~~PART I - FINANCIAL INFORMATION~~

~~ITEM 1 - FINANCIAL STATEMENTS~~

A. O. SMITH CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

~~September~~June 30, ~~2019~~2020

(unaudited)

1.	Basis of Presentation

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (GAAP) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Accordingly, they do not include all of the information and footnotes required for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 are not necessarily indicative of the results expected for the full year. It is suggested the accompanying condensed consolidated financial statements be read in conjunction with the audited consolidated financial statements and the notes thereto included in the

~~A. O. Smith Corporation’s (the Company)~~

Company’s Annual Report on Form

10-K

for the year ended December 31, ~~2018~~2019 filed with the SEC on February ~~15, 2019.~~24, 2020.

Recent Accounting Pronouncements

In ~~January 2017,~~December 2019, the Financial Accounting Standards Board (FASB) amended Accounting Standards Codification (ASC) ~~350,~~740,

~~Intangibles – Goodwill and Other~~Income Taxes

(issued under Accounting Standards Update (ASU)

2019-12,

“Simplifying the Accounting for Income Taxes”). This amendment removes certain exceptions to the general principles of ASC 740 and clarifies and amends existing guidance to improve consistent application. The amendment requires adoption on January 1, 2021, with early adoption permitted. The Company does not expect that the adoption of ASU

2019-12

will have a material impact on its consolidated balance sheets, statements of earnings or statements of cash flows.

In January 2017, the FASB amended ASC 350,

Intangibles –

Goodwill

and Other

(issued under ASU

2017-04,

“Simplifying the Test for Goodwill Impairment”). This amendment simplifies the test for goodwill impairment by only requiring an entity to perform an annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the amount that the carrying amount exceeds the reporting unit’s fair value.

Any loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. The Company adopted the amendment ~~requires adoption~~ on January 1, ~~2020. The Company does not expect that~~2020 and the adoption of ASU

2017-04

~~will~~did not have ~~a material~~an impact on its consolidated balance sheets, statements of earnings or statements of cash flows.

In June 2016, the FASB issued ASC 326,

Financial Instruments – Credit Losses

(issued under ASU

2016-13)

which modifies the measurement of expected credit losses on certain financial instruments. The Company adopted

ASU

2016-13

~~requires adoption~~ on January 1, ~~2020. The Company does not expect that~~2020 and the adoption ~~of ASU~~

~~2016-13~~

~~will~~did not have a material impact on its consolidated balance sheets, statements of earnings or statements of cash flows.

~~In February 2016, the FASB amended ASC 842,~~

~~Leases~~

~~(issued under ASU~~

~~2016-02).~~

This amendment requires the recognition of lease assets and lease liabilities on the balance sheet for most leasing arrangements classified as operating leases. The Company applied the modified retrospective transition method and elected the transition option to use the effective date of January 1, 2019, as the date of the initial application. The Company elected the package of practical expedients as well as a separate practical expedient not to separate lease and

~~non-lease~~

~~components. The Company did not elect the hindsight practical expedient. The adoption of ASU~~

~~2016-02~~

~~did not have a material impact on the Company’s consolidated balance sheets, statements of earnings or statements of cash flows. Refer to Note 4, Leases, for additional information.~~

2.	Revenue Recognition

~~Table of Contents~~

2.	~~Revenue Recognition~~

Substantially all of the Company’s sales are from contracts with customers for the purchase of its products. Contracts and customer purchase orders are used to determine the existence of a sales contract. Shipping documents are used to verify shipment. For substantially all of its products, the Company transfers control of products to the customer at the point in time when title and risk are passed to the customer, which generally occurs upon shipment of the product. Each unit sold is considered an independent, unbundled performance obligation. The Company’s sales arrangements do not include other performance obligations that are material in the context of the contract.

The nature, timing and amount of revenue for a respective performance obligation are consistent for each customer. The Company measures the sales transaction price based upon the payment terms associated with the transaction and whether the sales price is subject to refund or adjustment. Sales and value added taxes are excluded from the measurement of transaction price. The Company’s payment terms for the majority of its customers are 30 to 90 days from shipment.

Additionally, certain customers in China pay the Company prior to the shipment of products resulting in a customer deposits liability of ~~$43.7~~$43.0 million and ~~$47.0~~$49.6 million at ~~September~~June 30, ~~2019~~2020 and December 31, ~~2018,~~2019, respectively. The Company assesses the collectability of customer receivables based on the creditworthiness of a customer as determined by credit checks and analysis, as well as the customer’s payment history. In determining the allowance for doubtful accounts, the Company also considers various factors including the aging of customer accounts and historical write-offs. In addition, the Company monitors other risk factors including forward-looking information when establishing adequate allowances for doubtful accounts, which reflects the current estimate of credit losses expected to be incurred over the life of the receivables. The Company’s allowance for doubtful accounts was ~~$6.2 million and $6.4~~$6.7 million at ~~September~~both June 30, ~~2019~~2020 and December 31, ~~2018, respectively~~

2019.

Rebates and incentives are based on pricing agreements and are tied to sales volume. The amount of revenue is reduced for variable consideration related to customer rebates which are calculated using expected values and are based on program specific factors such as expected rebate percentages based on expected volumes. In situations where the customer has the right to return eligible products, the Company reduces revenue for its estimates of expected product returns, which are primarily based on an analysis of historical experience. Changes in such accruals may be required if actual sales volume differs from estimated sales volume or if future returns differ from historical experience. Shipping and handling costs billed to customers are included in net sales and the related costs are included in cost of products sold and are activities performed to fulfill the promise to transfer products.

Disaggregation of Net Sales

The Company is comprised of 2 reporting segments: North America and Rest of World. The Rest of World segment is primarily comprised of China, Europe and India. Both segments manufacture and market comprehensive lines of residential and commercial gas and electric water heaters, boilers, tanks and water treatment products. Both segments primarily manufacture and market in their respective regions of the world. The Rest of World segment also manufactures and markets

in-home

air purification products in China.

2.	Revenue Recognition (continued)

As each segment manufactures and markets products in its respective region of the world, the Company has determined that geography is the primary factor in reporting its sales. The Company further disaggregates its North America segment sales by major product line as each of North America’s major product lines is sold through distinct distribution channels and these product lines may be impacted differently by certain economic factors. Within the Rest of World segment, particularly in China and India, the Company’s major customers purchase across the Company’s product lines, utilizing the same distribution channel regardless of product type. In addition, the impact of economic factors is unlikely to be differentiated by product line in the Rest of World segment.

~~Table of Contents~~

~~2. Revenue Recognition (continued)~~

The North America segment major product lines are defined as the following:

Water heaters

The Company’s water heaters are open water heating systems that heat potable water. Typical applications for water heaters include residences, restaurants, hotels and motels, office buildings, laundries, car washes and small businesses. The Company sells residential and commercial water heater products and related parts through its wholesale distribution channel, which includes more than 1,300 independent wholesale plumbing distributors. The Company also sells residential water heaters and related parts through retail and maintenance, repair and operations (MRO) channels. A significant portion of the Company’s water heater sales in the North America segment is derived from the replacement of existing products.

Boilers

The Company’s boilers are closed loop water heating systems used primarily for space heating or hydronic heating. The Company’s boilers are primarily used in applications in commercial settings for hospitals, schools, hotels and other large commercial buildings while residential boilers are used in homes, apartments and condominiums. The Company’s boiler distribution channel is comprised primarily of manufacturer representative firms, with the remainder of ~~our~~

its

boilers distributed through wholesale channels. The Company’s boiler sales in the North America segment are derived from a combination of replacement of existing products and new construction.

Water treatment

products

The Company’s water treatment products range from

point-of-entry

water softeners, solutions for problem well water, and whole-home water filtration products to

on-the-go

filtration bottles and

point-of-use

carbon and reverse osmosis products. Typical applications for the Company’s water treatment products include residences, restaurants, hotels and offices. The Company sells water treatment products through its ~~wholesale~~retail and ~~retail~~wholesale distribution channels, similar to water heater products and related parts. The Company’s water treatment products are also sold through independent water quality dealers as well as directly to consumers including through internet sales channels. A portion of the Company’s sales of water treatment products in the North America segment is comprised of replacement filters.

The following table disaggregates the Company’s net sales by segment. As described above, the Company’s North America

segment

sales are further disaggregated by major product line. In addition, the Company’s Rest of World segment sales are disaggregated by China and all other Rest of World.

~~Table of Contents~~

2.	2. Revenue Recognition (continued)

(dollars in millions)

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018

2019

2018

North America

Water heaters and related parts
$
415.9
$
405.2
$
1,310.5
$
1,318.1

Boilers and related parts

60.2

58.6

150.8

143.0

Water treatment products
(1)

38.5

23.1

99.1

61.7

Total North America

514.6

486.9

1,560.4

1,522.8

Rest of World

China
$
189.6
$
246.2
$
626.8
$
806.4

All other Rest of World

30.7

27.9

74.7

69.6

Total Rest of World

220.3

274.1

701.5

876.0

Inter-segment sales

(6.7
)
(6.9
)
(20.1
)
(23.4
)

Total Net Sales
$
728.2
$
754.1
$
2,241.8
$
2,375.4


(dollars in millions)
	Three Months Ended June 30,						Six Months Ended June 30,
	2020			2019			2020			2019
North America
Water heaters and related parts	$	396.8		$	438.9		$	844.6		$	894.6
Boilers and related parts		41.0			48.0			82.5			90.6
Water treatment products (1)		42.7			37.1			86.3			60.6

Total North America		480.5			524.0			1,013.4			1,045.8
Rest of World
China	$	172.7		$	224.2		$	263.7		$	437.2
All other Rest of World		17.0			24.9			36.2			44.0

Total Rest of World		189.7			249.1			299.9			481.2
Inter-segment sales		(6.3	)		(7.7	)		(12.5	)		(13.4	)

Total Net Sales	$	663.9		$	765.4		$	1,300.8		$	1,513.6

(1)

~~(1)~~

Includes the results of Water-Right, Inc. and its affiliated entities (Water-Right) from April 8, 2019, the date of acquisition

3.	~~Acquisitions~~ Acquisition

On April 8, 2019, the Company acquired 100 percent of the shares of Water-Right, ~~Inc. and its affiliated entities (Water-Right),~~ a Wisconsin-based water treatment company. With the addition of Water-Right, the Company grew its North America water treatment platform. Water-Right is included in the Company’s North America segment for reporting purposes.

The Company paid an aggregate cash purchase price of $107.0 million, net of cash acquired. In addition, the Company established a $4.0 million escrow to satisfy any potential obligations of the former owners of Water-Right, should they arise. During the three months ended June 30, 2020 the

ompany

released $2.0 million of the escrow to the previous owners of Water-Right. The remaining balance of the escrow has scheduled disbursements of $1.9 million in the fourth quarter of 2020 and $0.1 million in the second quarter of 2021.

The following table summarizes the ~~preliminary estimate~~allocation of the fair value of the assets acquired and liabilities assumed at the date of acquisition of Water-Right for purposes of allocating the purchase price. ~~The Company is in the process of finalizing~~Significant assumptions used to estimate the fair value ~~estimates; therefore,~~of intangible assets acquired include discount rates and certain assumptions that form the ~~allocation~~basis of the ~~purchase price is subject to refinement.~~forecasted results, including revenue growth rates, attrition rates and royalty rates. The ~~preliminary $57.6~~$60.4 million of acquired identifiable intangible assets was comprised of the following: ~~$38.3~~$40.2 million of customer relationships being amortized over 20 years, ~~$18.2~~$19.0 million of trademarks not subject to amortization, and ~~$1.1~~$1.2 million of

non-compete

agreements being amortized over 7.5 years.

~~Table of Contents~~

~~3. Acquisitions~~

3.	Acquisition (continued)

April 8, 2019 (dollars in millions)

Current assets, net of cash acquired
$
9.7

Property, plant and equipment

8.6

Intangible assets

57.6

Goodwill

33.7

Total assets acquired

109.6

Current liabilities

(2.6
)

Total liabilities assumed

(2.6
)

Net assets acquired
$
107.0


April 8, 2019 (dollars in millions)
Current assets, net of cash acquired	$	9.7
Property, plant and equipment		8.6
Intangible assets		60.4
Goodwill		31.0

Total assets acquired		109.7
Current liabilities		(2.7	)

Net assets acquired	$	107.0

~~The acquisition was accounted for using the purchase method of accounting, and accordingly, the~~As required under ASC 805 Business Combinations, Water-Right’s results of operations have been included in the Company’s consolidated financial statements from April 8, 2019, the date of acquisition. ~~Revenues~~

4.	Severance and Restructuring Expenses

During the three months ended June 30, 2020, to align our business to current market conditions, the

ompany recognized $6.1 million of

pre-tax

severance and restructuring expenses, comprised of $5.2 million severance costs and $0.9 million of other restructuring expenses, as well as a corresponding $1.1 million tax benefit related to these charges. Of the $6.1

~~pre-tax~~

~~earnings associated with Water-Right included~~million

expen

recognized, $2.2 million was related to the North America segment and $3.9 million was related to the Rest of World segment.

The Company’s severance and restructuring actions were largely completed in the ~~consolidated statement of earnings~~

~~for the nine~~three months ended ~~September~~June 30, ~~2019~~2020.

~~totaled $29.9 million~~

The following table summarizes the activity in the Company’s accrual for severance and ~~$5.0 million, respectively, which included $5.4 million of operating earnings less $0.4 million of acquisition-related costs~~restructuring expenses incurred byduring the ~~Company resulting from the acquisition.~~three months ended June 30, 2020:


(dollars in millions)
	Severance Expenses			Restructuring Expenses			Total
Accrued severance and restructuring expenses, March 31, 2020	$	—		$	—		$	—
Charges		5.2			0.9			6.1
Cash Payments		(2.2	)		(0.3	)		(2.5	)

Accrued severance and restructuring expenses, June 30, 2020	$	3.0		$	0.6		$	3.6

Leases

The Company’s lease portfolio consists of operating leases for buildings and equipment, such as forklifts and copiers, primarily in the United States and China. The Company defines a lease as a contract that gives the Company the right to control the use of a physical asset for a stated term. The Company pays the lessor for that right, with a series of payments defined in the contract and a corresponding right of use operating lease asset and liability are recorded. The Company has elected not to record leases with an initial term of 12 months or less on its condensed consolidated balance sheet. To determine balance sheet amounts, required legal payments are discounted using the Company’s incremental borrowing ~~rate.~~rate as of the inception of the lease. The incremental borrowing rate is the rate of interest that the Company would

incur if it were

to borrow, on a collateralized basis, an amount equal to the value of the leased item over a similar term, in a similar economic environment. Variable lease components not based on an index or rate are excluded from the measurement of the lease asset and liability and expensed as incurred for all asset classes.

Certain leases include one or more options to renew or terminate. Renewal terms can extend the lease term from one to five years and options to terminate can be effective within one year. The exercise of lease renewal or termination is at the Company’s discretion and when it is determined to be reasonably certain to renew or terminate, the option is reflected in the measurement of lease asset and liability. The Company’s lease agreements do not contain any material residual value guarantees or material restrictive covenants or material subleases. Cash flows associated with leases are

materially

consistent with the expense recorded in the condensed consolidated statement of earnings.

~~Table of Contents~~

~~4. Leases (continued)~~

Supplemental balance sheet information related to leases was as follows:

(dollars in millions)

September 30, 2019

Liabilities

Short term: Accrued liabilities
$
12.2

Long term: Operating lease liabilities

39.6

Total operating lease liabilities
$
51.8

Less: Rent incentives and deferrals

(3.5
)

Assets

Operating lease assets
$
48.3

Lease Term and Discount Rate

September 30, 2019

Weighted-average remaining lease term

10

years

Weighted-average discount rate

4.00
%


(dollars in millions)
	June 30, 2020			December 31, 2019
Liabilities
Short term: Accrued liabilities	$	11.5		$	12.0
Long term: Operating lease liabilities		37.5			38.7

Total operating lease liabilities	$	49.0		$	50.7
Less: Rent incentives and deferrals		(3.8	)		(3.8	)

Assets
Operating lease assets	$	45.2		$	46.9


Lease Term and Discount Rate	June 30, 2020
Weighted-average remaining lease term		9.8 years
Weighted-average discount rate		3.83	%

5.	Leases (continued)

The components of lease expense were as follows:


(dollars in millions)
		Three months ended		Nine months ended			Three months ended June 30,
Lease Expense	Classification	September 30, 2019		September 30, 2019		Classification	2020 (1)		2019 (2)
Operating lease expense ~~(1)~~	Cost of products sold	$	0.7	$	2.0	Cost of products sold	$	0.8	$	0.7
	Selling, general and administrative expenses		4.3		13.3	Selling, general and administrative expenses	$	4.2	$	4.1

(1)	2020 includes short-term and variable lease expenses of $0.6 million and $0.5 million, respectively.

~~(1)~~(2)

~~Includes~~

2019 includes short-term and variable lease ~~expense~~expenses of ~~$0.4~~$0.5 million and ~~$1.4~~$0.2 million, ~~for the three~~respectively.


(dollars in millions)
		Six months ended June 30,
Lease Expense	Classification	2020 (1)		2019 (2)
Operating lease expense	Cost of products sold	$	1.5	$	1.3
	Selling, general and administrative expenses	$	8.2	$	9.0

(1)	2020 includes short-term and ~~nine months ended September 30, 2019, respectively. Includes~~ variable lease ~~cost~~expenses of ~~$0.4~~$1.0 million and ~~$1.4~~$0.9 million, ~~for the three and nine months ended September 30, 2019,~~ respectively.

(2)	2019 includes short-term and variable lease expenses of $1.0 million and $1.0 million, respectively.

Maturities of lease liabilities were as follows:

(dollars in millions)

September 30, 2019

2019
$
3.1

2020

13.4

2021

9.9

2022

8.5

2023

4.4

After 2023

26.2

Total lease payments

65.5

Less: imputed interest

(13.7
)

Present value of operating lease liabilities
$
51.8


(dollars in millions)
	June 30, 2020
2020	$	7.0
2021		11.7
2022		9.9
2023		5.5
2024		4.4
After 2024		23.0

Total lease payments		61.5
Less: imputed interest		(12.5	)

Present value of operating lease liabilities	$	49.0

~~Table of Contents~~

5.	~~Restructuring and Impairment Expenses~~

In the first quarter of 2018, the Company announced a move of manufacturing operations from its Renton, Washington facility to other U.S. facilities. At that time, the Company recognized $6.7 million of restructuring and impairment expenses, comprised of $4.0 million of severance and compensation related costs, lease exit costs of $2.1 million and impairment charges related to long-lived assets totaling $0.6 million, as well as a corresponding $1.7 million tax benefit related to the charges. The consolidation of operations from the Renton facility to other U.S. facilities was completed in 2018.

~~The following table presents an analysis of the Company’s restructuring reserve as of and for the~~

~~months ended September 30, 2019:~~

(dollars in millions)

Severance
Costs

Lease Exit
Costs

Total

Balance at January 1, 2019
$
0.2
$
1.3
$
1.5

Cash payments

—

(0.1
)
(0.1
)

Balance at March 31, 2019

0.2

1.2

1.4

Cash payments

—

(0.1
)
(0.1
)

Balance at June 30, 2019
$
0.2
$
1.1
$
1.3

Cash payments

(0.2
)
—

(0.2
)

Balance at September 30, 2019
$
—
$
1.1
$
1.1

6.	Inventories

The following table presents the components of the Company’s inventory balances:

(dollars in millions)

September 30, 2019

December 31, 2018

Finished products
$
140.2
$
137.6

Work in process

24.6

23.3

Raw materials

175.7

174.4

Inventories, at FIFO cost

340.5

335.3

LIFO reserve

(30.5
)
(30.6
)

Net inventory
$
310.0
$
304.7


(dollars in millions)
	June 30, 2020			December 31, 2019
Finished products	$	134.3		$	136.8
Work in process		22.7			21.7
Raw materials		172.8			168.3

Inventories, at FIFO cost		329.8			326.8
LIFO reserve		(23.8	)		(23.8	)

Net inventory	$	306.0		$	303.0

7.	Product Warranties

~~Table of Contents~~

7.	~~Product Warranties~~

The Company offers warranties on the ~~sales~~sales of certain of its products with terms that are consistent with the market and records an accrual for the estimated future claims. The following table presents the Company’s warranty liability activity.

Three

Months

Ended
September 30,

(dollars in millions)

2019

2018

Balance at July 1,
$
134.0
$
141.6

Expense

11.0

8.7

Claims settled

(11.6
)
(9.8
)

Balance at September 30,
$
133.4
$
140.5

Nine

Months

Ended
September 30,

(dollars in millions)

2019

2018

Balance at January 1,
$
139.4
$
141.2

Expense

31.8

31.4

Claims settled

(37.8
)
(32.1
)

Balance at September 30,
$
133.4
$
140.5


	Three Months Ended June 30,
(dollars in millions)
	2020			2019
Balance at April 1,	$	135.3		$	136.2
Expense		12.3			11.4
Claims settled		(11.6	)		(13.6	)

Balance at June 30,	$	136.0		$	134.0


	Six Months Ended June 30,
(dollars in millions)
	2020			2019
Balance at January 1,	$	134.3		$	139.4
Expense		25.8			20.8
Claims settled		(24.1	)		(26.2	)

Balance at June 30,	$	136.0		$	134.0

8.	Long-Term Debt

The Company has a $500 million multi-year multi-currency revolving credit agreement with a group of

banks, which expires on

December 15, ~~2021~~

.2021. The facility has an accordion provision which allows it to be increased up to $700 million if certain conditions (including lender approval) are satisfied.

Borrowings under bank credit lines and commercial paper borrowings are supported by the $500 million revolving credit agreement. As a result of the long-term nature of this facility, the Company’s commercial paper and credit line borrowings are classified as long-term debt at ~~September~~June 30, ~~2019.~~2020. At its option, the Company either maintains cash balances or pays fees for bank credit and services.

9.	Earnings per Share of Common Stock

The numerator for the calculation of basic and diluted earnings per share ~~~~is net earnings. The following table sets forth the ~~computation~~computation of basic and diluted weighted-average shares used in the earnings per share calculations:

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018

2019

2018

Denominator for basic earnings per share - weighted average shares

164,298,458

170,507,922

166,296,444

171,030,747

Effect of dilutive stock options and share units

1,244,787

1,576,694

1,265,777

1,687,050

Denominator for diluted earnings per share

165,543,245

172,084,616

167,562,221

172,717,797


	Three Months Ended June 30,				Six Months Ended June 30,
	2020		2019		2020		2019
Denominator for basic earnings per share - weighted average shares		161,208,194		166,825,601		161,539,991		167,311,995
Effect of dilutive stock options and share units		965,648		1,260,667		995,675		1,276,451

Denominator for diluted earnings per share		162,173,842		168,086,268		162,535,666		168,588,446

~~Table of Contents~~

10.	Stock Based Compensation

The Company adopted the A. O. Smith Combined Incentive Compensation Plan (the Plan) effective January 1, 2007. The Plan was ~~reapproved~~

most recently

eapproved by stockholders on April ~~16, 2012.~~15, 2020. The Plan is a continuation of the A. O. Smith Combined Executive Incentive Compensation Plan which was originally approved by stockholders in 2002. The number of shares available for granting of options or share units at ~~September~~June 30, ~~2019~~2020 was ~~1,873,064.~~3,410,323 which includes 2,400,000 additional shares that were authorized on April 15, 2020 at the Company’s annual meeting of stockholders. Upon stock option exercise or share unit vesting, shares are issued from treasury stock.

Total stock based compensation expense recognized in the three months ended ~~September~~June 30, 2020 and 2019 ~~and 2018~~ was ~~$1.5~~$1.4 million and ~~$1.8~~$2.1 million, respectively. Total stock based compensation expense recognized in the ~~nine~~six months ended ~~September~~June 30, 2020 and 2019 ~~and 2018~~ was ~~$12.3~~$10.4 million and ~~$9.7~~$10.8 million, respectively.

Stock Options

The stock options granted in the ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 have three year pro rata vesting from the date of grant. Stock options are issued at exercise prices equal to the fair value of the Company’s Common Stock on the date of grant. For active employees, all options granted in 2020 and 2019 ~~and 2018~~ expire

ten years

after the date of grant. The Company’s stock options are expensed ratably over the three year vesting period; however, included in stock option expense for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 was expense associated with the accelerated vesting of stock option awards for certain employees who either are retirement eligible or become retirement eligible during the vesting period. Stock based compensation expense attributable to stock options in the three months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 was $0.7 million and ~~$0.8~~$0.9 million, respectively. Stock based compensation expense attributable to stock options in the ~~nine~~six months ended ~~September~~June 30, 2020 and 2019 ~~and 2018~~ was ~~$5.9 million and $4.6~~$5.2 million, respectively.

Changes in options, all of which

relate

to the Company’s Common Stock, were as follows for the ~~nine~~six months ended ~~September~~June 30, ~~2019:~~2020:

Weighted-
Avg.

Per
Share
Exercise
Price

Number of
Options

Average
Remaining
Contractual
Life

Aggregate
Intrinsic
Value
(dollars in
millions)

Outstanding at January 1, 2019
$
33.05

2,432,689

Granted

49.49

557,045

Exercised

15.97

(177,306
)
Forfeited

54.29

(8,704
)
Outstanding at September 30, 2019

37.33

2,803,724

7
years
$
36.0

Exercisable at September 30, 2019

29.89

1,894,160

6
years
$
36.0


	Weighted- Avg. Per Share Exercise Price		Number of Options			Average Remaining Contractual Life		Aggregate Intrinsic Value (dollars in millions)
Outstanding at January 1, 2020	$	37.64		2,728,350
Granted		42.39		784,300
Exercised		14.79		(271,844	)
Forfeited		48.50		(68,654	)

Outstanding at June 30, 2020		40.54		3,172,152			7 years	$	28.2

Exercisable at June 30, 2020		38.42		1,922,832			7 years	$	28.2

The weighted-average fair value per option at the date of grant during the ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 using the Black-Scholes option-pricing model was ~~$10.83~~$8.15 and ~~$14.80,~~$10.83, respectively. Assumptions were as follows:

Nine Months Ended

September 30,

2019

2018

Expected life (years)

5.5

5.7

Risk-free interest rate

2.7
%
2.9
%
Dividend yield

1.6
%
1.0
%
Expected volatility

22.8
%
22.1
%


	Six Months Ended June 30,
	2020			2019
Expected life (years)		5.7			5.5
Risk-free interest rate		1.6	%		2.7	%
Dividend yield		2.1	%		1.6	%
Expected volatility		23.6	%		22.8	%

10.	Stock Based Compensation (continued)

~~Table of Contents~~

~~10.~~

~~Stock Based Compensation (continued)~~

The expected lives of options for purposes of these models are based on historical exercise behavior. The risk-free interest rates for purposes of these models are based on the U.S. Treasury yield curve in effect on the date of grant for the respective expected lives of the option. The expected dividend yields for purposes of these models are based on the dividends paid in the preceding four quarters divided by the grant date market value of the Common Stock. The expected volatility for purposes of these models are based on the historical volatility of the Common Stock.

~~Stock Appreciations Rights (SARs)~~

~~In 2015, certain~~

~~non-U.S.-based~~

~~employees were granted SARs. Each SAR award grant~~

the employee the right to receive cash equal to the excess of the share price of the Company’s Common Stock on the date that a participant exercises such right over the grant date value of the SAR. SARs granted ha

three year pro rata vesting from the date of grant. SARs were issued at exercise prices equal to the fair value of the Company’s Common Stock on the date of grant and expire ten years from the date of grant. The fair value and compensation expense related to SARs are measured at each reporting period using the Black-Scholes option-pricing model, using assumptions similar to stock option awards.

~~NaN~~

SARs were granted in 2019 or 2018. As of September 30, 2019, there were 14,880 SARs outstanding and exercisable. In the nine months ended September 30, 2019, 1,290 SARs were exercised. Stock based compensation expense attributable to SARs was minimal in the three and nine months ended September 30, 2019 and 2018.

Restricted Stock and Share Units

Participants may also be awarded shares of restricted stock or share units under the Plan.

Share units vest three years after the date of ~~grant.~~

grant. The Company granted ~~139,892~~169,539 and ~~106,581~~139,892 share units under the plan in the ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018,~~2019, respectively. The share units were valued at ~~$6.9~~$7.2 million and ~~$6.6~~$6.9 million at the date of issuance in ~~2019~~2020 and ~~2018,~~2019, respectively, based on the price of the Company’s Common Stock at the date of grant. The share units are recognized as compensation expense ratably over the three-year vesting period; however, included in share unit expense in the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 was expense associated with accelerated vesting of share unit awards for certain employees who either are retirement eligible or will become retirement eligible during the vesting period. Stock based compensation expense attributable to share units of ~~$0.8~~$0.7 million and ~~$1.0~~$1.2 million was recognized in the three months ended ~~September~~June 30, ~~2019~~2020 and ~~2018,~~2019, respectively. Stock based compensation expense attributable to share units of ~~$6.4~~$5.2 million and ~~$5.1~~$5.6 million was recognized in the ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018,~~2019, respectively. Certain

non-U.S.-based

employees receive the cash value of the share price at the vesting date in lieu of shares. Unvested cash-settled awards are remeasured at each reporting period.

A summary of share unit activity under the plan is as follows for the ~~nine~~six months ended ~~September~~June 30, ~~2019:~~2020:

Number of Units

Weighted-Average
Grant Date Value

Issued and unvested at January 1, 2019

379,601
$
42.93

Granted

139,892

49.52

Vested

(147,642
)
31.35

Forfeited

(4,509
)
55.57

Issued and unvested at September 30, 2019

367,342

50.05


	Number of Units			Weighted-Average Grant Date Value
Issued and unvested at January 1, 2020		366,102		$	49.92
Granted		169,539			42.39
Vested		(100,735	)		49.21
Forfeited		(10,656	)		52.48

Issued and unvested at June 30, 2020		424,250			46.93

~~Table of Contents~~

11.

Pensions

The following table presents the components of the Company’s net pension income.

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018

2019

2018

Service cost
$
0.4
$
0.5
$
1.3
$
1.5

Interest cost

8.0

7.2

23.7

21.7

Expected return on plan assets

(14.3
)
(14.5
)
(43.1
)
(43.6
)
Amortization of unrecognized loss

4.4

4.9

12.4

14.2

Amortization of prior service cost

(0.2
)
(0.2
)
(0.4
)
(0.4
)

Defined benefit plan income
$
(1.7
) $
(2.1
) $
(6.1
) $
(6.6
)


	Three Months Ended June 30,						Six Months Ended June 30,
	2020			2019			2020			2019
Service cost	$	0.3		$	0.5		$	0.7		$	0.9
Interest cost		5.8			7.8			11.5			15.7
Expected return on plan assets		(13.0	)		(14.4	)		(26.0	)		(28.7	)
Amortization of unrecognized loss		5.0			4.0			9.9			8.0
Amortization of prior service cost		(0.1	)		(0.1	)		(0.2	)		(0.2	)

Defined benefit plan income	$	(2.0	)	$	(2.2	)	$	(4.1	)	$	(4.3	)

The service cost component of net periodic benefit cost is presented within cost of products sold and selling, general and administrative expenses within the condensed consolidated statements of earnings while the other components of pension income are reflected in other income. The Company was not required to and did not make a contribution to its U.S. pension plan in ~~2018.~~2019. The Company is not required to make a contribution in ~~2019.~~2020.

12.	Segment Results

The Company is comprised of 2 reporting segments: North America and Rest of World. The Rest of World segment is primarily comprised of China, Europe and India. Both segments manufacture and market comprehensive lines of residential and commercial gas and electric water heaters, boilers, tanks, and water treatment products. Both segments primarily manufacture and market in their respective regions of the world. The Rest of World segment also manufactures and markets

in-home

air purification products in China.

12.	Segment Results (continued)

The following table presents the Company’s segment results:

(dollars in millions)

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018

2019

2018

Net sales

North America
$
514.6
$
486.9
$
1,560.4
$
1,522.8

Rest of World

220.3

274.1

701.5

876.0

Inter-segment

(6.7
)
(6.9
)
(20.1
)
(23.4
)
$
728.2
$
754.1
$
2,241.8
$
2,375.4

Segment earnings

North America
(1)
$
121.6
$
105.6
$
360.5
$
336.5

Rest of World

4.1

39.1

38.8

109.8

Inter-segment

—

—

(0.1
)
—

125.7

144.7

399.2

446.3

Corporate expense

(9.8
)
(11.2
)
(34.1
)
(36.7
)
Interest expense

(3.1
)
(2.0
)
(8.5
)
(6.6
)
Earnings before income taxes

112.8

131.5

356.6

403.0

Provision for income taxes

25.5

26.9

77.9

85.1

Net earnings
$
87.3
$
104.6
$
278.7
$
317.9

(1)
includes restructuring and impairment expenses of:
$
—
$
—
$
—
$
6.7


(dollars in millions)
	Three Months Ended June 30,						Six Months Ended June 30,
	2020			2019			2020			2019
Net sales
North America	$	480.5		$	524.0		$	1,013.4		$	1,045.8
Rest of World		189.7			249.1			299.9			481.2
Inter-segment		(6.3	)		(7.7	)		(12.5	)		(13.4	)

	$	663.9		$	765.4		$	1,300.8		$	1,513.6

Segment earnings
North America (1)	$	105.4		$	122.9		$	232.5		$	238.9
Rest of World (2)		(5.8	)		22.4			(48.0	)		34.7
Inter-segment		(0.3	)		(0.1	)		(0.3	)		(0.1	)

		99.3			145.2			184.2			273.5
Corporate expense		(9.8	)		(9.6	)		(24.8	)		(24.3	)
Interest expense		(2.5	)		(3.4	)		(4.7	)		(5.4	)

Earnings before income taxes		87.0			132.2			154.7			243.8
Provision for income taxes		19.2			30.1			35.2			52.4

Net earnings	$	67.8		$	102.1		$	119.5		$	191.4

(1) includes severance and restructuring expenses of:	$	2.2		$	—		$	2.2		$	—
(2) includes severance and restructuring expenses of:	$	3.9		$	—		$	3.9		$	—

~~Table of Contents~~

13.	Fair Value Measurements

ASC 820,

Fair Value Measurements

, among other things, defines fair value, establishes a consistent framework for measuring fair value and expands disclosure for each major asset and liability category measured at fair value on either a recurring basis or nonrecurring basis. ASC 820 clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, ASC 820 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows: (Level 1) observable inputs such as quoted prices in active markets; (Level 2) inputs, other than the quoted prices in active markets, that are observable either directly or indirectly; and (Level 3) unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions. Assets and liabilities measured at fair value are based on the market approach which are prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.

The following table presents assets measured at fair value on a recurring basis.

(dollars in millions)

Fair Value Measurement Using

September 30, 2019

December 31, 2018

Quoted prices in active markets for identical assets (Level 1)
$
294.4
$
385.3

Significant other observable inputs (Level 2)

8.4

7.5


(dollars in millions)
Fair Value Measurement Using	June 30, 2020			December 31, 2019
Quoted prices in active markets for identical assets (Level 1)	$	126.0		$	177.4
Significant other observable inputs (Level 2)		(0.4	)		6.9

13.	Fair Value Measurements (continued)

Items measured at fair value were comprised of the Company’s marketable securities (Level 1) and derivative instruments (Level 2). There were no changes in the Company’s valuation techniques used to measure fair values on a recurring basis during the ~~nine~~six months ended ~~September~~June 30, ~~2019.~~2020.

14.	Derivative Instruments

The Company utilizes certain derivative instruments to enhance its ability to manage currency exposure as well as raw materials price risk. Derivative instruments are entered into for periods consistent with the related underlying exposures and do not constitute positions independent of those exposures. The Company does not enter into contracts for speculative purposes. The contracts are executed

with

major financial institutions with no credit loss anticipated for failure of the counterparties to perform.

Cash Flow Hedges

With the exception of its net investment hedges, the Company designates that all of its hedging instruments are cash flow hedges. For derivative instruments that are designated and qualify as a cash flow hedge (i.e., hedging the exposure to variability in expected future cash flows that is attributable to a particular risk), gains or losses on the derivative instrument are reported as a component of other comprehensive loss, net of tax, and are reclassified into earnings in the same line item associated with the forecasted transaction and in the same period or periods during which the hedged transaction affects earnings.

Foreign Currency Forward Contracts

The Company is exposed to foreign currency exchange risk as a result of transactions in currencies other than the functional currency of certain subsidiaries. The Company utilizes foreign currency forward purchase and sale contracts to manage the volatility associated with foreign currency purchases, sales and certain intercompany transactions in the normal course of business. Principal currencies for which the Company utilizes foreign currency forward contracts include the British pound, Canadian dollar, Euro and Mexican peso.

~~Table of Contents~~

~~14.~~

~~Derivative Instruments (continued)~~

Gains and losses on these instruments are recorded in accumulated other comprehensive loss, net of tax, until the underlying transaction is recorded in earnings. When the hedged item is realized, gains or losses are reclassified from accumulated other comprehensive loss to the consolidated statement of earnings. The assessment of effectiveness for forward contracts is based on changes in the forward rates. These hedges have been determined to be effective.

The majority of the amounts in accumulated other comprehensive loss for cash flow hedges are expected to be reclassified into earnings within one year. The following table summarizes, by currency, the contractual amounts of the Company’s foreign currency forward contracts that are designated as cash flow hedges.

(dollars in millions)

September 30, 2019

December 31, 2018

Buy

Sell

Buy

Sell

British pound
$
—
$
0.3
$
—
$
1.0

Canadian dollar

—

39.4

—

—

Euro

44.7

—

32.0

—

Mexican peso

23.0

—

27.8

—

Total
$
67.7
$
39.7
$
59.8
$
1.0


(dollars in millions)
	June 30, 2020				December 31, 2019
	Buy		Sell		Buy		Sell
British pound	$	—	$	0.6	$	—	$	1.3
Canadian dollar		—		39.6		—		49.7
Euro		24.6		—		36.0		—
Mexican peso		23.6		—		18.6		—

Total	$	48.2	$	40.2	$	54.6	$	51.0

14.	Derivative Instruments (continued)

Commodity Futures Contracts

In addition to entering into supply arrangements in the normal course of business, the Company also enters into futures contracts to fix the cost of certain raw material purchases, principally steel, with the objective of minimizing changes in cost due to market price fluctuations. The hedging strategy for achieving this objective is to purchase steel futures contracts on the New York Metals Exchange (NYMEX) and copper futures contracts on the open market of the London Metals Exchange (LME) or over the counter contracts based on the LME.

With NYMEX, the Company is required to make cash deposits on unrealized losses on steel derivative contracts.

The

after-tax

gains and losses of the contracts as of June 30, 2020 were recorded in accumulated other comprehensive loss and will be reclassified into cost of products sold in the period in which the underlying transaction is recorded in earnings. The

after-tax

gains and losses on the contracts will be reclassified within one year.

Net Investment Hedges

The Company enters into certain foreign currency forward contracts to hedge the exposure to a portion of the Company’s net investments in certain

~~non-U.S~~non-U.S.

~~ubsidiaries~~subsidiaries against the effect of exchange rate fluctuations on the translation of foreign currency balances to the U.S. dollar. For the derivative instruments that are designated and qualify as net investment hedges, gains and losses are reported in other comprehensive loss where they offset gains and losses recorded on the Company’s net investments in its

non-U.S.

subsidiaries. These hedges are determined to be effective. The Company recognized $

~~2.7~~

~~~~($0.1) million and $

~~1.8~~

$0.7 million of

after-tax

(losses) gains associated with hedges of a net investment in

non-U.S.

~~subsidiaries in currency translation adjustment in other comprehensive income in the~~

~~three and~~

~~nine months ended September 30, 2019~~

~~, respectively~~

~~. The Company recognized $~~

~~4.1~~

~~million and $~~

~~7.4~~

~~million of~~

~~after-tax~~

~~gains associated with hedges of a net investment in~~

~~non-U.S.~~

subsidiaries in currency translation adjustment in other comprehensive income in the three and ~~nine~~six months ended ~~September~~June 30, ~~2018,~~2020, respectively. The ~~contractual amount~~Company recognized $- and $1.3 million of

after-tax

gains associated with hedges of a net investment in

non-U.S.

subsidiaries in currency translation adjustment in other comprehensive income in the ~~Company’s~~three and six months ended June 30, 2019, respectively. As of June 30, 2020, the Company had 0 foreign currency forward contracts ~~that are~~ designated as net investment hedges ~~is $~~

~~100.0~~

~~million as of September 30, 2019.~~

~~Table of Contents~~

~~14.~~

~~Derivative Instruments (continued)~~

outstanding.

The following tables present the impact of derivative contracts on the Company’s financial statements.

Fair value of derivatives designated as hedging instruments under ASC 815:

(dollars in millions)

Balance

Sheet

Location

September 30,
2019

December 31,
2018

Foreign currency contracts

Other

current

assets
$
10.3
$
3.9

Other

non-current

assets

—

5.1

Accrued liabilities

(1.9
)
(0.6
)
Commodities contracts

Accrued liabilities

—

(0.9
)

Total derivatives designated as hedging instruments
$
8.4
$
7.5


(dollars in millions)
	Balance Sheet Location	June 30, 2020			December 31, 2019
Foreign currency contracts	Other current assets	$	1.6		$	8.4
	Accrued liabilities		(1.9	)		(1.5	)
Commodities contracts	Accrued liabilities		(0.1	)		—

Total derivatives designated as hedging instruments		$	(0.4	)	$	6.9

14.	Derivative Instruments (continued)

The effect of cash flow hedges on the condensed consolidated statement of earnings:

Three Months Ended ~~September~~June 30 (dollars in millions):

Derivatives in ASC 815 cash flow hedging relationships

Amount of gain (loss)
recognized in other
comprehensive

loss
on derivative

Location of gain (loss)
reclassified from
accumulated other
comprehensive loss
into

earnings

Amount of gain (loss)
reclassified from
accumulated other
comprehensive

loss
into earnings

2019

2018

2019

2018

Foreign currency contracts
$
(1.1
) $
1.9

Cost of products sold
$
(0.1
) $
—

Commodities contracts

—

—

Cost of products sold

(0.6
)
—

$
(1.1
) $
1.9
$
(0.7
) $
—

~~Nine Months Ended September 30 (dollars in millions):~~


Derivatives in ASC 815 cash flow hedging relationships	Amount of gain (loss) recognized in other comprehensive loss on derivative					Location of gain (loss) reclassified from accumulated other comprehensive loss into earnings		Amount of gain (loss) reclassified from accumulated other comprehensive loss into earnings					Amount of gain (loss) recognized in other comprehensive loss on derivatives						Location of gain (loss) reclassified from accumulated other comprehensive loss into earnings		Amount of gain (loss) reclassified from accumulated other comprehensive loss into earnings
	2019			2018				2019			2018		2020			2019					2020		2019
Foreign currency contracts	$	(0.6	)	$	3.3		Cost of products sold	$	(0.1	)	$	0.1	$	(0.6	)	$	0.5			Cost of products sold	$	0.5	$	—
Commodities contracts		(0.5	)		—		Cost of products sold		(1.4	)		0.3		0.1			(0.3	)		Cost of products sold		—		(0.8	)

	$	(1.1	)	$	3.3			$	(1.5	)	$	0.4	$	(0.5	)	$	0.2				$	0.5	$	(0.8	)

Six Months Ended June 30 (dollars in millions):


Derivatives in ASC 815 cash flow hedging relationships	Amount of gain (loss) recognized in other comprehensive loss on derivatives						Location of gain (loss) reclassified from accumulated other comprehensive loss into earnings		Amount of gain (loss) reclassified from accumulated other comprehensive loss into earnings
	2020			2019					2020		2019
Foreign currency contracts	$	0.8		$	0.6			Cost of products sold	$	1.3	$	—
Commodities contracts		(0.1	)		(0.5	)		Cost of products sold		—		(0.8	)

	$	0.7		$	0.1				$	1.3	$	(0.8	)

15.	Income Taxes

~~Table of Contents~~

~~15.~~

~~Income Taxes~~

The Company’s effective income tax rates for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 were ~~22.6~~22.1 percent and ~~21.8~~22.8 percent, respectively. The Company estimates that its annual effective income tax rate for the full year ~~2019~~2020 will be ~~approximately 22.0~~between 23.0 and 23.5 percent. The effective income tax rates for the three and ~~nine~~six months ended ~~September~~June 30, ~~2018~~2019 were ~~20.5~~22.8 percent and ~~21.1~~21.5 percent, respectively. The change in the effective income tax rate

for the ~~three and nine~~six months ended ~~September~~June 30, ~~2019~~2020 compared to the effective income tax rate

for the ~~three and nine~~six months ended ~~September~~June 30, ~~2018~~2019 was primarily due to

a change in ~~the~~ geographic

earnings mix.

As of ~~September~~June 30, ~~2019,~~2020, the Company had ~~$7.8~~$9.7 million of unrecognized tax benefits of which $0.8 million would affect its effective income tax rate if recognized. The Company recognizes potential interest and penalties related to unrecognized tax benefits as a component of income tax expense.

The Company’s U.S. federal income tax returns for ~~2016-2019~~2016-2020 are subject to audit. The Company is subject to state and local income tax audits for tax years ~~2002-2019.~~2002-2020. The Company is subject to

non-U.S.

income tax examinations for years ~~2013-2019.~~2014-2020.

16.	Commitments and Contingencies

The Company maintains a commercial relationship with a supply-chain service provider (the Provider) in connection with the Company’s business in China. In this capacity, the Provider offers order-entry, warehousing and logistics support. The Provider also offers asset-backed financing to certain of the Company’s distributors in China to facilitate their working capital needs. To facilitate its financing support business, the Provider has collateralized lending facilities in place with multiple Chinese banks under which the Company has agreed to repurchase inventory if both requested by the banks and certain defined conditions are met, primarily related to the aging of the distributors’ notes.

The Provider is required to indemnify the Company for any losses the Company would incur in the event of an inventory repurchase under these arrangements. Potential losses under the repurchase arrangements represent the difference between the repurchase price and net proceeds from the resale of product plus costs incurred in the process, less related distributor rebates.

Before considering any reduction of distributor rebate accruals of ~~$17.1~~$7.2 and ~~$25.1~~$14.1 million as of ~~September~~June 30, ~~2019~~2020 and December 31, ~~2018,~~2019, respectively, and from the resale of the related inventory, the gross amount the Company would be obligated to repurchase, which would be contingent on the default of all of the outstanding loans, was approximately ~~$56.3~~$10.8 million and ~~$75.8~~$23.1 million as of ~~September~~June 30, ~~2019~~2020 and December 31, ~~2018,~~2019, respectively. The Company’s reserves for estimated losses under repurchase arrangements were immaterial as of ~~September~~June 30, ~~2019~~2020 and December 31, ~~2018.~~2019.

~~Table of Contents~~

17.	Changes in Accumulated Other Comprehensive Loss by Component

Changes to accumulated other comprehensive loss by component are as follows:

(dollars in millions)

Three

Months

Ended
September 30,

2019

2018

Cumulative foreign currency translation

Balance at beginning of period
$
(59.1
) $
(39.1
)
Other comprehensive (loss) income before reclassifications

(21.9
)
(20.7
)

Balance at end of period

(81.0
)
(59.8
)

Unrealized net gain on cash flow derivatives

Balance at beginning of period

(0.1
)
(0.1
)
Other comprehensive (loss) gain before reclassifications

(0.8
)
1.3

Realized losses (gains) on derivatives reclassified to cost of products sold (net of income tax (benefit) provision of ($0.2) and $ - in 2019 and 2018, respectively)

0.5

—

Balance at end of period

(0.4
)
1.2

Pension liability

Balance at beginning of period

(279.2
)
(265.2
)
Other comprehensive (loss) gain before reclassifications

(4.1
)
2.0

Amounts reclassified from accumulated other comprehensive loss:
(1)

3.1

3.6

Balance at end of period

(280.2
)
(259.6
)

Accumulated other comprehensive loss, end of period
$
(361.6
) $
(318.2
)

(1)

Amortization of pension items:

Actuarial losses
$
4.4
(2) $
4.9
(2)
Prior year service cost

(0.2
)
(2)

(0.2
)
(2)

4.2

4.7

Income tax benefit

(1.1
)
(1.1
)

Reclassification net of income tax benefit
$
3.1
$
3.6


(dollars in millions)
		Three Months Ended June 30,
		2020			2019
Cumulative foreign currency translation
Balance at beginning of period		$	(84.2	)	$	(49.0	)
Other comprehensive income (loss) before reclassifications			3.7			(10.1	)

Balance at end of period			(80.5	)		(59.1	)

Unrealized net gain (loss) on cash flow derivatives
Balance at beginning of period			0.5			(0.8	)
Other comprehensive (loss) gain before reclassifications			(0.4	)		0.1
Realized (gains) losses on derivatives reclassified to cost of products sold (net of income tax provision (benefit) of $0.1 and ($0.2) in 2020 and 2019, respectively)			(0.4	)		0.6

Balance at end of period			(0.3	)		(0.1	)

Pension liability
Balance at beginning of period			(278.7	)		(282.3	)
Amounts reclassified from accumulated other comprehensive loss: (1)			3.7			3.1
	��
Balance at end of period			(275.0	)		(279.2	)

Accumulated other comprehensive loss, end of period		$	(355.8	)	$	(338.4	)


(1) Amortization of pension items:
Actuarial losses		$	5.0	(2)	$	4.0	(2)
Prior year service cost			(0.1	) (2)		(0.1	) (2)

			4.9			3.9
Income tax benefit			(1.2	)		(0.8	)

Reclassification net of income tax benefit		$	3.7		$	3.1

(2)	These accumulated other comprehensive loss components are included in the computation of net periodic pension cost. See Note 11 - Pensions for additional details

~~Table of Contents~~

17.	Changes in Accumulated Other Comprehensive Loss by Component (continued)

Changes to accumulated other comprehensive loss by component are as follows:

(dollars in millions)

Nine

Months

Ended
September 30,

2019

2018

Cumulative foreign currency translation

Balance at beginning of period
$
(64.9
) $
(26.5
)
Other comprehensive income (loss) before reclassifications

(16.1
)
(33.3
)

Balance at end of period

(81.0
)
(59.8
)

Unrealized net gain on cash flow derivatives

Balance at beginning of period

(0.7
)
(0.9
)
Other comprehensive (loss) gain before reclassifications

(0.8
)
2.4

Realized losses (gains) on derivatives reclassified to cost of products sold
(net of income tax (benefit) provision of ($0.4) and $0.1 in 2019 and

2018,

respectively)

1.1

(0.3
)

Balance at end of period

(0.4
)
1.2

Pension liability

Balance at beginning of period

(285.2
)
(272.1
)
Other comprehensive (loss) gain before reclassifications

(4.1
)
2.0

Amounts reclassified from accumulated other comprehensive loss:
(1)

9.1

10.5

Balance at end of period

(280.2
)
(259.6
)

Accumulated other comprehensive loss, end of period
$
(361.6
) $
(318.2
)

(1)

Amortization of pension items:

Actuarial losses
$
12.4
(2) $
14.2
(2)
Prior year service cost
$
(0.4
)
(2)

(0.4
)
(2)

12.0

13.8

Income tax benefit

(2.9
)
(3.3
)

Reclassification net of income tax benefit
$
9.1
$
10.5


(dollars in millions)
	Six Months Ended June 30,
	2020			2019
Cumulative foreign currency translation
Balance at beginning of period	$	(66.2	)	$	(64.9	)
Other comprehensive (loss) income before reclassifications		(14.3	)		5.8

Balance at end of period		(80.5	)		(59.1	)

Unrealized net gain on cash flow derivatives
Balance at beginning of period		0.2			(0.7	)
Other comprehensive gain before reclassifications		0.5			—
Realized (gains) losses on derivatives reclassified to cost of products sold (net of income tax provision (benefit) of $0.3 and ($0.2) in 2020 and 2019, respectively)		(1.0	)		0.6

Balance at end of period		(0.3	)		(0.1	)

Pension liability
Balance at beginning of period		(282.3	)		(285.2	)
Amounts reclassified from accumulated other comprehensive loss: (1)		7.3			6.0

Balance at end of period		(275.0	)		(279.2	)

Accumulated other comprehensive loss, end of period	$	(355.8	)	$	(338.4	)


(1) Amortization of pension items:
Actuarial losses	$	9.9	(2)	$	8.0	(2)
Prior year service cost		(0.2	) (2)		(0.2	) (2)

		9.7			7.8
Income tax benefit		(2.4	)		(1.8	)

Reclassification net of income tax benefit	$	7.3		$	6.0

(2)	These accumulated other comprehensive loss components are included in the computation of net periodic pension cost. See Note 11 - Pensions for additional details

~~Table of Contents~~

PART I - FINANCIAL INFORMATION

ITEM 2 - MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

Our company is comprised of two reporting segments: North America and Rest of World. Our Rest of World segment is primarily comprised of China, Europe and India. Both segments manufacture and market comprehensive lines of residential and commercial gas and electric water heaters, boilers, tanks, and water treatment products. Both segments primarily manufacture and market in their respective region of the world. Our Rest of World segment also manufactures and markets

in-home

air purifier products in China.

In January 2020, an outbreak of a novel coronavirus

(COVID-19)

surfaced in Wuhan, China. As a result of the outbreak, the Chinese government required businesses to close and restricted certain travel within the country. In cooperation with the government authorities, our operations in China closed for approximately four weeks before resuming production before the end of the first quarter. In March 2020,

COVID-19

was declared a global pandemic and we saw pressure in our other end markets worldwide. Through the date of this filing, our global manufacturing operations of essential water heating and water treatment products continue without material disruption to our operations. As a result of the

COVID-19

pandemic and in support of continuing our manufacturing efforts, we have undertaken numerous and meaningful steps to protect our employees, suppliers, and customers. These important steps, which in certain cases reduce efficiency, include continuous communication and training to our employees on living and working safely in a

COVID-19

environment, plant accommodations and reconfigurations to maintain social distancing, masks for all employees, implementation of sanitizing stations, temperature taking and regular, proactive deep cleaning and sanitization of our facilities, among others. As we receive guidance from governmental authorities, we adjust our safety measures to meet or exceed those guidelines. The majority of our customers in the U.S. are also deemed essential under Cybersecurity and Infrastructure Security Agency (CISA) guidance and are operating their businesses under varying state and local governmental guidance.

Our global supply chain management team continues to monitor and manage our ability to operate effectively as

COVID-19

cases in the U.S. and elsewhere periodically surge. To date, we have not seen any meaningful disruptions to our supply chain. Ongoing communications with our suppliers to identify and mitigate risk of potential disruptions and to manage inventory levels continue.

While we believe our balance sheet and capital position are strong, proactive management of discretionary spending and cost structure will continue. In addition, the members of our Board of Directors have voluntarily reduced the cash component of their board compensation by 25 percent and our chairman and chief executive officer (CEO) has voluntarily reduced his base salary by 25 percent. Our CEO’s staff, which includes our other named executive officers, have also volunteered a 15 percent reduction in base salary. We also continue to focus on aligning our cost structure in China through headcount reductions, store closures, cuts in advertising and other cost saving measures, as well as in North America ~~segment, we project~~through headcount reductions.

We estimate that between 80 to 85 percent of our water heater ~~sales~~and boiler units sold in the U.S. relate to replacement business. While we expect that our replacement business in both water heating and boilers will ~~grow~~provide a buffer in ~~2019 compared~~any economic downturn resulting from

COVID-19

in a similar manner to ~~2018 primarily due~~what we have seen historically, the impacts of the pandemic on consumer spending are difficult to predict.

~~mid-2018~~

pricing actions on water heaters related to steel and other inflationary costs. We expect boiler sales will grow five percent in 2019, driven by the continuing U.S. industry transition to higher efficiency products and our introduction of new products. We continued to expand our North America water treatment platform by being named exclusive supplier of water treatment products to Lowe’s, with sales commencing in August 2018, and acquiring the Water-Right group of companies (Water-Right) in April 2019.

We expect sales of North America water treatment products to increase by ~~approximately 60~~20 to 22 percent in ~~2019,~~2020, compared to ~~2018,~~2019, primarily due to ~~sales of Water-Right products from the date of acquisition,~~volume growth and a full year of sales from our Water-Right, Inc. (Water-Right) acquisition, which we completed in April 2019. We expect higher water treatment sales will be more than offset by expected declines in commercial water heaters and boilers volumes due to ~~Lowe’s~~pandemic-related temporarily closed job sites and ~~volume growth.~~deferrals of discretionary replacement installations. We expect residential water heater demand will be flat in 2020 compared with 2019.

In our Rest of World segment, we expect 2020 China sales to decline ~~in 2019 at a rate of approximately 23 percent in U.S. dollars~~between 18 and ~~approximately 19~~20 percent in local currency ~~due to~~compared with 2019, as pandemic-related closures in that region and further reductions in customer inventory ~~build in the sales channel that occurred in~~levels negatively impacted the first half of 2018 and an expectation that customers will scale back their purchases through the fourth quarter of 2019 due to continued elevated channel inventory levels. We believe Chinese consumer demand will continue to be weak and the Chinese currency will depreciate compared to the U.S. dollar by approximately five percent in 2019 compared with 2018.2020. In addition, we ~~expect~~believe our ~~sales~~mix of products sold in ~~India~~China is shifting to ~~grow approximately 15 percent in 2019~~more

mid-price

range products from ~~approximately $34 million in 2018.~~our historical mix of higher priced products.

Combining all of these factors, we expect our consolidated sales to decline approximately ~~five~~seven to eight percent in ~~U.S. dollar terms~~2020. Our guidance assumes the conditions of our business environment and ~~approximately 3.5 percent in local currency terms in 2019.~~that of our suppliers and customers are similar for the remainder of the year to what we are experiencing currently and does not deteriorate as a result of further restrictions or shut downs due to the

COVID-19

pandemic.

RESULTS OF OPERATIONS

~~THIRD~~SECOND QUARTER AND FIRST ~~NINE~~SIX MONTHS OF ~~2019~~2020 COMPARED TO ~~2018~~

2019

Sales in the ~~third~~second quarter of ~~2019~~2020 were ~~$728~~$664 million or approximately ~~three~~13 percent lower than sales of ~~$754~~$765 million in the ~~third~~second quarter of ~~2018.~~2019. Sales in the first ~~nine~~six months of ~~2019~~2020 were ~~$2,242~~$1,301 million or approximately ~~six~~14 percent lower than ~~sales of $2,375~~$1,514 million in the same period last year. Our sales decline in the ~~third~~second quarter and first ~~nine months~~half of 2019 compared to the same periods in the previous year was primarily a result of lower sales in China due to weak consumer demand and elevated channel inventory levels. In addition, our sales in China were adversely impacted by currency translation of approximately $6 million and $35 million in the third quarter and first nine months of 2019, respectively,2020 compared to the same periods last year ~~due to the depreciation of the Chinese currency compared to the U.S. dollar.~~was primarily driven by lower sales in China and lower commercial water heater and boiler volumes in North America. The ~~sales decline~~decreased demand in ~~China~~both periods more than offset ~~the benefits of increased sales~~higher water treatment volumes in North America, which ~~were primarily a result~~included incremental sales of ~~higher volumes of water heaters, boilers, and water treatment products in the third quarter of 2019 compared to the prior year period, and increased volumes of boilers and water treatment products~~$16 million in the first ~~nine~~six months of ~~2019 compared to the same period in 2018.~~2020 from Water-Right, acquired on April 8, ~~2019, added approximately $16 million and $30 million to sales in the third quarter and first nine months of 2019, respectively.~~2019.

~~Table of Contents~~

Gross profit margin in the ~~third~~second quarter of ~~2019~~2020 of ~~39.0~~37.3 percent was lower than the gross profit margin of ~~40.6~~40.3 percent in the ~~third~~second quarter of ~~2018.~~2019. Gross profit margin in the first ~~nine~~six months of ~~2019~~2020 of ~~39.5~~37.4 percent was lower than the gross profit margin of ~~40.8~~39.7 percent in the first ~~nine~~six months of ~~2018.~~2019. The lower gross profit margin ~~in each period~~ was primarily due to lower sales ~~volumes in China.~~volumes.

Selling, general and administrative (SG&A) expenses in the ~~third~~second quarter and first ~~nine~~six months of ~~2019~~2020 decreased by ~~$5.3~~$22.8 million and ~~$32.0~~$33.7 million, respectively, as compared to the prior year periods. The decrease in SG&A expenses in the ~~third~~second quarter and first ~~nine~~six months of ~~2019~~2020 was primarily due to lower selling and advertising ~~and selling expenses in China.~~expenses.

On March 21, 2018, we announced a plan to transfer water heater, boiler and storage tank production from our Renton, Washington plant to our other U.S. plants. The majority of the consolidation of operations occurred inDuring the second quarter of ~~2018. As a result~~2020, to align our business to current market conditions, we recognized $6.1 million of ~~the relocation of production, we incurred~~

pre-tax

~~restructuring and impairment expenses of $6.7 million in the first quarter of 2018, primarily related to employee~~ severance and ~~compensation-related costs, building lease exits~~restructuring expenses, which were comprised of $5.2 million of severance costs and ~~the impairment~~$0.9 million of ~~assets.~~other restructuring expenses. These activities are reflected in ~~“restructuring~~“severance and ~~impairment~~restructuring expenses” in the accompanying financial statements.

We are providing

non-GAAP

measures (adjusted earnings, adjusted earnings per share, and adjusted segment earnings) that exclude ~~restructuring~~severance and ~~impairment~~restructuring expenses. Reconciliations to measures on a GAAP basis are provided later in this section. We believe that the measures of adjusted earnings, adjusted EPS and adjusted segment earnings provide useful information to investors about our performance and allow management and our investors to better compare our performance period over period.

Interest expense in the ~~third~~second quarter of ~~2019~~2020 was ~~$3.1~~$2.5 million compared to ~~$2.0~~$3.4 million in the same period last year. Interest expense in the first ~~nine months~~half of ~~2019~~2020 was ~~$8.5~~$4.7 million compared to ~~$6.6~~$5.4 million in the same period last year. The ~~increase~~decrease in interest expense in the ~~third~~second quarter ~~and first nine months~~ of ~~2019~~2020 was primarily due to ~~higher~~lower interest rates and lower average debt levels than the prior year period. The decrease in interest expense in the first half of 2020 was primarily due to ~~fund the acquisition of Water-Right.~~lower interest rates, which was partially offset by higher average debt levels.

Other income was $4.0 million in the ~~third~~second quarter of ~~2019,~~2020, compared to ~~$5.1~~$5.6 million in the same period last year. Other income in the first ~~nine~~six months of ~~2019~~2020 was ~~$15.1~~$8.2 million compared to ~~$15.5~~$11.1 million in the first half of 2019. The decrease in other income in the second quarter and first half of 2020 compared to the same ~~period~~periods last ~~year.~~year was primarily due to lower interest income.

Our pension costs and credits are developed from actuarial valuations. The valuations reflect key assumptions regarding, among other things, discount rates, expected return on plan assets, retirement ages, and years of service. We consider current market conditions, including changes in interest rates, in making these assumptions. Our assumption for the expected rate of return on plan assets is 6.75 percent in 2020 compared to 7.15 percent in ~~2019, consistent with 2018.~~2019. The discount rate used to determine net periodic pension costs ~~increased from 3.65~~decreased to 3.18 percent in ~~2018 to~~2020 from 4.32 percent in 2019. Pension income for the ~~third~~second quarter and first ~~nine months~~half of ~~2019~~2020 was ~~$1.7~~$2.0 million and ~~$6.1~~$4.1 million, respectively, compared to ~~$2.1~~$2.2 million and ~~$6.6~~$4.3 million in the ~~third~~second quarter and first ~~nine months~~half of ~~2018,~~2019, respectively. The service cost component of our pension income is reflected in cost of products sold and SG&A expenses. All other components of our pension income are reflected in other income.

Our effective income tax rates for the ~~third~~second quarter and first ~~nine~~six months of ~~2019~~2020 were ~~22.6~~22.1 percent and ~~21.8~~22.8 percent, respectively. Our effective income tax rates for the ~~third~~second quarter and first ~~nine~~six months of ~~2018~~2019 were ~~20.5~~22.8 percent and ~~21.1~~21.5 percent, respectively. Our effective income tax ~~rates~~rate in the ~~third quarter and~~ first ~~nine months~~half of ~~2019 were~~2020 was higher than the effective income tax ~~rates~~rate in the same ~~periods~~period of ~~2018,~~2019 primarily due to a change in ~~the~~ geographic earnings mix. We estimate that our annual effective income tax rate for the full year ~~2019~~2020 will be ~~approximately 22.0~~between 23.0 and 23.5 percent.

~~Table of Contents~~

North America

Sales in the North America segment were ~~$515~~$481 million in the ~~third~~second quarter of ~~2019~~2020 or ~~$28~~$43 million ~~higher~~lower than sales of ~~$487~~$524 million in the ~~third~~second quarter of ~~2018.~~2019. Sales for the first ~~nine~~six months of ~~2019~~2020 were ~~$1,560~~$1,013 million or ~~$37~~$33 million ~~higher~~lower than sales of ~~$1,523~~$1,046 million in the same period last year. The ~~increase~~decrease in sales in the ~~third~~second quarter ~~2019 compared to the same period last year~~and first six months of 2020 was primarily due to ~~higher~~lower commercial water heater volumes, lower boiler volumes and a water heater sales mix composed of ~~water heaters, boilers,~~more electric models which have a lower selling price. The sales decline in both periods was partially offset by organic growth of approximately 19 percent and 17 percent in our North America water treatment products ~~which benefited from~~in the second quarter and first half of 2020, respectively. Water-Right added approximately $16 million of ~~Water-Right sales. The higher segment~~incremental sales to in the first ~~nine months~~half of ~~2019 were primarily due to~~2020.

~~mid-2018~~

pricing actions and higher volumes of boilers and water treatment products, which were partially offset by lower volumes of residential water heaters. Water-Right, acquired in April 2019, added $30 million to sales in the first nine months of 2019.

North America segment earnings were ~~$121.6~~$105.4 million in the ~~third~~second quarter of ~~2019~~2020 or approximately 1514 percent ~~higher~~lower than segment earnings of ~~$105.6~~$122.9 million in the same period of ~~2018.~~2019. Segment earnings in the first ~~nine~~six months of ~~2019~~2020 were ~~$360.5~~$232.5 million or approximately ~~seven~~three percent ~~higher~~lower than segment earnings of ~~$336.5~~$238.9 million in the first ~~nine~~six months of ~~2018.~~2019. Segment margin of ~~23.6~~21.9 percent in the ~~third~~second quarter of ~~2019~~2020 was ~~higher~~lower than ~~our segment margin of 21.7~~23.5 percent in the same period ~~in 2018.~~last year. Segment margin of ~~23.1~~22.9 percent in the first ~~nine~~six months of ~~2019~~2020 was ~~higher than 22.1 percent~~essentially equal to the same period last year. Adjusted

segment earnings and adjusted segment margin in the ~~first nine months~~second quarter of ~~last year.~~2020 were $107.6 million and 22.4 percent, respectively. Adjusted segment earnings and adjusted segment margin in the first ~~nine months~~half of ~~2018~~2020 were ~~$343.2~~$234.7 million and ~~22.5~~23.2 percent, respectively. ~~The higher~~Lower segment earnings and segment margin in the ~~third~~second quarter ~~of 2019 compared to 2018~~ were primarily driven by lower volumes of commercial water heaters and boilers and a ~~result~~mix skew to electric water heaters. Segment earnings and margin were also adversely impacted by certain costs related to the pandemic, including temporarily moving production from Mexico to the U.S., paying employees during temporary plant shutdowns, proactively deep cleaning facilities, paying benefits during employee furloughs and other costs, which were approximately $5.5 million in the second quarter. These unfavorable factors more than offset lower steel costs in the quarter compared with last year. Lower segment earnings and segment margin in the first six months of ~~higher water heater and boiler volumes,~~2020 were primarily driven by the factors identified above, partially offset by lower steel costs, and improvement in the profitability of ~~our~~ water treatment ~~products, which added~~sales, including incremental ~~profits~~profit from the Water-Right acquisition. The higher segment earnings and segment margin in the first nine months of 2019 compared to 2018 were primarily due to the favorable impact from higher sales of boilers and water treatment products, which benefited from incremental profits from the Water-Right acquisition, and

~~mid-2018~~

~~pricing actions that were partially offset by the unfavorable impact from lower residential water heater volumes.~~Water-Right. We expect ~~our~~ full year segment margin to be between ~~23.5~~22.5 and ~~23.75~~23.0 percent in ~~2019.~~2020.

Adjusted segment earnings and adjusted segment margin in ~~2018~~2020 exclude ~~$6.7~~$2.2 million of

pre-tax

~~restructuring~~severance and ~~impairment~~restructuring expenses associated with ~~the transfer of production from Renton, Washington~~an initiative to align our ~~other U.S. plants.~~business to current market conditions.

Rest of World

Sales in the Rest of World segment were ~~$220~~$190 million in the ~~third~~second quarter of ~~2019~~2020 or ~~$54~~$59 million lower than sales of ~~$274~~$249 million in the ~~third~~second quarter of ~~2018.~~2019. Sales in the first ~~nine~~six months of ~~2019~~2020 were ~~$702~~$300 million or ~~$174~~$181 million lower than sales of ~~$876~~$481 million in the first ~~nine~~six months of ~~2018.~~2019. Sales in China ~~sales~~ declined approximately 23 percent in U.S. dollar terms and 20 percent in local currency in the ~~third~~second quarter of ~~2019~~2020 and declined approximately 2240 percent in U.S. dollar terms and 1838 percent in local currency in the first ~~nine~~six months of ~~2019~~2020 compared to the same ~~periods~~period last year. The decrease in China sales in the ~~third~~second quarter of 2020 was primarily due to a higher sales mix of

mid-price

products and further reductions in customer inventory levels. Consumer demand for water heater and water treatment products in China was flat to slightly positive compared with the second quarter of 2019. India sales declined significantly as the economy was shut down during a majority of the second quarter to minimize the spread of the virus. The decrease in Rest of World sales in the first half of 2020 was primarily due to

COVID-19

pandemic-related weak consumer demand and the factors identified above. In addition, our sales in China were adversely impacted by currency translation of approximately $6 million and $9 million in the second quarter and first ~~nine months~~half of ~~2019~~2020, respectively, compared to the same periods last year, ~~was primarily~~ due to ~~weak consumer demand and inventory build in~~ the ~~sales channel that occurred in~~depreciation of the ~~first half of 2018. In addition, the weaker~~ Chinese currency compared to the U.S. dollar, unfavorably impacted the translation of sales by approximately $6 million and $35 million in the third quarter and first nine months of 2019, respectively. The China sales declines were partially offset by higher sales in India, which grew approximately nine percent in both U.S. dollar and local currency terms in the third quarter of 2019 compared to the same period last year and 15 percent in U.S. dollar terms and 19 percent in local currency terms in the first nine months of 2019 compared to the same period in 2018.dollar.

~~Table of Contents~~

Rest of World segment ~~earnings~~losses were ~~$4.1~~$5.8 million in the ~~third~~second quarter of ~~2019, approximately 90 percent lower than segment~~2020, compared to earnings of ~~$39.1~~$22.4 million in the ~~third~~second quarter of ~~2018.~~2019. Segment ~~earnings~~losses in the first ~~nine~~six months of ~~2019~~2020 were ~~$38.8~~$48.0 million, ~~approximately 65 percent lower than segment~~compared to earnings of ~~$109.8~~$34.7 million in the first ~~nine months~~half of ~~2018.~~2019. Adjusted segment losses in the second quarter and first half of 2020 were $1.9 million and $44.1 million, respectively. The ~~decreased segment earnings in both periods of 2019 were primarily due to~~unfavorable impact from lower China sales ~~in China~~ and a higher mix of

mid-price

products, which have lower margins ~~that when combined, more than~~compared to our historical mix of higher priced products, was partially offset by the benefits ~~to profits~~ from lower SG&A ~~expenses. Currency translation reduced~~expenses in that region. As a result of these factors, the segment ~~earnings by approximately $3.0 million~~margin and adjusted segment margin in the second quarter and first ~~nine months~~half of ~~2019~~2020 was negative compared ~~to the same period last year. Segment margin of 1.9~~with 9.0 percent ~~in the third quarter of 2019 was lower than our segment margin of 14.3~~and 7.2 percent in the same ~~period last year. Segment margin of 5.5 percent in the first nine months~~periods of 2019, was lower than our segment margin of 12.5 percent in the first nine months of last year. Segment margins in both the third quarter and first nine months of 2019 were lower than the same periods last year primarily due to the factors mentioned above.respectively. We expect full year segment margin to be ~~approximately 4.25 percent.~~between (2.5) percent and (1.0) percent in 2020.

Adjusted segment earnings in 2020 exclude $3.9 million of

pre-tax

severance and restructuring expenses associated with an initiative to align our business to current market conditions.

Outlook

We ~~expect our~~project consolidated sales will decline by approximately seven to ~~decline approximately five~~eight percent in ~~U.S. dollar terms and approximately 3.5 percent in local currency terms in~~2020 compared to 2019 due to ~~prolonged headwinds~~declines in sales in China ~~attributable~~as well as lower commercial water heater and boiler volumes in the U.S. which will more than offset an expected 20 to ~~weak consumer demand, and elevated channel inventory levels. We expect full year China~~22 percent sales ~~to be down 23 percent year over year~~growth in ~~U.S dollar terms and 19 percent in local currency terms.~~North America water treatment products. We believe we will achieve full-year earnings of between ~~$2.25~~$1.69 and ~~$2.28~~$1.83 per share, which excludes the potential impact from ~~any~~ future acquisitions. We believe we will achieve full-year adjusted earnings of between $1.72 and $1.86 per share, which excludes severance and restructuring expenses and the potential impact from future acquisitions. Our guidance assumes the conditions of our business environment and that of our suppliers and customers are similar for the remainder of the year to what we are experiencing currently and does not deteriorate as a result of further restrictions or shut downs due to the

COVID-19

pandemic.

Liquidity & Capital Resources

Working capital of ~~$774.0~~$709.0 million at ~~September~~June 30, ~~2019~~2020 was ~~$79.2~~$24.9 million lower than at December 31, 2018. Lower cash balances, primarily as a result of approximately $149 million in cash repatriation in the first nine months of this year which was utilized to repay floating rate debt, were partially offset2019, driven by lower sales-related accounts receivable and accounts payable balances ~~in China related~~and higher liabilities for income taxes, primarily due to ~~lower customer volume incentives and lower cash on deposit from customers in that region.~~the deferral of our April 2020 estimated federal income tax payment to July 2020. As of ~~September~~June 30, ~~2019, essentially all~~2020, approximately $327 million of the ~~$513.8~~$568.7 million of cash, cash equivalents and marketable securities ~~were~~was held by our foreign subsidiaries. We repatriated $178 million in cash to the U.S. in the first half of 2020.

Cash provided by operations in the first ~~nine~~six months of ~~2019~~2020 was ~~$280.0~~$179.3 million compared with ~~$289.2~~$143.7 million provided during the same period last year. Lower ~~earnings,~~investments in working capital compared with the same period in 2019, which were partially offset by lower ~~working capital investment compared with the same period in 2018,~~earnings, resulted in ~~lower~~higher cash provided by operations. We continue to monitor developments on an

on-going

basis and have taken proactive measures to focus on cash, manage working capital and reduce costs. For the full year ~~2019,~~2020, we expect cash provided by operating activities will be approximately ~~$400~~$350 million, compared with ~~$448.9~~$456.2 million in ~~2018.~~

2019.

Capital expenditures totaled ~~$50.3~~$24.8 million in the first ~~nine~~six months of ~~2019,~~2020, compared with ~~$58.5~~$36.5 million in the year ago period. We project ~~2019~~our 2020 capital expenditures ~~will~~to be between $60 and $70 million, lower than our approximately $80 million ~~and~~average annual spending in the last three years. We expect full year depreciation and amortization will be approximately ~~$75~~$80 million.

We have a $500 million multi-currency credit facility with a group of nine banks, which expires in December 2021. The facility has an accordion provision, which allows us to increase it up to $700 million if certain conditions (including lender approval) are satisfied. Borrowing rates under the facility are determined by our leverage ratio. The facility requires us to maintain two financial covenants, a leverage ratio test and an interest coverage test, and we were in compliance with the covenants as of ~~September~~June 30, ~~2019.~~2020.

~~Table of Contents~~

The facility backs up commercial paper and credit line borrowings. As a result of the long-term nature of this facility, our commercial paper and credit line borrowings, as well as drawings under the facility, are classified as long-term debt. At ~~September~~June 30, ~~2019,~~2020, we had available borrowing capacity of ~~$300.7~~$332 million under this facility. We believe the combination of available borrowing capacity and operating cash flows will provide sufficient funds to finance our existing operations for the foreseeable future.

Our total debt ~~increased $97.8 million~~declined slightly from ~~$221.4~~$284.0 million at December 31, ~~2018~~2019 to ~~$319.2~~$281.1 million at ~~September~~June 30, ~~2019 to fund the acquisition of Water-Right.~~2020. Our leverage, as measured by the ratio of total debt to total capitalization, calculated excluding operating lease liabilities, was ~~16.2~~14.5 percent at the end of the ~~third~~second quarter in ~~2019,~~2020, compared with ~~11.4~~14.6 percent at the end of last year.

Our pension plan continues to meet all funding requirements under ERISA regulations. We are not required to make a contribution and we do not plan to make any voluntary contributions to the plan in ~~2019.~~2020.

In ~~December 2018 and in June~~the second quarter of 2019, our Board of Directors approved adding 5three million shares ~~and 3 million shares, respectively,~~ of ~~common stock~~Common Stock to an existing discretionary share repurchase authority. Under the share repurchase program, our common stock may be purchased through a combination of a Rule

10b5-1

automatic trading plan and discretionary purchases in accordance with applicable securities laws. The stock repurchase authorization remains effective until terminated by our Board of Directors, which may occur at any time, subject to the parameters of any Rule

10b5-1

automatic trading plan that we may then have in effect. During the first ~~nine months~~half of ~~2019,~~2020, we repurchased ~~4,921,538~~1,348,391 shares of our stock at a total cost of ~~$230.0~~$56.7 million. At ~~September~~June 30, ~~2019,~~2020, we had ~~4,153,715~~1,613,824 million shares remaining on the board share repurchase authority. ~~Depending~~Due to the uncertainty surrounding the impact of the global

COVID-19

pandemic, we suspended our share repurchases on factors such as stock price, working capital requirements and alternative investment opportunities, we expect to spend approximately $300 million on stock repurchases in 2019 through a combination of our Rule

~~10b5-1~~

~~automatic trading plan and opportunistic repurchases in the open market.~~March 18, 2020.

On ~~October 10, 2019,~~July 13, 2020, our Board of Directors ~~increased the rate of our~~declared a regular quarterly cash dividend toof $0.24 per share on our Common Stock and Class A common ~~stock, representing an increase of nine percent.~~stock. The five-year compound annual growth rate of our ~~quarterly~~ dividend ~~rate~~ is ~~more than 24~~approximately 20 percent. The dividend is payable on ~~November 15, 2019~~August 17, 2020 to shareholders of record on ~~October~~July 31, ~~2019.~~2020.

Non-GAAP

Financial Information

We provide

non-GAAP

measures (adjusted earnings, adjusted earnings per share (EPS) and adjusted segment earnings) that exclude ~~restructuring~~severance and ~~impairment~~restructuring expenses in ~~2018.~~2020.

We believe that the measures of adjusted earnings, adjusted EPS and adjusted segment earnings provide useful information to investors about our performance and allow management and our investors to better compare our performance period over period.

~~Table of Contents~~

A. O. SMITH CORPORATION

Adjusted Earnings and Adjusted EPS

(dollars in millions, except per share data)

(unaudited)

The following is a reconciliation of net earnings and diluted EPS to adjusted earnings

(non-GAAP)

and adjusted EPS

(non-GAAP):

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018

2019

2018

Net Earnings (GAAP)
$
87.3
$
104.6
$
278.7
$
317.9

Restructuring and impairment expenses, before tax

—

—

—

6.7

Tax effect of restructuring and impairment expenses

—

—

—

(1.7
)

Adjusted Earnings
$
87.3
$
104.6
$
278.7
$
322.9

Diluted EPS (GAAP)
$
0.53
$
0.61
$
1.66
$
1.84

Restructuring and impairment expenses per diluted share

—

—

—

0.04

Tax effect of restructuring and impairment expenses per diluted share

—

—

—

(0.01
)

Adjusted EPS
$
0.53
$
0.61
$
1.66
$
1.87


	Three Months Ended June 30,					Six Months Ended June 30,
	2020			2019		2020			2019
Net Earnings (GAAP)	$	67.8		$	102.1	$	119.5		$	191.4
Severance and restructuring expenses, before tax		6.1			—		6.1			—
Tax effect of severance and restructuring expenses		(1.1	)		—		(1.1	)		—

Adjusted Earnings	$	72.8		$	102.1	$	124.5		$	191.4

Diluted EPS (GAAP)	$	0.42		$	0.61	$	0.74		$	1.14
Severance and restructuring expenses, per diluted share		0.04			—		0.04			—
Tax effect of severance and restructuring expenses per diluted share		(0.01	)		—		(0.01	)		—

Adjusted EPS	$	0.45		$	0.61	$	0.77		$	1.14

A. O. SMITH CORPORATION

Adjusted Segment Earnings

(dollars in millions)

(unaudited)

The following is a reconciliation of reported segment earnings to adjusted segment earnings

(non-GAAP):

Three Months Ended
September 30,

Nine Months Ended
September 30,

2019

2018
(2)

2019

2018

Segment Earnings (GAAP)

North America
$
121.6
$
105.6
$
360.5
$
336.5

Rest of World

4.1

39.1

38.8

109.8

Inter-segment earnings elimination

—

—

(0.1
)
—

Total Segment Earnings (GAAP)
$
125.7
$
144.7
$
399.2
$
446.3

Adjustments

North America
(1)
$
—
$
—
$
—
$
6.7

Rest of World

—

—

—

—

Inter-segment earnings elimination

—

—

—

—

Total Adjustments
$
—
$
—
$
—
$
6.7

Adjusted Segment Earnings

North America
$
121.6
$
105.6
$
360.5
$
343.2

Rest of World

4.1

39.1

38.8

109.8

Inter-segment earnings elimination

—

—

(0.1
)
—

Total Adjusted Segment Earnings
$
125.7
$
144.7
$
399.2
$
453.0


	Three Months Ended June 30,						Six Months Ended June 30,
	2020			2019			2020			2019
Segment Earnings (GAAP)
North America	$	105.4		$	122.9		$	232.5		$	238.9
Rest of World		(5.8	)		22.4			(48.0	)		34.7
Inter-segment earnings elimination		(0.3	)		(0.1	)		(0.3	)		(0.1	)

Total Segment Earnings (GAAP)	$	99.3		$	145.2		$	184.2		$	273.5

Adjustments
North America (1)	$	2.2		$	—		$	2.2		$	—
Rest of World (2)		3.9			—			3.9			—

Total Adjustments	$	6.1		$	—		$	6.1		$	—

Adjusted Segment Earnings
North America	$	107.6		$	122.9		$	234.7		$	238.9
Rest of World		(1.9	)		22.4			(44.1	)		34.7
Inter-segment earnings elimination		(0.3	)		(0.1	)		(0.3	)		(0.1	)

Total Adjusted Segment Earnings	$	105.4		$	145.2		$	190.3		$	273.5

(1)

~~The~~

In the second quarter of 2020, the Company recognized ~~$6.7~~$2.2 million of severance and restructuring ~~and impairment expenses in connection with the move of manufacturing operations from its Renton, Washington facility to other U.S. facilities.~~expenses. For additional information, see Note 54 of the notes to the financial statements.

(2)

~~On October 29, 2019,~~

In the second quarter of 2020, the Company ~~filed a Form~~

~~8-K~~

~~with~~recognized $3.9 million of severance and restructuring expenses. For additional information, see Note 4 of the Securities and Exchange Commission, with a news release attached as Exhibit 99.1, announcing its results for the quarter ended September 30, 2019 which included the table above. The Company later identified that balances presented in the table for the Three Months Ended September 30, 2018 incorrectly presented the results for Three Months Ended June 30, 2018. The presentation above has been adjusted to reflect the correct amounts and therefore does not agreenotes to the ~~news release.~~financial statements.

~~Table of Contents~~

A. O. SMITH CORPORATION

Adjusted EPS and Adjusted ~~2019~~2020 Guidance

(unaudited)

The following is a reconciliation of diluted EPS to adjusted EPS

(non-GAAP):

2019
Guidance

2018

Diluted EPS (GAAP)
$
2.25 - 2.28
$
2.58

Restructuring and impairment expenses per diluted share, net of tax

—

0.03

Adjusted EPS
$
2.25
-
2.28
$
2.61


	2020 Guidance		2019
Diluted EPS (GAAP)	$	1.69 - 1.83	$	2.22
Severance and Restructuring expenses per diluted share, net of tax		0.03		—

Adjusted EPS	$	1.72 - 1.86	$	2.22

Critical Accounting Policies

Our consolidated financial statements are prepared in conformity with accounting principles generally accepted in the U.S., which requires the use of estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements. The critical accounting policies that we believe could have the most significant effect on our reported results or require complex judgment by management are contained in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, of our Annual Report on Form

10-K

for the year ended December 31, ~~2018.~~2019. We believe that at ~~September~~June 30, ~~2019,~~2020, there has been no material change to this information.

Recent Accounting Pronouncements

Refer to

Recent Accounting Pronouncements

in Note 1 – Basis of Presentation in the notes to our condensed consolidated financial statements included in Part 1 Financial Information.

Forward Looking Statements

This filing contains statements that the ~~company~~Company believes are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements generally can be identified by the use of words such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “forecast,” “continue,” “guidance” or words of similar meaning. All forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of this filing. Important factors that could cause actual results to differ materially from these expectations include, among other things, the following: negative impacts to the Company’s business, including demand for its products, operations and work-force dislocation and disruption, supply chain disruption and liquidity as a result of the severity and duration of the

COVID-19

pandemic; a failure to recover or a further weakening of the Chinese economy and/ or a failure to recover or a further decline in the growth rate of consumer spending or housing sales in China; negative impact to the ~~company’s~~Company’s businesses from international tariffs and trade disputes; potential further weakening in the high efficiency boiler segment in the U.S.; significant volatility in raw material availability and prices; inability of the ~~company~~Company to implement or maintain pricing actions; ~~potential~~a failure to recover or further weakening in U.S. residential or commercial construction or instability in the ~~company’s~~Company’s replacement markets; foreign currency fluctuations; the ~~company’s~~Company’s inability to successfully integrate or achieve its strategic objectives resulting from acquisitions; competitive pressures on the ~~company’s~~Company’s businesses; the impact of potential information technology or data security breaches; changes in government regulations or regulatory requirements; and adverse developments in general economic, political and business conditions in key regions of the world. Forward-looking statements included in this filing are made only as of the date of this filing, and the ~~company~~Company is under no obligation to update these statements to reflect subsequent events or circumstances. All subsequent written and oral forward-looking statements attributed to the ~~company,~~Company, or persons acting on its behalf, are qualified entirely by these cautionary statements.

~~Table of Contents~~

ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As is more fully described in our Annual Report on Form

10-K

for the year ended December 31, ~~2018,~~2019, we are exposed to various types of market risks, including currency and certain commodity risks. Our quantitative and qualitative disclosures about market risk have not materially changed since that report was filed. We monitor our currency and commodity risks on a continuous basis and generally enter into forward and futures contracts to minimize these exposures. The majority of the contracts are for periods of less than one year. Our Company does not engage in speculation in our derivative strategies. It is important to note that gains and losses from our forward and futures contract activities are offset by changes in the underlying costs of the transactions being hedged.

ITEM 4 - CONTROLS AND PROCEDURES

Evaluation of disclosure controls and procedures

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule

13a-15(e)

promulgated under the Securities Exchange Act of 1934, as amended (Exchange Act). Based upon this evaluation of these disclosure controls and procedures, our principal executive officer and principal financial officer concluded that the disclosure controls and procedures were effective as of ~~September~~June 30, ~~2019~~2020 to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time period specified in the SEC rules and forms, and to ensure that information required to be disclosed by us in the reports we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive and principal financial officers, as appropriate, to allow timely decisions regarding disclosure.

Changes in internal control over financial reporting

There have been no changes in our internal control over financial reporting during the quarter ended ~~September~~June 30, ~~2019~~2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

~~Table of Contents~~

PART II - OTHER INFORMATION

ITEM 1 - LEGAL PROCEEDINGS

On May 28, 2019, a putative securities class action lawsuit was filed in the U.S. District Court for the Eastern District of Wisconsin against the Company and certain of its current or former officers. Subsequently, on November 22, 2019, a consolidated amended complaint was filed by the lead plaintiff. This action, now captioned as City of Birmingham Retirement and Relief System v. A. O. Smith Corporation, et al., asserts securities fraud claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 (“Exchange Act”), and seeks damages and other relief based upon the allegations in the complaint. On January 24, 2020, A. O. Smith and the other defendants moved to dismiss the consolidated amended complaint for failure to state a claim. On June 24, 2020, the U.S. District Court granted defendants’ motion to dismiss in its entirety. Based on its June 24 order, on August 3,2020, the District Court entered final judgement for the defendants and dismissed the lawsuit.

A shareholder derivative lawsuit, captioned as Pierce v. ~~Rajendra,~~A. O. Smith Corporation, et al. and based on similar allegations as the putative class action, was filed on August 20, 2019, also in the U.S. District Court for the Eastern District of Wisconsin. On November 6, 2019, the plaintiff in the derivative action moved to dismiss his lawsuit,

and re-filed

it in the U.S. District Court for the District of Delaware on November 12, 2019. The derivative action asserts claims under Sections 14(a) and 20(a) of the Exchange Act, as well as for breach of fiduciary duty, unjust enrichment, and waste of corporate assets, and seeks damages and other relief based upon the allegations in the complaint. On February 12, 2020, the parties filed a stipulation seeking to stay the derivative lawsuit pending resolution of the City of Birmingham lawsuit. On February 13, 2020, a second shareholder derivative suit, captioned as Jarozewski v. A. O. Smith Corporation, et al., was filed in the U.S. District Court for the District of Delaware, asserting claims under Sections 10(b), 14(a) and 20(a) of the Exchange Act, as well as for breach of fiduciary duty, unjust enrichment, and insider trading, and seeks damages and other relief based upon the allegations in the complaint. On April 1, 2020, the U.S. District Court for the District of Delaware, upon a joint stipulation filed by the parties, consolidated both the Pierce and Jarozewski derivative lawsuits and stayed the consolidated actions pending resolution of the City of Birmingham lawsuit. Both lawsuits remain stayed.

ITEM 1A RISK FACTORS

There have been no material changes from the risk factors disclosed in the Company’s Annual Report on Form

10-K

for the year ended December 31, 2019, except for the addition of the risk factor set forth below:

The global coronavirus

(COVID-19)

pandemic, or other global public health pandemics, could have a material adverse effect on our business, results of operations and financial condition

Our business, results of operations and financial condition may be adversely affected if a global public health pandemic, including the current

COVID-19

pandemic, interferes with the ability of our employees, suppliers, and customers to perform our and their respective responsibilities and obligations relative to the conduct of our business and operations. The

COVID-19

pandemic has significantly impacted economic activity and markets around the world, and it could have a material negative impact on our business and operations in numerous ways, including but not limited to those outlined below:

~~ITEM~~The risk that we, or our employees, suppliers or customers may be prevented from conducting business activities for an indefinite period of time, including shutdowns that may be requested or mandated by governmental authorities.

Restrictions on shipping products from certain jurisdictions where they are produced or into certain jurisdictions where customers are located.

Inability to meet our customers’ needs and achieve cost targets due to disruptions in our manufacturing and supply arrangements caused by the loss or disruption of essential manufacturing and supply elements, such as raw materials or other finished product components, transportation, workforce or other manufacturing and distribution capability.

Failure of third parties on which we rely, including our suppliers, distributors, contractors and commercial banks, to meet their obligations to us, or significant disruptions in their ability to do so, which may be caused by their own financial or operational difficulties, or mandated shutdowns by governmental authorities, may adversely impact our operations.

Significant reductions in demand or significant volatility in demand and a global economic recession that could further reduce demand for our products, resulting from actions taken by governments, businesses, and/or the general public in an effort to limit exposure to and spreading of such infectious diseases, such as travel restrictions, quarantines, and business shutdowns or slowdowns.

Manufacturing plant inefficiencies due to safety and preventative health measures that we have implemented in our plants to prevent the spread of

COVID-19.

Deterioration of worldwide capital, credit, and financial markets that could limit our ability to obtain external financing to fund our operations and capital expenditures.

The extent to which the

COVID-19

pandemic, or other outbreaks of disease or similar public health threats, materially and adversely impacts our business, results of operations and financial condition is highly uncertain and will depend on future developments. Such developments may include the geographic spread and duration of the virus, the severity of the virus and the actions that may be taken by various governmental authorities and other third parties in response to the outbreak. In addition, we cannot predict how quickly, and to what extent, normal economic and operating conditions can resume cannot be predicted, and the resumption of normal business operations may be delayed or constrained by lingering effects of the

COVID-19

pandemic on our suppliers, third-party service providers, and/or customers.

ITEM 2 - UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

In ~~June~~the second quarter of 2019, our Board of Directors approved adding 3three million shares of ~~common stock~~Common Stock to an existing discretionary share repurchase authority. Under the share repurchase program, the Common Stock may be purchased through a combination of Rule

10b5-1

automatic trading plan and discretionary purchases in accordance with applicable securities laws. The number of shares purchased and the timing of the purchases will depend on a number of factors, including share price, trading volume and general market conditions, as well as working capital requirements, general business conditions and other factors, including alternative investment opportunities. The stock repurchase authorization remains effective until terminated by our Board of Directors which may occur at any time, subject to the parameters of any Rule

10b5-1

automatic trading plan that we may then have in effect. InDue to the ~~third quarter~~uncertainty surrounding the impact of ~~2019,~~the global

COVID-19

pandemic, we ~~repurchased 2,127,538 shares at an average price of $45.75 per~~suspended our share ~~and at a total cost of $97.3 million.~~repurchases on March 18, 2020. As of ~~September~~June 30, ~~2019,~~2020, there were ~~4,153,715~~1,613,824 shares remaining on the existing repurchase authorization.

ISSUER PURCHASES OF EQUITY SECURITIES

Period

Total
Number of
Shares
Purchased

Average
Price Paid
per Share

Total Number of
Shares Purchased
as Part of Publicly
Announced Plans
or Programs

Maximum Number
of Shares that may
yet be Purchased
Under the Plans or
Programs

July 1 – July 31, 2019

1,166,600
$
45.16

1,166,600

5,114,653

August 1 – August 31, 2019

489,500

45.25

489,500

4,625,153

September 1 – September 30, 2019

471,438

47.73

471,438

4,153,715

ITEM 6 - EXHIBITS

Refer to the Exhibit Index on page 3336 of this report.

~~Table of Contents~~

INDEX TO EXHIBITS


Exhibit Number		Description

31.1
	~~31.1~~		Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.

31.2
	~~31.2~~		Certification of the Chief Financial Officer pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.

32.1
	~~32.1~~		Written Statement of the Chief Executive Officer Pursuant to 18 U.S.C. Section 1350

32.2
	~~32.2~~		Written Statement of the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350

101
	~~101~~		The following materials from A. O. Smith Corporation’s Quarterly Report on Form 10-Q for the quarter ended ~~September~~June 30, ~~2019~~2020 are filed herewith, formatted in XBRL (Extensive Business Reporting Language): (i) the Condensed Consolidated Statement of Earnings for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018,~~2019, (ii) the Condensed Consolidated Statement of Comprehensive Earnings for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018,~~2019, (iii) the Condensed Consolidated Balance Sheets as of ~~September~~June 30, ~~2019,~~2020, and December 31, ~~2018~~2019 (iv) the Condensed Consolidated Statement of Cash Flows for the ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 (v) the Condensed Consolidated Statement of Stockholders’ Equity for the three and ~~nine~~six months ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019 (vi) the Notes to Condensed Consolidated Financial Statements. ~~The instance document does not appear in the interactive data file because its XBRL tags are embedded within the Inline XBRL document.~~

	~~104~~		~~Cover Page Interactive Data File (embedded within the Inline XBRL document)~~

~~Table of Contents~~

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has authorized this report to be signed on its behalf by the undersigned.


						A. O. SMITH CORPORATION

~~November 6, 2019~~ August 5, 2020						/s/ Helen E. Gurholt
						Helen E. Gurholt
						Vice President and Controller

						/s/ Charles T. Lauber
						Charles T. Lauber
						Executive Vice President and
						Chief Financial Officer


Delaware				39-0619790
(State or other jurisdiction of incorporation or organization)				(I.R.S. Employer Identification No.)


11270 West Park Place, Milwaukee, Wisconsin				53224-9508
(Address of principal executive office)				(Zip Code)


Title of Each Class	Trading Symbol	Name of Each Exchange on Which Registered
Common Stock (par value $1.00 per share)	AOS	New York Stock Exchange


Large accelerated filer	☒	Accelerated Filer	☐

~~Large accelerated~~ Non-accelerated filer	☒ ☐	~~Accelerated Filer~~ Smaller reporting company	☐

~~Non-accelerated~~ ~~filer~~	☐	~~Smaller reporting company~~	☐

		Emerging growth company	☐


		Page
Part I.	FINANCIAL INFORMATION


		~~Page~~
~~Part I.~~	~~FINANCIAL INFORMATION~~

	Condensed Consolidated Statements of Earnings - Three and ~~Nine~~Six Months Ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019		3


	Condensed Consolidated Statements of Comprehensive Earnings - Three and ~~Nine~~Six Months Ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019		3


	Condensed Consolidated Balance Sheets - ~~September~~June 30, ~~2019~~2020 and December 31, ~~2018~~2019		4


	Condensed Consolidated Statements of Cash Flows - ~~Nine~~Six Months Ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019		5


	Condensed Consolidated Statements of Stockholders’ Equity - Three and ~~Nine~~Six Months Ended ~~September~~June 30, ~~2019~~2020 and ~~2018~~2019		6


	Notes to Condensed Consolidated Financial Statements - ~~September~~June 30, ~~2019~~2020		7-7-24 23

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations		~~24-~~ 25-33 30

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	33

31 Item 4.	Controls and Procedures	33

Part II.	OTHER INFORMATION

Item 4.1.	~~Controls and Procedures~~Legal Proceedings		31 34

~~Part II.~~Item 1A.	~~OTHER INFORMATION~~Risk Factors			34-35

~~Item 1.~~	~~Legal Proceedings~~		32

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds		32 35

Item 6.	Exhibits		32 35

Index to Exhibits			33 36

Signatures			34 37


	Three Months Ended September 30,						Nine Months Ended September 30,
	2019			2018			2019			2018
Net sales	$	728.2		$	754.1		$	2,241.8		$	2,375.4
Cost of products sold		444.0			448.1			1,356.1			1,406.9

Gross profit		284.2			306.0			885.7			968.5
Selling, general and administrative expenses		172.3			177.6			535.7			567.7
Restructuring and impairment expenses		—			—			—			6.7
Interest expense		3.1			2.0			8.5			6.6
Other income		(4.0	)		(5.1	)		(15.1	)		(15.5	)

Earnings before provision for income taxes		112.8			131.5			356.6			403.0
Provision for income taxes		25.5			26.9			77.9			85.1

Net Earnings	$	87.3		$	104.6		$	278.7		$	317.9

Net Earnings Per Share of Common Stock	$	0.53		$	0.61		$	1.68		$	1.86

Diluted Net Earnings Per Share of Common Stock	$	0.53		$	0.61		$	1.66		$	1.84

Dividends Per Share of Common Stock	$	0.22		$	0.18		$	0.66		$	0.54


A. O. SMITH CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE EARNINGS (dollars in millions) (unaudited)

	Three Months Ended June 30,						Six Months Ended June 30,
	2020			2019			2020			2019
Net earnings	$	67.8		$	102.1		$	119.5		$	191.4
Other comprehensive earnings (loss)
Foreign currency translation adjustments		3.7			(10.1	)		(14.3	)		5.8
Unrealized net (losses) gains on cash flow derivative instruments, less related income tax benefit (provision) of $0.3 and $0.2 in 2020, ($0.2) and ($0.1) in 2019		(0.8	)		0.7			(0.5	)		0.6
Adjustment to pension liability, less related income tax provision of ($1.2) and ($2.4) in 2020 and ($0.8) and ($1.8) in 2019		3.7			3.1			7.3			6.0

Comprehensive Earnings	$	74.4		$	95.8		$	112.0		$	203.8


	(unaudited) September 30, 2019			December 31, 2018
Assets
Current Assets
Cash and cash equivalents	$	219.4		$	259.7
Marketable securities		294.4			385.3
Receivables		614.1			647.3
Inventories		310.0			304.7
Other current assets		66.5			41.5

Total Current Assets		1,504.4			1,638.5
Property, plant and equipment		1,137.5			1,096.8
Less accumulated depreciation		(593.9	)		(556.8	)

Net property, plant and equipment		543.6			540.0
Goodwill		547.4			513.0
Other intangibles		339.5			293.1
Operating lease assets		48.3			—
Other assets		84.7			86.9

Total Assets	$	3,067.9		$	3,071.5

Liabilities
Current Liabilities
Trade payables	$	483.1		$	543.8
Accrued payroll and benefits		61.8			79.4
Accrued liabilities		135.9			120.4
Product warranties		42.8			41.7
Debt due within one year		6.8			—

Total Current Liabilities		730.4			785.3
Long-term debt		312.4			221.4
Pension liabilities		36.5			49.4
Long-term operating lease liabilities		39.6			—
Other liabilities		292.8			298.4

Total Liabilities		1,411.7			1,354.5
Stockholders’ Equity
Class A Common Stock, $5 par value: authorized 27,000,000 shares; issued 26,183,365 and 26,190,163		130.9			131.0
Common Stock, $1 par value: authorized 240,000,000 shares; issued 164,524,227 and 164,517,431		164.5			164.5
Capital in excess of par value		507.3			496.7
Retained earnings		2,271.5			2,102.8
Accumulated other comprehensive loss		(361.6	)		(350.8	)
Treasury stock at cost		(1,056.4	)		(827.2	)

Total Stockholders’ Equity		1,656.2			1,717.0

Total Liabilities and Stockholders’ Equity	$	3,067.9		$	3,071.5


	(unaudited) June 30, 2020			December 31, 2019
Assets
Current Assets
Cash and cash equivalents	$	442.7		$	374.0
Marketable securities		126.0			177.4
Receivables		515.9			589.5
Inventories		306.0			303.0
Other current assets		53.8			56.5

Total Current Assets		1,444.4			1,500.4
Property, plant and equipment		1,170.5			1,156.9
Less accumulated depreciation		(636.7	)		(611.5	)

Net property, plant and equipment		533.8			545.4
Goodwill		544.0			546.0
Other intangibles		329.5			338.4
Operating lease assets		45.2			46.9
Other assets		87.3			80.9

Total Assets	$	2,984.2		$	3,058.0
Liabilities
Current Liabilities
Trade payables	$	435.7		$	509.6
Accrued payroll and benefits		59.7			64.6
Accrued liabilities		188.4			143.7
Product warranties		44.8			41.8
Debt due within one year		6.8			6.8

Total Current Liabilities		735.4			766.5
Long-term debt		274.3			277.2
Pension liabilities		13.8			27.8
Long-term operating lease liabilities		37.5			38.7
Other liabilities		265.1			281.0

Total Liabilities		1,326.1			1,391.2
Stockholders’ Equity
Class A Common Stock, $5 par value: authorized 27,000,000 shares; issued , 26,172,713 and 26,180,885		130.9			130.9
Common Stock, $1 par value: authorized 240,000,000 shares; issued 164,534,881 and 164,526,709		164.5			164.5
Capital in excess of par value		517.1			509.0
Retained earnings		2,365.1			2,323.4
Accumulated other comprehensive loss		(355.8	)		(348.3	)
Treasury stock at cost		(1,163.7	)		(1,112.7	)

Total Stockholders’ Equity		1,658.1			1,666.8

Total Liabilities and Stockholders’ Equity	$	2,984.2		$	3,058.0


(dollars in millions)
	Severance Costs			Lease Exit Costs			Total
Balance at January 1, 2019	$	0.2		$	1.3		$	1.5
Cash payments		—			(0.1	)		(0.1	)

Balance at March 31, 2019		0.2			1.2			1.4
Cash payments		—			(0.1	)		(0.1	)

Balance at June 30, 2019	$	0.2		$	1.1		$	1.3

Cash payments		(0.2	)		—			(0.2	)

Balance at September 30, 2019	$	—		$	1.1		$	1.1


(dollars in millions)
	September 30, 2019			December 31, 2018
Finished products	$	140.2		$	137.6
Work in process		24.6			23.3
Raw materials		175.7			174.4

Inventories, at FIFO cost		340.5			335.3
LIFO reserve		(30.5	)		(30.6	)

Net inventory	$	310.0		$	304.7


	Three Months Ended September 30,
(dollars in millions)
	2019			2018
Balance at July 1,	$	134.0		$	141.6
Expense		11.0			8.7
Claims settled		(11.6	)		(9.8	)

Balance at September 30,	$	133.4		$	140.5


	Nine Months Ended September 30,
(dollars in millions)
	2019			2018
Balance at January 1,	$	139.4		$	141.2
Expense		31.8			31.4
Claims settled		(37.8	)		(32.1	)

Balance at September 30,	$	133.4		$	140.5


	Nine Months Ended September 30,
	2019			2018
Expected life (years)		5.5			5.7
Risk-free interest rate		2.7	%		2.9	%
Dividend yield		1.6	%		1.0	%
Expected volatility		22.8	%		22.1	%


	Number of Units			Weighted-Average Grant Date Value
Issued and unvested at January 1, 2019		379,601		$	42.93
Granted		139,892			49.52
Vested		(147,642	)		31.35
Forfeited		(4,509	)		55.57

Issued and unvested at September 30, 2019		367,342			50.05


(dollars in millions)
	Balance Sheet Location		September 30, 2019			December 31, 2018
Foreign currency contracts		Other current assets	$	10.3		$	3.9
		Other non-current assets		—			5.1
		Accrued liabilities		(1.9	)		(0.6	)
Commodities contracts		Accrued liabilities		—			(0.9	)

Total derivatives designated as hedging instruments			$	8.4		$	7.5


	2019 Guidance		2018
Diluted EPS (GAAP)	$	2.25 - 2.28	$	2.58
Restructuring and impairment expenses per diluted share, net of tax		—		0.03

Adjusted EPS	$	2.25 - 2.28	$	2.61


ISSUER PURCHASES OF EQUITY SECURITIES
Period	Total Number of Shares Purchased		Average Price Paid per Share		Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs		Maximum Number of Shares that may yet be Purchased Under the Plans or Programs
July 1 – July 31, 2019		1,166,600	$	45.16		1,166,600		5,114,653
August 1 – August 31, 2019		489,500		45.25		489,500		4,625,153
September 1 – September 30, 2019		471,438		47.73		471,438		4,153,715