| Item 2. | Management's Discussion and Analysis of Financial Condition and Results of Operations. |
When we use the terms “Modine,” “we,” “us,” the “Company,” or “our” in this report, we are referring to Modine Manufacturing Company. Our fiscal year ends on March 31 and, accordingly, all references to quarters refer to our fiscal quarters. The quarter ended December 31, 2023 was the third quarter of fiscal 2024.
Acquisition of Napps Technology Corporation
On July 1, 2023, we acquired substantially all of the net operating assets of Napps Technology Corporation (“Napps”) for consideration totaling $5.8 million. Napps is a Texas-based manufacturer of air- and water-cooled chillers, condensing units and heat pumps. This acquisition expands our indoor air quality product portfolio and supports our growth strategy and mission of improving indoor air quality. Napps has historical annual sales of approximately $5.0 million. Since the date of the acquisition, we have reported the financial results of the Napps business within the Climate Solutions segment.
Disposition of two coatings facilities
On September 19, 2023, we sold two coatings facilities, located in California and Florida, to Protecall, LLC. These facilities provide aftermarket application services, in which HVAC units are sprayed with an anti-corrosion protective coating. Our other coatings businesses continue to own and license spray-applied coatings used in aftermarket applications and are strategically pursuing growth through product licensing arrangements. Prior to the disposition, we reported the financial results of these businesses within the Performance Technologies segment. In fiscal 2023, net sales of these two businesses totaled $6.4 million. As a result of this transaction, we recorded a gain on sale of less than $0.1 million during the second quarter of fiscal 2024.
Disposition of Germany automotive businesses
On October 31, 2023, we sold three automotive businesses based in Germany to affiliates of Regent, L.P. We expect that the sale of these businesses, which produce air- and liquid-cooled products for internal combustion diesel and gasoline engines for the European automotive market, will support our strategic prioritization of resources towards higher-margin technologies. Prior to the disposition, we reported the financial results of these businesses within the Performance Technologies segment. During the first nine months of fiscal 2024 and 2023, net sales of these three businesses totaled $54.2 million and $54.8 million, respectively. As a result of the sale, we recorded a $4.0 million gain on sale during the third quarter of fiscal 2024.
See Note 2 of the Notes to Condensed Consolidated Financial Statements for more information regarding business acquisitions and dispositions.
Third quarter highlights
Net sales in the third quarter of fiscal 2024 increased $1.4 million, or less than 1 percent, from the third quarter of fiscal 2023, primarily due to higher sales in our Performance Technologies segment, partially offset by lower sales in our Climate Solutions segment. Cost of sales decreased $28.3 million, or 6 percent. Gross profit increased $29.7 million and gross margin improved 530 basis points to 22.7 percent. Selling, general and administrative (“SG&A”) expenses increased $10.0 million, primarily due to higher compensation-related expenses. Operating income of $61.7 million during the third quarter of fiscal 2024 increased $22.2 million from the prior year, primarily due to higher earnings in our operating segments and a $4.0 million gain on sale of the Germany automotive businesses, partially offset by higher SG&A expenses.
Year-to-date highlights
Net sales in the first nine months of fiscal 2024 increased $124.5 million, or 7 percent, from the same period last year, primarily due to higher sales in our Performance Technologies and Climate Solutions segments. Cost of sales increased $11.4 million, or 1 percent, from the same period last year, primarily due to higher sales volume. Gross profit increased $113.1 million and gross margin improved 510 basis points to 21.6 percent. SG&A expenses increased $25.2 million, primarily due to higher compensation-related expenses. Operating income of $193.9 million during the first nine months of fiscal 2024 increased $92.0 million from the prior year, primarily due to higher earnings in our operating segments and the gain on sale of the Germany automotive businesses, partially offset by higher SG&A expenses.
In January 2024, we purchased intellectual property and other specific assets from TMGcore, Inc., a specialist in single- and two-phase liquid immersion cooling technology for data centers. We expect to utilize the liquid cooling immersion technology to support our growth strategy of expanding our global data center product offerings. The initial purchase price of the assets was $12.0 million. Additional contingent consideration may be payable to the seller in fiscal 2029. The amount of any additional consideration is dependent upon future financial metrics associated with the acquired technology. At this time, we cannot estimate the amount or range of additional consideration that may be payable to the seller in fiscal 2029.
Also in January 2024, we approved a plan to close a technical service center in Europe. The objective of this restructuring initiative is to optimize the utilization of our technical service center capacity and realign our cost structure in light of the recent sale of three automotive businesses in Germany. We are targeting to complete the closure during the first half of fiscal 2025. At this time, we have not determined the full restructuring plan, however, we preliminarily estimate that closure costs will total approximately $8.0 million to $12.0 million. This estimate is subject to change as we complete the restructuring plan. We anticipate that severance expenses associated with this restructuring initiative will be recorded during the fourth quarter of fiscal 2024.
CONSOLIDATED RESULTS OF OPERATIONS
The following table presents our consolidated financial results on a comparative basis for the three and nine months ended December 31, 2023 and 2022:
| | | Three months ended December 31, 2023 | | | Nine months ended December 31, 2023 | |
| | | 2023 | | | 2022 | | | 2023 | | | 2022 | |
| (in millions) | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | |
| Net sales | | $ | 561.4 | | | | 100.0 | % | | $ | 560.0 | | | | 100.0 | % | | $ | 1,804.3 | | | | 100.0 | % | | $ | 1,679.8 | | | | 100.0 | % |
| Cost of sales | | | 434.1 | | | | 77.3 | % | | | 462.4 | | | | 82.6 | % | | | 1,414.0 | | | | 78.4 | % | | | 1,402.6 | | | | 83.5 | % |
| Gross profit | | | 127.3 | | | | 22.7 | % | | | 97.6 | | | | 17.4 | % | | | 390.3 | | | | 21.6 | % | | | 277.2 | | | | 16.5 | % |
| Selling, general and administrative expenses | | | 68.0 | | | | 12.1 | % | | | 58.0 | | | | 10.3 | % | | | 198.3 | | | | 11.0 | % | | | 173.1 | | | | 10.3 | % |
| Restructuring expenses | | | 1.6 | | | | 0.3 | % | | | 0.1 | | | | - | | | | 2.1 | | | | 0.1 | % | | | 2.2 | | | | 0.1 | % |
| Gain on sale of assets | | | (4.0 | ) | | | -0.7 | % | | | - | | | | - | | | | (4.0 | ) | | | -0.2 | % | | | - | | | | - | �� |
| Operating income | | | 61.7 | | | | 11.0 | % | | | 39.5 | | | | 7.1 | % | | | 193.9 | | | | 10.7 | % | | | 101.9 | | | | 6.1 | % |
| Interest expense | | | (5.8 | ) | | | -1.0 | % | | | (5.9 | ) | | | -1.1 | % | | | (17.8 | ) | | | -0.9 | % | | | (14.7 | ) | | | -0.9 | % |
| Other expense – net | | | (0.5 | ) | | | -0.1 | % | | | (0.4 | ) | | | -0.1 | % | | | (1.0 | ) | | | -0.1 | % | | | (4.1 | ) | | | -0.2 | % |
| Earnings before income taxes | | | 55.4 | | | | 9.9 | % | | | 33.2 | | | | 5.9 | % | | | 175.1 | | | | 9.7 | % | | | 83.1 | | | | 4.9 | % |
| Provision for income taxes | | | (10.3 | ) | | | -1.8 | % | | | (8.5 | ) | | | -1.5 | % | | | (37.8 | ) | | | -2.1 | % | | | (19.8 | ) | | | -1.2 | % |
| Net earnings | | $ | 45.1 | | | | 8.0 | % | | $ | 24.7 | | | | 4.4 | % | | $ | 137.3 | | | | 7.6 | % | | $ | 63.3 | | | | 3.8 | % |
Comparison of three months ended December 31, 2023 and 2022
Third quarter net sales of $561.4 million were $1.4 million higher than the third quarter of the prior year, primarily due to favorable commercial pricing and a $10.0 million favorable impact of foreign currency exchange rates. These increases were partially offset by lower sales volume, including lower sales from three automotive businesses in the Performance Technologies segment, which we sold on October 31, 2023.
Third quarter cost of sales decreased $28.3 million, or 6 percent, primarily due to lower sales volume, improved operating efficiencies, and lower raw material prices, which decreased approximately $5.0 million. These decreases were partially offset by a $7.6 million unfavorable impact of foreign currency exchange rates and, to a lesser extent, higher labor and inflationary costs. As a percentage of sales, cost of sales decreased 530 basis points to 77.3 percent, primarily due to favorable sales mix, commercial pricing and improved operating efficiencies.
As a result of higher sales and lower cost of sales as a percentage of sales, third quarter gross profit increased $29.7 million and gross margin improved 530 basis points to 22.7 percent.
Third quarter SG&A expenses increased $10.0 million, or 17 percent. As a percentage of sales, SG&A expenses increased by 180 basis points. The increase in SG&A expenses was primarily due to higher compensation-related expenses, which increased approximately $7.0 million, and included higher incentive compensation expenses driven by improved financial results, as compared with the prior year. In addition, environmental charges related to a previously-closed manufacturing facility in the U.S. increased $0.9 million.
Restructuring expenses increased $1.5 million compared with the third quarter of fiscal 2023, primarily due to higher equipment transfer costs and severance expenses in the Climate Solutions segment.
We sold three automotive businesses based in Germany on October 31, 2023. As a result of the sale, we recorded a $4.0 million gain on sale at Corporate during the third quarter of fiscal 2024.
Operating income of $61.7 million in the third quarter of fiscal 2024 increased $22.2 million compared with the third quarter of fiscal 2023, primarily due to higher gross profit in our operating segments and the gain on sale of the Germany automotive businesses, partially offset by higher SG&A expenses.
Interest expense during the third quarter of fiscal 2024 decreased $0.1 million compared with the third quarter of fiscal 2023. Unfavorable changes in interest rates during fiscal 2024, which resulted in higher interest costs, were offset by the absence of $0.7 million of costs recorded as interest expense during the third quarter of fiscal 2023 related to a credit agreement amendment.
The provision for income taxes was $10.3 million and $8.5 million in the third quarter of fiscal 2024 and 2023, respectively. The $1.8 million increase was primarily due to higher earnings in the current year as compared with the same period in the prior year, partially offset by a $3.1 million tax benefit related to the sale of the Germany automotive businesses during the third quarter of fiscal 2024.
Comparison of nine months ended December 31, 2023 and 2022
Fiscal 2024 year-to-date net sales of $1,804.3 million were $124.5 million, or 7 percent, higher than the same period last year, primarily due to favorable commercial pricing, higher sales volume and a $25.1 million favorable impact of foreign currency exchange rates. Sales in the Performance Technologies and Climate Solutions segments increased $81.5 million and $41.2 million, respectively.
Fiscal 2024 year-to-date cost of sales of $1,414.0 million increased $11.4 million, or 1 percent, primarily due to higher sales volume, a $19.8 million unfavorable impact of foreign currency exchange rates and, to a lesser extent, higher labor and inflationary costs. These increases were partially offset by lower raw material prices, which decreased approximately $33.0 million and, to a lesser extent, improved operating efficiencies. As a percentage of sales, cost of sales decreased 510 basis points to 78.4 percent, primarily due to the favorable impact of higher sales.
As a result of higher sales and lower cost of sales as a percentage of sales, gross profit increased $113.1 million and gross margin improved 510 basis points to 21.6 percent.
Fiscal 2024 year-to-date SG&A expenses increased $25.2 million, or 15 percent. As a percentage of sales, SG&A expenses increased by 70 basis points. The increase in SG&A expenses was primarily driven by higher compensation-related expenses, which increased approximately $14.0 million, and increases across other general and administrative expenses, such as higher product development costs, professional service fees, and employee travel expenses. The compensation-related expenses included higher incentive compensation expenses driven by improved financial results, as compared with the prior year.
Restructuring expenses during the first nine months of fiscal 2024 decreased $0.1 million compared with the same period last year, primarily due to lower severance expenses in the Performance Technologies segment, partially offset by higher severance and equipment transfer expenses in the Climate Solutions segment.
We sold three automotive businesses based in Germany on October 31, 2023. As a result of the sale, we recorded a $4.0 million gain on sale at Corporate during the third quarter of fiscal 2024.
Operating income of $193.9 million during the first nine months of fiscal 2024 increased $92.0 million compared with the same period last year, primarily due to higher gross profit in our operating segments and the gain on sale of the Germany automotive businesses, partially offset by higher SG&A expenses.
Interest expense during the first nine months of fiscal 2024 increased $3.1 million compared with the same period last year, primarily due to unfavorable changes in interest rates, partially offset by the absence of $0.7 million of costs recorded in the prior year related to a credit agreement amendment.
The provision for income taxes was $37.8 million and $19.8 million during the first nine months of fiscal 2024 and 2023, respectively. The $18.0 million increase was primarily due to higher earnings in the current year as compared with the same period in the prior year, partially offset by a $3.1 million tax benefit related to the sale of the Germany automotive businesses during the third quarter of fiscal 2024.
SEGMENT RESULTS OF OPERATIONS
The following is a discussion of our segment results of operations for the three and nine months ended December 31, 2023 and 2022:
| Climate Solutions | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three months ended December 31, 2023 | | | Nine months ended December 31, 2023 | |
| | | 2023 | | | 2022 | | | 2023 | | | 2022 | |
| (in millions) | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | |
| Net sales | | $ | 242.5 | | | | 100.0 | % | | $ | 248.6 | | | | 100.0 | % | | $ | 790.1 | | | | 100.0 | % | | $ | 748.9 | | | | 100.0 | % |
| Cost of sales | | | 176.4 | | | | 72.7 | % | | | 193.8 | | | | 78.0 | % | | | 583.2 | | | | 73.8 | % | | | 586.4 | | | | 78.3 | % |
| Gross profit | | | 66.1 | | | | 27.3 | % | | | 54.8 | | | | 22.0 | % | | | 206.9 | | | | 26.2 | % | | | 162.5 | | | | 21.7 | % |
| Selling, general and administrative expenses | | | 25.9 | | | | 10.7 | % | | | 24.6 | | | | 9.9 | % | | | 77.5 | | | | 9.8 | % | | | 72.3 | | | | 9.7 | % |
| Restructuring expenses | | | 1.4 | | | | 0.6 | % | | | - | | | | - | | | | 1.7 | | | | 0.2 | % | | | 0.3 | | | | - | |
| Operating income | | $ | 38.8 | | | | 16.0 | % | | $ | 30.2 | | | | 12.2 | % | | $ | 127.7 | | | | 16.2 | % | | $ | 89.9 | | | | 12.0 | % |
Comparison of three months ended December 31, 2023 and 2022
Climate Solutions net sales decreased $6.1 million, or 2 percent, from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to lower sales volume, partially offset by a $4.4 million favorable impact of foreign currency exchange rates. Compared with the third quarter of the prior year, sales of data center cooling products increased $15.4 million, with higher sales to both hyperscale and colocation customers, and sales of HVAC & refrigeration products increased $2.2 million. Sales of heat transfer products decreased $23.7 million, largely due to market weakness and lower customer demand compared with the prior year and the strategic exit from lower-margin business in connection with 80/20 product rationalization initiatives.
Climate Solutions cost of sales decreased $17.4 million, or 9 percent, from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to lower sales volume and improved operating efficiencies. In addition, raw material prices decreased approximately $2.0 million. These decreases were partially offset by a $3.1 million unfavorable impact of foreign currency exchange rates and, to a lesser extent higher labor and inflationary costs. As a percentage of sales, cost of sales decreased 530 basis points to 72.7 percent, primarily due to favorable sales mix and improved operating efficiencies.
As a result of the lower sales and lower cost of sales as a percentage of sales, gross profit increased $11.3 million and gross margin improved 530 basis points to 27.3 percent.
SG&A expenses increased $1.3 million compared with the third quarter of the prior year. As a percentage of sales, SG&A expenses increased by 80 basis points. The increase in SG&A expenses was primarily driven by higher compensation-related expenses.
Restructuring expenses totaled $1.4 million during the third quarter of fiscal 2024 and consist of equipment transfer costs and severance expenses related to targeted headcount reductions in Europe and Asia.
Operating income of $38.8 million increased $8.6 million from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to higher gross profit, partially offset by higher restructuring and SG&A expenses.
Comparison of nine months ended December 31, 2023 and 2022
Climate Solutions year-to-date net sales increased $41.2 million, or 6 percent, from the same period last year, primarily due to higher sales volume and an $11.8 million favorable impact of foreign currency exchange rates. Compared with the same period in the prior year, sales of data center cooling products increased $95.6 million, primarily due to higher sales to both hyperscale and colocation customers. Sales of heat transfer and HVAC & refrigeration products decreased $53.0 million and $1.1 million, respectively. The decrease in sales of heat transfer products was largely due to market weakness and lower customer demand compared with the prior year and the impact of the strategic exit from lower-margin business.
Climate Solutions year-to-date cost of sales decreased $3.2 million, or 1 percent, from the same period last year, primarily due to lower raw material prices, which decreased approximately $16.0 million, and improved operating efficiencies. These decreases were partially offset by increases resulting from higher sales volume, an $8.6 million unfavorable impact of foreign currency exchanges rates, and higher labor and inflationary costs and warranty expenses. As a percentage of sales, cost of sales decreased 450 basis points to 73.8 percent, primarily due to the favorable impact of higher sales and improved operating efficiencies.
As a result of the higher sales and lower cost of sales as a percentage of sales, gross profit increased $44.4 million and gross margin improved 450 basis points to 26.2 percent.
Climate Solutions year-to-date SG&A expenses increased $5.2 million. As a percentage of sales, SG&A expenses increased by 10 basis points. The increase in SG&A expenses includes higher compensation-related expenses and increases across other general and administrative expenses.
Restructuring expenses increased $1.4 million compared with the first nine months of fiscal 2023. The fiscal 2024 expenses consist of equipment transfer and severance expenses. The fiscal 2023 expenses primarily relate to closure costs associated with a previously-leased facility.
Operating income of $127.7 million during the first nine months of fiscal 2024 increased $37.8 million from the same period last year, primarily due to higher gross profit, partially offset by higher SG&A and restructuring expenses.
| Performance Technologies | | | | | | | | | | | | | | | | | | | | | | | | |
| | | Three months ended December 31, 2023 | | | Nine months ended December 31, 2023 | |
| | | 2023 | | | 2022 | | | 2023 | | | 2022 | |
| (in millions) | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | | | $'s | | | % of sales | |
| Net sales | | $ | 323.0 | | | | 100.0 | % | | $ | 317.8 | | | | 100.0 | % | | $ | 1,033.6 | | | | 100.0 | % | | $ | 952.1 | | | | 100.0 | % |
| Cost of sales | | | 262.0 | | | | 81.1 | % | | | 274.8 | | | | 86.5 | % | | | 851.2 | | | | 82.4 | % | | | 836.9 | | | | 87.9 | % |
| Gross profit | | | 61.0 | | | | 18.9 | % | | | 43.0 | | | | 13.5 | % | | | 182.4 | | | | 17.6 | % | | | 115.2 | | | | 12.1 | % |
| Selling, general and administrative expenses | | | 29.6 | | | | 9.2 | % | | | 25.5 | | | | 8.0 | % | | | 85.2 | | | | 8.2 | % | | | 72.2 | | | | 7.6 | % |
| Restructuring expenses | | | 0.2 | | | | - | | | | 0.1 | | | | - | | | | 0.4 | | | | - | | | | 1.9 | | | | 0.2 | % |
| Operating income | | $ | 31.2 | | | | 9.7 | % | | $ | 17.4 | | | | 5.5 | % | | $ | 96.8 | | | | 9.4 | % | | $ | 41.1 | | | | 4.3 | % |
Comparison of three months ended December 31, 2023 and 2022
Performance Technologies net sales increased $5.2 million, or 2 percent, from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to favorable commercial pricing and a $5.6 million favorable impact of foreign currency exchange rates. These increases were partially offset by lower sales volume, including $10.2 million of lower sales from the three Germany automotive businesses that we sold on October 31, 2023. Compared with the third quarter of the prior year, sales of advanced solutions, and air-cooled products increased $9.6 million and $3.1 million, respectively. Sales of liquid-cooled products decreased $5.2 million.
Performance Technologies cost of sales decreased $12.8 million, or 5 percent, from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to lower sales volume and, to a lesser extent, lower raw material prices, which decreased approximately $3.0 million. These decreases were partially offset by a $4.6 million unfavorable impact of foreign currency exchange rates and higher labor and inflationary costs. As a percentage of sales, cost of sales decreased 540 basis points to 81.1 percent, primarily due to favorable commercial pricing, partially offset by higher labor and inflationary costs.
As a result of the higher sales and lower cost of sales as a percentage of sales, gross profit increased $18.0 million and gross margin improved 540 basis points to 18.9 percent.
SG&A expenses increased $4.1 million, or 16 percent, compared with the third quarter of the prior year. As a percentage of sales, SG&A expenses increased by 120 basis points. The increase in SG&A expenses was primarily due to higher compensation-related expenses, which increased approximately $3.0 million, and higher product development costs.
Operating income of $31.2 million increased $13.8 million from the third quarter of fiscal 2023 to the third quarter of fiscal 2024, primarily due to higher gross profit, partially offset by higher SG&A expenses.
Comparison of nine months ended December 31, 2023 and 2022
Performance Technologies year-to-date net sales increased $81.5 million, or 9 percent, from the same period last year, primarily due to favorable commercial pricing, a $13.4 million favorable impact of foreign currency exchange rates, and, to a lesser extent, higher sales volume. Compared with the same period in the prior year, sales of advanced solutions, air-cooled and liquid-cooled products increased $30.2 million, $26.8 million, and $26.0 million, respectively.
Performance Technologies year-to-date cost of sales increased $14.3 million, or 2 percent, from the same period last year, primarily due to higher labor and inflationary costs, an $11.2 million unfavorable impact of foreign currency exchange rates, and higher sales volume. These increases were partially offset by lower raw material prices, which decreased approximately $17.0 million. As a percentage of sales, cost of sales decreased 550 basis points to 82.4 percent, primarily due to the favorable impact of higher sales, partially offset by higher labor and inflationary costs.
As a result of the higher sales and lower cost of sales as a percentage of sales, gross profit increased $67.2 million and gross margin improved 550 basis points to 17.6 percent.
Performance Technologies year-to-date SG&A expenses increased $13.0 million, or 18 percent, compared with the same period last year. As a percentage of sales, year-to-date SG&A expenses increased by 60 basis points. The increase in SG&A expenses was primarily due to higher compensation-related expenses, which increased approximately $7.0 million, and increases across other general and administrative expenses.
Restructuring expenses during the first nine months of fiscal 2024 decreased $1.5 million compared with the same period last year, primarily due to lower severance expenses.
Operating income of $96.8 million during the first nine months of fiscal 2024 increased $55.7 million from the same period last year, primarily due to higher gross profit, partially offset by higher SG&A expenses.
Liquidity and Capital Resources
Our primary sources of liquidity are cash flow from operating activities, our cash and cash equivalents as of December 31, 2023 of $149.7 million, and available borrowing capacity of $269.4 million under our revolving credit facility. Given our extensive international operations, approximately $103.0 million of our cash and cash equivalents are held by our non-U.S. subsidiaries. Amounts held by non-U.S. subsidiaries are available for general corporate use; however, these funds may be subject to foreign withholding taxes if repatriated. We believe our sources of liquidity will provide sufficient cash flow to adequately cover our funding needs on both a short-term and long-term basis.
Net cash provided by operating activities
Net cash provided by operating activities for the nine months ended December 31, 2023 was $175.0 million, which represents a $107.1 million increase compared with the same period in the prior year. This increase in operating cash flow was primarily due to the favorable impact of higher earnings and, to a lesser extent, favorable net changes in working capital as compared with the same period in the prior year. The favorable net changes in working capital include an increase in customer deposits received in connection with sales contracts with long inventory lead times.
Capital expenditures
Capital expenditures of $43.8 million during the first nine months of fiscal 2024 increased $8.6 million compared with the same period in the prior year. The fiscal 2024 capital expenditures include investments supporting our strategic growth initiatives across several of our business units.
Debt
Our credit agreements require us to maintain compliance with various covenants, including a leverage ratio covenant and an interest expense coverage ratio covenant, which are discussed further below. Indebtedness under our credit agreements is secured by liens on substantially all domestic assets. These agreements further require compliance with various covenants that may limit our ability to incur additional indebtedness; grant liens; make investments, loans, or guarantees; engage in certain transactions with affiliates; or make restricted payments including dividends. Also, the credit agreements may require prepayments in the event of certain asset sales.
The leverage ratio covenant within our primary credit agreements requires us to limit our consolidated indebtedness, less a portion of our cash balance, both as defined by the credit agreements, to no more than three and one-quarter times consolidated net earnings before interest, taxes, depreciation, amortization, and certain other adjustments (“Adjusted EBITDA”). We are also subject to an interest expense coverage ratio covenant, which requires us to maintain Adjusted EBITDA of at least three times consolidated interest expense. As of December 31, 2023, we were in compliance with our debt covenants. We expect to remain in compliance with our debt covenants during the remainder of fiscal 2024 and beyond.
Share repurchase program
During the first nine months of fiscal 2024, we repurchased $13.3 million of our common stock. As of December 31, 2023, we had $32.1 million of share repurchase authorization remaining under the current repurchase program, which expires in November 2024. Our decision whether and to what extent to repurchase additional shares will depend on a number of factors, including business conditions, other cash priorities, and stock price.
Forward-looking statements
This report, including, but not limited to, the discussion under Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains statements, including information about future financial performance, accompanied by phrases such as “believes,” “estimates,” “expects,” “plans,” “anticipates,” “intends,” and other similar “forward-looking” statements, as defined in the Private Securities Litigation Reform Act of 1995. Modine’s actual results, performance or achievements may differ materially from those expressed or implied in these statements, because of certain risks and uncertainties, including, but not limited to, those described under “Risk Factors” in Item 1A. in Part I. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2023. Other risks and uncertainties include, but are not limited to, the following:
Market risks:
| • | The impact of potential adverse developments or disruptions in the global economy and financial markets, including impacts related to inflation, energy costs, supply chain challenges, tariffs, sanctions and other trade issues or cross-border trade restrictions (and any potential resulting trade war), and military conflicts, including the current conflicts in Ukraine and in the Middle East and the recent attacks on shipping vessels in the Red Sea; |
| • | The impact of other economic, social and political conditions, changes, challenges and unrest, particularly in the geographic, product and financial markets where we and our customers operate and compete, including foreign currency exchange rate fluctuations; increases in interest rates; recession and recovery therefrom; and the general uncertainties about the impact of regulatory and/or policy changes, including those related to tax and trade that have been or may be implemented in the U.S. or abroad; |
| • | The impact of potential price increases associated with raw materials, including aluminum, copper, steel and stainless steel (nickel), and other purchased component inventory including, but not limited to, increases in the underlying material cost based upon the London Metal Exchange and related premiums or fabrication costs. These prices may be impacted by a variety of factors, including changes in trade laws and tariffs, the behavior of our suppliers and significant fluctuations in demand. This risk includes our ability to successfully manage our exposure and our ability to adjust product pricing in response to price increases, including through our quotation process or through contract provisions for prospective price adjustments, as well as the inherent lag in timing of such contract provisions; |
| • | Our ability to be at the forefront of technological advances in order to differentiate ourselves from our competitors and provide innovative products and services to our customers, and the impacts of any changes in or the adoption rate of technologies that we expect to drive sales growth, including those related to data center cooling and electric vehicles; |
| • | Our ability to mitigate increases in labor costs and labor shortages; |
| • | The impact of public health threats, such as COVID-19, on the national and global economy, our business, suppliers (and the supply chain), customers, and employees; and |
| • | The impact of legislation, regulations, and government incentive programs, including those addressing climate change, on demand for our products and the markets we serve, including our ability to take advantage of opportunities to supply alternative new technologies to meet environmental and/or energy standards and objectives. |
Operational risks:
| • | The impact of problems, including logistic and transportation challenges, associated with suppliers meeting our quantity, quality, price and timing demands, and the overall health of our suppliers, including their ability and willingness to supply our volume demands if their production capacity becomes constrained; |
| • | The overall health of and pricing pressure from our customers in light of economic and market-specific factors and the potential impact on us from any deterioration in the stability or performance of any of our major customers, including any lingering impacts associated with the now settled United Auto Workers union strikes; |
| • | Our ability to maintain current customer relationships and compete effectively for new business, including our ability to achieve profit margins acceptable to us by offsetting or otherwise addressing any cost increases associated with supply chain challenges and inflationary market conditions; |
| • | The impact of product or manufacturing difficulties or operating inefficiencies, including any product or program launches, product transfer challenges and warranty claims; |
| • | The impact of delays or modifications initiated by major customers with respect to product or program launches, product applications or requirements; |
| • | Our ability to consistently structure our operations in order to develop and maintain a competitive cost base with appropriately skilled and stable labor, while also positioning ourselves geographically, so that we can continue to support our customers with the technical expertise and market-leading products they demand and expect from Modine; |
| • | Our ability to effectively and efficiently manage our operations in response to sales volume changes, including maintaining adequate production capacity to meet demand in our growing businesses while also completing restructuring activities and realizing the anticipated benefits thereof; |
| • | Costs and other effects of the investigation and remediation of environmental contamination; including when related to the actions or inactions of others and/or facilities over which we have no control; |
| • | Our ability to recruit and maintain talent, including personnel in managerial, leadership, operational and administrative functions; |
| • | Our ability to protect our proprietary information and intellectual property from theft or attack by internal or external sources; |
| • | The impact of a substantial disruption or material breach of our information technology systems, and any related delays, problems or costs; |
| • | Increasingly complex and restrictive laws and regulations and the costs associated with compliance therewith, including state and federal labor regulations, laws and regulations associated with being a U.S. public company, and other laws and regulations present in various jurisdictions in which we operate; |
| • | Increasing emphasis by customers, investors, and employees on environmental, social and corporate governance matters may impose additional costs on us, adversely affect our reputation or expose us to new risks; |
| • | Work stoppages or interference at our facilities or those of our major customers and/or suppliers; |
| • | The constant and increasing pressures associated with healthcare and associated insurance costs; and |
| • | Costs and other effects of litigation, claims, or other obligations, including those that may be asserted against us in connection with divested businesses. |
Strategic risks:
| • | Our ability to successfully realize anticipated benefits, including improved profit margins and cash flow, from strategic initiatives and our continued application of 80/20 principles across our businesses; |
| • | Our ability to accelerate growth by identifying and executing on organic growth opportunities and acquisitions, and to efficiently and successfully integrate acquired businesses; and |
| • | The potential impacts from actions by activist shareholders, including disruption of our business and related costs. |
Financial risks:
| • | Our ability to fund our global liquidity requirements efficiently for our current operations and meet our long-term commitments in the event of disruption in or tightening of the credit markets or extended recessionary conditions in the global economy; |
| • | The impact of increases in interest rates in relation to our variable-rate debt obligations; |
| • | The impact of changes in federal, state or local taxes that could have the effect of increasing our income tax expense; |
| • | Our ability to comply with the financial covenants in our credit agreements, including our leverage ratio (net debt divided by Adjusted EBITDA, as defined in our credit agreements) and our interest coverage ratio (Adjusted EBITDA divided by interest expense, as defined in our credit agreements); |
| • | The potential unfavorable impact of foreign currency exchange rate fluctuations on our financial results; and |
| • | Our ability to effectively realize the benefits of deferred tax assets in various jurisdictions in which we operate. |
Forward-looking statements are as of the date of this report; we do not assume any obligation to update any forward-looking statements.
| Item 3. | Quantitative and Qualitative Disclosures About Market Risk. |
The Company’s quantitative and qualitative disclosures about market risk are incorporated by reference from Part II, Item 7A. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2023. The Company’s market risks have not materially changed since the fiscal 2023 Form 10-K was filed.
| Item 4. | Controls and Procedures. |
Evaluation regarding disclosure controls and procedures
As of the end of the period covered by this quarterly report on Form 10-Q, management of the Company, under the supervision, and with the participation, of the Company’s President and Chief Executive Officer and Executive Vice President, Chief Financial Officer, evaluated the effectiveness of the Company’s disclosure controls and procedures, at a reasonable assurance level, as defined in Securities Exchange Act Rules 13a-15(e) and 15d-15(e). Based upon that evaluation, the President and Chief Executive Officer and Executive Vice President, Chief Financial Officer have concluded that the design and operation of the Company’s disclosure controls and procedures were effective, at a reasonable assurance level, as of December 31, 2023.
Changes in internal control over financial reporting
There have been no changes in internal control over financial reporting during the third quarter of fiscal 2024 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
PART II. OTHER INFORMATION
| Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds. |
ISSUER PURCHASES OF EQUITY SECURITIES
The following describes the Company’s purchases of common stock during the third quarter of fiscal 2024:
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 (or Approximate Dollar Value) of Shares that May Yet Be Purchased Under the Plans or Programs (a) |
October 1 – October 31, 2023 | 56,558 (b) | $43.27 | _______
| $36,370,398 |
| | | | | |
November 1 – November 30, 2023 | 100,000 (c) | $43.07 | 100,000 | $32,063,074 |
| | | | | |
December 1 – December 31, 2023 | 9,683 (b) | $54.24 | _______
| $32,063,074 |
| | | | | |
Total | 166,241 | $43.79 | 100,000 | |
| (a) | Effective November 5, 2022, the Company’s Board of Directors authorized the Company to repurchase up to $50.0 million of Modine common stock at such times and prices that it deems to be appropriate. This authorization expires in November 2024. |
| (b) | Includes shares delivered back to the Company by employees and/or directors to satisfy tax withholding obligations that arise upon the vesting of stock awards. The Company, pursuant to its equity compensation plans, gives participants the opportunity to turn back to the Company the number of shares from the award sufficient to satisfy tax withholding obligations that arise upon the termination of restrictions. These shares are held as treasury shares. |
| (c) | Includes shares acquired pursuant to the repurchase program described in (a) above. |
