UNITED STATES

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D. C. 20549

 

 

 

 

 

 

FORM 10-Q

 

 

 

 

 

 

[X]

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

 

OR

 

[   ]

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from              to             

 

Commission file number 001-12019

 

 

 

 

 

 

QUAKER CHEMICAL CORPORATION

(Exact name of Registrant as specified in its charter)

 

 

 

 

 

 

 

 

 

Pennsylvania

 

23-0993790

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

 

 

 

One Quaker Park, 901 E. Hector Street,

Conshohocken, Pennsylvania

 

19428 – 2380

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code: 610-832-4000

 

Not Applicable

Former name, former address and former fiscal year, if changed since last report.

 

 

 

 

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      [X]     No    [  ]     

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes    [X]     No   [  ]     

 

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

 

 

Large accelerated filer  [X]

 

Accelerated filer  [  ]

 

 

Non-accelerated filer  [  ]

Smaller reporting company [  ]

 

 

Emerging growth company  [  ]

 

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.   [  ]

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  [  ]    No  [X]

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

 

 

 

Number of Shares of Common Stock

Outstanding on September 30, 2018

 

 

13,334,364

 


 

QUAKER CHEMICAL CORPORATION AND CONSOLIDATED SUBSIDIARIES

 

  

 

Page

PART I.

  

FINANCIAL INFORMATION

 

Item 1.

 

Financial Statements (unaudited)

 

 

 

Condensed Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2018

2

 

 

and September 30, 2017

 

 

Condensed Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended

3

 

 

September 30, 2018 and September 30, 2017

 

 

Condensed Consolidated Balance Sheets at September 30, 2018 and December 31, 2017

4

 

 

Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2018

5

 

 

and September 30, 2017

 

 

Notes to Condensed Consolidated Financial Statements

6

Item 2.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

24

Item 3.

  

Quantitative and Qualitative Disclosures about Market Risk

35

Item 4.

  

Controls and Procedures

36

PART II.

  

OTHER INFORMATION

37

Item 1.

 

Legal Proceedings

37

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

37

Item 6.

  

Exhibits

38

Signatures

38

1


 

PART I

FINANCIAL INFORMATION

 

Item 1.                        Financial Statements (Unaudited).

 

Quaker Chemical Corporation

Condensed Consolidated Statements of Income

(Dollars in thousands, except per share data)

 

 

 

 

Unaudited

 

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

2018

 

2017

 

2018

 

2017

Net sales

$

222,022

 

$

212,918

 

$

656,039

 

$

609,010

Cost of goods sold

  

140,929

 

  

138,142

 

  

418,562

 

  

391,512

 

Gross profit

  

81,093

 

  

74,776

 

  

237,477

 

  

217,498

Selling, general and administrative expenses

  

53,270

 

  

51,092

 

  

157,360

 

  

148,740

Combination-related expenses

 

2,904

 

 

9,675

 

 

12,404

 

 

23,088

 

Operating income

  

24,919

 

 

14,009

 

  

67,713

 

  

45,670

Other (expense) income, net

  

(523)

 

  

249

 

  

(631)

 

  

(1,427)

Interest expense

  

(1,510)

 

  

(793)

 

  

(4,804)

 

  

(2,229)

Interest income

  

521

 

  

762

 

  

1,581

 

  

1,825

 

Income before taxes and equity in net income of associated

 

 

 

 

 

 

 

 

 

 

 

 

companies

  

23,407

 

  

14,227

 

  

63,859

 

  

43,839

Taxes on income before equity in net income of associated

 

 

 

 

 

 

 

 

 

 

 

 

companies

  

4,330

 

  

3,140

 

  

13,554

 

  

14,229

 

Income before equity in net income of associated companies

  

19,077

 

  

11,087

 

  

50,305

 

  

29,610

Equity in net income of associated companies

  

694

 

  

617

 

  

1,623

 

  

2,049

 

Net income

 

19,771

 

 

11,704

 

 

51,928

 

 

31,659

Less: Net income attributable to noncontrolling interest

 

81

 

 

562

 

 

260

 

 

1,619

 

Net income attributable to Quaker Chemical Corporation

$

19,690

 

$

11,142

 

$

51,668

 

$

30,040

Per share data:

  

 

 

  

 

 

  

 

 

  

 

 

Net income attributable to Quaker Chemical Corporation

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Shareholders – basic

$

1.48

 

$

0.84

 

$

3.88

 

$

2.26

 

Net income attributable to Quaker Chemical Corporation

 

 

 

 

 

 

 

 

 

 

 

 

 

Common Shareholders – diluted

$

1.47

 

$

0.83

 

$

3.87

 

$

2.25

 

Dividends declared

$

0.370

 

$

0.355

 

$

1.095

 

$

1.055

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

2


 

Quaker Chemical Corporation

Condensed Consolidated Statements of Comprehensive Income

(Dollars in thousands)

  

 

 

 

 

Unaudited

 

 

 

Three Months Ended

 

Nine Months Ended

 

 

 

September 30,

 

September 30,

 

 

 

2018

 

2017

 

2018

 

2017

Net income

$

19,771

 

$

11,704

 

$

51,928

 

$

31,659

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive (loss) income, net of tax

 

 

 

 

 

 

 

 

 

 

 

 

Currency translation adjustments

 

(6,859)

 

 

5,764

 

 

(17,111)

 

 

18,528

 

Defined benefit retirement plans

 

678

 

 

62

 

 

2,258

 

 

2,171

 

Unrealized gain (loss) on available-for-sale securities

 

162

 

 

286

 

 

(493)

 

 

453

 

 

Other comprehensive (loss) income

 

(6,019)

 

 

6,112

 

 

(15,346)

 

 

21,152

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

13,752

 

 

17,816

 

 

36,582

 

 

52,811

Less: Comprehensive income attributable to

 

 

 

 

 

 

 

 

 

 

 

 

noncontrolling interest

 

(43)

 

 

(409)

 

 

(146)

 

 

(2,037)

Comprehensive income attributable to Quaker Chemical

 

 

 

 

 

 

 

 

 

 

 

 

Corporation

$

13,709

 

$

17,407

 

$

36,436

 

$

50,774

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

3


 

Quaker Chemical Corporation

Condensed Consolidated Balance Sheets

(Dollars in thousands, except par value and share amounts)

  

 

 

 

 

Unaudited

 

 

 

September 30,

 

December 31,

 

 

 

2018

 

2017

ASSETS

  

  

 

  

  

Current assets

  

  

 

  

  

 

Cash and cash equivalents

$

99,810

 

$

89,879

 

Accounts receivable, net

  

214,056

 

  

208,358

 

Inventories

  

 

 

  

 

 

 

Raw materials and supplies

  

49,913

 

  

44,439

 

 

Work-in-process and finished goods

  

46,692

 

  

42,782

 

Prepaid expenses and other current assets

  

17,446

 

  

21,128

 

 

Total current assets

  

427,917

 

  

406,586

Property, plant and equipment, at cost

  

254,881

 

  

255,990

 

Less accumulated depreciation

  

(172,724)

 

  

(169,286)

 

 

Net property, plant and equipment

  

82,157

 

  

86,704

Goodwill

  

83,695

 

  

86,034

Other intangible assets, net

  

65,912

 

  

71,603

Investments in associated companies

  

22,471

 

  

25,690

Non-current deferred tax assets

  

15,072

 

  

15,661

Other assets

  

32,065

 

  

30,049

 

 

Total assets

$

729,289

 

$

722,327

  

 

 

  

 

 

  

 

LIABILITIES AND EQUITY

  

 

 

  

 

Current liabilities

  

 

 

  

 

 

Short-term borrowings and current portion of long-term debt

$

5,673

 

$

5,736

 

Accounts and other payables

  

96,053

 

  

97,732

 

Accrued compensation

  

24,099

 

  

22,846

 

Other current liabilities

  

31,485

 

  

29,384

 

 

Total current liabilities

  

157,310

 

  

155,698

Long-term debt

  

46,875

 

  

61,068

Non-current deferred tax liabilities

  

9,543

 

  

9,653

Other non-current liabilities

  

82,925

 

  

87,044

 

 

Total liabilities

  

296,653

 

  

313,463

Commitments and contingencies (Note 18)

 

 

 

 

 

Equity

  

 

 

  

 

 

Common stock, $1 par value; authorized 30,000,000 shares; issued and

  

 

 

  

 

 

 

outstanding 2018 – 13,334,364 shares; 2017 – 13,307,976 shares

 

13,334

 

 

13,308

 

Capital in excess of par value

  

96,121

 

  

93,528

 

Retained earnings

  

402,255

 

  

365,182

 

Accumulated other comprehensive loss

  

(80,332)

 

  

(65,100)

 

 

Total Quaker shareholders’ equity

  

431,378

 

  

406,918

Noncontrolling interest

 

1,258

 

 

1,946

Total equity

 

432,636

 

 

408,864

 

 

Total liabilities and equity

$

729,289

 

$

722,327

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

4


 

Quaker Chemical Corporation

Condensed Consolidated Statements of Cash Flows

(Dollars in thousands)

 

 

 

 

 

Unaudited

 

 

 

 

Nine Months Ended September 30,

 

 

 

 

2018

 

2017

Cash flows from operating activities

  

  

  

  

  

 

Net income

$

51,928

 

$

31,659

 

Adjustments to reconcile net income to net cash provided by operating activities:

  

 

 

  

 

 

 

Depreciation

  

9,386

 

  

9,464

 

 

Amortization

  

5,525

 

  

5,490

 

 

Equity in undistributed earnings of associated companies, net of dividends

  

2,658

 

  

(1,919)

 

 

Deferred compensation and other, net

  

(898)

 

  

(1,190)

 

 

Share-based compensation

  

2,847

 

  

3,269

 

 

Gain on disposal of property, plant, equipment and other assets

  

(680)

 

  

(50)

 

 

Insurance settlement realized

  

(680)

 

  

(542)

 

 

Combination-related expenses, net of payments

 

(349)

 

 

10,367

 

 

Pension and other postretirement benefits

  

(1,113)

 

  

608

 

(Decrease) increase in cash from changes in current assets and current

 

 

  

 

 

 

 

liabilities, net of acquisitions:

 

 

 

 

 

 

 

Accounts receivable

  

(14,029)

 

  

(12,946)

 

 

Inventories

  

(12,719)

 

  

(9,272)

 

 

Prepaid expenses and other current assets

  

2,196

 

  

(5,217)

 

 

Accounts payable and accrued liabilities

  

6,824

 

  

11,755

 

 

Restructuring liabilities

 

 

 

(675)

 

 

   

Net cash provided by operating activities

  

50,896

 

  

40,801

 

 

 

 

 

 

 

 

 

Cash flows from investing activities

  

 

 

  

 

 

 

Investments in property, plant and equipment

  

(8,815)

 

  

(8,032)

 

 

Payments related to acquisitions, net of cash acquired

  

(500)

 

  

(5,363)

 

 

Proceeds from disposition of assets

 

803

 

 

67

 

 

Insurance settlement interest earned

  

102

 

  

35

 

 

   

Net cash used in investing activities

  

(8,410)

 

  

(13,293)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities

  

 

 

  

 

 

 

Proceeds from long-term debt

  

 

  

4,472

 

 

Repayments of long-term debt

  

(11,518)

 

  

(488)

 

 

Dividends paid

  

(14,385)

 

  

(13,893)

 

 

Stock options exercised, other

  

(227)

 

  

(2,594)

 

 

Distributions to noncontrolling affiliate shareholders

 

(834)

 

 

 

 

   

Net cash used in financing activities

  

(26,964)

 

  

(12,503)

 

 

 

 

 

 

 

 

 

 

 

   

Effect of foreign exchange rate changes on cash

  

(6,168)

 

  

4,758

 

 

 

 

 

 

 

 

 

Net increase in cash, cash equivalents and restricted cash

  

9,354

 

  

19,763

Cash, cash equivalents and restricted cash at the beginning of the period

  

111,050

 

  

110,701

Cash, cash equivalents and restricted cash at the end of the period

$

120,404

 

$

130,464

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

5


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements 

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 1 – Condensed Financial Information

The condensed consolidated financial statements included herein are unaudited and have been prepared in accordance with generally accepted accounting principles in the United States (“U.S. GAAP”) for interim financial reporting and the United States Securities and Exchange Commission (“SEC”) regulations.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to such rules and regulations.  In the opinion of management, the financial statements reflect all adjustments (consisting only of normal recurring adjustments, except certain material adjustments, as discussed below) which are necessary for a fair statement of the financial position, results of operations and cash flows for the interim periods.  The results for the three and nine months ended September 30, 2018, respectively, are not necessarily indicative of the results to be expected for the full year.  These financial statements should be read in conjunction with the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2017.

During the first quarter of 2018, the Company adopted guidance regarding the accounting for and disclosure of net sales and revenue recognition.  The Company’s adoption, using the modified retrospective adoption approach, resulted in certain adjustments to its Condensed Consolidated Balance Sheet as of December 31, 2017.  In addition, during the first quarter of 2018, the Company adopted an accounting standard update requiring that the statement of cash flows explain both the change in total cash and cash equivalents and also the amounts generally described as restricted cash or restricted cash equivalents.  The guidance in this accounting standard update was required to be applied retrospectively which resulted in certain adjustments to the Company’s Condensed Consolidated Statement of Cash Flows for the Nine months ended September 30, 2017.  See Note 3 of Notes to Condensed Consolidated Financial Statements.

Hyper-inflationary economies

Economies that have a cumulative three-year rate of inflation exceeding 100 percent are considered hyper-inflationary under U.S. GAAP.  A legal entity which operates within an economy deemed to be hyper-inflationary is required to remeasure its monetary assets and liabilities to the applicable published exchange rates and record the associated gains or losses resulting from the remeasurement directly to the Condensed Consolidated Statements of Income.  The Company has a 50-50 joint venture in a Venezuelan affiliate, Kelko Quaker Chemical, S.A.  Venezuela’s economy has been considered hyper-inflationary under U.S. GAAP since 2010.  As of June 30, 2018, the Company’s investment in Kelko Quaker Chemical S.A. was less than $0.1 million.  Due to heightened foreign exchange controls and restrictions currently present within Venezuela, during the third quarter of 2018 the Company concluded that it no longer had significant influence over this affiliate.  Based on various indices or index compilations currently being used to monitor inflation in Argentina as well as recent economic instability, effective July 1, 2018, Argentina’s economy was considered hyper-inflationary under U.S. GAAP.  As a result, the Company began applying hyper-inflationary accounting with respect to the Company's wholly owned Argentina subsidiary beginning July 1, 2018.  As of, and for the nine months ended September 30, 2018, the Company's Argentina subsidiary represented less than 1% of the Company’s consolidated total assets and less than 1% of the Company’s consolidated net sales.  During the three and nine months ended September 30, 2018, the Company recorded $0.5 million and $0.8 million of remeasurement losses associated with the applicable currency conversions related to Venezuela and Argentina.  During the three and nine months ended September 30, 2017, the Company recorded less than $0.1 million and $0.4 million of remeasurement losses related to Venezuela.

 

Note 2 – Houghton Combination

On April 4, 2017, Quaker entered into a share purchase agreement with Gulf Houghton Lubricants, Ltd. to purchase the entire issued and outstanding share capital of Houghton International, Inc. (“Houghton”) (herein referred to as “the Combination”).  The shares will be bought for aggregate purchase consideration consisting of: (i) $172.5 million in cash; (ii) a number of shares of common stock, $1.00 par value per share, of the Company comprising 24.5% of the common stock outstanding upon the closing of the Combination; and (iii) the Company’s assumption of Houghton’s net indebtedness as of the closing of the Combination, which was approximately $690 million at signing.  At closing, the total aggregate purchase consideration is dependent on the Company’s stock price and the level of Houghton’s indebtedness.

The Company secured $1.15 billion in commitments from Bank of America Merrill Lynch and Deutsche Bank to fund the Combination and to provide additional liquidity, and has since replaced these commitments with a syndicated bank agreement (“the New Credit Facility”) with a group of lenders for $1.15 billion.  The New Credit Facility is contingent upon and will not be effective until the closing of the Combination.  During the third quarter of 2018 the Company extended the bank commitment for the New Credit Facility through December 15, 2018.  The New Credit Facility is comprised of a $400.0 million multicurrency revolver, a $600.0 million USD term loan and a $150.0 million EUR equivalent term loan, each with a five-year term from the date the New Credit Facility becomes effective.  The maximum amount available under the New Credit Facility can be increased by $200.0 million at the Company’s option if the lenders agree and the Company satisfies certain conditions.  Borrowings under the New Credit Facility will bear interest at a base rate or LIBOR rate plus a margin.  The Company currently estimates the annual floating rate cost will be in

6


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

the 3.50% to 3.75% range based on current market interest rates.  The New Credit Facility will be subject to certain financial and other covenants, including covenants that the Company’s consolidated net debt to adjusted EBITDA ratio cannot initially exceed 4.25 to 1 and the Company’s consolidated adjusted EBITDA to interest expense ratio cannot be less than 3.0 to 1.  Both the USD and EUR equivalent term loans will have quarterly principal amortization during their respective five-year terms, with 5% amortization of the principal balance due in years 1 and 2, 7.5% in year 3, and 10% in years 4 and 5, with the remaining principal amounts due at maturity.  Until closing, the Company will incur certain interest costs paid to maintain the bank commitment (“ticking fees”), which began to accrue on September 29, 2017 and bear an interest rate of 0.30% per annum.

The Company received regulatory approval for the Combination from China and Australia in 2017.  In addition, at a shareholder meeting held during the third quarter of 2017, the Company’s shareholders overwhelmingly approved the issuance of the new shares of the Company’s common stock at closing of the Combination.  Currently, the closing of the Combination is contingent upon customary closing conditions and the remaining regulatory approvals in the United States and Europe.  The Company has presented a remedy to the European Commission and the United States Federal Trade Commission and expects to receive approval from both regulatory authorities and close the Combination in December 2018 or January 2019. 

The Company incurred total costs of $3.8 million and $14.4 million during the three and nine months ended September 30, 2018, and $9.7 million and $23.1 million during the three and nine months ended September 30, 2017, respectively, related to the Combination.  These costs included legal, environmental, financial, and other advisory and consultant costs related to due diligence, regulatory and shareholder approvals and integration planning associated with the Combination, as well as ticking fees.  As of September 30, 2018 and December 31, 2017, the Company had current liabilities related to the Combination of approximately $5.1 million and $5.5 million, respectively, primarily recorded within other current liabilities on its Condensed Consolidated Balance Sheets. 

Note 3 – Recently Issued Accounting Standards

The Financial Accounting Standards Board (“FASB”) issued an accounting standard update in August 2018 that modifies certain disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans.  The amendments in this accounting standard update remove disclosures that are no longer considered cost beneficial, clarify the specific requirements of certain disclosures, and add new disclosure requirements as relevant.  The guidance within this accounting standard update is effective for annual periods beginning after December 15, 2020, and should be applied retrospectively to all periods presented.  Early adoption is permitted.  The Company has not early adopted the guidance and is currently evaluating its implementation.

The FASB issued an accounting standard update in August 2018 that clarifies the accounting for implementation costs incurred in a cloud computing arrangement under a service contract.  This guidance generally aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement under a service contract with the requirements for capitalizing implementation costs related to internal-use software.  The guidance within this accounting standard update is effective for annual periods beginning after December 15, 2019, and should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption.  Early adoption is permitted.  The Company has not early adopted the guidance and is currently evaluating its implementation.

The FASB issued an accounting standard update in August 2018 that modifies certain disclosure requirements for fair value measurements. The guidance removes certain disclosure requirements regarding transfers between levels of the fair value hierarchy as well as the valuation processes for certain fair value measurements.  Further, the guidance added certain disclosure requirements including unrealized gains and losses and significant unobservable inputs used to develop certain fair value measurements.  The guidance within this accounting standard update is effective for annual and interim periods beginning after December 15, 2019, and should be applied prospectively in the initial year of adoption or prospectively to all periods presented, depending on the amended disclosure requirement.  Early adoption is permitted.  The Company has not early adopted the guidance and is currently evaluating its implementation.

The FASB issued an accounting standard update in June 2018 to simplify the accounting for share-based payment transactions with non-employees of the Company.  The guidance within this accounting standard update generally requires that share-based payment transactions for acquiring goods or services from non-employees of the Company be accounted for under the same guidance and model as all other share-based payment transactions, including employees of the Company.  The guidance within this accounting standard update is effective for annual and interim periods beginning after December 15, 2018.  Early adoption is permitted.  The Company elected to early adopt the guidance within this accounting standard updated in the second quarter of 2018 with no impact to its financial statements. 

 

 

7


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

The FASB issued an accounting standard update in February 2018 that allows a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for stranded tax effects resulting from the Tax Cuts and Jobs Act enacted in December 2017.  The guidance within this accounting standard update is effective for annual and interim periods beginning after December 15, 2018, and should be applied either in the period of adoption or retrospectively to each period in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act is recognized.  Early adoption is permitted.  The Company has not early adopted the guidance and is currently evaluating its implementation.

The FASB issued an accounting standard update in January 2017 to clarify the definition of a business with the objective of adding guidance to assist companies with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses.  The amendments in this accounting standard update provided a more robust framework to use in determining when a set of assets and activities is a business.  The guidance within this accounting standard update was effective for annual and interim periods beginning after December 15, 2017.  Early adoption was permitted in limited circumstances, and the amendments in this accounting standard update were required to be applied prospectively, with no disclosures required at transition.  The Company adopted the guidance in the first quarter of 2018, as required, with no impact to its financial statements.

The FASB issued an accounting standard update in November 2016 requiring that the statement of cash flows explain both the change in the total cash and cash equivalents, and also the amounts generally described as restricted cash or restricted cash equivalents.  This required amounts generally described as restricted cash or restricted cash equivalents be included with cash and cash equivalents when reconciling the beginning and ending amounts shown on the statement of cash flows.  The guidance within this accounting standard update was effective for annual and interim periods beginning after December 15, 2017.  Early adoption was permitted and the guidance required application using a retrospective transition method to each period presented when adopted.  The Company adopted the guidance in the first quarter of 2018, as required.  Adoption of the guidance did not have an impact on the Company’s earnings or balance sheet but did result in changes to certain disclosures within the statement of cash flows, including cash flows from investing activities and total cash, cash equivalents and restricted cash.  See Note 12 of Notes to Condensed Consolidated Financial Statements.

The FASB issued an accounting standard update in October 2016 to improve the accounting for the income tax consequences of intra-entity transfers of assets other than inventory.  The provisions in this update allowed an entity to recognize current and deferred income taxes of an intra-entity transfer of an asset other than inventory when the transfer occurs rather than when the asset has been sold to an outside party.  The guidance within this accounting standard update was effective for annual and interim periods beginning after December 15, 2017.  Early adoption was permitted and the guidance required application on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption.  The Company adopted the guidance in the first quarter of 2018, as required, with no impact to its financial statements.

The FASB issued an accounting standard update in August 2016 to standardize how certain transactions are classified in the statement of cash flows.  Specific transactions covered by the accounting standard update include debt prepayment or debt extinguishment costs, settlement of zero-coupon debt instruments, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate and bank owned life insurance policies, distributions received from equity method investments and beneficial interest in securitization transactions.  The guidance within this accounting standard update was effective for annual and interim periods beginning after December 15, 2017.  Early adoption was permitted, provided that all of the amendments were adopted in the same period.  The guidance required application using a retrospective transition method.  The Company adopted the guidance in the first quarter of 2018 as required, with no impact to its financial statements.

The FASB issued an accounting standard update in February 2016 regarding the accounting and disclosure for leases.  During 2018, the FASB issued a series of accounting standard updates to clarify and expand on the original 2016 implementation guidance, including certain targeted improvements around comparative reporting requirements and accounting for lease and non-lease components by lessors as well as other technical corrections and improvements.  The amendments in these 2018 updates did not change the core principles of the guidance previously issued in February 2016.  The guidance within all of the leasing accounting standard updates are effective for annual and interim periods beginning after December 15, 2018, and should be applied on a modified retrospective basis, applying the transition requirements either (a) at the beginning of the earliest period presented in the financial statements in the year of adoption (i.e. January 1, 2017) or (b) in the period of adoption (i.e. January 1, 2019).  Early adoption is permitted, but the Company has not early adopted.  The Company expects to adopt the guidance in the first quarter of 2019, as required, using a modified retrospective transition approach  The Company currently anticipates electing to apply the transition requirements in the period of adoption (i.e. as of January 1, 2019), as permitted.  As such the Company will neither restate comparative periods for the effects of this lease accounting guidance or provide the disclosures requirements for comparative periods.  While the Company’s decisions are not finalized, the Company anticipates electing to apply certain of the permitted practical expedients within the new lease accounting guidance, and, also, the Company anticipates making certain accounting policy elections as a result of adopting the new lease accounting guidance.

8


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

As of September 30, 2018, the Company has substantially completed its implementation planning and has made significant progress towards completing its impact assessment.  Work performed to date includes developing a detailed project plan, identifying and establishing a cross-functional implementation team and developing pre-adoption internal controls.  In addition, the Company has gathered an inventory of the Company’s explicit outstanding leases globally, performed certain review procedures to ensure completeness of its lease population and began abstracting critical lease information from the lease population for inclusion within the Company’s leasing software.  Also, the Company has begun preliminary considerations for how the new lease accounting guidance may impact Houghton, as it pertains to the potential Combination.  The Company anticipates using the remainder of 2018 to further develop its considerations for the potential Houghton Combination as well as finalize its impact assessment and implementation including completing the abstraction of critical lease information for inclusion within the Company’s leasing software and calculating a preliminary transition adjustment that will be reflected in the Company’s financial statements starting after the effective date of January 1, 2019.  While the Company’s implementation of this lease accounting guidance is still on-going, the Company anticipates adoption of this guidance will have a material impact on its balance sheet as it expects the majority of its leases will be recorded on its balance sheet by establishing right of use assets and associated lease liabilities.  The Company previously disclosed in its Annual Report filed on Form 10-K for the year ended December 31, 2017 that its undiscounted contractual obligations associated with operating leases were $27.6 million in the aggregate, which will be one of the significant inputs used in calculating the amount of right of use assets and associated lease liabilities the Company will record on its Condensed Consolidated Balance Sheet as of January 1, 2019 upon adoption of this lease accounting guidance. 

The FASB issued an accounting standard update in May 2014 regarding the accounting for and disclosure of revenue recognition.  Specifically, the update outlined a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers, which will be common to both U.S. GAAP and International Financial Reporting Standards.  The guidance was effective for annual and interim periods beginning after December 15, 2016, and allowed for full retrospective adoption of prior period data or a modified retrospective adoption.  Early adoption was not permitted.  In August 2015, the FASB issued an accounting standard update to delay the effective date of the new revenue standard by one year, or, in other words, to be effective for annual and interim periods beginning after December 15, 2017.  Entities were permitted to adopt the new revenue standard early but not before the original effective date.  During 2016 and 2017, the FASB issued a series of accounting standard updates to clarify and expand on the implementation guidance, including principal versus agent considerations, identification of performance obligations, licensing, other technical corrections and adding certain practical expedients.  The amendments in these 2016 and 2017 updates did not change the core principles of the guidance previously issued in May 2014.

As part of the Company’s impact assessment for the implementation of the new revenue recognition guidance, the Company reviewed its historical accounting policies and practices to identify potential differences with the requirements of the new revenue recognition standard as it related to the Company’s contracts and sales arrangements.  In addition, the impact assessment and work performed included global and cross functional interviews and questionnaires, sales agreement and other sales document reviews, as well as technical considerations for the Company’s future transactional accounting, financial reporting and disclosure requirements.  The Company has also progressed its assessment of how the new revenue recognition guidance may impact Houghton, as it pertains to the pending Combination.

The Company adopted the guidance in the first quarter of 2018 as required, electing to use a modified retrospective adoption approach applied to those contracts which were not completed as of January 1, 2018.  Comparative information has not been restated and continues to be reported under the accounting standards in effect for those periods.  In addition, the Company elected to apply certain of the permitted practical expedients within the revenue recognition guidance and make certain accounting policy elections including those related to significant financing components, sales taxes and shipping and handling activities.  Adoption of the revenue recognition guidance did not have a material impact on the Company’s reported earnings or cash flows, however, adoption did increase the amount and level of disclosures concerning the Company’s net sales and did result in one adjustment to the Company’s balance sheet.  As a result of the Company’s impact assessment and adoption using the modified retrospective adoption approach, the Company recorded an adjustment to its Condensed Consolidated Balance Sheet as of December 31, 2017 to adjust the Company’s estimate of variable consideration relating to customers’ expected rights to return product.  This adjustment resulted in an increase to other current liabilities of $1.0 million, an increase to non-current deferred tax assets of $0.2 million and a decrease to retained earnings of $0.8 million.  There were no other impacts recorded as a result of adopting the revenue recognition guidance.  The impact of adoption of the new revenue recognition guidance was immaterial for the three and nine months ended September 30, 2018 and the Company expects the impact to be immaterial on an ongoing basis.  See Note 4 of Notes to Condensed Consolidated Financial Statements.

9


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 4 – Net Sales and Revenue Recognition

Business Description

The Company develops, produces, and markets a broad range of formulated chemical specialty products and offers chemical management services (“CMS”) for various heavy industrial and manufacturing applications in a global portfolio throughout its four regions: North America, Europe, Middle East and Africa (“EMEA”), Asia/Pacific and South America.  The major product lines in the Company’s global portfolio include: (i) rolling lubricants (used by manufacturers of steel in the hot and cold rolling of steel and by manufacturers of aluminum in the hot rolling of aluminum); (ii) machining and grinding compounds (used by metalworking customers in cutting, shaping, and grinding metal parts which require special treatment to enable them to tolerate the manufacturing process, achieve closer tolerance, and improve tool life); (iii) corrosion preventives (used by steel and metalworking customers to protect metal during manufacture, storage, and shipment); (iv) hydraulic fluids (used by steel, metalworking, and other customers to operate hydraulic equipment); (v) specialty greases (used in automotive and aerospace production processes and applications, the manufacturing of steel, and various other applications); and (vi) metal finishing compounds (used to prepare metal surfaces for special treatments such as galvanizing and tin plating and to prepare metal for further processing).

A substantial portion of the Company’s sales worldwide are made directly through its own employees and its CMS programs, with the balance being handled through distributors and agents.  The Company’s employees visit the plants of customers regularly, work on site, and, through training and experience, identify production needs which can be resolved or alleviated either by adapting the Company’s existing products or by applying new formulations developed in its laboratories.  The chemical specialty industry comprises many companies of similar size as well as companies larger and smaller than Quaker.  The offerings of many of the Company’s competitors differ from those of Quaker; some offer a broad portfolio of fluids, including general lubricants, while others have a more specialized product range.  All competitors provide different levels of technical services to individual customers. Competition in the industry is based primarily on the ability to provide products that meet the needs of the customer, render technical services and laboratory assistance to the customer and, to a lesser extent, on price.

As part of the Company’s CMS, certain third-party product sales to customers are managed by the Company.  Where the Company acts as a principal, revenues are recognized on a gross reporting basis at the selling price negotiated with its customers.  Where the Company acts as an agent, revenue is recognized on a net reporting basis at the amount of the administrative fee earned by the Company for ordering the goods.  In determining whether the Company is acting as a principal or an agent in each arrangement, the Company considers whether it is primarily responsible for fulfilling the promise to provide the specified good, has inventory risk before the specified good has been transferred to the customer and has discretion in establishing the prices for the specified goods.  Third-party products transferred under arrangements resulting in net reporting totaled $11.7 million and $35.8 million for the three and nine months ended September 30, 2018, respectively, and $11.2 million and $33.0 million for the three and nine months ended September 30, 2017, respectively.

A significant portion of the Company’s revenues are realized from the sale of process fluids and services to manufacturers of steel, automobiles, aircraft, appliances, and durable goods, and, therefore, the Company is subject to the same business cycles as those experienced by these manufacturers and their customers.  The Company’s financial performance is generally correlated to the volume of global production within the industries it serves, rather than discretely related to financial performance of such industries. Furthermore, steel customers typically have limited manufacturing locations compared to other metalworking customers and generally use higher volumes of products at a single location.  As previously disclosed in its Annual Report filed on Form 10-K for the year ended December 31, 2017, during 2017 the Company’s five largest customers (each composed of multiple subsidiaries or divisions with semiautonomous purchasing authority) accounted for approximately 18% of consolidated net sales, with its largest customer accounting for approximately 8% of consolidated net sales.

Revenue Recognition Model

The Company applies the FASB’s guidance on revenue recognition which requires the Company to recognize revenue in an amount that reflects the consideration to which the Company expects to be entitled in exchange for goods or services transferred to its customers.  To do this, the Company applies the five-step model in the FASB’s guidance, which requires the Company to: (i) identify the contract with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when, or as, the Company satisfies a performance obligation.

The Company identifies a contract with a customer when a sales agreement indicates approval and commitment of the parties; identifies the rights of the parties; identifies the payment terms; has commercial substance; and it is probable that the Company will collect the consideration to which it will be entitled in exchange for the goods or services that will be transferred to the customer.  In most instances, the Company’s contract with a customer is the customer’s purchase order.  For certain customers, the Company may also enter into a sales agreement which outlines a framework of terms and conditions which apply to all future and subsequent

10


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

purchase orders for that customer.  In these situations, the Company’s contract with the customer is both the sales agreement as well as the specific customer purchase order.  Because the Company’s contract with a customer is typically for a single transaction or customer purchase order, the duration of the contract is almost always one year or less.  As a result, the Company has elected to apply certain practical expedients and omit certain disclosures of remaining performance obligations for contracts which have an initial term of one year or less as permitted by the FASB.

The Company identifies a performance obligation in a contract for each promised good or service that is separately identifiable from other promises in the contract and for which the customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer.  The Company determines the transaction price as the amount of consideration it expects to be entitled to in exchange for fulfilling the performance obligations, including the effects of any variable consideration, significant financing elements, amounts payable to the customer or noncash consideration.  For any contracts that have more than one performance obligation, the Company allocates the transaction price to each performance obligation in an amount that depicts the amount of consideration to which the Company expects to be entitled in exchange for satisfying each performance obligation.

In accordance with the last step of the FASB’s guidance, the Company recognizes revenue when, or as, it satisfies the performance obligation in a contract by transferring control of a promised good or service to the customer.  The Company recognizes revenue over time whenever the customer simultaneously receives and consumes the benefits provided by the Company’s performance; the Company’s performance creates or enhances an asset that the customer controls as the asset is created or enhanced; or the Company’s performance does not create an asset with an alternative use to the entity, and the entity has an enforceable right to payment, including a profit margin, for performance completed to date.  For performance obligations not satisfied over time, the Company determines the point in time at which a customer obtains control of a promised asset and the Company satisfies a performance obligation by considering when the Company has a right to payment for the asset; the customer has legal title to the asset; the Company has transferred physical possession of the asset; the customer has the significant risks and rewards of ownership of the asset; or the customer has accepted the asset.

The Company typically satisfies its performance obligations and recognizes revenue at a point in time for product sales, generally when products are shipped or delivered to the customer, depending on the terms underlying each arrangement.  In circumstances where the Company’s products are on consignment, revenue is generally recognized upon usage or consumption by the customer.  For any CMS or other services provided by the Company to the customer, the Company typically satisfies its performance obligations and recognizes revenue over time, as the promised services are performed.  The Company uses input methods to recognize revenue over time related to these services, including labor costs and time incurred.  The Company believes that these input methods represent the most indicative measure of the CMS or other service work performed by the Company.

Other Considerations

The Company does not have standard payment terms for all customers globally, however the Company’s general payment terms require customers to pay for products or services provided after the performance obligation is satisfied.  The Company does not have significant financing arrangements with its customers.  The Company does not have significant amounts of variable consideration in its contracts with customers and where applicable, the Company’s estimates of variable consideration are not constrained.  The Company records certain third-party license fees in other income (expense), net, in its Condensed Consolidated Statement of Income, which generally include sales-based royalties in exchange for the license of intellectual property.  These license fees are recognized in accordance with their agreed-upon terms and when performance obligations are satisfied, which is generally when the third party has a subsequent sale.

Practical Expedients and Accounting Policy Elections

The Company made certain accounting policy elections and elected to use certain practical expedients as permitted by the FASB in applying the guidance on revenue recognition.  It is the Company’s policy to not adjust the promised amount of consideration for the effects of a significant financing component as the Company expects, at contract inception, that the period between when the Company transfers a promised good or service to the customer and when the customer pays for that good or service will be one year or less.  In addition, it is the Company’s policy to expense costs to obtain a contract as incurred when the expected period of benefit, and therefore the amortization period, is one year or less.  It is also the Company’s accounting policy to exclude from the measurement of the transaction price all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected by the entity from a customer, including sales, use, value added, excise and various other taxes.  Lastly, the Company has elected to account for shipping and handling activities that occur after the customer has obtained control of a good as a fulfilment cost rather than an additional promised service.

 

 

11


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Contract Assets and Liabilities

The Company recognizes a contract asset or receivable on its Condensed Consolidated Balance Sheet when the Company performs a service or transfers a good in advance of receiving consideration.  A receivable is the Company’s right to consideration that is unconditional and only the passage of time is required before payment of that consideration is due.  A contract asset is the Company’s right to consideration in exchange for goods or services that the Company has transferred to a customer.  The Company had no contract assets recorded on its Condensed Consolidated Balance Sheets as of September 30, 2018 or December 31, 2017.

A contract liability is recognized when the Company receives consideration, or if it has the unconditional right to receive consideration, in advance of performance.  A contract liability is the Company’s obligation to transfer goods or services to a customer for which the Company has received consideration, or a specified amount of consideration is due, from the customer.  The Company’s contract liabilities primarily represent deferred revenue recorded for customer payments received by the Company prior to the Company satisfying the associated performance obligation.  Deferred revenues are presented within other current liabilities in the Company’s Condensed Consolidated Balance Sheets.  The Company had approximately $1.6 million and $1.5 million of deferred revenue as of September 30, 2018 and December 31, 2017, respectively.  During the three and nine months ended September 30, 2018 the Company satisfied the associated performance obligations and recognized revenue of $1.6 million and $4.4 million, respectively, related to advance customer payments previously received.

Disaggregated Revenue

The Company sells its various industrial process fluids, its chemical specialties and its technical expertise as a global product portfolio.  The Company generally manages and evaluates its performance by geography first, and then by customer industry, rather than by individual product lines.  The Company has provided annual net sales information for its product lines greater than 10% in its previously filed Form 10-K for the year ended December 31, 2017, and those annual percentages are generally consistent with the current year’s net sales by product line.  Also, net sales of each of the Company’s major product lines are generally spread throughout all four of the Company’s regions, and in most cases are relatively proportionate to the level of total sales in each region.

 

 

12


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

The following disaggregates the Company’s net sales by region, customer industry, and timing of revenue recognized for the three and nine months ended September 30, 2018:

 

Three Months Ended September 30, 2018

 

North

 

 

 

 

 

 

 

South

 

Consolidated

 

America

 

EMEA

 

Asia/Pacific

 

America

 

Total

Net sales

$

101,706

 

$

55,498

 

$

55,757

 

$

9,061

 

$

222,022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer Industries

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Primary metals

$

40,448

 

$

24,188

 

$

35,108

 

$

4,781

 

$

104,525

Metalworking

 

45,189

 

 

27,986

 

 

19,585

 

 

3,768

 

 

96,528

Coatings and other

 

16,069

 

 

3,324

 

 

1,064

 

 

512

 

 

20,969

 

$

101,706

 

$

55,498

 

$

55,757

 

$

9,061

 

$

222,022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Timing of Revenue Recognized

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product sales at a point in time

$

98,965

 

$

55,437

 

$

53,998

 

$

8,992

 

$

217,392

Services transferred over time

 

2,741

 

 

61

 

 

1,759

 

 

69

 

 

4,630

 

$

101,706

 

$

55,498

 

$

55,757

 

$

9,061

 

$

222,022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nine Months Ended September 30, 2018

 

North

 

 

 

 

 

 

 

South

 

Consolidated

 

America

 

EMEA

 

Asia/Pacific

 

America

 

Total

Net sales

$

290,918

 

$

177,719

 

$

159,882

 

$

27,520

 

$

656,039

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer Industries

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Primary metals

$

117,174

 

$

77,692

 

$

101,026

 

$

15,115

 

$

311,007

Metalworking

 

128,709

 

 

88,909

 

 

56,486

 

 

11,416

 

 

285,520

Coatings and other

 

45,035

 

 

11,118

 

 

2,370

 

 

989

 

 

59,512

 

$

290,918

 

$

177,719

 

$

159,882

 

$

27,520

 

$

656,039

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Timing of Revenue Recognized

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product sales at a point in time

$

282,513

 

$

177,546

 

$

153,863

 

$

27,298

 

$

641,220

Services transferred over time

 

8,405

 

 

173

 

 

6,019

 

 

222

 

 

14,819

 

$

290,918

 

$

177,719

 

$

159,882

 

$

27,520

 

$

656,039

Note 5 – Business Segments

The Company’s reportable operating segments are organized by geography as follows: (i) North America, (ii) EMEA, (iii) Asia/Pacific and (iv) South America.  Operating earnings, excluding indirect operating expenses, for the Company’s reportable operating segments is comprised of revenues less cost of goods sold (“COGS”) and selling, general and administrative expenses (“SG&A”) directly related to the respective region’s product sales.  The indirect operating expenses consist of SG&A not directly attributable to the product sales of each respective reportable operating segment.  Other items not specifically identified with the Company’s reportable operating segments include interest expense, interest income, license fees from non-consolidated affiliates, amortization expense and other (expense) income, net.

13


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

The following table presents information about the performance of the Company’s reportable operating segments for the three and nine months ended September 30, 2018 and 2017:

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30,

 

September 30,

 

 

2018

 

2017

 

2018

 

2017

Net sales

  

 

  

  

  

  

  

  

  

  

  

 

North America

$

101,706

 

$

90,450

 

$

290,918

 

$

268,122

 

EMEA

  

55,498

 

  

58,775

 

  

177,719

 

  

167,209

 

Asia/Pacific

  

55,757

 

  

54,200

 

  

159,882

 

  

147,074

 

South America

  

9,061

 

  

9,493

 

  

27,520

 

  

26,605

Total net sales

$

222,022

 

$

212,918

 

$

656,039

 

$

609,010

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating earnings, excluding indirect operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

North America

$

24,558

 

$

18,888

 

$

68,160

 

$

59,146

 

EMEA

 

8,577

 

 

8,862

 

 

27,966

 

 

26,325

 

Asia/Pacific

 

14,761

 

 

13,963

 

 

41,524

 

 

36,018

 

South America

  

1,214

 

  

965

 

  

2,963

 

  

2,826

Total operating earnings, excluding indirect operating expenses

  

49,110

 

  

42,678

 

  

140,613

 

  

124,315

Combination-related expenses

 

(2,904)

 

 

(9,675)

 

 

(12,404)

 

 

(23,088)

Indirect operating expenses

 

(19,460)

 

 

(17,108)

 

 

(54,971)

 

 

(50,067)

Amortization expense

  

(1,827)

 

  

(1,886)

 

  

(5,525)

 

  

(5,490)

Consolidated operating income

 

24,919

 

 

14,009

 

 

67,713

 

 

45,670

Other (expense) income, net

 

(523)

 

 

249

 

 

(631)

 

 

(1,427)

Interest expense

  

(1,510)

 

  

(793)

 

  

(4,804)

 

  

(2,229)

Interest income

  

521

 

  

762

 

  

1,581

 

  

1,825

Consolidated income before taxes and equity in net income of

 

 

 

 

 

 

 

 

 

 

 

 

associated companies

$

23,407

 

$

14,227

 

$

63,859

 

$

43,839

Inter-segment revenues for the three and nine months ended September 30, 2018 were $2.5 million and $7.4 million for North America, $5.9 million and $16.9 million for EMEA, less than $0.1 million and $0.5 million for Asia/Pacific, respectively, and less than $0.1 million for South America in both periods.  Inter-segment revenues for the three and nine months ended September 30, 2017 were $2.8 million and $7.4 million for North America, $6.2 million and $16.0 million for EMEA, $0.2 million and $0.3 million for Asia/Pacific, respectively, and less than $0.1 million for South America in both periods.  However, all inter-segment transactions have been eliminated from each reportable operating segment’s net sales and earnings for all periods presented above.

Note 6 – Restructuring and Related Activities

As previously disclosed in its Annual Report filed on Form 10-K for the year ended December 31, 2017, in the fourth quarter of 2015 Quaker’s management approved a global restructuring plan (the “2015 Program”) to reduce its operating costs.  The 2015 Program included provisions for the reduction of total headcount of approximately 65 employees globally.  The Company completed all of the remaining initiatives under the 2015 Program during the first half of 2017 and does not expect to incur further restructuring charges under this program.  Restructuring activity recognized by reportable operating segment in connection with the 2015 Program during the nine months ended September 30, 2017 is as follows:

 

 

 

North

 

 

 

 

 

 

 

 

 

 

America

 

EMEA

 

Total

 

 

Accrued restructuring as of December 31, 2016

$

196

 

$

474

 

$

670

 

 

 

Restructuring charges and adjustments

 

(126)

 

 

126

 

 

 

 

 

Cash payments

 

(70)

 

 

(605)

 

 

(675)

 

 

 

Currency translation adjustments

  

 

 

5

 

 

5

 

 

Accrued restructuring as of September 30, 2017

$

 

$

 

$

 

There were no accrued restructuring liabilities as of December 31, 2017 and no associated cash payments or other restructuring activity during the nine months ended September 30, 2018.

14


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 7 – Share-Based Compensation

The Company recognized the following share-based compensation expense in SG&A in its Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2018 and 2017:

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30,

 

September 30,

 

 

2018

 

2017

 

2018

 

2017

Stock options

$

267

 

$

243

 

$

785

 

$

714

Nonvested stock awards and restricted stock units

 

550

 

 

717

 

 

1,901

 

 

2,314

Employee stock purchase plan

 

24

 

 

22

 

 

68

 

 

66

Non-elective and elective 401(k) matching contribution in stock

 

 

 

8

 

 

 

 

72

Director stock ownership plan

 

31

 

 

34

 

 

93

 

 

103

Total share-based compensation expense

$

872

 

$

1,024

 

$

2,847

 

$

3,269

During the first quarter of 2018, the Company granted stock options under its long-term incentive plan (“LTIP”) that are subject only to time vesting over a three-year period.  For the purposes of determining the fair value of stock option awards, the Company used the Black-Scholes option pricing model and the assumptions set forth in the table below:

 

Number of options granted

35,842

 

 

 

Dividend yield

1.37

%

 

 

Expected volatility

24.73

%

 

 

Risk-free interest rate

2.54

%

 

 

Expected term (years)

4.0

 

 

The fair value of these options is amortized on a straight-line basis over the vesting period.  As of September 30, 2018, unrecognized compensation expense related to options granted was $1.5 million, to be recognized over a weighted average remaining period of 1.9 years.  There were no stock options granted in the second or third quarters of 2018.

During the first nine months of 2018, the Company granted 16,166 nonvested restricted shares and 1,480 nonvested restricted stock units under its LTIP plan that are subject only to time vesting, generally over a three-year period.  The fair value of these awards is based on the trading price of the Company’s common stock on the date of grant.  The Company adjusts the grant date fair value of these awards for expected forfeitures based on historical experience.  As of September 30, 2018, unrecognized compensation expense related to the nonvested shares was $2.7 million, to be recognized over a weighted average remaining period of 1.8 years, and unrecognized compensation expense related to nonvested restricted stock units was $0.2 million, to be recognized over a weighted average remaining period of 2.0 years.

Note 8 – Pension and Other Postretirement Benefits

The components of net periodic benefit cost for the three and nine months ended September 30, 2018 and 2017 are as follows:

 

 

Three Months Ended September 30,

 

Nine Months Ended September 30,

 

 

 

 

 

 

 

 

Other

 

 

 

 

 

 

 

Other

 

 

 

 

 

 

 

 

Postretirement

 

 

 

 

 

 

 

Postretirement

 

 

Pension Benefits

 

Benefits

 

Pension Benefits

 

Benefits

 

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

2018

 

 

2017

 

 

2018

 

 

2017

Service cost

$

938

 

$

921

 

$

 

$

2

 

$

2,886

 

$

2,710

 

$

5

 

$

6

Interest cost

 

1,015

 

 

994

 

 

31

 

 

36

 

 

3,096

 

 

3,005

 

 

97

 

 

108

Expected return on plan assets

 

(1,229)

 

 

(1,276)

 

 

 

 

 

 

(3,793)

 

 

(3,857)

 

 

 

 

Settlement charge

 

 

 

 

 

 

 

 

 

 

 

1,860

 

 

 

 

Actuarial loss amortization

 

782

 

 

798

 

 

2

 

 

13

 

 

2,375

 

 

2,459

 

 

31

 

 

40

Prior service cost amortization

 

(28)

 

 

(28)

 

 

 

 

 

 

(88)

 

 

(76)

 

 

 

 

Net periodic benefit cost

$

1,478

 

$

1,409

 

$

33

 

$

51

 

$

4,476

 

$

6,101

 

$

133

 

$

154

15


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

During the second quarter of 2017, one of the Company’s U.S. pension plans offered a cash settlement to its vested terminated participants which allowed them to receive the value of their pension benefits as a single lump sum payment.  As payments from the U.S. pension plan for this cash-out offering exceeded the service and interest cost components of the U.S. pension plan expense for 2017, the Company recorded a settlement charge of approximately $1.9 million.  This settlement charge represents the immediate recognition into expense of a portion of the unrecognized loss within AOCI on the balance sheet in proportion to the share of the projected benefit obligation that was settled by these payments.  The gross pension benefit obligation was reduced by approximately $4.0 million as a result of these payments.  The settlement charge was recognized through other expense, net, on the Company’s Condensed Consolidated Statement of Income.  See Note 9, below, specifically the line “Pension and postretirement benefit costs, non-service components.”

Employer Contributions

During the nine months ended September 30, 2018, $5.1 million and $0.2 million of contributions have been made to the Company’s pension plans and its postretirement benefit plans, respectively.  The Company currently estimates that it will make cash contributions to its pension plans of approximately $6 million in 2018. 

Note 9 – Other (Expense) Income, Net

The components of other (expense) income, net, for the three and nine months ended September 30, 2018 and 2017 are as follows:

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30,

 

September 30,

 

 

2018

 

2017

 

2018

 

2017

Income from third party license fees

$

144

 

$

141

 

$

583

 

$

612

Foreign exchange (losses) gains, net

 

(285)

 

 

545

 

 

(1,007)

 

 

580

Gain on fixed asset disposals, net

 

81

 

 

22

 

 

680

 

 

50

Non-income tax refunds and other related credits

 

127

 

 

130

 

 

668

 

 

748

Pension and postretirement benefit costs, non-service components

 

(568)

 

 

(537)

 

 

(1,713)

 

 

(3,539)

Other non-operating income

 

115

 

 

47

 

 

374

 

 

288

Other non-operating expense

 

(137)

 

 

(99)

 

 

(216)

 

 

(166)

Total other (expense) income, net

$

(523)

 

$

249

 

$

(631)

 

$

(1,427)

Gain on fixed asset disposals, net, during the nine months ended September 30, 2018 includes a $0.6 million gain on the sale of a held-for-sale asset.  In addition, foreign exchange (losses) gains, net, during the three and nine months ended September 30, 2018 include both a foreign currency transaction loss of approximately $0.5 million related to hyper-inflationary accounting for the Company’s Argentina subsidiary effective July 1, 2018 and a foreign currency transaction gain of approximately $0.4 million related to the liquidation of an inactive legal entity.

Note 10 – Income Taxes and Uncertain Income Tax Positions

The Company’s effective tax rate for the three and nine months ended September 30, 2018 were 18.5% and 21.2%, respectively, compared to 22.1% and 32.5%, respectively, for the three and nine months ended September 30, 2017.  The Company’s effective tax rates for each of the periods presented include the impact of certain non-deductible costs related to the pending Combination.  The Company’s effective tax rate for the three and nine months ended September 30, 2018 also includes tax adjustments of $1.1 million and $2.3 million, respectively, as a result of changes to certain of the Company’s initial fourth quarter of 2017 estimates associated with the December 2017 Tax Cuts and Jobs Act (“U.S. Tax Reform”), described below.  In addition to these items, the Company’s current year effective tax rate benefited from the decrease in the U.S. statutory tax rate from 35% in the prior year to 21% in the current year as a result of U.S. Tax Reform.

The Company’s tax adjustments associated with U.S. Tax Reform during the three and nine months ended September 30, 2018, included adjustments to decrease its initial estimate of the one-time deemed repatriation of undistributed earnings on previously untaxed accumulated and current earnings and profits of certain of the Company’s foreign subsidiaries (“Transition Tax”), specifically related to proposed regulations published by the Internal Revenue Service (“IRS”), the U.S Treasury and various state taxing authorities, as well as an increase to its initial estimate of the impact from internal revenue code changes associated with the deductibility of certain executive compensation.  To date, the Company has not made any other significant changes to its initial assessments made during the fourth quarter of 2017.

16


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

As previously disclosed in its Annual Report filed on Form 10-K for the year ended December 31, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as U.S. Tax Reform on December 22, 2017.  U.S. Tax Reform includes multiple changes to the U.S. tax code with varying effects on the Company’s results for the three and nine months ended September 30, 2018.  The SEC staff issued guidance on accounting for the tax effects of U.S. Tax Reform and provided a one-year measurement period for companies to complete the accounting.  Companies are required to reflect the income tax effects of those aspects of U.S. Tax Reform for which the accounting is complete.  To the extent that a company’s accounting for certain income tax effects of U.S. Tax Reform are incomplete but the company is able to determine a reasonable estimate, it must record a provisional estimate in its financial statements.  The Company has made reasonable interpretations and assumptions with regard to various uncertainties and ambiguities in the application of certain provisions of U.S. Tax Reform.  The Company is continuing to evaluate all of the provisions of U.S. Tax Reform and expects to finalize its assessment during the one-year measurement period provided by the SEC to complete the accounting for U.S. Tax Reform.  It is possible that the IRS or the U.S. Department of the Treasury could issue subsequent guidance or take positions on audit that differ from the Company’s interpretations and assumptions.

As of September 30, 2018, the Company’s cumulative liability for gross unrecognized tax benefits was $7.0 million.  As of December 31, 2017, the Company’s cumulative liability for gross unrecognized tax benefits was $6.8 million.

The Company continues to recognize interest and penalties associated with uncertain tax positions as a component of taxes on income before equity in net income of associated companies in its Condensed Consolidated Statements of Income.  The Company recognized an expense for interest of less than $0.1 million and $0.1 million and a credit for penalties of $0.2 million and an expense for penalties of $0.1 million for the three and nine months ended September 30, 2018.  Comparatively, the Company recognized a credit of less than $0.1 million and $0.1 million for interest, and an expense of $0.1 million and $0.2 million for penalties in its Condensed Consolidated Statements of Income for the three and nine months ended September 30, 2017, respectively.  As of September 30, 2018, the Company had accrued $0.7 million for cumulative interest and $1.1 million for cumulative penalties in its Condensed Consolidated Balance Sheets, compared to $0.6 million for cumulative interest and $1.0 million for cumulative penalties accrued at December 31, 2017.

During the nine months ended September 30, 2018 and 2017, the Company recognized a decrease of $0.7 million and $0.8 million, respectively, in its cumulative liability for gross unrecognized tax benefits due to the expiration of the applicable statutes of limitations for certain tax years.

The Company estimates that during the year ending December 31, 2018 it will reduce its cumulative liability for gross unrecognized tax benefits by approximately $1.0 to $1.1 million due to the expiration of the statute of limitations with regard to certain tax positions.  This estimated reduction in the cumulative liability for unrecognized tax benefits does not consider any increase in liability for unrecognized tax benefits with regard to existing tax positions or any increase in cumulative liability for unrecognized tax benefits with regard to new tax positions for the year ending December 31, 2018.

The Company and its subsidiaries are subject to U.S. Federal income tax, as well as the income tax of various state and foreign tax jurisdictions. Tax years that remain subject to examination by major tax jurisdictions include Brazil from 2000; Italy from 2007; the Netherlands and the United Kingdom from 2012; China and Mexico from 2013; India from its fiscal year beginning April 1, 2014 and ending March 31, 2015; Spain from 2014; the United States from 2015, and various domestic state tax jurisdictions from 2008.

As previously reported, the Italian tax authorities have assessed additional tax due from the Company’s subsidiary, Quaker Italia S.r.l., relating to the tax years 2007 through 2013.  During the second quarter of 2018, the Italian tax authorities assessed additional tax due from Quaker Italia, S.r.l., relating to the tax years 2014 and 2015.  The Company plans to meet with the Italian tax authorities by the end of 2018 to discuss these assessments.  If these discussions are not successful in materially reducing the assessed tax, then the Company will further evaluate its options including potentially filing for competent authority relief from these assessments under the Mutual Agreement Procedures of the Organization for Economic Co-Operation and Development, consistent with the Company’s previous filings for 2008 through 2013.  As of September 30, 2018, the Company believes it has adequate reserves for uncertain tax positions with respect to these and all other audits.

17


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 11 – Earnings Per Share

The following table summarizes earnings per share calculations for the three and nine months ended September 30, 2018 and 2017:

 

 

Three Months Ended

 

Nine Months Ended

 

 

September 30,

 

September 30,

 

 

2018

 

2017

 

2018

 

2017

Basic earnings per common share

 

   

 

 

   

 

 

   

 

 

 

 

Net income attributable to Quaker Chemical Corporation

$

19,690

 

$

11,142

 

$

51,668

 

$

30,040

 

Less: income allocated to participating securities

  

(77)

 

  

(76)

 

  

(226)

 

  

(222)

 

Net income available to common shareholders

$

19,613

 

$

11,066

 

$

51,442

 

$

29,818

 

Basic weighted average common shares outstanding

 

13,278,259

 

 

13,217,165

 

 

13,263,417

 

 

13,196,255

Basic earnings per common share

$

1.48

 

$

0.84

 

$

3.88

 

$

2.26

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per common share

 

 

 

 

 

 

 

 

 

 

 

 

Net income attributable to Quaker Chemical Corporation

$

19,690

 

$

11,142

 

$

51,668

 

$

30,040

 

Less: income allocated to participating securities

 

(77)

 

 

(76)

 

 

(226)

 

 

(222)

 

Net income available to common shareholders

$

19,613

 

$

11,066

 

$

51,442

 

$

29,818

 

Basic weighted average common shares outstanding

 

13,278,259

 

 

13,217,165

 

 

13,263,417

 

 

13,196,255

 

Effect of dilutive securities

 

37,282

 

 

34,528

 

 

33,928

 

 

41,818

 

Diluted weighted average common shares outstanding

 

13,315,541

 

 

13,251,693

 

 

13,297,345

 

 

13,238,073

Diluted earnings per common share

$

1.47

 

$

0.83

 

$

3.87

 

$

2.25

Certain stock options and restricted stock units are not included in the diluted earnings per share calculation since the effect would have been anti-dilutive.  The calculated amount of anti-diluted shares not included were 718 and 3,480 for the three and nine months ended September 30, 2018, respectively, and 4,300 and 4,819 for the three and nine months ended September 30, 2017, respectively.

Note 12 – Restricted Cash

The Company has restricted cash recorded in other assets related to proceeds from an inactive subsidiary of the Company which previously executed separate settlement and release agreements with two of its insurance carriers for an original total value of $35.0 million.  The proceeds of both settlements are restricted and can only be used to pay claims and costs of defense associated with the subsidiary’s asbestos litigation.  Due to the restricted nature of the proceeds, a corresponding deferred credit was established in other non-current liabilities for an equal and offsetting amount, and will remain until the restrictions lapse or the funds are exhausted via payments of claims and costs of defense.

The following table provides a reconciliation of cash, cash equivalents and restricted cash as of September 30, 2018 and 2017 and December 31, 2017 and 2016:

 

 

September 30,

 

December 31,

 

 

 

2018

 

2017

 

2017

 

2016

 

 

Cash and cash equivalents

$

99,810

 

$

109,088

 

$

89,879

 

$

88,818

 

 

Restricted cash included in other assets

 

20,594

 

 

21,376

 

 

21,171

 

 

21,883

 

 

Cash, cash equivalents and restricted cash

$

120,404

 

$

130,464

 

$

111,050

 

$

110,701

 

18


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 13 – Goodwill and Other Intangible Assets

The Company completes its annual impairment test during the fourth quarter of each year, or more frequently if triggering events indicate a possible impairment in one or more of its reporting units.  The Company continually evaluates financial performance, economic conditions and other relevant developments in assessing if an interim period impairment test for one or more of its reporting units is necessary.  The Company has recorded no impairment charges in its past.

Changes in the carrying amount of goodwill for the nine months ended September 30, 2018 were as follows:

 

 

North

 

 

 

 

 

 

 

South

 

 

 

 

 

America

 

EMEA

 

Asia/Pacific

 

America

 

Total

Balance as of December 31, 2017

$

47,571

   

$

20,504

 

$

15,456

 

$

2,503

   

$

86,034

 

Currency translation adjustments

  

(27)

 

 

(930)

 

 

(894)

 

 

(488)

   

 

(2,339)

Balance as of September 30, 2018

$

47,544

 

$

19,574

 

$

14,562

 

$

2,015

   

$

83,695

Gross carrying amounts and accumulated amortization for definite-lived intangible assets as of September 30, 2018 and December 31, 2017 were as follows:

 

 

Gross Carrying

 

Accumulated

 

 

Amount

 

Amortization

 

 

2018

 

2017

 

2018

 

2017

Customer lists and rights to sell

$

75,424

   

$

76,581

   

$

28,542

   

$

25,394

Trademarks, formulations and product technology

  

33,561

   

  

33,025

   

  

15,987

   

  

14,309

Other

  

5,962

   

  

6,114

   

  

5,606

   

  

5,514

Total definite-lived intangible assets

$

114,947

   

$

115,720

   

$

50,135

   

$

45,217

The Company recorded $1.8 million and $5.5 million of amortization expense for the three and nine months ended September 30, 2018, respectively.  Comparatively, the Company recorded $1.9 million and $5.5 million of amortization expense for the three and nine months ended September 30, 2017, respectively.  Estimated annual aggregate amortization expense for the current year and subsequent five years is as follows:

 

For the year ended December 31, 2018

$

7,373

 

 

For the year ended December 31, 2019

 

7,211

 

 

For the year ended December 31, 2020

 

6,928

 

 

For the year ended December 31, 2021

 

6,571

 

 

For the year ended December 31, 2022

 

6,414

 

 

For the year ended December 31, 2023

 

6,193

 

The Company has two indefinite-lived intangible assets totaling $1.1 million for trademarks as of September 30, 2018 and December 31, 2017.

Note 14 – Debt

The Company’s primary credit facility (“the Credit Facility”) is a $300.0 million syndicated multicurrency credit agreement with a group of lenders.  The maximum amount available under the Credit Facility can be increased to $400.0 million at the Company’s option if the lenders agree and the Company satisfies certain conditions.  Borrowings under the Credit Facility generally bear interest at a base rate or LIBOR rate plus a margin.  The Credit Facility has certain financial and other covenants, with the key financial covenant requiring that the Company’s consolidated total debt to adjusted EBITDA ratio cannot exceed 3.50 to 1.  As of September 30, 2018, and December 31, 2017, the Company’s total debt to adjusted EBITDA ratio was below 1.0 to 1, and the Company was also in compliance with all of its other covenants.  During the third quarter of 2018, the Credit Facility was amended and restated to extend the maturity date to December 15, 2019.  As of September 30, 2018, and December 31, 2017, the Company had total credit facility borrowings of $34.8 million and $48.5 million, respectively, primarily under the Credit Facility.  The Company’s other debt obligations were primarily industrial development bonds and municipality-related loans as of September 30, 2018 and December 31, 2017, which includes a $5.0 million industrial development bond that matures in December 2018.  This bond is included within the caption Short-term borrowings and current portion of long-term debt on the Company’s Condensed Consolidated Balance Sheets as of September 30, 2018 and December 31, 2017.  The Company expects to repay the amount due for this bond at its maturity with available cash on hand.

  

19


Quaker Chemical Corporation

Notes to Condensed Consolidated Financial Statements - Continued

(Dollars in thousands, except share and per share amounts, unless otherwise stated)

(Unaudited)

 

Note 15 – Equity

The following tables present the changes in equity, net of tax, for the three and nine months ended September 30, 2018 and 2017:

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

Capital in

 

 

 

 

Other

 

 

 

 

 

 

 

 

 

Common

 

Excess of

 

Retained

 

Comprehensive

 

Noncontrolling

 

 

 

 

 

 

Stock

 

Par Value

 

Earnings

 

Loss

 

Interest

 

Total

Balance at June 30, 2018

$

13,331

 

$

94,984

 

$

387,498

 

$

(74,351)