LECO-2014.03.31-10Q
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q 
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2014
or
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____________ to _____________
Commission File Number:  0-1402
 
LINCOLN ELECTRIC HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Ohio
 
34-1860551
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
22801 St. Clair Avenue, Cleveland, Ohio
 
44117
(Address of principal executive offices)
 
(Zip Code)
(216) 481-8100
(Registrant’s telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year, if changed since last report)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.                                                            Yes x  No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes x  No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “small reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
 
Accelerated filer o
Non-accelerated filer   o (Do not check if a smaller reporting company)
 
Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o  No x
 
The number of shares outstanding of the registrant’s common shares as of March 31, 2014 was 80,425,365.

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TABLE OF CONTENTS
 
 
 
EX-31.1
Certification of the Chairman, President and Chief Executive Officer (Principal Executive Officer) pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.
 
EX-31.2
Certification of the Executive Vice President, Chief Financial Officer and Treasurer (Principal Financial Officer) pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934.
 
EX-32.1
Certification of the Chairman, President and Chief Executive Officer (Principal Executive Officer) and Executive Vice President, Chief Financial Officer and Treasurer (Principal Financial Officer) pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
EX-101
Instance Document
 
EX-101
Schema Document
 
EX-101
Calculation Linkbase Document
 
EX-101
Label Linkbase Document
 
EX-101
Presentation Linkbase Document
 
EX-101
Definition Linkbase Document
 

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PART I. FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
 
LINCOLN ELECTRIC HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
(In thousands, except per share amounts)
 
 
 
Three Months Ended March 31,
 
 
2014
 
2013
Net sales
 
$
685,062

 
$
718,573

Cost of goods sold
 
458,726

 
492,001

Gross profit
 
226,336

 
226,572

Selling, general & administrative expenses
 
145,915

 
136,891

Rationalization and asset impairment (gains) charges
 
(17
)
 
1,051

Operating income
 
80,438

 
88,630

 
 
 
 
 
Other income (expense):
 
 

 
 

Interest income
 
914

 
1,026

Equity earnings in affiliates
 
1,561

 
1,259

Other income
 
1,083

 
714

Interest expense
 
(1,570
)
 
(950
)
Total other income
 
1,988

 
2,049

Income before income taxes
 
82,426

 
90,679

Income taxes
 
26,002

 
23,836

Net income including non-controlling interests
 
56,424

 
66,843

Non-controlling interests in subsidiaries’ (loss) earnings
 
(29
)
 
37

Net income
 
$
56,453

 
$
66,806

 
 
 
 
 
Basic earnings per share
 
$
0.70

 
$
0.81

Diluted earnings per share
 
$
0.69

 
$
0.80

Cash dividends declared per share
 
$
0.23

 
$
0.20

 
See notes to these consolidated financial statements.

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Table of Contents

LINCOLN ELECTRIC HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(In thousands)
 
 
 
Three Months Ended March 31,
 
 
2014
 
2013
Net income including non-controlling interests
 
$
56,424

 
$
66,843

Other comprehensive loss, net of tax:
 
 

 
 

Unrealized (loss) gain on derivatives designated and qualifying as cash flow hedges, net of tax of $94 and $(113) in the three months ended March 31, 2014 and 2013
 
(421
)
 
602

Defined benefit pension plan activity, net of tax of $1,838 and $3,068 in the three months ended March 31, 2014 and 2013
 
2,544

 
5,105

Currency translation adjustment
 
(12,358
)
 
(14,239
)
Other comprehensive loss:
 
(10,235
)
 
(8,532
)
Comprehensive income
 
46,189

 
58,311

Comprehensive income attributable to non-controlling interests
 
652

 
150

Comprehensive income attributable to shareholders
 
$
45,537

 
$
58,161

 
See notes to these consolidated financial statements.

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LINCOLN ELECTRIC HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
 
 
March 31, 2014
 
December 31, 2013
 
(UNAUDITED)
 
(NOTE 1)
ASSETS
 

 
 

Current Assets
 

 
 

Cash and cash equivalents
$
205,387

 
$
299,825

Accounts receivable (less allowance for doubtful accounts of $8,365 in 2014; $8,398 in 2013)
405,675

 
367,134

Inventories:
 

 
 

Raw materials
103,913

 
112,478

Work-in-process
39,868

 
38,963

Finished goods
219,773

 
198,522

Total inventory
363,554

 
349,963

Other current assets
110,329

 
113,853

Total Current Assets
1,084,945

 
1,130,775

 
 
 
 
Property, Plant and Equipment
 

 
 

Land
48,316

 
48,369

Buildings
375,041

 
373,373

Machinery and equipment
724,295

 
723,715

 
1,147,652

 
1,145,457

Less accumulated depreciation
668,365

 
661,452

Property, Plant and Equipment, Net
479,287

 
484,005

Non-current assets
549,744

 
537,087

TOTAL ASSETS
$
2,113,976

 
$
2,151,867

 
 
 
 
LIABILITIES AND EQUITY
 

 
 

Current Liabilities
 

 
 

Amounts due banks
$
6,912

 
$
14,581

Trade accounts payable
199,739

 
212,799

Other current liabilities
224,870

 
228,822

Current portion of long-term debt
391

 
715

Total Current Liabilities
431,912

 
456,917

 
 
 
 
Long-Term Liabilities
 

 
 

Long-term debt, less current portion
2,678

 
3,791

Accrued pensions
24,260

 
26,999

Other long-term liabilities
143,013

 
133,472

Total Long-Term Liabilities
169,951

 
164,262

 
 
 
 
Shareholders’ Equity
 

 
 

Common shares
9,858

 
9,858

Additional paid-in capital
244,824

 
240,519

Retained earnings
1,946,414

 
1,908,462

Accumulated other comprehensive loss
(162,857
)
 
(151,941
)
Treasury shares
(530,082
)
 
(480,296
)
Total Shareholders’ Equity
1,508,157

 
1,526,602

Non-controlling interests
3,956

 
4,086

Total Equity
1,512,113

 
1,530,688

 
 
 
 
TOTAL LIABILITIES AND EQUITY
$
2,113,976

 
$
2,151,867


See notes to these consolidated financial statements.

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Table of Contents

LINCOLN ELECTRIC HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
 
Three Months Ended March 31,
 
2014
 
2013
CASH FLOWS FROM OPERATING ACTIVITIES
 

 
 

Net income
$
56,453

 
$
66,806

Non-controlling interests in subsidiaries’ (loss) earnings
(29
)
 
37

Net income including non-controlling interests
56,424

 
66,843

Adjustments to reconcile Net income including non-controlling interests to Net cash
   provided (used) by operating activities:
 

 
 

Rationalization and asset impairment (gains) charges
(35
)
 
114

Depreciation and amortization
17,931

 
17,397

Equity earnings in affiliates, net
(796
)
 
(436
)
Deferred income taxes
3,726

 
13,237

Stock-based compensation
2,293

 
2,468

Pension expense
2,800

 
7,615

Pension contributions and payments
(22,081
)
 
(55,321
)
Foreign exchange loss (gain)
18,150

 
(1,162
)
Other, net
(185
)
 
(198
)
Changes in operating assets and liabilities, net of effects from acquisitions:
 

 
 

Increase in accounts receivable
(43,885
)
 
(66,585
)
Increase in inventories
(15,157
)
 
(16,334
)
(Increase) decrease in other current assets
(1,420
)
 
3,654

(Decrease) increase in trade accounts payable
(12,108
)
 
8,268

Increase in other current liabilities
6,967

 
528

Net change in other long-term assets and liabilities
1,007

 
(236
)
NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES
13,631

 
(20,148
)
 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
 

 
 

Capital expenditures
(14,506
)
 
(15,138
)
Acquisition of businesses, net of cash acquired
(892
)
 
(549
)
Proceeds from sale of property, plant and equipment
1,066

 
105

Other investing activities
573

 

NET CASH USED BY INVESTING ACTIVITIES
(13,759
)
 
(15,582
)
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
 

 
 

Proceeds from short-term borrowings
1,018

 
390

Payments on short-term borrowings
(8,229
)
 
(1,455
)
Amounts due banks, net
590

 
(280
)
Payments on long-term borrowings
(1,435
)
 
(147
)
Proceeds from exercise of stock options
2,956

 
9,658

Excess tax benefits from stock-based compensation
1,652

 
3,989

Purchase of shares for treasury
(51,021
)
 
(12,780
)
Cash dividends paid to shareholders
(18,623
)
 

Transactions with non-controlling interests
(2,330
)
 

NET CASH USED BY FINANCING ACTIVITIES
(75,422
)
 
(625
)
 
 
 
 
Effect of exchange rate changes on Cash and cash equivalents
(18,888
)
 
(1,654
)
DECREASE IN CASH AND CASH EQUIVALENTS
(94,438
)
 
(38,009
)
 
 
 
 
Cash and cash equivalents at beginning of period
299,825

 
286,464

CASH AND CASH EQUIVALENTS AT END OF PERIOD
$
205,387

 
$
248,455


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LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
Dollars in thousands, except per share amounts


NOTE 1 — BASIS OF PRESENTATION
As used in this report, the term “Company,” except as otherwise indicated by the context, means Lincoln Electric Holdings, Inc. and its wholly-owned and majority-owned subsidiaries for which it has a controlling interest.  The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, these unaudited consolidated financial statements do not include all of the information and notes required by GAAP for complete financial statements.  However, in the opinion of management, these unaudited consolidated financial statements contain all the adjustments (consisting of normal recurring accruals) considered necessary to present fairly the financial position, results of operations and cash flows for the interim periods.  Operating results for the three months ended March 31, 2014 are not necessarily indicative of the results to be expected for the year ending December 31, 2014.
The accompanying Consolidated Balance Sheet at December 31, 2013 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by GAAP for complete financial statements.  For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2013.
Certain reclassifications have been made to the prior year financial statements to conform to current year classifications.
Venezuela — Highly Inflationary Economy
Venezuela is a highly inflationary economy under GAAP.  As a result, the financial statements of the Company’s Venezuelan operation are reported under highly inflationary accounting rules as of January 1, 2010.  Under highly inflationary accounting, the financial statements of the Company’s Venezuelan operation have been remeasured into the Company’s reporting currency and exchange gains and losses from the remeasurement of monetary assets and liabilities are reflected in current earnings.  On February 8, 2013, the Venezuelan government announced the devaluation of its currency relative to the U.S. dollar. Effective February 13, 2013, the official rate moved from 4.3 to 6.3 bolivars to the U.S. dollar. During the three months ended March 31, 2013, the devaluation of the bolivar resulted in a foreign currency transaction loss of $8,081 in Selling, general & administrative expenses and higher Cost of goods sold of $1,579 due to the liquidation of inventory valued at the historical exchange rate.
In January 2014, the Venezuela government announced the formation of the National Center of Foreign Trade (“CENCOEX”) to replace the Commission for the Administration of Currency Exchange (“CADIVI”). Effective January 24, 2014, the exchange rate applicable to the settlement of certain transactions through CENCOEX, including payments of dividends and royalties, changed to utilize the Complementary System of Foreign Currency Administration ("SICAD") auction-based exchange rate (the "SICAD I rate") as opposed to the official rate. In February 2014, the government announced a new market based foreign exchange system, the SICAD II. The exchange rate established through SICAD II fluctuates daily and is significantly higher than both the official rate and the SICAD I rate.
While there remains considerable uncertainty as to the nature and volume of transactions that will flow through the various currency exchange mechanisms, the Company has determined that the SICAD I rate is the most appropriate exchange rate for the Company to utilize in remeasuring the Venezuelan operation's financial statements into U.S. dollars. This determination was made as a result of the Company's assertion as of March 31, 2014 that any future remittances for dividend payments could be transacted at the SICAD I rate. As of March 31, 2014, the SICAD I rate was 10.7 bolivars to the U.S. dollar, which resulted in a remeasurement loss on the bolivar-denominated monetary net asset position of $17,665 which was recorded in Selling, general & administrative expenses in the three months ended March 31, 2014. Additionally, the Company expects higher Cost of goods sold of $3,468 during the second quarter of 2014, due to the liquidation of inventory valued at the historical exchange rate. As previously discussed, the SICAD I rate is determined by periodic auctions and therefore the rate is likely to fluctuate in future periods which may result in additional losses or gains on a remeasurement of the bolivar-denominated monetary net asset position.
Future impacts to earnings of applying highly inflationary accounting for Venezuela on the Company’s consolidated financial statements will be dependent upon the applied currency exchange mechanisms, the movements in the applicable exchange rates between the bolivar and the U.S. dollar and the amount of monetary assets and liabilities included in the Company’s Venezuelan operation’s balance sheet.  The bolivar-denominated monetary net asset position was $25,294 at March 31, 2014, including $23,936 of cash and cash equivalents and $38,633 at December 31, 2013, including $50,642 of cash and cash equivalents.  
 

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Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 2 — EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share:
 
 
Three Months Ended March 31,
 
 
2014
 
2013
Numerator:
 
 

 
 

Net income
 
$
56,453

 
$
66,806

Denominator:
 
 

 
 

Basic weighted average shares outstanding
 
80,648

 
82,719

Effect of dilutive securities - Stock options and awards
 
968

 
1,067

Diluted weighted average shares outstanding
 
81,616

 
83,786

Basic earnings per share
 
$
0.70

 
$
0.81

Diluted earnings per share
 
$
0.69

 
$
0.80

For the three months ended March 31, 2014 and 2013, common shares subject to equity-based awards of 263,415 and 392,390, respectively, were excluded from the computation of diluted earnings per share because the effect of their exercise would be anti-dilutive.

NOTE 3 — NEW ACCOUNTING PRONOUNCEMENTS
New Accounting Standards Adopted:
In July 2013, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2013-11, "Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists." ASU 2013-11 requires an entity to present an unrecognized tax benefit in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss or a tax credit carryforward, with limited exceptions. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. ASU 2013-11 was adopted by the Company on January 1, 2014 and did not have a significant impact on the Company's financial statements.
In March 2013, the FASB issued ASU No. 2013-05, "Foreign Currency Matters (Topic 830): Parent's Accounting for the Cumulative Translation Adjustment upon Derecognition of Certain Subsidiaries or Groups of Assets within a Foreign Entity or of an Investment in a Foreign Entity." ASU 2013-05 clarifies the applicable guidance for the release of the cumulative translation adjustment ("CTA") under current U.S. GAAP by emphasizing that the accounting for the release of the CTA into net income for sales or transfers of a controlling financial interest within a foreign entity is the same irrespective of whether the sale or transfer is of a subsidiary or a group of assets that is a nonprofit activity or business. When a reporting entity ceases to have a controlling financial interest in a subsidiary or group of assets that is a nonprofit activity or a business within a foreign entity, the parent is required to apply the guidance in Subtopic 830-30 to release any related CTA into net income. The amendments are effective prospectively for fiscal years (and interim reporting periods within those years) beginning after December 15, 2013. ASU 2013-05 was adopted by the Company on January 1, 2014 and did not have an impact on the Company's financial statements.

NOTE 4 — ACQUISITIONS
During 2014, the Company acquired the remaining interest in its majority-owned joint venture, Harris Soldas Especiais S.A. The purchase price was not material.
During November 2013, the Company completed the acquisition of Robolution GmbH ("Robolution").  Robolution, based outside of Frankfurt, Germany, is a leading European provider of robotic arc welding systems. The acquisition added to the Company's growing automation business and will enable the Company to support automation customers across three continents.

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Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

During November 2013, the Company acquired an ownership interest in Burlington Automation Corporation ("Burlington"). Burlington, based in Hamilton, Ontario, Canada, is a leader in the design and manufacture of 3D robotic plasma cutting systems whose products are sold under the brand name Python X®. The acquisition broadens the Company's portfolio of automated cutting and welding process solutions.
Combined revenues for Robolution and Burlington in 2013 were approximately $35,000. The Company acquired Robolution and Burlington for approximately $54,261 in cash, net of cash acquired, and assumed debt and a $18,943 liability to acquire the remaining financial interest in Burlington. The fair value of net assets acquired was $30,531, resulting in goodwill of $42,673. The purchase price allocations are preliminary and subject to final opening balance sheet adjustments. In addition, during 2013 the Company acquired a greater interest in its majority-owned joint venture, Lincoln Electric Heli (Zhengzhou) Welding Materials Company Ltd. The purchase price was not material.
Pro forma information related to these acquisitions has not been presented because the impact on the Company’s Consolidated Statements of Income is not material.  Acquired companies are included in the Company’s consolidated financial statements as of the date of acquisition.

NOTE 5 — SEGMENT INFORMATION
The Company’s primary business is the design and manufacture of arc welding and cutting products, manufacturing a broad line of arc welding equipment, consumable welding products and other welding and cutting products.  The Company also has a leading global position in the brazing and soldering alloys market.  The Company has aligned its business units into five operating segments to enhance the utilization of the Company’s worldwide resources and global end user and sourcing initiatives.  The operating segments consist of North America Welding, Europe Welding, Asia Pacific Welding, South America Welding and The Harris Products Group.  The North America Welding segment includes welding operations in the United States, Canada and Mexico.  The Europe Welding segment includes welding operations in Europe, Russia, Africa and the Middle East.  The other two welding segments include welding operations in Asia Pacific and South America, respectively.  The fifth segment, The Harris Products Group, includes the Company’s global cutting, soldering and brazing businesses as well as the retail business in the United States.
Segment performance is measured and resources are allocated based on a number of factors, the primary profit measure being earnings before interest and income taxes (“EBIT”), as adjusted.  Segment EBIT is adjusted for special items as determined by management such as the impact of rationalization activities, certain asset impairment charges and gains or losses on disposals of assets.

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LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

Financial information for the reportable segments follows:
 
North
America
Welding
 
Europe
Welding
 
Asia
Pacific
Welding
 
South
America
Welding
 
The Harris
Products
Group
 
Corporate /
Eliminations
 
Consolidated
Three Months Ended March 31, 2014
 

 
 

 
 

 
 

 
 

 
 

 
 

Net sales
$
401,906

 
$
105,406

 
$
61,286

 
$
43,993

 
$
72,471

 
$

 
$
685,062

Inter-segment sales
32,943

 
5,860

 
4,449

 
29

 
2,118

 
(45,399
)
 

Total
$
434,849

 
$
111,266

 
$
65,735

 
$
44,022

 
$
74,589

 
$
(45,399
)
 
$
685,062

 
 
 
 
 
 
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
71,364

 
$
9,292

 
$
(640
)
 
$
11,765

 
$
6,058

 
$
2,891

 
$
100,730

Special items (gain) charge
(47
)
 
39

 
(9
)
 
17,665

 

 

 
17,648

EBIT
$
71,411

 
$
9,253

 
$
(631
)
 
$
(5,900
)
 
$
6,058

 
$
2,891

 
$
83,082

Interest income
 

 
 

 
 

 
 

 
 

 
 

 
914

Interest expense
 

 
 

 
 

 
 

 
 

 
 
 
(1,570
)
Income before income taxes
 

 
 

 
 

 
 

 
 

 
 

 
$
82,426

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total assets
$
1,107,182

 
$
404,451

 
$
320,776

 
$
141,079

 
$
170,856

 
$
(30,368
)
 
$
2,113,976

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Three months ended March 31, 2013
 

 
 

 
 

 
 

 
 

 
 

 
 

Net sales
$
419,554

 
$
110,491

 
$
70,039

 
$
36,374

 
$
82,115

 
$

 
$
718,573

Inter-segment sales
28,985

 
4,279

 
4,384

 
20

 
2,224

 
(39,892
)
 

Total
$
448,539

 
$
114,770

 
$
74,423

 
$
36,394

 
$
84,339

 
$
(39,892
)
 
$
718,573

 
 
 
 
 
 
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
76,660

 
$
10,701

 
$
2,293

 
$
5,112

 
$
7,151

 
$
(603
)
 
$
101,314

Special items (gain) charge
860

 
(6
)
 
197

 
9,660

 

 

 
10,711

EBIT
$
75,800

 
$
10,707

 
$
2,096

 
$
(4,548
)
 
$
7,151

 
$
(603
)
 
$
90,603

Interest income
 

 
 

 
 

 
 

 
 

 
 

 
1,026

Interest expense
 

 
 

 
 

 
 

 
 

 
 

 
(950
)
Income before income taxes
 

 
 

 
 

 
 

 
 

 
 

 
$
90,679

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Total assets
$
1,014,910

 
$
434,484

 
$
364,673

 
$
121,024

 
$
196,434

 
$
(27,998
)
 
$
2,103,527

In the three months ended March 31, 2014, special items include net gains of $47 and $9 in the North America Welding and Asia Pacific Welding segments, respectively, and a net charge of $39 in the Europe Welding segment primarily related to employee severance and other costs associated with the consolidation of manufacturing operations.  The South America Welding segment special items represent a charge of $17,665, relating to a Venezuelan remeasurement loss.
In the three months ended March 31, 2013, special items include net charges of $860 and $197 in the North America Welding and Asia Pacific Welding segments, respectively, and a net gain of $6 in the Europe Welding segment primarily related to employee severance and other costs associated with the consolidation of manufacturing operations. The South America Welding segment special items represent charges of $9,660, relating to the devaluation of Venezuelan currency.

NOTE 6 — RATIONALIZATION AND ASSET IMPAIRMENTS
The Company recorded net rationalization gains of $17 for the three months ended March 31, 2014. The net gains include charges of $18 primarily related to employee severance, offset by gains of $35 related to the sale and disposal of assets.  A description of each restructuring plan and the related costs follows:
North America Welding Plans:
During 2012, the Company initiated various rationalization plans within the North America Welding segment. Plans for the segment include consolidating its Oceanside, California operations and its Reno, Nevada operations to another facility in Reno, Nevada and consolidating its Baltimore, Maryland manufacturing operations into its current manufacturing operations in Cleveland, Ohio.  During the three months ended March 31, 2014, the Company recorded gains of $47 related to these actions. At March 31, 2014, a liability relating to these actions of $202 was recognized in Other current liabilities, which will be substantially paid in 2014. Additional charges related to the completion of this plan are expected to be immaterial.

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LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

Europe Welding Plans:
During 2013, the Company initiated a rationalization plan within the Europe Welding segment to consolidate certain consumable manufacturing operations. During the three months ended March 31, 2014, the Company recorded net charges of $137, which primarily represents employee severance and other related costs. At March 31, 2014, a liability relating to these actions of $157 was recognized in Other current liabilities. The Company expects additional charges up to $140 to be recorded related to the completion of these activities.
During 2012, the Company initiated various rationalization plans within the Europe Welding segment. Plans for the segment include the consolidation of manufacturing facilities in Russia, relocation of its Italian machine manufacturing operations to current facilities in Poland and headcount restructuring at various other manufacturing operations within the segment to better align the cost structure and capacity requirements with current economic needs and conditions. During the three months ended March 31, 2014, the Company recorded net gains of $98 related to these activities.  At March 31, 2014, a liability relating to these actions of $149 was recognized in Other current liabilities, which will be substantially paid in 2014.  Additional charges related to the completion of this plan are expected to be immaterial.
Asia Pacific Welding Plans:
During 2012, the Company initiated various rationalization plans within the Asia Pacific Welding segment. Plans for the segment include the rationalization of its Australian manufacturing operations and headcount restructuring at various other manufacturing operations within the segment to better align the cost structure and capacity requirements with current economic needs and conditions. During the three months ended March 31, 2014, the Company recorded net charges of $7, related to these actions. At March 31, 2014, a liability relating to these actions of $349 was recognized in Other current liabilities, which will be substantially paid in 2014.  Additional charges related to the completion of this plan are expected to be immaterial.
The Company continues evaluating its cost structure and additional rationalization actions may result in charges in future periods.
The following tables summarize the activity related to the rationalization liabilities by segment for the three months ended March 31, 2014:
 
North
America
Welding
 
Europe
Welding
 
Asia Pacific
Welding
 
Consolidated
Balance, December 31, 2013
$
466

 
$
2,435

 
$
375

 
$
3,276

Payments and other adjustments
(217
)
 
(2,175
)
 
(45
)
 
(2,437
)
Charged (credited) to expense
(47
)
 
46

 
19

 
18

Balance, March 31, 2014
$
202

 
$
306

 
$
349

 
$
857

 

NOTE 7 — COMMON SHARE REPURCHASE PROGRAM
As of March 31, 2014, the Company had a share repurchase program for up to 45 million of the Company’s common shares.  At management’s discretion, the Company repurchases its common shares from time to time in the open market, depending on market conditions, stock price and other factors.  During the three month period ended March 31, 2014, the Company purchased an aggregate of 686,392 common shares in the open market under this program.  As of March 31, 2014, there remained 14,984,367 common shares available for repurchase under this program.  The repurchased common shares remain in treasury and have not been retired.
 

11

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LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 8 — ACCUMULATED OTHER COMPREHENSIVE (LOSS) INCOME ("AOCI")
The following tables set forth the total changes in AOCI by component, net of taxes for the three months ended March 31, 2014 and 2013:
 
 
Three Months Ended March 31, 2014
 
 
Unrealized (loss) gain on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at December 31, 2013
 
$
369

 
$
(160,693
)
 
$
8,383

 
$
(151,941
)
Other comprehensive (loss) income
before reclassification
 
(710
)
 

 
(13,039
)
3 

(13,749
)
Amounts reclassified from AOCI
 
289

1 

2,544

2 



2,833

Net current-period other
comprehensive (loss) income
 
(421
)
 
2,544

 
(13,039
)
 
(10,916
)
Balance at March 31, 2014
 
$
(52
)
 
$
(158,149
)
 
$
(4,656
)
 
$
(162,857
)
 
 
 
 
 
 
 
 
 
 
 
Three months ended March 31, 2013
 
 
Unrealized (loss) gain on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at December 31, 2012
 
$
80

 
$
(261,844
)
 
$
26,364

 
$
(235,400
)
Other comprehensive (loss) income
before reclassification
 
1,082

 

 
(14,352
)
3 

(13,270
)
Amounts reclassified from AOCI
 
(480
)
1 

5,105

2 


 
4,625

Net current-period other
comprehensive (loss) income
 
602

 
5,105

 
(14,352
)
 
(8,645
)
Balance at March 31, 2013
 
$
682

 
$
(256,739
)
 
$
12,012

 
$
(244,045
)
 
 
 
 
 
 
 
 
 
1
During the 2014 period, this AOCI reclassification is a component of Net sales of $132 (net of tax of $20) and Cost of goods sold of $157 (net of tax of $86); during the 2013 period, the reclassification is a component of Net sales of $101 (net of tax of $141) and Cost of goods sold of $(581) (net of tax of $298). (See Note 17 - Derivatives for additional details.)
2
This AOCI component is included in the computation of net periodic pension costs (net of tax of $1,838 and $3,068 during the three months ended March 31, 2014 and 2013, respectively). (See Note 15 - Retirement and Postretirement Benefit Plans for additional details.)
3
The Other comprehensive income before reclassifications excludes $681 and $113 attributable to Non-controlling interests in the three months ended March 31, 2014 and 2013, respectively. (See Note 9 - Equity for additional details.)


12

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 9 — EQUITY
Changes in equity for the three months ended March 31, 2014 are as follows:
 
Shareholders’
Equity
 
Non-controlling
Interests
 
Total Equity
Balance, December 31, 2013
$
1,526,602

 
$
4,086

 
$
1,530,688

Comprehensive income:
 

 
 

 
 

Net income
56,453

 
(29
)
 
56,424

Other comprehensive (loss) income
(10,916
)
 
681

 
(10,235
)
Total comprehensive income
45,537

 
652

 
46,189

 
 
 
 
 
 
Cash dividends declared - $0.23 per share
(18,501
)
 

 
(18,501
)
Issuance of shares under benefit plans
7,024

 

 
7,024

Purchase of shares for treasury
(51,021
)
 

 
(51,021
)
Transactions with non-controlling interests
(1,484
)
 
(782
)
 
(2,266
)
Balance, March 31, 2014
$
1,508,157

 
$
3,956

 
$
1,512,113

Changes in equity for the three months ended March 31, 2013 are as follows:
 
Shareholders’
Equity
 
Non-controlling
Interests
 
Total Equity
Balance, December 31, 2012
$
1,342,373

 
$
15,948

 
$
1,358,321

Comprehensive income:
 

 
 

 
 

Net income
66,806

 
37

 
66,843

Other comprehensive (loss) income
(8,645
)
 
113

 
(8,532
)
Total comprehensive income
58,161

 
150

 
58,311

 
 
 
 
 
 
Cash dividends declared - $0.20 per share
(16,590
)
 

 
(16,590
)
Issuance of shares under benefit plans
16,283

 

 
16,283

Purchase of shares for treasury
(12,780
)
 

 
(12,780
)
Balance, March 31, 2013
$
1,387,447

 
$
16,098

 
$
1,403,545

 
NOTE 10 — INVENTORY VALUATION
Inventories are valued at the lower of cost or market.  Fixed manufacturing overhead costs are allocated to inventory based on normal production capacity and abnormal manufacturing costs are recognized as period costs.  For most domestic inventories, cost is determined principally by the last-in, first-out (“LIFO”) method, and for non-U.S. inventories, cost is determined by the first-in, first-out (“FIFO”) method.  The valuation of LIFO inventories is made at the end of each year based on inventory levels and costs at that time.  Accordingly, interim LIFO calculations are based on management’s estimates of expected year-end inventory levels and costs.  Actual year-end costs and inventory levels may differ from interim LIFO inventory valuations.  The excess of current cost over LIFO cost was $71,946 and $70,882 at March 31, 2014 and December 31, 2013, respectively.
 

13

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 11 — ACCRUED EMPLOYEE BONUS
Other current liabilities at March 31, 2014 and 2013 include accruals for year-end bonuses and related payroll taxes of $33,729 and $39,174, respectively, related to the Company’s employees worldwide.  The payment of bonuses is discretionary and subject to approval by the Board of Directors.  A majority of annual bonuses are paid in December, resulting in an increasing bonus accrual during the Company’s fiscal year. 
 
NOTE 12 — CONTINGENCIES
The Company, like other manufacturers, is subject from time to time to a variety of civil and administrative proceedings arising in the ordinary course of business.  Such claims and litigation include, without limitation, product liability claims and health, safety and environmental claims, some of which relate to cases alleging asbestos induced illnesses.  The claimants in the asbestos cases seek compensatory and punitive damages, in most cases for unspecified amounts.  The Company believes it has meritorious defenses to these claims and intends to contest such suits vigorously.
The Company’s accrual for contingent liabilities was $2,626 as of March 31, 2014 and $2,735 as of December 31, 2013.  The accrual is included in Other current liabilities.
The Company accrues its best estimate of the probable costs, after a review of the facts with management and counsel and taking into account past experience. If an unfavorable outcome is determined to be reasonably possible but not probable, or if the amount of loss cannot be reasonably estimated, disclosure is provided for material claims or litigation. Many of the current cases are in differing procedural stages and information on the circumstances of each claimant, which forms the basis for judgments as to the validity or ultimate disposition of such actions, varies greatly. Therefore, in many situations a range of possible losses cannot be made. Reserves are adjusted as facts and circumstances change and related management assessments of the underlying merits and the likelihood of outcomes change. Moreover, reserves only cover identified and/or asserted claims. Future claims could, therefore, give rise to increases to such reserves.
Based on the Company's historical experience in litigating product liability claims, including a significant number of dismissals, summary judgments and defense verdicts in many cases and immaterial settlement amounts, as well as the Company's current assessment of the underlying merits of the claims and applicable insurance, the Company believes resolution of these claims and proceedings, individually or in the aggregate, will not have a material effect on the Company's consolidated financial statements.

NOTE 13 — PRODUCT WARRANTY COSTS
The Company accrues for product warranty claims based on historical experience and the expected material and labor costs to provide warranty service.  Warranty services are generally provided for periods up to three years from the date of sale.  The accrual for product warranty claims is included in Other current liabilities.
The changes in the carrying amount of product warranty accruals for the three months ended March 31, 2014 and 2013 are as follows:
 
Three Months Ended March 31,
 
2014
 
2013
Balance at beginning of period
$
15,180

 
$
15,304

Accruals for warranties
3,198

 
2,721

Settlements
(2,904
)
 
(3,301
)
Foreign currency translation
(44
)
 
(69
)
Balance at end of period
$
15,430

 
$
14,655

 

14

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 14 DEBT
The Company has a line of credit totaling $300,000 through the Amended and Restated Credit Agreement (the “Credit Agreement”), which was entered into on July 26, 2012.  The Credit Agreement contains customary affirmative, negative and financial covenants for credit facilities of this type, including limitations on the Company and its subsidiaries with respect to liens, investments, distributions, mergers and acquisitions, dispositions of assets, transactions with affiliates and a fixed charges coverage ratio and total leverage ratio.  As of March 31, 2014, the Company was in compliance with all of its covenants and had no outstanding borrowings under the Credit Agreement.  The Credit Agreement has a five-year term and may be increased, subject to certain conditions, by an additional amount up to $100,000.  The interest rate on borrowings is based on either LIBOR or the prime rate, plus a spread based on the Company’s leverage ratio, at the Company’s election.
 
NOTE 15 RETIREMENT AND POSTRETIREMENT BENEFIT PLANS
The components of total pension cost were as follows:
 
 
Three Months Ended March 31,
 
 
2014
 
2013
Service cost
 
$
5,063

 
$
5,675

Interest cost
 
10,662

 
9,390

Expected return on plan assets
 
(17,021
)
 
(15,404
)
Amortization of prior service cost
 
(155
)
 
(153
)
Amortization of net loss
 
4,222

 
8,111

Defined benefit plans
 
2,771

 
7,619

Multi-employer plans
 
264

 
239

Defined contribution plans
 
2,834

 
2,589

Total pension cost
 
$
5,869

 
$
10,447

The Company voluntarily contributed $20,000 to its defined benefit plans in the United States during the three months ended March 31, 2014. The amortization of net loss decreased due to greater actuarial gains during 2013, attributable to a higher discount rate and higher actual return on plan assets compared with the expected return on assets.

NOTE 16 — INCOME TAXES
The Company recognized $26,002 of tax expense on pre-tax income of $82,426, resulting in an effective income tax rate of 31.5% for the three months ended March 31, 2014.  The effective income tax rate is lower than the Company’s statutory rate primarily due to income earned in lower tax rate jurisdictions, U.S. tax deductions and the utilization of foreign tax loss carry-forwards for which valuation allowances had been previously provided.
The effective income tax rate of 26.3% for the three months ended March 31, 2013 was lower than the Company’s statutory rate primarily due to income earned in lower tax rate jurisdictions, reversal of valuation allowance on deferred tax assets more-likely-than-not to be realized, U.S. tax credits and deductions and the utilization of foreign tax loss carry-forwards for which valuation allowances had been previously provided.
As of March 31, 2014, the Company had $22,440 of unrecognized tax benefits.  If recognized, approximately $12,574 would be reflected as a component of income tax expense.
The Company files income tax returns in the U.S. and various state, local and foreign jurisdictions.  With few exceptions, the Company is no longer subject to U.S. federal, state and local or non-U.S. income tax examinations by tax authorities for years before 2003.  The Company is currently subject to various U.S. state audits, an Indian tax audit for 2012 and an Indonesian tax audit for 2003 and 2005-2007. 

15

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

Unrecognized tax benefits are reviewed on an ongoing basis and are adjusted for changing facts and circumstances, including progress of tax audits and closing of statutes of limitations.  Based on information currently available, management believes that additional audit activity could be completed and/or statutes of limitations may close relating to existing unrecognized tax benefits.  It is reasonably possible there could be a reduction of $4,504 in prior years’ unrecognized tax benefits by the end of the first quarter 2015.
In July 2012, the Company received a Notice of Reassessment from the Canada Revenue Agency (the “CRA”) for 2004 to 2011, which would disallow the deductibility of inter-company dividends.  These adjustments would increase Canadian federal and provincial tax due by $56,623 plus approximately $15,422 of interest, net of tax.  The Company disagrees with the position taken by the CRA and believes it is without merit.  The Company will vigorously contest the assessment through the Tax Court of Canada.  A trial date has not yet been scheduled.
In connection with the litigation process, the Company is required to deposit no less than one-half of the tax and interest assessed by the CRA.  The Company has elected to deposit the entire amount of the dispute in order to suspend the continuing accrual of a 5% interest charge.  Additionally, deposited amounts will earn interest of approximately 1% due upon a favorable outcome. A deposit was made and is recorded as a non-current asset valued at $80,979 as of March 31, 2014.  Any Canadian tax ultimately due will be creditable in the parent company’s U.S. federal tax return.  The Company expects to be able to utilize the full amount of foreign tax credits generated in the statutorily allowed carry-back and carry-forward periods.  Accordingly, should the Company not prevail in this dispute, the income statement charge will approximate the deficiency interest, net of tax.
The Company believes it will prevail on the merits of the tax position.  In accordance with prescribed recognition and measurement thresholds, no income tax accrual has been made for any uncertain tax positions related to the CRA reassessment.  An unfavorable resolution of this matter could have a material effect on the Company’s financial statements in the period in which a judgment is reached.

NOTE 17 — DERIVATIVES
The Company uses derivatives to manage exposures to currency exchange rates, interest rates and commodity prices arising in the normal course of business.  Derivative contracts to hedge currency and commodity exposures are generally written on a short-term basis but may cover exposures for up to two years while interest rate contracts may cover longer periods consistent with the terms of the underlying debt.  The Company does not enter into derivatives for trading or speculative purposes.
All derivatives are recognized at fair value on the Company’s Consolidated Balance Sheets.  The accounting for gains and losses resulting from changes in fair value depends on the use of the derivative and whether it is designated and qualifies for hedge accounting.  The Company formally documents the relationship of the hedge with the hedged item as well as the risk-management strategy for all designated hedges.  Both at inception and on an ongoing basis, the hedging instrument is assessed as to its effectiveness, when applicable.  If and when a derivative is determined not to be highly effective as a hedge, the underlying hedged transaction is no longer likely to occur, or the derivative is terminated, hedge accounting is discontinued.  The cash flows from settled derivative contracts are recognized in operating activities in the Company’s Consolidated Statements of Cash Flows.  Hedge ineffectiveness was immaterial in the three months ended March 31, 2014 and 2013.
The Company is subject to the credit risk of the counterparties to derivative instruments.  Counterparties include a number of major banks and financial institutions.  The Company manages individual counterparty exposure by monitoring the credit rating of the counterparty and the size of financial commitments and exposures between the Company and the counterparty.  None of the concentrations of risk with any individual counterparty was considered significant at March 31, 2014.  The Company does not expect any counterparties to fail to meet their obligations.
Cash Flow Hedges
Certain foreign currency forward contracts were qualified and designated as cash flow hedges.  The dollar equivalent gross notional amount of these short-term contracts was $32,639 and $36,880 at March 31, 2014 and December 31, 2013, respectively. The effective portions of the fair value gains or losses on these cash flow hedges are recognized in AOCI and subsequently reclassified to Cost of goods sold or Sales for hedges of purchases and sales, respectively, as the underlying hedged transactions affect earnings.


16

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

Derivatives Not Designated as Hedging Instruments
The Company has certain foreign exchange forward contracts that are not designated as hedges.  These derivatives are held as economic hedges of certain balance sheet exposures.  The dollar equivalent gross notional amount of these contracts was $199,307 and $186,158 at March 31, 2014 and December 31, 2013, respectively.  The fair value gains or losses from these contracts are recognized in Selling, general and administrative expenses, offsetting the losses or gains on the exposures being hedged.
The Company had short-term silver and copper forward contracts with notional amounts of 315,000 troy ounces and 375,000 pounds, respectively, at March 31, 2014.  The notional amount of short-term silver and copper forward contracts was 290,000 troy ounces and 375,000 pounds, respectively, at December 31, 2013.  Realized and unrealized gains and losses on these contracts are recognized in Costs of goods sold.
Fair values of derivative instruments in the Company’s Consolidated Balance Sheets follow:
 
 
March 31, 2014
 
December 31, 2013
Derivatives by hedge designation 
 
Other Current Assets
 
Other Current Liabilities
 
Other Current Assets
 
Other Current Liabilities
Designated as hedging instruments:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
268

 
$
360

 
$
706

 
$
219

Not designated as hedging instruments:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
1,204

 
1,448

 
766

 
228

Commodity contracts
 
358

 
13

 
262

 
47

Total derivatives
 
$
1,830

 
$
1,821

 
$
1,734

 
$
494

The effects of undesignated derivative instruments on the Company’s Consolidated Statements of Income for the three month periods ended March 31, 2014 and 2013 consisted of the following:
 
 
 
 
Three Months Ended March 31,
Derivatives by hedge designation
 
Classification of gain (loss)
 
2014
 
2013
Not designated as hedges:
 
 
 
 
 
 
Foreign exchange contracts
 
Selling, general & administrative expenses
 
$
39

 
$
(398
)
Commodity contracts
 
Cost of goods sold
 
4

 
606

The effects of designated hedges on AOCI and the Company’s Consolidated Statements of Income consisted of the following:
Total gain (loss) recognized in AOCI, net of tax
 
March 31, 2014
 
December 31, 2013
Foreign exchange contracts
 
$
(52
)
 
$
369

 
 
 
 
Three Months Ended March 31,
Derivative type
 
Gain (loss) reclassified from AOCI to:
 
2014
 
2013
Foreign exchange contracts
 
Sales
 
$
132

 
$
101

 
 
Cost of goods sold
 
157

 
581

The Company expects a loss of $52 related to existing contracts to be reclassified from AOCI, net of tax, to earnings over the next 12 months as the hedged transactions are realized. 


17

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

NOTE 18 - FAIR VALUE
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price).  The following hierarchy is used to classify the inputs used to measure fair value:
 
Level 1                   Unadjusted quoted prices in active markets for identical assets or liabilities.
 
Level 2                   Unadjusted quoted prices in active markets for similar assets or liabilities, or unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.
 
Level 3                   Unobservable inputs for the asset or liability.

The following table provides a summary of assets and liabilities as of March 31, 2014, measured at fair value on a recurring basis:
Description
 
Balance as of
March 31, 2014
 
Quoted Prices
in Active
Markets for
Identical Assets
or Liabilities
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Assets:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
1,472

 
$

 
$
1,472

 
$

Commodity contracts
 
358

 

 
358

 

Total assets
 
$
1,830

 
$

 
$
1,830

 
$

 
 
 
 
 
 
 
 
 
Liabilities:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
1,808

 
$

 
$
1,808

 
$

Commodity contracts
 
13

 

 
13

 

Contingent consideration
 
5,502

 

 

 
5,502

Forward contract
 
18,925

 

 

 
18,925

Deferred compensation
 
22,018

 

 
22,018

 

Total liabilities
 
$
48,266

 
$

 
$
23,839

 
$
24,427


18

Table of Contents
LINCOLN ELECTRIC HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Dollars in thousands, except per share amounts

The following table provides a summary of assets and liabilities as of December 31, 2013, measured at fair value on a recurring basis:
Description
 
Balance as of December 31, 2013
 
Quoted Prices
in Active
Markets for
Identical Assets
or Liabilities
(Level 1)
 
Significant
Other
Observable
Inputs
(Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
Assets:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
1,472

 
$

 
$
1,472

 
$

Commodity contracts
 
262

 

 
262

 

Total assets
 
$
1,734

 
$

 
$
1,734

 
$

 
 
 
 
 
 
 
 
 
Liabilities:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
447

 
$

 
$
447

 
$

Commodity contracts
 
47

 

 
47

 

Contingent consideration
 
5,375

 

 

 
5,375

Forward contract
 
16,974

 

 

 
16,974

Deferred compensation
 
20,132

 

 
20,132

 

Total liabilities
 
$
42,975

 
$

 
$
20,626

 
$
22,349

The Company’s derivative contracts are valued at fair value using the market approach.  The Company measures the fair value of foreign exchange contracts and net investment contracts using Level 2 inputs based on observable spot and forward rates in active markets.  The Company measures the fair value of commodity contracts using Level 2 inputs through observable market transactions in active markets provided by financial institutions.  During the three months ended March 31, 2014, there were no transfers between Levels 1, 2 or 3.
In connection with an acquisition, the Company recorded a contingent consideration fair valued at $5,502 as of March 31, 2014, which reflects a $127 increase in the liability from December 31, 2013.  The contingent consideration is based upon estimated sales for the five-year period ending December 31, 2015 and will be paid in 2016 based on actual sales during the five-year period.  The fair value of the contingent consideration is a Level 3 valuation and fair valued using a probability weighted discounted cash flow analysis. 
In connection with an acquisition, the Company obtained a controlling financial interest in the acquired entity and at the same time entered into a contract to obtain the remaining financial interest in the entity over a three-year period. The amount to be paid to obtain the remaining financial interest will be based upon actual financial results of the entity. A liability was recorded for the contract at a fair value of $18,925 as of March 31, 2014, which reflects a $957 increase in the liability from the valuation date. The change in liability is recognized in interest expense in the three months ended March 31, 2014. The fair value of the contract is a Level 3 valuation and is based on the present value of the expected future payments. The expected future payments are based on a multiple of forecast earnings and cash flows over the three-year period ending December 31, 2016, present valued utilizing a risk based discount rate. The present value calculations utilized discount rates of 3.5% reflective of the Company's cost of debt and 15.9% as a risk adjusted cost of capital and annual earnings before interest and taxes with growth rates ranging from 10.6% to 16.8%.
The deferred compensation liability is the Company’s obligation under its executive deferred compensation plan.  The Company measures the fair value of the liability using the market values of the participants’ underlying investment fund elections.
The fair value of “Cash and cash equivalents,” “Accounts receivable,” “Amounts due banks” and “Trade accounts payable” approximated book value due to the short-term nature of these instruments at both March 31, 2014 and December 31, 2013.  The fair value of long-term debt at March 31, 2014 and December 31, 2013, including the current portion, was approximately $2,977 and $4,212, respectively, which was determined using available market information and methodologies requiring judgment.  The carrying value of this debt at such dates was $3,069 and $4,506, respectively.  Since considerable judgment is required in interpreting market information, the fair value of the debt is not necessarily the amount that could be realized in a current market exchange.

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Table of Contents

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share amounts)
This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read together with the Company’s unaudited consolidated financial statements and other financial information included elsewhere in this Quarterly Report on Form 10-Q.
General
The Company is the world’s largest designer and manufacturer of arc welding and cutting products, manufacturing a broad line of arc welding equipment, consumable welding products and other welding and cutting products.  Welding products include arc welding power sources, wire feeding systems, robotic welding packages, fume extraction equipment, consumable electrodes and fluxes.  The Company’s product offering also includes computer numeric controlled plasma and oxy-fuel cutting systems and regulators and torches used in oxy-fuel welding, cutting and brazing.  In addition, the Company has a leading global position in the brazing and soldering alloys market.
The Company’s products are sold in both domestic and international markets.  In North America, products are sold principally through industrial distributors, retailers and also directly to users of welding products.  Outside of North America, the Company has an international sales organization comprised of Company employees and agents who sell products from the Company’s various manufacturing sites to distributors and product users. 
Three Months Ended March 31, 2014 Compared with Three Months Ended March 31, 2013
 
 
Three Months Ended March 31,
 
 
2014
 
2013
 
Change
 
 
Amount
 
% of Sales
 
Amount
 
% of Sales
 
Amount
 
%
Net sales
 
$
685,062

 
100.0
%
 
$
718,573

 
100.0
%
 
$
(33,511
)
 
(4.7
%)
Cost of goods sold
 
458,726

 
67.0
%
 
492,001

 
68.5
%
 
(33,275
)
 
(6.8
%)
Gross profit
 
226,336

 
33.0
%
 
226,572

 
31.5
%
 
(236
)
 
(0.1
%)
Selling, general & administrative expenses
 
145,915

 
21.3
%
 
136,891

 
19.1
%
 
9,024

 
6.6
%
Rationalization and asset impairment (gains) charges
 
(17
)
 

 
1,051

 
0.1
%
 
(1,068
)
 
(101.6
%)
Operating income
 
80,438

 
11.7
%
 
88,630

 
12.3
%
 
(8,192
)
 
(9.2
%)
Interest income
 
914

 
0.1
%
 
1,026

 
0.1
%
 
(112
)
 
(10.9
%)
Equity earnings in affiliates
 
1,561

 
0.2
%
 
1,259

 
0.2
%
 
302

 
24.0
%
Other income
 
1,083

 
0.2
%
 
714

 
0.1
%
 
369

 
51.7
%
Interest expense
 
(1,570
)
 
(0.2
%)
 
(950
)
 
(0.1
%)
 
(620
)
 
(65.3
%)
Income before income taxes
 
82,426

 
12.0
%
 
90,679

 
12.6
%
 
(8,253
)
 
(9.1
%)
Income taxes
 
26,002

 
3.8
%
 
23,836

 
3.3
%
 
2,166

 
9.1
%
Net income including non-controlling interests
 
56,424

 
8.2
%
 
66,843

 
9.3
%
 
(10,419
)
 
(15.6
%)
Non-controlling interests in subsidiaries’ (loss) earnings
 
(29
)
 

 
37

 

 
(66
)
 
(178.4
%)
Net income
 
$
56,453

 
8.2
%
 
$
66,806

 
9.3
%
 
$
(10,353
)
 
(15.5
%)
Net Sales:  Net sales for the three months ended March 31, 2014 decreased 4.7% from the comparable period in 2013.  The sales decrease reflects volume decreases of 5.0%, price increases of 0.4%, increases from acquisitions of 1.1% and unfavorable impacts from foreign exchange of 1.2%.  Sales volumes decreased as a result of soft demand in both domestic and international markets. Product pricing increased from prior year levels reflecting the highly inflationary environment in Venezuela offset by pricing declines in The Harris Products Group segment due to significant decreases in the costs of silver and copper.

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Table of Contents

Gross Profit:  Gross profit decreased 0.1% to $226,336 for the three months ended March 31, 2014 compared with $226,572 in the comparable period in 2013.  As a percentage of Net sales, Gross profit increased to 33.0% in the three months ended March 31, 2014 from 31.5% in the comparable period in 2013.  The increase was the result of geographic mix and pricing stability in the wake of lower year over year input costs. The prior year period includes incremental costs of $1,579 due to the devaluation of the Venezuelan currency. Foreign currency exchange rates had a $3,076 unfavorable translation impact in the three months ended March 31, 2014.
Selling, General & Administrative (“SG&A”) Expenses:  SG&A expenses were higher by $9,024, or 6.6%, in the three months ended March 31, 2014 compared with the comparable period in 2013.  As a percentage of Net sales, SG&A expenses were 21.3% and 19.1% in the three months ended March 31, 2014 and 2013, respectively.  The increase in SG&A expenses was predominantly due to higher foreign exchange transaction losses of $9,674, which includes a charge of $17,665 in the current period relating to a Venezuelan remeasurement loss compared with a charge of $8,081 in the prior year period due to the devaluation of the Venezuelan currency, higher general and administrative spending of $2,835 primarily related to additional employee compensation costs and increased SG&A expenses from acquisitions of $2,045, partially offset by lower bonus expense of $2,505, lower U.S. retirement costs of $1,919 and lower foreign currency translation of $1,662.
Equity Earnings in Affiliates:  Equity earnings in affiliates were $1,561 in the three months ended March 31, 2014 compared with earnings of $1,259 in the comparable period in 2013.  The increase was due to an increase in earnings in Turkey and Chile.
Interest Expense:  Interest expense increased to $1,570 in the three months ended March 31, 2014 from $950 in the comparable period in 2013. The increase was due to the accretion of interest expense from a liability to acquire additional ownership in a majority owned subsidiary.
Income Taxes:  The Company recognized $26,002 of tax expense on pre-tax income of $82,426, resulting in an effective income tax rate of 31.5% for the three months ended March 31, 2014 compared with an effective income tax rate of 26.3% for the three months ended March 31, 2013. The effective income tax rate was higher in the three months ended March 31, 2014 as compared to the three months ended March 31, 2013 due to the effect on the prior year rate from the reversal of a valuation allowance on deferred tax assets more-likely-than-not to be realized and the 2012 U.S. research and development credit that was recognized in the first quarter 2013.
Net Income:  Net income for the three months ended March 31, 2014 was $56,453 compared with Net income of $66,806 in the three months ended March 31, 2013.  Diluted earnings per share for the three months ended March 31, 2014 was $0.69 compared with $0.80 in the comparable period in 2013.  Foreign currency exchange rate movements had an unfavorable translation effect of $863 on Net income for the three months ended March 31, 2014.
 
Segment Results
Net Sales:  The table below summarizes the impacts of volume, acquisitions, price and foreign currency exchange rates on Net sales for the three months ended March 31, 2014:
 
 
 
Change in Net Sales due to:
 
 
 
Net Sales
2013
 
Volume
 
Acquisitions
 
Price
 
Foreign
Exchange
 
Net Sales
2014
Operating Segments
 

 
 

 
 

 
 

 
 

 
 

North America Welding
$
419,554

 
$
(23,410
)
 
$
7,869

 
$
1,240

 
$
(3,347
)
 
$
401,906

Europe Welding
110,491

 
(5,487
)
 

 
(1,550
)
 
1,952

 
105,406

Asia Pacific Welding
70,039

 
(5,386
)
 

 
(325
)
 
(3,042
)
 
61,286

South America Welding
36,374

 
(2,026
)
 

 
12,807

 
(3,162
)
 
43,993

The Harris Products Group
82,115

 
400

 

 
(9,204
)
 
(840
)
 
72,471

Consolidated
$
718,573

 
$
(35,909
)
 
$
7,869

 
$
2,968

 
$
(8,439
)
 
$
685,062

% Change
 

 
 

 
 

 
 

 
 

 
 

North America Welding
 

 
(5.6
%)
 
1.9
%
 
0.3
%
 
(0.8
%)
 
(4.2
%)
Europe Welding
 

 
(5.0
%)
 

 
(1.4
%)
 
1.8
%
 
(4.6
%)
Asia Pacific Welding
 

 
(7.7
%)
 

 
(0.5
%)
 
(4.3
%)
 
(12.5
%)
South America Welding
 

 
(5.6
%)
 

 
35.2
%
 
(8.7
%)
 
20.9
%
The Harris Products Group
 

 
0.5
%
 

 
(11.2
%)
 
(1.0
%)
 
(11.7
%)
Consolidated
 

 
(5.0
%)
 
1.1
%
 
0.4
%
 
(1.2
%)
 
(4.7
%)

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Table of Contents

Net sales volumes for the three months ended March 31, 2014 decreased for all operating segments except for The Harris Products Group segment, as a result of soft demand in both domestic and international markets.  Net sales volumes in The Harris Products Group segment increased as a result of improved sales volumes on consumables. Product pricing in the North America Welding segment increased slightly due to the realization of price increases. Product pricing in the Europe Welding segment decreased due to declining raw material costs. Product pricing decreased for the Asia Pacific Welding segment due to lower raw material costs and competitive pricing conditions. Product pricing in the South America Welding segment reflects a highly inflationary environment, particularly in Venezuela, and pricing increases in Brazil.  Product pricing decreased for The Harris Products Group segment because of significant decreases in the costs of silver and copper as compared to the prior year period.  The increase in Net sales from acquisitions was due to the acquisitions of Robolution GmbH ("Robolution") in November 2013 and Burlington Automation Corporation ("Burlington") in November 2013 (see the "Acquisitions" section below for additional information regarding the acquisitions). With respect to changes in Net sales due to foreign exchange, all segments, except for the Europe Welding segment, decreased due to a stronger U.S. dollar.

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Table of Contents

Earnings Before Interest and Income Taxes (“EBIT”), as Adjusted:  Segment performance is measured and resources are allocated based on a number of factors, the primary profit measure being EBIT, as adjusted.  The following table presents EBIT, as adjusted for the three months ended March 31, 2014 by segment compared with the comparable period in 2013:
 
Three Months Ended March 31,
 
 
 
 
 
2014
 
2013
 
$ Change
 
% Change
North America Welding:
 

 
 

 
 

 
 

Net sales
$
401,906

 
$
419,554

 
(17,648
)
 
(4.2
%)
Inter-segment sales
32,943

 
28,985

 
3,958

 
13.7
%
Total Sales
$
434,849

 
$
448,539

 
(13,690
)
 
(3.1
%)
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
71,364

 
$
76,660

 
(5,296
)
 
(6.9
%)
As a percent of total sales
16.4
 %
 
17.1
%
 
 

 
(0.7
%)
 
 
 
 
 
 
 
 
Europe Welding:
 

 
 

 
 

 
 

Net sales
$
105,406

 
$
110,491

 
(5,085
)
 
(4.6
%)
Inter-segment sales
5,860

 
4,279

 
1,581

 
36.9
%
Total Sales
$
111,266

 
$
114,770

 
(3,504
)
 
(3.1
%)
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
9,292

 
$
10,701

 
(1,409
)
 
(13.2
%)
As a percent of total sales
8.4
 %
 
9.3
%
 
 

 
(0.9
%)
 
 
 
 
 
 
 
 
Asia Pacific Welding:
 

 
 

 
 

 
 

Net sales
$
61,286

 
$
70,039

 
(8,753
)
 
(12.5
%)
Inter-segment sales
4,449

 
4,384

 
65

 
1.5
%
Total Sales
$
65,735

 
$
74,423

 
(8,688
)
 
(11.7
%)
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
(640
)
 
$
2,293

 
(2,933
)
 
(127.9
%)
As a percent of total sales
(1.0
%)
 
3.1
%
 
 

 
(4.1
%)
 
 
 
 
 
 
 
 
South America Welding:
 

 
 

 
 

 
 

Net sales
$
43,993

 
$
36,374

 
7,619

 
20.9
%
Inter-segment sales
29

 
20

 
9

 
45.0
%
Total Sales
$
44,022

 
$
36,394

 
7,628

 
21.0
%
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
11,765

 
$
5,112

 
6,653

 
130.1
%
As a percent of total sales
26.7
 %
 
14.0
%
 
 

 
12.7
%
 
 
 
 
 
 
 
 
The Harris Products Group:
 

 
 

 
 

 
 

Net sales
$
72,471

 
$
82,115

 
(9,644
)
 
(11.7
%)
Inter-segment sales
2,118

 
2,224

 
(106
)
 
(4.8
%)
Total Sales
$
74,589

 
$
84,339

 
(9,750
)
 
(11.6
%)
 
 
 
 
 
 
 
 
EBIT, as adjusted
$
6,058

 
$
7,151

 
(1,093
)
 
(15.3
%)
As a percent of total sales
8.1
 %
 
8.5
%
 
 

 
(0.4
%)
EBIT, as adjusted as a percent of total sales decreased for the North America Welding segment in the three months ended March 31, 2014 as compared with the same period of the prior year primarily due to volume decreases of 5.6%. The decrease in the Europe Welding segment is primarily due to volume decreases of 5.0% and higher SG&A expenses.  The Asia Pacific Welding segment decrease is due to lower profitability in China due to weaker demand and higher SG&A expenses.  The South America Welding segment increase is a result of pricing increases as a result of the highly inflationary economy in Venezuela.  The Harris Products Group segment decrease is primarily a result of lower commodity prices leading to lower margins.

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Table of Contents

In the three months ended March 31, 2014, special items include net gains of $47 and $9 in the North America Welding and Asia Pacific Welding segments, respectively, and a net charge of $39 in the Europe Welding segment primarily related to employee severance and other costs associated with the consolidation of manufacturing operations.  The South America Welding segment special items represent a charge of $17,665, relating to a Venezuelan remeasurement loss.
In the three months ended March 31, 2013, special items include net charges of $860 and $197 in the North America Welding and Asia Pacific Welding segments, respectively, and a net gain of $6 in the Europe Welding segment primarily related to employee severance and other costs associated with the consolidation of manufacturing operations. The South America Welding segment special items represent charges of $9,660, relating to the devaluation of the Venezuelan currency.

Non-GAAP Financial Measures
The Company reviews Adjusted operating income, Adjusted net income and Adjusted diluted earnings per share, all non-GAAP financial measures, in assessing and evaluating the Company’s underlying operating performance.  These non-GAAP financial measures exclude the impact of special items on the Company’s reported financial results.  Non-GAAP financial measures should be read in conjunction with the generally accepted accounting principles in the United States ("GAAP") financial measures, as non-GAAP measures are a supplement to, and not a replacement for, GAAP financial measures.
The following table presents a reconciliation of Operating income as reported to Adjusted operating income:
 
 
Three Months Ended March 31,
 
 
2014
 
2013
Operating income as reported
 
$
80,438

 
$
88,630

Special items (pre-tax):