are classified in the statements of income based on the department to which the related employee reports. Our stock-based awards subsequent to our IPO have been comprised principally of restricted stock unit awards.
Revenue recognition
Revenue is measured based on the consideration specified in a contract with a customer. The Company recognizes revenue when it satisfies a performance obligation by transferring control over a product to a customer, generally at the time of shipment. Contracts are generally in the form of purchase orders and are governed by standard terms and conditions. For larger OEMs, the Company may also enter into master agreements. Revenues generated from upfit packages generally do not include the vehicle chassis, as the Company is not the principal in this arrangement and the automotive dealer purchases the chassis directly from the OEM. The Company is required to place a deposit on all Stellantis chassis, however that deposit is refunded when the chassis is sold through to the end customer. For other chassis, the Company entered into floorplan financing agreements, in which the Company pays interest expense based on the duration of time the chassis stay on the Company's premises. Revenues generated from custom upfit packages from our Outside Van subsidiary generally include the vehicle chassis, of which the Company has the risks and rewards of ownership and are recognized over-time as work is performed based on actual costs incurred.
We elected as a practical expedient to not capitalize the incremental costs to obtain contracts with customers since the amortization period would have been one year or less.
Provisions for discounts, rebates, sales incentives, returns, and other adjustments are generally provided for in the period the related sales are recorded, based on management’s assessment of historical trends and projection of future results. Accrued sales rebates were $11.9 million and $8.7 million as of December 29, 2023 and December 30, 2022, respectively. Sales returns allowances have historically been immaterial to the financial statements.
Allowance for credit losses
We record a provision for credit losses deemed not collectible using the aging method. The provision is based on how long a receivable has been outstanding, taking into account the historical credit loss rate and adjusting for both current conditions and forecasts of economic conditions into that expected credit loss rate. If circumstances change, such as higher-than-expected defaults or an unexpected material adverse change in a major customer’s ability to meet its financial obligations, we estimate if the recoverability of the amounts due could be reduced by a material amount.
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Fair value measurement and financial instruments
ASC 820, Fair Value Measurements and Disclosures, requires the valuation of assets and liabilities required or permitted to be either recorded or disclosed at fair value based on hierarchy of available inputs as follows:
Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
Level 2: Quoted prices for similar assets and liabilities in active markets, quoted prices for identical assets and liabilities in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability; and
Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).
We apply fair value accounting for all financial assets and liabilities and non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a recurring basis. We define fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities, which are required to be recorded at fair value, we consider the principal or most advantageous market in which we would transact and the market-based risk measurements or assumptions that market participants would use in pricing the asset or liability, such as risks inherent in valuation techniques, transfer restrictions and credit risk.
As of December 29, 2023, the carrying amount of the principal under the Company’s 2022 Credit Facility - Incremental Term A Loan approximated fair value because it had a variable interest rate that reflected market changes in interest rates and changes in the Company’s net leverage ratio.
On June 11, 2021, the Company entered into an interest rate swap agreement (the “2021 Swap Agreement”) to mitigate the cash flow risk associated with changes in interest rates on its variable rate debt. On April 5, 2022, the Company terminated its 2021 Swap Agreement and entered into a new interest rate swap agreement (the “2022 Swap Agreement”). Refer to Note 11. Derivatives and Hedging for additional details of the agreement. In accordance with ASC 815, an interest rate swap contract is recognized as an asset or liability on the Consolidated Balance Sheets and is measured at fair value. The fair value was calculated utilizing Level 2 inputs.
Recent Accounting Pronouncements
See Note 1 - Description of the Business, Basis of Presentation, and Summary of Significant Accounting Policies to the accompanying notes to consolidated financial statements included in this Annual Report on Form 10-K for further details regarding this topic.
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