TEREX CORP (TEX) FY 2021 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
BUSINESS DESCRIPTION
Terex is a global manufacturer of aerial work platforms and materials processing machinery. We design, build and support products used in construction, maintenance, manufacturing, energy, minerals and materials management applications. Terex products and solutions enable customers to reduce their environmental impact including electric and hybrid offerings that deliver quiet and emission-free performance, products that support renewable energy, and products that aid in the recovery of useful materials from various types of waste. Our products are manufactured in North America, Europe, Australia and Asia and sold worldwide. We engage with customers through all stages of the product life cycle, from initial specification and financing to parts and service support. We report our business in the following segments: (i) AWP and (ii) MP.
Further information about our reportable segments appears below and in Note B – “Business Segment Information” in the Notes to Consolidated Financial Statements.
Non-GAAP Measures
In this document, we refer to various GAAP (U.S. generally accepted accounting principles) and non-GAAP financial measures. These non-GAAP measures may not be comparable to similarly titled measures disclosed by other companies. We present non-GAAP financial measures in reporting our financial results to provide investors with additional analytical tools which we believe are useful in evaluating our operating results and the ongoing performance of our underlying businesses. We do not, nor do we suggest that investors consider such non-GAAP financial measures in isolation from, or as a substitute for, financial information prepared in accordance with GAAP.
Non-GAAP measures we may use include translation effect of foreign currency exchange rate changes on net sales, gross profit, SG&A costs and operating profit, as well as the net sales, gross profit, SG&A costs and operating profit excluding the impact of acquisitions and divestitures.
As changes in foreign currency exchange rates have a non-operating impact on our financial results, we believe excluding effects of these changes assists in assessment of our business results between periods. We calculate the translation effect of foreign currency exchange rate changes by translating current period results using rates that the comparable prior periods were translated at to isolate the foreign exchange component of fluctuation from the operational component. Similarly, impact of changes in our results from acquisitions and divestitures not included in comparable prior periods may be subtracted from the absolute change in results to allow for better comparability of results between periods.
We calculate a non-GAAP measure of free cash flow. We define free cash flow as Net cash provided by (used in) operating activities, plus (minus) increases (decreases) in TFS finance receivables consisting of sales-type leases and commercial loans (“TFS Assets”), less Capital expenditures, net of proceeds from sale of capital assets. We believe this measure of free cash flow provides management and investors further useful information on cash generation or use in our primary operations.
We discuss forward-looking information related to expected earnings per share (“EPS”) excluding the impact of potential future acquisitions, divestitures, restructuring and other unusual items. Our 2022 outlook for earnings per share is a non-GAAP financial measure because it excludes unusual items. The Company is not able to reconcile these forward-looking non-GAAP financial measures to their most directly comparable forward-looking GAAP financial measures without unreasonable efforts because the Company is unable to predict with a reasonable degree of certainty the exact timing and impact of such items. The unavailable information could have a significant impact on the Company’s full year 2022 GAAP financial results. This forward-looking information provides guidance to investors about our EPS expectations excluding these unusual items that we do not believe are reflective of our ongoing operations.
Working capital is calculated using the Consolidated Balance Sheet amounts for Trade receivables (net of allowance) plus Inventories, less Trade accounts payable and Customer advances. We view excessive working capital as an inefficient use of resources, and seek to minimize the level of investment without adversely impacting ongoing operations of the business. Trailing three months annualized net sales is calculated using net sales for the most recent quarter end multiplied by four. The ratio calculated by dividing working capital by trailing three months annualized net sales is a non-GAAP measure we believe measures our resource use efficiency.
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Non-GAAP measures we also use include Net Operating Profit After Tax (“NOPAT”) as adjusted, Income (loss) from operations as adjusted, cash and cash equivalents as adjusted and Stockholders’ equity as adjusted, which are used in the calculation of our after tax return on invested capital (“ROIC”) (collectively the “Non-GAAP Measures”), which are discussed in detail below.
Overview
Safety remains our top priority; driven by Think Safe – Work Safe – Home Safe. All Terex team members contributed to our effort of continuing to provide products and services for our customers, while maintaining a safe working environment.
Our strategic operational priorities of execution, innovation, and growth continue to make excellent progress and strengthened our business operations in 2021. We proactively managed supply chain disruptions and aggressively managed SG&A costs. We also improved Genie’s future cost competitiveness as our temporary Mexico facility is now producing telehandlers and continues to ramp-up.
We also continue to innovate so our products and services offer the features and benefits that provide value to our customers. We introduced new products including environmental and recycling solutions in MP, new electric offerings in Genie, and electric grid maintenance products in Utilities. We also continued to invest in connected assets and digital capabilities, such as customer dealer integration and telematics across the enterprise to better serve customers.
Organic and inorganic growth continues to be a focus. In 2021, we expanded production capabilities of mobile crushing and screening equipment in China and Northern Ireland, completed a bolt-on acquisition, purchasing a heavy duty trommels business that broadens our product offerings, and continued expansion of service facilities for our Utilities customers.
Our performance in 2021 reflected strong improvement in the business and good execution by our team members in a dynamic and challenging environment. Net sales of $3.9 billion were up 26% year-over-year as end-markets recovered. SG&A spending was $42 million lower year-over-year at 11% of net sales, beating our 12.5% target. Operating margin of 8.4% expanded 620 basis points due to higher sales and strict expense discipline. This led to earnings per share (“EPS”) increasing significantly from $0.13 in 2020 to $3.07 in 2021.
Overall, 2021 demonstrated the resilience of our businesses and team members to deliver improving results throughout the year against a challenging backdrop. Like most other industrial companies, we faced shortages and cost pressures from materials, logistics, freight and labor. These headwinds became more pronounced as the year developed, particularly in the fourth quarter, and have constrained our growth in the short-term. We took pricing actions, but they were not sufficient to offset significant material and logistics inflation in the back half of 2021.
Our AWP segment’s 2021 net sales were up 22% from the prior year driven by continued strong demand in all our global markets. For our Genie business globally, rental rates are improving, used equipment pricing is strong and fleet utilization remains robust which are all positive signs of a strengthening aerials rental industry. We are also continuing to see positive indicators for non-residential investment. The utilities market also improved significantly with demand strong across its end-markets of tree care, rental and investor-owned utilities. We are also experiencing strong growth in our Utilities parts and services business. AWP delivered significantly improved operating margins in the year, driven by increased production and aggressively managing all costs. This improvement was despite the current global supply chain dynamics which impacted our operations in AWP in the second half of the year through reduced efficiency in our manufacturing facilities as well as higher material, logistics and labor costs. We expect end market demand to remain strong into 2022 as demonstrated by AWP’s backlog, which is up 137% compared to the prior year. As a result, we anticipate net sales between $2.3 billion and $2.4 billion and an operating margin between 7.8% and 8.5% in 2022. We expect significantly higher input costs peaking in the first quarter with pricing realization improving through the year.
Our MP segment’s 2021 net sales were up 35% from the prior year driven by strong customer sentiment across all end-markets and geographies. MP has been aggressively managing all elements of cost as end-markets improve resulting in a 14% operating margin for the year. We expect global demand for crushing and screening equipment to continue to grow. Broad-based economic growth, construction activity and aggregates consumption are the primary market drivers. We are also seeing strong markets for the concrete mixer truck, material handling and environmental businesses. Customer sentiment continues to improve and we are encouraged by MP’s backlog, which is up 98% compared to the prior year period. As a result, we anticipate net sales between $1.8 billion and $1.9 billion and an operating margin between 14.0% and 14.5% in 2022, although we expect the first quarter will be challenged by supply constraints.
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In 2021, our largest market remained North America, which represented approximately 55% of our global sales. As compared to the prior year period, our sales were up double digits in every major geography.
Throughout 2021, our team members remained vigilant and aggressively managed all costs generating $125 million of free cash flow in the year. As of December 31, 2021, we had $867 million in available liquidity, with no near-term debt maturities. Our strong liquidity position and cash generation allowed us to repay $503 million of debt in 2021. We also continued to invest in the business in 2021 with $60 million of capital expenditures across our businesses. We believe we have ample liquidity to meet our business plans. See “Liquidity and Capital Resources” for a detailed description of liquidity and working capital levels, including the primary factors affecting such levels, as well as a reconciliation of net cash provided by (used in) operating activities to free cash flow.
Customer demand remains strong for our products and services. However, we are operating in a very challenging supply chain and logistics environment along with the continued impacts of a pandemic, so our results could change negatively or positively. See Part I, Item 1A. – “Risk Factors” for a detailed description of the risks associated with supply chain disruptions and COVID-19. As a result, we currently expect 2022 EPS to be between $3.55 and $4.05, on net sales between $4.1 billion and $4.3 billion. Our outlook assumes pricing actions along with manufacturing efficiencies will offset cost pressures and that supply chain headwinds will abate in the second half of the year.
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ROIC
ROIC and other Non-GAAP Measures (as calculated below) assist in showing how effectively we utilize capital invested in our operations. ROIC is determined by dividing the sum of NOPAT for each of the previous four quarters by the average of Debt less Cash and cash equivalents plus Stockholders’ equity for the previous five quarters. NOPAT for each quarter is calculated by multiplying Income (loss) from operations by one minus the full year 2021 effective tax rate (“Effective Tax Rate”).
In the calculation of ROIC, we adjust Income (loss) from operations and Stockholders’ equity to remove the effects of the impact of certain transactions in order to create a measure that is useful to understanding our operating results and the ongoing performance of our underlying business without the impact of unusual items as shown in the tables below. Cash and cash equivalents is adjusted to include amounts recorded as held for sale.
Furthermore, we believe return on capital deployed in TFS do not represent our primary operations and, therefore, TFS Assets and results from operations have been excluded from the Non-GAAP Measures. Debt is calculated using amounts for Current portion of long-term debt plus Long-term debt, less current portion. We calculate ROIC using the last four quarters’ adjusted NOPAT as this represents the most recent 12-month period at any given point of determination. In order for the denominator of the ROIC ratio to properly match the operational period reflected in the numerator, we include the average of five quarters’ ending balance sheet amounts so that the denominator includes the average of the opening through ending balances (on a quarterly basis) thereby providing, over the same time period as the numerator, four quarters of average invested capital.
Terex management and Board of Directors use ROIC as one measure to assess operational performance, including in connection with certain compensation programs. We use ROIC as a metric because we believe it measures how effectively we invest our capital and provides a better measure to compare ourselves to peer companies to assist in assessing how we drive operational improvement. We believe ROIC measures return on the amount of capital invested in our primary businesses, excluding TFS, as opposed to another metric such as return on stockholders’ equity that only incorporates book equity, and is thus a more accurate and descriptive measure of our performance. We also believe adding Debt less Cash and cash equivalents to Stockholders’ equity provides a better comparison across similar businesses regarding total capitalization, and ROIC highlights the level of value creation as a percentage of capital invested. As the tables below show, our ROIC at December 31, 2021 was 19.0%.
Amounts described below are reported in millions of U.S. dollars, except for the Effective Tax Rate. Amounts are as of and for the three months ended for the periods referenced in the tables below.
| Dec '21 | Sep '21 | Jun '21 | Mar '21 | Dec '20 | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Effective Tax Rate | 17.6 | % | 17.6 | % | 17.6 | % | 17.6 | % | ||||||
| Income (loss) from operations as adjusted | $ | 70.0 | $ | 74.9 | $ | 117.3 | $ | 55.4 | ||||||
| Multiplied by: 1 minus Effective Tax Rate | 82.4 | % | 82.4 | % | 82.4 | % | 82.4 | % | ||||||
| Adjusted net operating income (loss) after tax | $ | 57.7 | $ | 61.7 | $ | 96.7 | $ | 45.6 | ||||||
| Debt | $ | 674.1 | $ | 893.4 | $ | 894.2 | $ | 979.2 | $ | 1,173.8 | ||||
| Less: Cash and cash equivalents as adjusted | (266.9) | (558.2) | (547.5) | (577.8) | (670.1) | |||||||||
| Debt less Cash and cash equivalents as adjusted | 407.2 | 335.2 | 346.7 | 401.4 | 503.7 | |||||||||
| Stockholders’ equity as adjusted | 1,097.0 | 1,037.5 | 1,015.5 | 918.9 | 806.8 | |||||||||
| Debt less Cash and cash equivalents plus Stockholders’ equity as adjusted | $ | 1,504.2 | $ | 1,372.7 | $ | 1,362.2 | $ | 1,320.3 | $ | 1,310.5 |
| December 31, 2021 ROIC | 19.0 | % |
|---|---|---|
| NOPAT as adjusted (last 4 quarters) | $ | 261.7 |
| Average Debt less Cash and cash equivalents plus Stockholders’ equity, as adjusted (5 quarters) | $ | 1,374.0 |
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| Three months ended 12/31/21 | Three months ended 9/30/21 | Three months ended 6/30/21 | Three months ended 3/31/21 | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Reconciliation of income (loss) from operations: | ||||||||||||||
| Income (loss) from operations as reported | $ | 69.8 | $ | 74.2 | $ | 122.5 | $ | 61.5 | ||||||
| Adjustments: | ||||||||||||||
| (Income) loss from TFS | 0.2 | 0.7 | (5.2) | (6.1) | ||||||||||
| Income (loss) from operations as adjusted | $ | 70.0 | $ | 74.9 | $ | 117.3 | $ | 55.4 | ||||||
| As of 12/31/21 | As of 9/30/21 | As of 6/30/21 | As of 3/31/21 | As of 12/31/20 | ||||||||||
| Reconciliation of Cash and cash equivalents: | ||||||||||||||
| Cash and cash equivalents - continuing operations | $ | 266.9 | $ | 553.2 | $ | 542.2 | $ | 572.9 | $ | 665.0 | ||||
| Cash and cash equivalents - assets held for sale | — | 5.0 | 5.3 | 4.9 | 5.1 | |||||||||
| Cash and cash equivalents as adjusted | $ | 266.9 | $ | 558.2 | $ | 547.5 | $ | 577.8 | $ | 670.1 | ||||
| Reconciliation of Stockholders’ equity: | ||||||||||||||
| Stockholders’ equity as reported | $ | 1,109.6 | $ | 1,050.7 | $ | 1,033.9 | $ | 946.1 | $ | 921.5 | ||||
| TFS Assets | (3.3) | (3.7) | (8.3) | (21.4) | (113.9) | |||||||||
| Effects of adjustments, net of tax: | ||||||||||||||
| (Income) loss from TFS | (9.3) | (9.5) | (10.1) | (5.8) | (0.8) | |||||||||
| Stockholders’ equity as adjusted | $ | 1,097.0 | $ | 1,037.5 | $ | 1,015.5 | $ | 918.9 | $ | 806.8 |
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RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the consolidated financial statements and accompanying notes included in Exhibit 15 (a) (1) and (2) Financial Statements and Financial Statement Schedules of this Annual Report on Form 10-K. This section of our Annual Report on Form 10-K generally discusses 2021 and 2020 and provides a year-over-year comparison of 2021 and 2020. Discussions of 2019 and year-over-year comparison of 2020 and 2019 are not included in this document and can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2020.
Consolidated
| 2021 | 2020 | 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| % of Sales | % of Sales | % of Sales | % Change in Reported Amounts 2021 vs 2020 | ||||||||||||||||||||
| ($ amounts in millions) | |||||||||||||||||||||||
| Net sales | $ | 3,886.8 | — | $ | 3,076.4 | — | $ | 4,353.1 | — | 26.3 | % | ||||||||||||
| Gross profit | 757.4 | 19.5 | % | 539.3 | 17.5 | % | 887.8 | 20.4 | % | 40.4 | % | ||||||||||||
| SG&A | 429.4 | 11.0 | % | 470.9 | 15.3 | % | 552.8 | 12.7 | % | (8.8) | % | ||||||||||||
| Income (loss) from operations | 328.0 | 8.4 | % | 68.4 | 2.2 | % | 335.0 | 7.7 | % | 379.5 | % |
Net sales for the year ended December 31, 2021 increased $810.4 million when compared to 2020. The increase in net sales was primarily due to higher demand for aerial work platforms, materials processing equipment, material handlers, concrete mixer trucks, cranes and utility equipment. Changes in foreign exchange rates positively impacted consolidated net sales by approximately $95 million. Customer sentiment in both segments continues to improve as equipment is being utilized and ordered as end-market demand strengthens.
Gross profit for the year ended December 31, 2021 increased $218.1 million when compared to 2020. The increase was primarily due to higher sales volume, improved manufacturing efficiency, price realization and the positive impact of changes in foreign exchange rates, partially offset by material, labor and freight cost inflation due to disruptions in the supply chain and labor availability constraints.
SG&A costs for the year ended December 31, 2021 decreased $41.5 million when compared to 2020. The decrease was primarily due to cost management actions taken across all areas of our business, including right-sizing our workforce and reduced discretionary spending, partially offset by the negative impact of changes in foreign exchange rates.
Income from operations increased by $259.6 million for the year ended December 31, 2021 when compared to 2020. The increase was primarily due to higher sales volume, SG&A cost management, improved manufacturing efficiency, price realization and the positive impact of changes in foreign exchange rates, partially offset by increases in material, labor and freight costs.
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Aerial Work Platforms
| 2021 | 2020 | 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| % of Sales | % of Sales | % of Sales | % Change in Reported Amounts 2021 vs 2020 | ||||||||||||||||||||
| ($ amounts in millions) | |||||||||||||||||||||||
| Net sales | $ | 2,178.8 | — | $ | 1,782.9 | — | $ | 2,726.6 | — | 22.2 | % | ||||||||||||
| Income from operations | 152.1 | 7.0 | % | 0.5 | — | % | 196.2 | 7.2 | % | * |
* Not a meaningful percentage
Net sales for the AWP segment for the year ended December 31, 2021 increased $395.9 million when compared to 2020 primarily due to higher demand driven by fleet replacement and end-market growth for aerial work platforms in North America, Western Europe and China. Net sales were positively impacted by the effects of foreign exchange rate changes of approximately $42 million.
Income from operations for the year ended December 31, 2021 increased $151.6 million when compared to 2020 primarily due to higher sales volume, improved manufacturing efficiency, price realization, SG&A cost management and the positive effects of foreign exchange rate changes, partially offset by material, labor and freight cost inflation due to disruptions in the supply chain and labor availability constraints.
Materials Processing
| 2021 | 2020 | 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| % of Sales | % of Sales | % of Sales | % Change in Reported Amounts 2021 vs 2020 | ||||||||||||||||||||
| ($ amounts in millions) | |||||||||||||||||||||||
| Net sales | $ | 1,691.8 | — | $ | 1,256.8 | — | $ | 1,602.6 | — | 34.6 | % | ||||||||||||
| Income from operations | 240.9 | 14.2 | % | 143.4 | 11.4 | % | 227.9 | 14.2 | % | 68.0 | % |
Net sales for the MP segment increased by $435.0 million for the year ended December 31, 2021 when compared to 2020 primarily due to robust end-market demand for aggregates and cranes in all major geographies, material handlers in North America and Western Europe, and concrete mixer trucks and environmental equipment in North America. Net sales were positively impacted by the effects of foreign exchange rate changes of approximately $53 million.
Income from operations for the year ended December 31, 2021 increased $97.5 million when compared to 2020 primarily due to higher sales volume, price realization and the positive effects of foreign exchange rate changes, partially offset by material, labor and freight cost inflation due to disruptions in the supply chain and labor availability constraints.
Corporate and Other / Eliminations
| 2021 | 2020 | 2019 | |||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| % of Sales | % of Sales | % of Sales | % Change in Reported Amounts 2021 vs 2020 | ||||||||||||||||||||
| ($ amounts in millions) | |||||||||||||||||||||||
| Net sales | $ | 16.2 | — | $ | 36.7 | — | $ | 23.9 | — | (55.9) | % | ||||||||||||
| Loss from operations | (65.0) | * | (75.5) | * | (89.1) | * | 13.9 | % |
* Not a meaningful percentage
Net sales include on-book financing activities of TFS, governmental sales and elimination of intercompany sales activity among segments. The net sales decrease is primarily attributable to lower TFS revenue, partially offset by lower intercompany sales eliminations.
Loss from operations for the year ended December 31, 2021 decreased $10.5 million when compared to 2020. The decrease in operating loss is primarily due to SG&A cost management, gains on the sale of assets and a reserve release in the current period for a specific finance receivable reserve recorded in 2020, partially offset by lower revenue.
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Other
| 2021 | 2020 | 2019 | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| % Change in Reported Amounts 2021 vs 2020 | ||||||||||||||
| ($ amounts in millions) | ||||||||||||||
| Interest (expense), net of interest income | $ | (47.8) | $ | (62.3) | $ | (81.4) | (23.3) | % | ||||||
| Loss on early extinguishment of debt | (29.4) | — | — | * | ||||||||||
| Other income (expense) – net | 13.0 | 4.9 | (6.1) | (165.3) | % | |||||||||
| (Provision for) benefit from income taxes | (46.3) | (2.0) | (37.8) | * | ||||||||||
| Income (loss) from discontinued operations – net of tax | — | (0.4) | (155.4) | * | ||||||||||
| Gain (loss) on disposition of discontinued operations – net of tax | 3.4 | (19.2) | 0.1 | 117.7 | % |
* Not a meaningful percentage
Interest Expense, Net of Interest Income
During the year ended December 31, 2021, our interest expense, net of interest income, was $47.8 million, or $14.5 million lower than in 2020 due to a decrease in average borrowings and lower rates.
Loss on Early Extinguishment of Debt
During the year ended December 31, 2021, we recorded a loss on early extinguishment of debt of $29.4 million related to refinancing of a significant portion of our capital structure and prepayment of term loans.
Other Income (Expense) – Net
Other income (expense) – net for the year ended December 31, 2021 was income of $13.0 million, compared to $4.9 million in 2020, an increase of $8.1 million. The increase in income was primarily due to a gain related to the early termination of a lease, partially offset by a positive post-closing adjustment in 2020 related to the settlement of our U.S. defined benefit pension plan in 2018 and lower foreign exchange rate translation gains and mark-to-market gains on investments in the current year compared to the prior year.
Income Taxes
During the year ended December 31, 2021, we recognized income tax expense of $46.3 million on income of $263.8 million, an effective tax rate of 17.6%, as compared to income tax expense of $2.0 million on income of $11.0 million, an effective tax rate of 18.2%, for the year ended December 31, 2020. The lower effective tax rate for the year ended December 31, 2021 when compared to the year ended December 31, 2020 is primarily due to U.S. tax on foreign income and certain discrete items, partially offset by geographic mix and the 2020 benefit of the Coronavirus Aid, Relief, and Economic Security Act.
Gain (Loss) on Disposition of Discontinued Operations – Net of Tax
During the years ended December 31, 2021 and 2020, we recognized a gain (loss) on disposition of discontinued operations - net of tax of $3.4 million and $(19.2) million, respectively. The gain in the current year period primarily related to our prior dispositions of our mobile cranes and MHPS businesses. The loss in the prior year primarily related to a settlement on cash, debt, working capital and certain other items related to the prior disposition of our mobile cranes business.
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CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Changes in estimates and assumptions used by management could have significant impacts on our financial results. Actual results could differ from those estimates.
We believe the following are among our most significant accounting policies which are important in determining the reporting of transactions and events and which utilize estimates about the effect of matters that are inherently uncertain and therefore are based on management judgment. Please refer to Note A – “Basis of Presentation” in the accompanying Consolidated Financial Statements for a listing of our accounting policies.
Inventories – In valuing inventory, we are required to make assumptions regarding the level of reserves required to value potentially obsolete or over-valued items at the lower of cost or net realizable value (“NRV”). These assumptions require us to analyze the aging of and forecasted demand for our inventory, forecast future product sales prices, pricing trends and margins, and to make judgments and estimates regarding obsolete or excess inventory. Future product sales prices, pricing trends and margins are based on historical experience and actual orders received. Our judgments and estimates for excess or obsolete inventory are based on analysis of actual and forecasted usage. Valuation of used equipment taken in trade from customers requires us to use the best information available to determine the value of the equipment to potential customers. This value is subject to change based on numerous conditions. Inventory reserves are established taking into account age, frequency of use, or sale, and in the case of repair parts, installed base of machines. While calculations are made involving these factors, significant management judgment regarding expectations for future events is involved. Future events that could significantly influence our judgment and related estimates include general economic conditions in markets where our products are sold, new equipment price fluctuations, actions of our competitors, including introduction of new products and technological advances, as well as new products and design changes we introduce. We make adjustments to our inventory reserves based on identification of specific situations and increase our inventory reserves accordingly. As further changes in future economic or industry conditions occur, we may revise estimates that were used to calculate our inventory reserves.
If actual conditions are less favorable than those we have projected, we will increase our reserves for lower of cost or NRV, excess and obsolete inventory accordingly. Any increase in our reserves will adversely impact our results of operations. Establishment of a reserve for lower of cost or NRV, excess and obsolete inventory establishes a new cost basis in the inventory. Such reserves are not reduced until the product is sold.
Guarantees – We may assist customers in their rental, leasing and acquisition of our products by facilitating financing transactions directly between (i) end-user customers, distributors and rental companies and (ii) third-party financial institutions, providing recourse in certain circumstances. The expectation of losses or non-performance is assessed based on consideration of historical customer assessments, current financial conditions, reasonable and supportable forecasts, equipment collateral value and other factors. Many of these factors, including the assessment of a customer’s ability to pay, are influenced by economic and market factors that cannot be predicted with certainty. Our maximum liability is generally limited to our customer’s remaining payments due to the third-party financial institutions at the time of default. In the event of a customer default, we are generally able to recover and dispose of the equipment at a minimum loss, if any, to us. Reserves are recorded for expected loss over the contractual period of risk exposure.
There can be no assurance that our historical experience in used equipment markets will be indicative of future results. Our ability to recover losses experienced from our guarantees may be affected by economic conditions in used equipment markets at the time of loss. See Note N – “Litigation and Contingencies” in the Notes to Consolidated Financial Statements for further information regarding our guarantees.
Revenue Recognition – We recognize revenue when goods or services are transferred to customers in an amount that reflects the consideration which we expect to receive in exchange for those goods or services. In determining when and how revenue is recognized from contracts with customers, we perform the following five-step analysis: (i) identification of contract with customer; (ii) determination of performance obligations; (iii) measurement of the transaction price; (iv) allocation of the transaction price to the performance obligations and (v) recognition of revenue when (or as) the Company satisfies each performance obligation. The majority of our revenue is recognized at the time of shipment, at the net sales price (transaction price). Estimates of variable consideration, such as volume discounts and rebates, reduce transaction price when it is probable that a customer will attain these types of sales incentives. These estimates are primarily derived from contractual terms and historical experience.
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Accounts Receivable and Allowance for Doubtful Accounts – Trade accounts receivable are recorded at invoiced amount and do not bear interest. Allowance for doubtful accounts is our estimate of current expected credit losses on existing accounts receivable and determined based on historical customer assessments, current financial conditions and reasonable and supportable forecasts. Account balances are charged off against the allowance when the Company determines it is expected the receivable will not be recovered. There can be no assurance that our estimate of accounts receivable collection will be indicative of future results.
Goodwill – We test goodwill at the reporting unit level for impairment on an annual basis and between annual tests if events and circumstances indicate it is more likely than not that the fair value of a reporting unit is less than its carrying value. Our annual impairment test date is the first day of our fiscal fourth quarter.
In performing the goodwill impairment test, we may first perform a qualitative assessment or bypass the qualitative assessment and proceed directly to performing the quantitative impairment test. A qualitative assessment requires that we consider events or circumstances including macroeconomic conditions, industry and market considerations, cost factors, overall financial performance, changes in management or key personnel, changes in strategy, changes in customers, changes in the composition or carrying amount of a reporting segment’s net assets and changes in our stock price. If, after assessing the totality of events or circumstances, we determine that it is more likely than not that the fair values of our reporting units are greater than the carrying amounts, then a quantitative impairment test does not need to be performed.
If the qualitative assessment indicates a quantitative analysis should be performed or a quantitative analysis is directly elected, we evaluate goodwill for impairment by comparing the fair value of each of our reporting units to its carrying value, including the associated goodwill. To determine the fair values, we use an income approach, along with other relevant market information, derived from a discounted cash flow model to estimate fair value of our reporting units. An impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value, if any, would be recognized. The loss recognized would not exceed total amount of goodwill allocated to that reporting unit.
Long-Lived Assets – We assess the realizability of our long-lived assets, including definite-lived intangible assets, and to evaluate such assets for impairment whenever events or changes in circumstances indicate the carrying amount of such assets (or group of assets) may not be recoverable. Impairment is determined to exist if estimated future undiscounted cash flows are less than carrying value. If an impairment is indicated, assets are written down to their fair value, which is typically determined by a discounted cash flow analysis. Future cash flow projections include assumptions regarding future sales levels and the level of working capital needed to support the assets. We use data developed by business segment management as well as macroeconomic data in making these calculations. There are no assurances that future cash flow assumptions will be achieved. The amount of any impairment then recognized would be calculated as the difference between estimated fair value and carrying value of the asset.
Accrued Warranties – We record accruals for potential warranty claims based on our claim experience. A liability for estimated warranty claims is accrued at the time of sale. The liability is established using historical warranty claims experience for each product sold. Historical claims experience may be adjusted for known design improvements or for the impact of unusual product quality issues. Assumptions are updated for known events that may affect the potential warranty liability. However, actual claims could be higher or lower than amounts estimated, as the amount and value of warranty claims are subject to variation as a result of many factors that cannot be predicted with certainty, including production quality issues, performance of new products, models and technology, changes in weather conditions for product operation, different uses for products and other similar factors.
Defined Benefit Plans – Pension benefits represent financial obligations that will be ultimately settled in the future with employees who meet eligibility requirements. We maintain defined benefit plans in France, Germany, India, Switzerland and the U.K. for some of our subsidiaries, as well as a nonqualified Supplemental Executive Retirement Plan in the U.S. (“U.S. SERP”). In Italy and Mexico, there are mandatory termination indemnity plans providing a benefit that is payable upon termination of employment in substantially all cases of termination. We have several non-pension post-retirement benefit programs, including health and life insurance benefits to certain former salaried and hourly employees.
Plan assets consist primarily of fixed income and equity securities. For non-U.S. funded plans, approximately 70% of the assets are in fixed income securities, 27% are in equity securities and 3% are in real estate securities. These allocations are reviewed periodically and updated to meet the long-term goals of the plans.
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Determination of defined benefit pension and post-retirement plan obligations and their associated expenses requires use of actuarial valuations to estimate the benefits employees earn while working, as well as the present value of those benefits. We use the services of independent actuaries to assist with these calculations. Inherent in these valuations are economic assumptions, including expected returns on plan assets and discount rates at which liabilities may be settled. The actuarial assumptions used may differ materially from actual results due to changing market and economic conditions, higher or lower turnover rates, or longer or shorter life spans of participants. Actual results that differ from the actuarial assumptions used are recorded as unrecognized gains and losses. Unrecognized gains and losses that exceed 10% of the greater of the plan’s projected benefit obligations or the market-related value of assets are amortized to earnings over the shorter of the estimated future service period of the plan participants or the period until any anticipated final plan settlements. The assumptions used in the actuarial models are evaluated periodically and are updated to reflect experience. We believe the assumptions used in the actuarial calculations are reasonable and are within accepted practices in each of the respective geographic locations in which we operate.
Expected long-term rates of return on pension plan assets were 4.00% for the U.K. plan and 1.25% for the Swiss plan at December 31, 2021. Our strategy with regard to the investments in the pension plans is to earn a rate of return sufficient to match or exceed the long-term growth of pension liabilities. The expected rate of return of plan assets represents an estimate of long-term returns on the investment portfolio. These rates are determined annually by management based on a weighted average of current and historical market trends, historical portfolio performance and the portfolio mix of investments. The expected long-term rate of return on plan assets at the December 31 measurement date is used to measure the earnings effects for the subsequent year. The difference between the expected return and the actual return on plan assets affects the calculated value of plan assets and, ultimately, future pension expense (income).
The discount rates were 2.80% for the U.S. SERP and 0.20% to 6.85% with a weighted average of 1.93% for non-U.S. plans at December 31, 2021. The discount rate enables us to estimate the present value of expected future cash flows on the measurement date. The rate used reflects a rate of return on high-quality fixed income investments that match the duration of expected benefit payments at the December 31 measurement date. The discount rates are used to measure the year-end benefit obligations and the earnings effects on the subsequent year. Typically, a higher discount rate decreases the present value of benefit obligations.
The U.S. SERP has no expected rate of compensation increase as all participants have retired or have a terminated vested benefit payable in the future. Our U.K. pension plan is frozen so there is no expected rate of compensation increase; however, other non-U.S. plans’ expected rates of compensation increases were 1.25% to 8.00%. The weighted average of the rates for all non-U.S. plans is 0.18% at December 31, 2021. These estimated annual compensation increases are determined by management every year and are based on historical trends and market indices.
We have recorded the net underfunded status of our defined benefit pension plans as a liability partially offset by an asset and the unrecognized prior service costs and actuarial gains (losses) as an adjustment to Stockholders’ equity on the Consolidated Balance Sheet. The net decrease in the net liability and increased funded status of $24.1 million was due primarily to changes in assumptions from the previous year, primarily increases in discount rates and returns on our plan assets.
Actual results in any given year will often differ from actuarial assumptions because of demographic, economic and other factors. Market value of plan assets can change significantly in a relatively short period of time. Additionally, the measurement of plan benefit obligations is sensitive to changes in interest rates. As a result, if the equity market declines and/or interest rates decrease, the plans’ estimated benefit obligations could increase, causing an increase in liabilities and a reduction in Stockholders’ Equity.
We expect any future obligations under our plans that are not currently funded to be funded by future cash flows from operations. If our contributions are insufficient to adequately fund the plans to cover our future obligations, or if the performance of assets in our plans does not meet expectations, or if our assumptions are modified, contributions could be higher than expected, which would reduce cash available for our business. Changes in U.S. or foreign laws governing these plans could require additional contributions.
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Assumptions used in computing our net pension expense and projected benefit obligation have a significant effect on the amounts reported. A 25 basis point change in each assumption below would have the following effects upon net pension expense and projected benefit obligation, respectively, as of and for the year ended December 31, 2021 (in millions):
| Increase | Decrease | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Discount Rate | Expected long- term rate of return | Discount Rate | Expected long- term rate of return | |||||||||||
| U. S. Plan: | ||||||||||||||
| Net pension expense | $ | — | $ | — | $ | — | $ | — | ||||||
| Projected benefit obligation | $ | (1.4) | $ | — | $ | 1.4 | — | |||||||
| Non-U.S. Plans: | ||||||||||||||
| Net pension expense (benefit) | $ | 0.2 | $ | (0.4) | $ | (0.2) | $ | 0.4 | ||||||
| Projected benefit obligation | $ | (5.6) | $ | — | $ | 5.9 | — |
Income Taxes – We estimate income taxes based on enacted tax laws in the various jurisdictions where we conduct business. We recognize deferred income tax assets and liabilities, which represent future tax benefits or obligations of our legal entities. These deferred income tax balances arise from temporary differences due to divergent treatment of certain items for accounting and income tax purposes.
We evaluate our deferred tax assets each period to ensure that estimated future taxable income will be sufficient in character, amount and timing to result in the use of our deferred tax assets. “Character” refers to the type (ordinary income versus capital gain) as well as the source (foreign vs. domestic) of the income we generate. “Timing” refers to the period in which future income is expected to be generated. Timing is important because, in certain jurisdictions, net operating losses (“NOLs”) and other tax attributes expire if not used within an established statutory time frame. Based on these evaluations, we have determined that it is more likely than not that expected future earnings will be sufficient to use most of our deferred tax assets.
We do not provide for income taxes or tax benefits on differences between financial reporting basis and tax basis of our non-U.S. subsidiaries where such differences are reinvested and, in our opinion, will continue to be indefinitely reinvested. If earnings of foreign subsidiaries are not considered indefinitely reinvested, deferred U.S. income taxes, foreign income taxes, and foreign withholding taxes may have to be provided. We do not record deferred income taxes on the temporary difference between the book and tax basis in domestic subsidiaries where permissible. At this time, determination of the unrecognized deferred tax liabilities for temporary differences related to our investment in non-U.S. subsidiaries is not practicable.
Judgments and estimates are required to determine tax expense and deferred tax valuation allowances and in assessing uncertain tax positions. Tax returns are subject to audit and local taxing authorities could challenge tax-filing positions we take. Our practice is to file income tax returns that conform to requirements of each jurisdiction and to record provisions for tax liabilities, including interest and penalties, in accordance with Accounting Standards Codification (“ASC”) 740, “Income Taxes.” Given the continued changes and complexity in worldwide tax laws, coupled with our geographic scope and size there may be greater exposure to uncertain tax positions. Given the subjective nature of applicable tax laws, results of an audit of some of our tax returns could have a significant impact on our consolidated financial statements.
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RECENT ACCOUNTING STANDARDS
Please refer to Note A – “Basis of Presentation” in the accompanying Consolidated Financial Statements for a summary of recently issued accounting standards.
LIQUIDITY AND CAPITAL RESOURCES
We are focused on generating cash and maintaining liquidity (cash and availability under our revolving line of credit) for the efficient operation of our business. At December 31, 2021, we had cash and cash equivalents of $266.9 million and undrawn availability under our revolving line of credit of $600 million, giving us total liquidity of approximately $867 million. During the year ended December 31, 2021, our liquidity decreased by approximately $250 million from December 31, 2020 primarily due to reducing outstanding debt by approximately $503 million and investing in our strategic priorities, partially offset by cash generated from operations, the expiration of a $150 million minimum liquidity requirement and proceeds of approximately $99 million from the sale of finance receivables.
Our main sources of funding are cash generated from operations, including cash generated from the sale of receivables, loans from our bank credit facilities and funds raised in capital markets. We have no significant debt maturities until 2024 and we have increased our focus on internal cash flow generation. Our actions to maintain liquidity include disciplined management of costs and working capital. We believe these measures will provide us with adequate liquidity to comply with our financial covenants under our bank credit facility, continue to support internal operating initiatives and meet our operating and debt service requirements for at least the next 12 months from the date of issuance of this annual report. See Part I, Item 1A. – “Risk Factors” for a detailed description of the risks resulting from our debt and our ability to generate sufficient cash flow to operate our business.
Our ability to generate cash from operations is subject to numerous factors, including the following:
•The duration and depth of the global economic uncertainty resulting from COVID-19.
•As our sales change, the amount of working capital needed to support our business may change.
•Many of our customers fund their purchases through third-party finance companies that extend credit based on the credit-worthiness of customers and expected residual value of our equipment. Changes either in customers’ credit profile or used equipment values may affect the ability of customers to purchase equipment. There can be no assurance that third-party finance companies will continue to extend credit to our customers as they have in the past.
•Our suppliers extend payment terms to us primarily based on our overall credit rating. Deterioration in our credit rating may influence suppliers’ willingness to extend terms and in turn accelerate cash requirements of our business.
•Sales of our products are subject to general economic conditions, weather, competition, translation effect of foreign currency exchange rate changes, and other factors that in many cases are outside our direct control. For example, during periods of economic uncertainty, our customers have delayed purchasing decisions, which reduces cash generated from operations.
•Availability and utilization of other sources of liquidity such as trade receivables sales programs.
Typically, we have invested our cash in a combination of highly rated, liquid money market funds and in short-term bank deposits with large, highly rated banks. Our investment objective is to preserve capital and liquidity while earning a market rate of interest.
We seek to use cash held by our foreign subsidiaries to support our operations and continued growth plans outside and inside the U.S. through funding of capital expenditures, operating expenses or other similar cash needs of these operations. Most of this cash could be used in the U.S., if necessary, without additional tax expense. Incremental cash repatriated to the U.S. would not be expected to result in material foreign, Federal or state tax cost. We will continue to seek opportunities to tax-efficiently mobilize and redeploy funds.
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We had free cash flow of $125.0 million for the year ended December 31, 2021.
The following table reconciles net cash provided by (used in) operating activities to free cash flow (in millions):
| Year Ended 12/31/2021 | |||
|---|---|---|---|
| Net cash provided by (used in) operating activities | $ | 293.4 | |
| Increase (decrease) in TFS assets | (110.6) | ||
| Capital expenditures, net of proceeds from sale of capital assets | (57.8) | ||
| Free cash flow | $ | 125.0 |
Pursuant to terms of our trade accounts receivable factoring arrangements, during the year ended December 31, 2021, we sold, without material recourse, approximately $527 million of trade accounts receivable to enhance liquidity. During the year ended December 31, 2021, we also sold approximately $96 million of sales-type leases and commercial loans.
Working capital as a percent of trailing three month annualized net sales was 19.1% at December 31, 2021.
The following tables show the calculation of our working capital and trailing three months annualized sales as of December 31, 2021 (in millions):
| Three months ended 12/31/2021 | ||
|---|---|---|
| Net Sales | $ | 990.1 |
| x | 4 | |
| Trailing Three Month Annualized Net Sales | $ | 3,960.4 |
| As of 12/31/21 | ||
|---|---|---|
| Inventories | $ | 813.5 |
| Trade Receivables | 507.7 | |
| Trade Accounts Payable | (537.7) | |
| Customer Advances | (25.4) | |
| Working Capital | $ | 758.1 |
On January 31, 2017, we entered into a credit agreement which was subsequently amended to include (i) a $600 million revolving line of credit (the “Revolver”) and (ii) senior secured term loans totaling $600 million with a maturity date of January 31, 2024 (the “Term Loans”). On April 1, 2021, we entered into an amendment and restatement of the credit agreement (as amended and restated, the “Credit Agreement”) which included the following principal changes to the original credit agreement: (i) extension of the term of the Revolver to expire on April 1, 2026, which maturity will spring forward to November 1, 2023 if the principal outstanding under the Term Loans is not repaid or the maturity date is not extended, (ii) reinstatement of financial covenants that were waived in 2020, (iii) decrease in the interest rate on the drawn Revolver by 25 basis points and (iv) certain other technical changes, including additional language regarding the potential cessation of the London Interbank Offered Rate (“LIBOR”) as a benchmark rate. See Note J – “Long-Term Obligations” in our Consolidated Financial Statements for additional information regarding the Credit Agreement.
Borrowings under the Credit Agreement as of December 31, 2021 were $77.8 million, net of discount, on our Term Loans. During the year ended December 31, 2021, we prepaid approximately $500 million of our Term Loans prior to their maturity date to reduce our outstanding debt and lower our leverage. At December 31, 2021, the weighted average interest rate was 2.75% on our Term Loans. There were no amounts outstanding on the Revolver as of December 31, 2021.
In April 2021, we sold and issued $600.0 million aggregate principal amount of Senior Notes Due 2029 (“5% Notes”) at par in a private offering. The proceeds from the 5% Notes, together with cash on hand, were used to fund redemption and discharge of the $600.0 million aggregate principal amount of Senior Notes Due 2025 (“5-5/8% Notes”) in full for $622.9 million, including redemption premiums of $16.9 million and accrued but unpaid interest of $6.0 million. See Note J – “Long-Term Obligations” in our Consolidated Financial Statements for additional information regarding the 5% Notes and 5-5/8% Notes.
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We remain focused on expanding customer financing solutions in key markets like the U.S., Europe and China. We also anticipate our continued use of TFS to drive incremental sales by increasing customer financing facilitated through TFS in certain instances. In February 2021, we transferred finance receivables of $89.7 million to a U.S. regional bank, which qualified for sales treatment under ASC 860. We received $99.4 million of cash proceeds from the sale and recognized a net gain of $5.6 million.
On May 25, 2021, we acquired assets to facilitate manufacturing of certain MP products in China for total cash consideration of approximately $17 million.
On July 6, 2021, we acquired a manufacturer of heavy duty aggregate and recycling trommels, apron feeders and conveyor systems based in the Republic of Ireland for total cash consideration of approximately $19 million. This acquisition supports our strategy to expand our material processing offerings in the crushing, screening and environmental industries, with products that complement our existing products.
In July 2018, our Board of Directors authorized the repurchase up to $300 million of our outstanding shares of common stock. During the year ended December 31, 2021, we repurchased 28,688 shares for $1.2 million under this authorization leaving approximately $139 million available for repurchase under this program.
In February 2021, our Board of Directors reinstated our quarterly dividend for 2021 and declared a dividend of $0.12 per share in each quarter of 2021, which was paid to our shareholders. In February 2022, our Board of Directors declared a dividend of $0.13 per share, which will be paid to the Company’s shareholders on March 21, 2022.
Our ability to access capital markets to raise funds, through sale of equity or debt securities, is subject to various factors, some specific to us and others related to general economic and/or financial market conditions. These include results of operations, projected operating results for future periods and debt to equity leverage. Our ability to access capital markets is also subject to our timely filing of periodic reports with the SEC. In addition, terms of our bank credit facilities, senior notes and senior subordinated notes contain restrictions on our ability to make further borrowings and to sell substantial portions of our assets.
The Company’s material cash requirements include the following contractual and other obligations:
Debt
As of December 31, 2021, the Company had outstanding debt of $670.6 million, with $4.0 million payable within 12 months. Future interest payments associated with the outstanding debt are approximately $221 million with $30.5 million payable within 12 months. For detailed debt information see Note J – “Long Term Obligations”.
Leases
The Company has leases for real property, vehicles and office and industrial equipment. As of December 31, 2021, the Company had contractual fixed costs primarily related to lease commitments of approximately $112 million, with $27.4 million payable within 12 months. For detailed lease information see Note K – “Leases”.
Purchase Obligations
The Company had purchase obligations of $744.3 million, with substantially all purchase obligations payable within 12 months. Purchase obligations include non-cancellable and cancellable commitments. In many cases, cancellable commitments contain penalty provisions for cancellation.
We reported a liability of $2.6 million related to unrecognized tax benefits as of December 31, 2021 and do not expect this liability to change materially in 2022. As such, any related payments in 2022 would not be significant.
Additionally, at December 31, 2021, we had outstanding letters of credit that totaled $107.8 million and maximum exposure of $143.5 million for credit guarantees outstanding related to recourse provided to third-party financial institutions when customers finance the purchase of equipment.
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We maintain defined benefit pension plans for some of our U.S. and non-U.S. operations. It is our policy to fund the retirement plans at the minimum level required by applicable regulations. In 2021, we made cash contributions and payments to the retirement plans of $9.7 million, and we estimate that our retirement plan contributions will be approximately $9 million in 2022. Changes in market conditions, changes in our funding levels or actions by governmental agencies may result in accelerated funding requirements in future periods.
In 2022, we expect approximately $90 million in net capital expenditures, with our largest expenditure related to our manufacturing facility in Mexico.
Cash Flows
Cash provided by operations was $293.4 million and $225.4 million for the years ended December 31, 2021 and 2020, respectively. The increase in cash provided by operations was primarily driven by increased operating profitability and proceeds from the sale of customer finance receivables, partially offset by higher working capital as a result of robust end-market demand.
Cash used in investing activities was $102.2 million and $38.5 million for the years ended December 31, 2021 and 2020, respectively. The increase in cash used in investing activities relates primarily to cash used in acquisition and investment activity, partially offset by lower capital expenditures in the current year and proceeds from the disposition of discontinued operations in the prior year.
Cash used in financing activities was $580.1 million and $82.8 million for the years ended December 31, 2021 and 2020, respectively. The increase in cash used in financing activities was primarily due to higher debt repayments, dividend payments and debt extinguishment costs in the current year, partially offset by higher share repurchases in the prior year.
OFF-BALANCE SHEET ARRANGEMENTS
Guarantees
We may assist customers in their rental, leasing and acquisition of our products by facilitating financing transactions directly between (i) end-user customers, distributors and rental companies and (ii) third-party financial institutions, providing recourse in certain circumstances. The expectation of losses or non-performance is assessed based on consideration of historical customer assessments, current financial conditions, reasonable and supportable forecasts, equipment collateral value and other factors. Many of these factors, including the assessment of a customer’s ability to pay, are influenced by economic and market factors that cannot be predicted with certainty. Our maximum liability is generally limited to our customer’s remaining payments due to the third-party financial institutions at the time of default. In the event of a customer default, we are generally able to recover and dispose of the equipment at a minimum loss, if any, to us. Reserves are recorded for expected loss over the contractual period of risk exposure.
There can be no assurance that our historical experience in used equipment markets will be indicative of future results. Our ability to recover losses experienced from our guarantees may be affected by economic conditions in used equipment markets at the time of loss.
See Note N – “Litigation and Contingencies” in the Notes to Consolidated Financial Statements for further information regarding our guarantees.
CONTINGENCIES AND UNCERTAINTIES
Foreign Exchange and Interest Rate Risk
Our products are sold in over 100 countries around the world and, accordingly, our revenues are generated in foreign currencies, while costs associated with those revenues are only partly incurred in the same currencies. Primary currencies to which we are exposed are the Euro, British Pound, Chinese Yuan, Australian Dollar and Mexican Peso. We purchase hedging instruments to manage variability of future cash flows associated with recognized assets or liabilities due to changing currency exchange rates. See Risk Factor entitled, “We are subject to currency fluctuations.” in Part I, Item 1A. for further information on our foreign exchange risk.
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We manage our exposure to interest rate risk by establishing a mix of indebtedness bearing interest at both floating and fixed rates at inception and maintain a ratio of floating and fixed rates on this mix of indebtedness using interest rate derivatives when necessary.
See Note I – “Derivative Financial Instruments” in the Notes to Consolidated Financial Statements for further information regarding our derivatives and Item 7A. – “Quantitative and Qualitative Disclosures About Market Risk” for a discussion of the impact changes in foreign currency exchange rates and interest rates may have on our financial performance.
Other
We are subject to a number of contingencies and uncertainties including, without limitation, product liability claims, workers’ compensation liability, intellectual property litigation, self-insurance obligations, tax examinations, guarantees, class action lawsuits and other matters. See Note N – “Litigation and Contingencies” in the Notes to Consolidated Financial Statements for more information regarding contingencies and uncertainties, including our proceedings involving a claim in Brazil regarding payment of ICMS tax, penalties and related interest. We are insured for product liability, general liability, workers’ compensation, employer’s liability, property damage, intellectual property and other insurable risks required by law or contract with retained liability to us or deductibles. Many of the exposures are unasserted or proceedings are at a preliminary stage, and it is not presently possible to estimate the amount or timing of any liability. However, we do not believe these contingencies and uncertainties will, individually or in aggregate, have a material adverse effect on our operations. For contingencies and uncertainties other than income taxes, when it is probable a loss will be incurred and possible to make reasonable estimates of our liability with respect to such matters, a provision is recorded for the amount of such estimate or for the minimum amount of a range of estimates when it is not possible to estimate the amount within the range that is most likely to occur.
We generate hazardous and non-hazardous wastes in the normal course of our manufacturing operations. As a result, we are subject to a wide range of environmental laws and regulations. All of our employees are required to obey all applicable health, safety and environmental laws and regulations and must observe the proper safety rules and environmental practices in work situations. These laws and regulations govern actions that may have adverse environmental effects, such as discharges to air and water, and require compliance with certain practices when handling and disposing of hazardous and non-hazardous wastes. These laws and regulations would also impose liability for the costs of, and damages resulting from, cleaning up sites, past spills, disposals and other releases of hazardous substances, should any such events occur. We are committed to complying with these standards and monitoring our workplaces to determine if equipment, machinery and facilities meet specified safety standards. Each of our manufacturing facilities is subject to an environmental audit at least once every five years to monitor compliance. Also, no incidents have occurred which required us to pay material amounts to comply with such laws and regulations. We are dedicated to ensuring that safety and health hazards are adequately addressed through appropriate work practices, training and procedures. We are committed to reducing injuries and working towards a world-class level of safety practices in our industry. See Part I, Item 1. – “Business – Safety and Environmental Considerations” for additional discussion of safety and environmental items.