Document
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 June 30, 2016
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 June 30, 2016 was 67,264,898.

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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 OPERATIONS
(UNAUDITED)
(In thousands, except per share amounts)
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Net sales
$
592,418

 
$
664,740

 
$
1,143,140

 
$
1,322,640

Cost of goods sold
389,491

 
438,959

 
751,111

 
876,469

Gross profit
202,927

 
225,781

 
392,029

 
446,171

Selling, general & administrative expenses
120,497

 
127,755

 
234,307

 
257,646

Rationalization and asset impairment charges

 
1,239

 

 
1,239

Loss on deconsolidation of Venezuelan subsidiary
34,348

 

 
34,348

 

Operating income
48,082

 
96,787

 
123,374

 
187,286

 
 
 
 
 
 
 
 
Other income (expense):
 

 
 

 
 

 
 

Interest income
435

 
738

 
865

 
1,331

Equity earnings in affiliates
839

 
979

 
1,465

 
1,828

Other income
588

 
317

 
1,249

 
2,927

Interest expense
(4,186
)
 
(4,387
)
 
(8,013
)
 
(6,231
)
Total other income (expense)
(2,324
)
 
(2,353
)
 
(4,434
)
 
(145
)
Income before income taxes
45,758

 
94,434

 
118,940

 
187,141

Income taxes
14,449

 
23,558

 
34,007

 
47,947

Net income including non-controlling interests
31,309

 
70,876

 
84,933

 
139,194

Non-controlling interests in subsidiaries’ loss
(8
)
 
(22
)
 
(22
)
 
(58
)
Net income
$
31,317

 
$
70,898

 
$
84,955

 
$
139,252

 
 
 
 
 
 
 
 
Basic earnings per share
$
0.46

 
$
0.95

 
$
1.23

 
$
1.84

Diluted earnings per share
$
0.45

 
$
0.94

 
$
1.22

 
$
1.82

Cash dividends declared per share
$
0.32

 
$
0.29

 
$
0.64

 
$
0.58

 
See notes to these consolidated financial statements.

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LINCOLN ELECTRIC HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(UNAUDITED)
(In thousands)
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Net income including non-controlling interests
$
31,309

 
$
70,876

 
$
84,933

 
$
139,194

Other comprehensive income (loss), net of tax:
 
 
 

 
 

 
 

Unrealized gain (loss) on derivatives designated and qualifying as cash flow hedges, net of tax of $207 and $4 in the three and six months ended June 30, 2016; $160 and $218 in the three and six months ended June 30, 2015
(645
)
 
(579
)
 
191

 
521

Defined benefit pension plan activity, net of tax of $1,132 and $2,043 in the three and six months ended June 30, 2016; $1,975 and $4,370 in the three and six months ended June 30, 2015
2,617

 
3,571

 
4,235

 
7,109

Currency translation adjustment
(18,997
)
 
15,150

 
5,252

 
(41,402
)
Other comprehensive income (loss):
(17,025
)
 
18,142

 
9,678

 
(33,772
)
Comprehensive income
14,284

 
89,018

 
94,611

 
105,422

Comprehensive income (loss) attributable to non-controlling interests
(58
)
 
5

 
(57
)
 
(572
)
Comprehensive income attributable to shareholders
$
14,342

 
$
89,013

 
$
94,668

 
$
105,994

 
See notes to these consolidated financial statements.

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LINCOLN ELECTRIC HOLDINGS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
 
 
June 30, 2016
 
December 31, 2015
 
(UNAUDITED)
 
(NOTE 1)
ASSETS
 

 
 

Current Assets
 

 
 

Cash and cash equivalents
$
237,019

 
$
304,183

Accounts receivable (less allowance for doubtful accounts of $7,363 in 2016; $7,299 in 2015)
291,645

 
264,715

Inventories:
 

 
 

Raw materials
85,249

 
87,919

Work-in-process
45,770

 
39,555

Finished goods
161,568

 
148,456

Total inventory
292,587

 
275,930

Other current assets
100,367

 
91,167

Total Current Assets
921,618

 
935,995

 
 
 
 
Property, Plant and Equipment
 

 
 

Land
46,157

 
45,775

Buildings
340,763

 
362,325

Machinery and equipment
706,821

 
696,849

Property, plant and equipment
1,093,741

 
1,104,949

Less accumulated depreciation
709,874

 
693,626

Property, Plant and Equipment, Net
383,867

 
411,323

Goodwill
237,457

 
187,504

Non-current assets
294,459

 
249,349

TOTAL ASSETS
$
1,837,401

 
$
1,784,171

 
 
 
 
LIABILITIES AND EQUITY
 

 
 

Current Liabilities
 

 
 

Short-term debt
$
159,908

 
$
4,278

Trade accounts payable
173,037

 
152,620

Other current liabilities
226,845

 
213,224

Total Current Liabilities
559,790

 
370,122

 
 
 
 
Long-Term Liabilities
 

 
 

Long-term debt, less current portion
360,931

 
350,347

Other long-term liabilities
124,266

 
131,254

Total Long-Term Liabilities
485,197

 
481,601

 
 
 
 
Shareholders’ Equity
 

 
 

Common shares
9,858

 
9,858

Additional paid-in capital
283,166

 
272,908

Retained earnings
2,167,000

 
2,125,838

Accumulated other comprehensive loss
(286,554
)
 
(296,267
)
Treasury shares
(1,381,860
)
 
(1,180,750
)
Total Shareholders’ Equity
791,610

 
931,587

Non-controlling interests
804

 
861

Total Equity
792,414

 
932,448

 
 
 
 
TOTAL LIABILITIES AND EQUITY
$
1,837,401

 
$
1,784,171


See notes to these consolidated financial statements.

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LINCOLN ELECTRIC HOLDINGS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
 
Six Months Ended June 30,
 
2016
 
2015
CASH FLOWS FROM OPERATING ACTIVITIES
 

 
 

Net income
$
84,955

 
$
139,252

Non-controlling interests in subsidiaries’ loss
(22
)
 
(58
)
Net income including non-controlling interests
84,933

 
139,194

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

 
 

Rationalization and asset impairment charges

 
30

Loss on deconsolidation of Venezuelan subsidiary
34,348

 

Depreciation and amortization
32,232

 
31,718

Equity earnings in affiliates, net
(58
)
 
(488
)
Deferred income taxes
(8,163
)
 
(6,337
)
Stock-based compensation
4,843

 
3,889

Pension expense
9,256

 
10,604

Pension contributions and payments
(21,577
)
 
(47,705
)
Other, net
(2,075
)
 
(3,342
)
Changes in operating assets and liabilities, net of effects from acquisitions:
 

 
 

Increase in accounts receivable
(22,393
)
 
(13,682
)
(Increase) decrease in inventories
(15,492
)
 
1,540

(Increase) decrease in other current assets
(1,609
)
 
30,632

Increase (decrease) in trade accounts payable
22,228

 
(31,217
)
Increase in other current liabilities
9,616

 
13,203

Net change in other long-term assets and liabilities
(732
)
 
2,031

NET CASH PROVIDED BY OPERATING ACTIVITIES
125,357

 
130,070

 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
 

 
 

Capital expenditures
(24,779
)
 
(29,217
)
Acquisition of businesses, net of cash acquired
(71,567
)
 

Proceeds from sale of property, plant and equipment
679

 
1,421

Other investing activities
(283
)
 
2,024

NET CASH USED BY INVESTING ACTIVITIES
(95,950
)
 
(25,772
)
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
 

 
 

Proceeds from short-term borrowings
1,892

 
1,729

Payments on short-term borrowings
(1,522
)
 
(6,968
)
Amounts due banks, net
159,090

 
2,451

Proceeds from long-term borrowings
261

 
152,500

Payments on long-term borrowings
(451
)
 
(5,662
)
Proceeds from exercise of stock options
5,715

 
4,036

Excess tax benefits from stock-based compensation
1,522

 
1,293

Purchase of shares for treasury
(202,933
)
 
(158,468
)
Cash dividends paid to shareholders
(44,647
)
 
(44,248
)
Other financing activities
(18,244
)
 
(7,996
)
NET CASH USED BY FINANCING ACTIVITIES
(99,317
)
 
(61,333
)
 
 
 
 
Effect of exchange rate changes on Cash and cash equivalents
2,746

 
(8,607
)
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS
(67,164
)
 
34,358

 
 
 
 
Cash and cash equivalents at beginning of period
304,183

 
278,379

CASH AND CASH EQUIVALENTS AT END OF PERIOD
$
237,019

 
$
312,737

See notes to these consolidated financial statements.


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


NOTE 1 — SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
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 consolidated financial statements include the accounts of all legal entities in which the Company holds a controlling financial interest. The Company is also considered to have a controlling financial interest in a variable interest entity (“VIE”) if the Company determines it is the primary beneficiary of the VIE. Investments in legal entities in which the Company does not own a majority interest but has the ability to exercise significant influence over operating and financial policies are accounted for using the equity method.
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 six months ended June 30, 2016 are not necessarily indicative of the results to be expected for the year ending December 31, 2016.
The accompanying Consolidated Balance Sheet at December 31, 2015 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, 2015.
Certain reclassifications have been made to the prior year financial statements to conform to current year classifications.
Venezuela — Deconsolidation
Effective June 30, 2016, the Company determined that deteriorating conditions in Venezuela have led the Company to no longer meet the accounting criteria for control over its Venezuelan subsidiary. Therefore, as of June 30, 2016, the Company deconsolidated the financial statements of its subsidiary in Venezuela and began reporting the results under the cost method of accounting. As a result of the deconsolidation, the Company recorded a pretax charge of $34,348 ($33,251 after-tax) in the second quarter of 2016. The pretax charge includes the write-off of the Company’s investment in Venezuela, including all inter-company balances and $283 of Cash and cash equivalents. Additionally, the charge includes foreign currency translation losses and pension losses previously included in Accumulated other comprehensive loss.
The restrictive exchange controls in Venezuela and the lack of access to U.S. dollars through official currency exchange mechanisms have resulted in an other-than-temporary lack of exchangeability between the Venezuela bolivar and the U.S. dollar, and have restricted the Venezuela operations ability to pay dividends and satisfy other obligations denominated in U.S. dollars. Additionally, other operating restrictions including government controls on pricing, profits, imports and restrictive labor laws have significantly impacted the Company’s ability to make key operational decisions, including the ability to manage its capital structure, purchasing, product pricing and labor relations. The Company expects these conditions will continue for the foreseeable future.
Subsequent to the deconsolidation under the voting interest consolidation model, the Company determined that the Venezuelan subsidiary is considered to be a VIE. As the Company does not have the power to direct the activities that most significantly affect the Venezuela subsidiary's economic performance, the Company is not the primary beneficiary of the VIE and therefore would not consolidate the entity under the VIE consolidation model. Due to the lack of ability to settle U.S. dollar obligations, the Company does not intend to sell into nor purchase inventory from the Venezuela entity at this time. Additionally, the Company has no remaining financial commitments to the Venezuelan subsidiary and therefore believes the exposure to future losses are not material.
Although the Venezuela operations will continue to operate in future periods under the cost method of accounting, the Company will no longer include the results of the Venezuelan subsidiary in its Consolidated Financial Statements. Under the cost method of accounting, if cash were to be received from the Venezuela entity in future periods from the sale of inventory, dividends or royalties, income would be recognized. The Company does not anticipate dividend or royalty payments being made in the foreseeable future.

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

Prior to deconsolidation, the financial statements of the Company’s Venezuelan operation had been reported under highly inflationary accounting rules since January 1, 2010.  Under highly inflationary accounting, the financial statements of the Company’s Venezuelan operation had been remeasured into the Company’s reporting currency and exchange gains and losses from the remeasurement of monetary assets and liabilities were reflected in current earnings. 
In February 2015, the Venezuelan government announced a new exchange market called the Marginal Currency System ("SIMADI"), which allows for trading based on supply and demand. At September 30, 2015, the Company determined that the rate used in remeasuring the Venezuelan operation's financial statements into U.S. dollars would change to the SIMADI rate, as the SIMADI rate most appropriately approximates the rates used to transact business in its Venezuelan operations. At September 30, 2015, the SIMADI rate was 199.4 bolivars to the U.S. dollar, resulting in a remeasurement charge on the bolivar-denominated monetary net asset position of $4,334. This foreign exchange loss was recorded in Selling, general & administrative expenses during the three months ended September 30, 2015. Additionally, the Company recorded lower of cost or net realizable value inventory adjustments of $22,880 within Cost of goods sold, related to the adoption of the SIMADI rate.
In the first quarter of 2016, the Venezuelan government reduced its three-tier system of exchange rates to two tiers and stated that the SIMADI rate, which was renamed DICOM, would be free floating. As of June 30, 2016, the DICOM rate was 628.3 bolivars to the U.S. dollar.
New Accounting Pronouncements Adopted:
In February 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") No. 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis." ASU 2015-02 modifies the evaluation of whether limited partnership and similar legal entities are VIEs or voting interest entities; affects the consolidation analysis of reporting entities that are involved with VIEs; and provides scope exceptions. The amendment may be applied using a modified-retrospective approach, through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective or retrospectively. ASU 2015-02 was adopted by the Company effective January 1, 2016 and did not have an impact on the Company's financial statements.
New Accounting Pronouncements Yet to be Adopted:
In June 2016, the FASB issued ASU No. 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments." ASU 2016-13 requires financial assets measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset to present the net carrying value at the amount expected to be collected on the financial asset. The income statement reflects the measurement of credit losses for newly recognized financial assets, as well as the expected increases or decrease of expected credit losses that have taken place during the period. The amendment should be applied using a modified-retrospective approach, through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. ASU 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating the impact of the adoption of ASU 2016-13 on the Company's financial statements.
In March 2016, the FASB issued ASU No. 2016-09, "Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting." ASU 2016-09 amends several aspects of the accounting for share-based payment transactions including the income tax consequences, classification of awards as either equity or liabilities and classification on the statement of cash flows. ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. If early adopted, an entity must adopt all of the amendments in the same period. The Company is currently evaluating the impact of the adoption of ASU 2016-09 on the Company's financial statements.
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)." ASU 2016-02 aims to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and requiring disclosure of key information about leasing agreements. Entities are required to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted. The Company is currently evaluating the impact of the adoption of ASU 2016-02 on the Company's financial statements.

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

In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers (Topic 606)." ASU 2014-09 requires an entity to recognize revenue in a manner that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve that core principle, the amendment provides five steps that an entity should apply when recognizing revenue. The amendment also specifies the accounting of some costs to obtain or fulfill a contract with a customer and expands the disclosure requirements around contracts with customers. An entity can either adopt this amendment retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying the update recognized at the date of initial application. In August 2015, the FASB issued ASU 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date," which deferred the effective date of ASU 2014-09 to annual reporting periods beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted as of annual reporting periods beginning after December 15, 2016. The Company is currently evaluating the impact of the adoption of ASU 2014-09 on the Company's financial statements.

NOTE 2 — EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per share:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Numerator:
 

 
 

 
 

 
 

Net income
$
31,317

 
$
70,898

 
$
84,955

 
$
139,252

Denominator (shares in 000's):
 

 
 

 
 

 
 

Basic weighted average shares outstanding
68,181

 
75,000

 
68,883

 
75,621

Effect of dilutive securities - Stock options and awards
709

 
773

 
686

 
795

Diluted weighted average shares outstanding
68,890

 
75,773

 
69,569

 
76,416

Basic earnings per share
$
0.46

 
$
0.95

 
$
1.23

 
$
1.84

Diluted earnings per share
$
0.45

 
$
0.94

 
$
1.22

 
$
1.82

For the three months ended June 30, 2016 and 2015, common shares subject to equity-based awards of 810,200 and 556,371, respectively, were excluded from the computation of diluted earnings per share because the effect of their exercise would be anti-dilutive. For the six months ended June 30, 2016 and 2015, common shares subject to equity-based awards of 750,209 and 481,831, respectively, were excluded from the computation of diluted earnings per share because the effect of their exercise would be anti-dilutive.

NOTE 3 — ACQUISITIONS
During May 2016, the Company acquired Vizient Manufacturing Solutions ("Vizient"). Vizient, based in Bettendorf, Iowa, is a robotic integrator specializing in custom engineered tooling and automated arc welding systems for general and heavy fabrication applications. The acquisition will assist in diversifying end-market exposure and broadening global growth opportunities.
During August 2015, the Company acquired Specialised Welding Products ("SWP"). SWP, based in Melbourne, Australia, is a provider of specialty welding consumables and fabrication, maintenance and repair services for alloy and wear resistant products commonly used in mining and energy sector applications. The acquisition broadens the Company's presence and specialty alloy offering in Australia and New Zealand.
During August 2015, the Company acquired Rimrock Holdings Corporation ("Rimrock"). Rimrock is a manufacturer of industrial automation products and robotic systems with two divisions, Wolf Robotics LLC, based in Fort Collins, Colorado, and Rimrock Corporation, based in Columbus, Ohio. Wolf Robotics integrates robotic welding and cutting systems predominantly for heavy fabrication and transportation OEMs and suppliers. The acquisition advances the Company's leadership position in automated welding and cutting solutions. Rimrock Corporation designs and manufactures automated spray systems and turnkey robotic systems for the die casting, foundry and forging markets.

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

Pro forma information related to these acquisitions have not been presented because the impact on the Company’s Consolidated Statements of Operations is not material.  Acquired companies are included in the Company’s consolidated financial statements as of the date of acquisition.

NOTE 4 — 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.  Welding products include arc welding power sources, CNC and plasma cutters, wire feeding systems, robotic welding packages, integrated automation systems, fume extraction equipment, consumable electrodes, fluxes and welding accessories. The Company's product offering also includes 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.
During the first quarter of 2016, the Company realigned its organizational and leadership structure into three operating segments to support growth strategies and enhance the utilization of the Company’s worldwide resources and global sourcing initiatives. The operating segments consist of Americas Welding, International Welding and The Harris Products Group.  The Americas Welding segment includes welding operations in North and South America. The International Welding segment primarily includes welding operations in Europe, Africa, Asia and Australia. The Harris Products Group includes the Company’s global cutting, soldering and brazing businesses as well as its retail business in the United States. All prior period results have been revised to reflect the realigned segment structure.
Segment performance is measured and resources are allocated based on a number of factors, the primary profit measure being adjusted earnings before interest and income taxes (“Adjusted EBIT”).  EBIT is defined as Operating income plus Equity earnings in affiliates and Other income. 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:
 
Americas Welding
 
International Welding
 
The Harris
Products
Group
 
Corporate /
Eliminations
 
Consolidated
Three Months Ended June 30, 2016
 

 
 

 
 

 
 

 
 

Net sales
$
388,372

 
$
132,815

 
$
71,231

 
$

 
$
592,418

Inter-segment sales
23,456

 
3,841

 
2,824

 
(30,121
)
 

Total
$
411,828

 
$
136,656

 
$
74,055

 
$
(30,121
)
 
$
592,418

 
 
 
 
 
 
 
 
 
 
Adjusted EBIT
$
65,201

 
$
9,670

 
$
9,284

 
$
(298
)
 
$
83,857

Special items charge

 

 

 
34,348

 
34,348

EBIT
$
65,201

 
$
9,670

 
$
9,284

 
$
(34,646
)
 
$
49,509

Interest income
 

 
 

 
 

 
 

 
435

Interest expense
 

 
 

 
 

 
 

 
(4,186
)
Income before income taxes
 

 
 

 
 

 
 

 
$
45,758

 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2015
 

 
 

 
 

 
 

 
 

Net sales
$
451,001

 
$
141,927

 
$
71,812

 
$

 
$
664,740

Inter-segment sales
23,902

 
5,311

 
2,716

 
(31,929
)
 

Total
$
474,903

 
$
147,238

 
$
74,528

 
$
(31,929
)
 
$
664,740

 
 
 
 
 
 
 
 
 
 
Adjusted EBIT
$
79,421

 
$
11,017

 
$
8,250

 
$
634

 
$
99,322

Special items charge

 
1,239

 

 

 
1,239

EBIT
$
79,421

 
$
9,778

 
$
8,250

 
$
634

 
$
98,083

Interest income
 

 
 

 
 

 
 

 
738

Interest expense
 

 
 

 
 

 
 

 
(4,387
)
Income before income taxes
 

 
 

 
 

 
 

 
$
94,434

 
 
 
 
 
 
 
 
 
 
Six Months Ended June 30, 2016
 

 
 

 
 

 
 

 
 

Net sales
$
747,380

 
$
257,120

 
$
138,640

 
$

 
$
1,143,140

Inter-segment sales
47,287

 
8,267

 
5,127

 
(60,681
)
 

Total
$
794,667

 
$
265,387

 
$
143,767

 
$
(60,681
)
 
$
1,143,140

 
 
 
 
 
 
 
 
 
 
Adjusted EBIT
$
126,639

 
$
15,903

 
$
16,995

 
$
899

 
$
160,436

Special items charge

 

 

 
34,348

 
34,348

EBIT
$
126,639

 
$
15,903

 
$
16,995

 
$
(33,449
)
 
$
126,088

Interest income
 

 
 

 
 

 
 

 
865

Interest expense
 

 
 

 
 

 
 
 
(8,013
)
Income before income taxes
 

 
 

 
 

 
 

 
$
118,940

 
 
 
 
 
 
 
 
 
 
Six months ended June 30, 2015
 

 
 

 
 

 
 

 
 

Net sales
$
899,838

 
$
281,174

 
$
141,628

 
$

 
$
1,322,640

Inter-segment sales
46,925

 
10,338

 
4,727

 
(61,990
)
 

Total
$
946,763

 
$
291,512

 
$
146,355

 
$
(61,990
)
 
$
1,322,640

 
 
 
 
 
 
 
 
 
 
Adjusted EBIT
$
154,836

 
$
21,951

 
$
15,799

 
$
694

 
$
193,280

Special items charge

 
1,239

 

 

 
1,239

EBIT
$
154,836

 
$
20,712

 
$
15,799

 
$
694

 
$
192,041

Interest income
 

 
 

 
 

 
 

 
1,331

Interest expense
 

 
 

 
 

 
 

 
(6,231
)
Income before income taxes
 

 
 

 
 

 
 

 
$
187,141

 
 
 
 
 
 
 
 
 
 

11

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

In the three and six months ended June 30, 2016, special items within Corporate/Eliminations reflect a loss on the deconsolidation of the Venezuelan subsidiary.
In the three and six months ended June 30, 2015, special items in International Welding reflect rationalization activity charges.

NOTE 5 — RATIONALIZATION AND ASSET IMPAIRMENTS
In prior periods, the Company initiated various rationalization plans whose costs were substantially recognized in the prior year. As such, no charges were recorded in the six months ended June 30, 2016. A description of each restructuring plan and the related costs follows:
Americas Welding Plans:
During 2015, the Company initiated a rationalization plan within Americas Welding that included a voluntary separation incentive program covering certain U.S.-based employees. The plan was completed during 2016.
International Welding Plans:
During 2015, the Company initiated rationalization plans within International Welding. The plans include headcount restructuring to better align cost structures with economic conditions and operating needs. The Company does not anticipate any additional charges related to the completion of these plans. At June 30, 2016, liabilities relating to the International Welding plans of $6,411 were recognized in Other current liabilities.
The Company believes the rationalization actions will positively impact future results of operations and will not have a material effect on liquidity and sources and uses of capital. The Company continues to evaluate 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 six months ended June 30, 2016:
 
Americas Welding
 
International Welding
 
Consolidated
Balance, December 31, 2015
$
67

 
$
7,598

 
$
7,665

Payments and other adjustments
(67
)
 
(1,187
)
 
(1,254
)
Charged to expense

 

 

Balance, June 30, 2016
$

 
$
6,411

 
$
6,411


NOTE 6 — EQUITY
Changes in equity for the six months ended June 30, 2016 are as follows:
 
Shareholders’
Equity
 
Non-controlling
Interests
 
Total Equity
Balance at December 31, 2015
$
931,587

 
$
861

 
$
932,448

Comprehensive income (loss):
 

 
 

 
 

Net income (loss)
84,955

 
(22
)
 
84,933

Other comprehensive income (loss)
9,713

 
(35
)
 
9,678

Total comprehensive income (loss)
94,668

 
(57
)
 
94,611

 
 
 
 
 
 
Cash dividends declared - $0.64 per share
(43,792
)
 

 
(43,792
)
Issuance of shares under benefit plans
12,080

 

 
12,080

Purchase of shares for treasury
(202,933
)
 

 
(202,933
)
Balance at June 30, 2016
$
791,610

 
$
804

 
$
792,414



12

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

In April 2016, the Company's Board of Directors authorized a new share repurchase program, which increased the total number of the Company's common shares authorized to be repurchased to 55 million 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 and six month period ended June 30, 2016, the Company purchased a total of 1.7 million and 3.6 million shares, respectively.  As of June 30, 2016, there remained 11.1 million common shares available for repurchase under this program.  The repurchased common shares remain in treasury and have not been retired. 

The following tables set forth the total changes in accumulated other comprehensive income (loss) ("AOCI") by component, net of taxes for the three months ended June 30, 2016 and 2015:
 
 
Three Months Ended June 30, 2016
 
 
Unrealized gain (loss) on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at March 31, 2016
 
$
1,384

 
$
(98,158
)
 
$
(172,805
)
 
$
(269,579
)
Other comprehensive income (loss)
before reclassification
 
(339
)
 
5

 
(21,790
)
3 

(22,124
)
Amounts reclassified from AOCI
 
(306
)
1 

2,612

2 

2,843

4 

5,149

Net current-period other
comprehensive income (loss)
 
(645
)
 
2,617

 
(18,947
)
 
(16,975
)
Balance at June 30, 2016
 
$
739

 
$
(95,541
)
 
$
(191,752
)
 
$
(286,554
)
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended June 30, 2015
 
 
Unrealized gain (loss) on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at March 31, 2015
 
$
1,091

 
$
(194,355
)
 
$
(146,731
)
 
$
(339,995
)
Other comprehensive income (loss)
before reclassification
 
(893
)
 

 
15,123

3 

14,230

Amounts reclassified from AOCI
 
314

1 

3,571

2 


 
3,885

Net current-period other
comprehensive income (loss)
 
(579
)
 
3,571

 
15,123

 
18,115

Balance at June 30, 2015
 
$
512

 
$
(190,784
)
 
$
(131,608
)
 
$
(321,880
)
 
 
 
 
 
 
 
 
 
1
During the 2016 period, this AOCI reclassification is a component of Net sales of $(152) (net of tax of $(69)) and Cost of goods sold of $(154) (net of tax of $(16)); during the 2015 period, the reclassification is a component of Net sales of $8 (net of tax of $(75)) and Cost of goods sold of $306 (net of tax of $205). (See Note 14 - Derivatives for additional details.)
2
This AOCI component is included in the computation of net periodic pension costs (net of tax of $1,132 and $1,975 during the three months ended June 30, 2016 and 2015, respectively). (See Note 12 - Retirement and Postretirement Benefit Plans for additional details.)
3
The Other comprehensive income (loss) before reclassifications excludes $(51) and $27 attributable to Non-controlling interests in the three months ended June 30, 2016 and 2015, respectively.
4
The reclassification from AOCI reflects foreign currency translation losses recognized due to the Company's deconsolidation of its Venezuelan subsidiary. (See Note 1 - Significant Accounting Policies for additional details.)


13

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

The following tables set forth the total changes in AOCI by component, net of taxes for the six months ended June 30, 2016 and 2015:
 
 
Six Months Ended June 30, 2016
 
 
Unrealized gain (loss) on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at December 31, 2015
 
$
548

 
$
(99,776
)
 
$
(197,039
)
 
$
(296,267
)
Other comprehensive income (loss)
before reclassification
 
1,360

 
(15
)
 
2,444

3 

3,789

Amounts reclassified from AOCI
 
(1,169
)
1 

4,250

2 

2,843

4 

5,924

Net current-period other
comprehensive income (loss)
 
191

 
4,235

 
5,287

 
9,713

Balance at June 30, 2016
 
$
739

 
$
(95,541
)
 
$
(191,752
)
 
$
(286,554
)
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended June 30, 2015
 
 
Unrealized gain (loss) on derivatives designated and qualifying as cash flow hedges
 
Defined benefit pension plan activity
 
Currency translation adjustment
 
Total
Balance at December 31, 2014
 
$
(9
)
 
$
(197,893
)
 
$
(90,720
)
 
$
(288,622
)
Other comprehensive income (loss)
before reclassification
 
429

 

 
(40,888
)
3 

(40,459
)
Amounts reclassified from AOCI
 
92

1 

7,109

2 


 
7,201

Net current-period other
comprehensive income (loss)
 
521

 
7,109

 
(40,888
)
 
(33,258
)
Balance at June 30, 2015
 
$
512

 
$
(190,784
)
 
$
(131,608
)
 
$
(321,880
)
 
 
 
 
 
 
 
 
 
1
During the 2016 period, this AOCI reclassification is a component of Net sales of $(939) (net of tax of $(347)) and Cost of goods sold of $(230) (net of tax of $6); during the 2015 period, the reclassification is a component of Net sales of $(521) (net of tax of $(324)) and Cost of goods sold of $613 (net of tax of $407). (See Note 14 - Derivatives for additional details.)
2
This AOCI component is included in the computation of net periodic pension costs (net of tax of $2,043 and $4,370 during the six months ended June 30, 2016 and 2015, respectively). (See Note 12 - Retirement and Postretirement Benefit Plans for additional details.)
3
The Other comprehensive income (loss) before reclassifications excludes $(36) and $(514) attributable to Non-controlling interests in the six months ended June 30, 2016 and 2015, respectively.
4
The reclassification from AOCI reflects foreign currency translation losses recognized due to the Company's deconsolidation of its Venezuelan subsidiary. (See Note 1 - Significant Accounting Policies for additional details.)

NOTE 7 — INVENTORY VALUATION
The valuation of last-in, first-out ("LIFO") method 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 $61,787 at June 30, 2016 and $59,765 at December 31, 2015.
 

14

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

NOTE 8 — ACCRUED EMPLOYEE BONUS
Other current liabilities at June 30, 2016 and 2015 include accruals for year-end bonuses and related payroll taxes of $48,506 and $59,402, 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 9 — 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, regulatory 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 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 10 — PRODUCT WARRANTY COSTS
The changes in the carrying amount of product warranty accruals for the six months ended June 30, 2016 and 2015 are as follows:
 
Six Months Ended June 30,
 
2016
 
2015
Balance at December 31
$
19,469

 
$
15,579

Accruals for warranties
6,444

 
7,327

Settlements
(6,178
)
 
(6,796
)
Foreign currency translation
107

 
(229
)
Balance at June 30
$
19,842

 
$
15,881

 
NOTE 11 DEBT
Revolving Credit Agreement
The Company has a line of credit totaling $400,000 through the Amended and Restated Credit Agreement (the “Credit Agreement”), which was entered into on September 12, 2014.  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 June 30, 2016, the Company was in compliance with all of its covenants and had $135,000 in outstanding borrowings under the Credit Agreement which was recorded in Short-term debt.  The Credit Agreement has a five-year term and may be increased, subject to certain conditions, by an additional amount up to $100,000.

15

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

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.
Senior Unsecured Notes
On April 1, 2015, the Company entered into a Note Purchase Agreement pursuant to which it agreed to issue Senior Unsecured Notes (the "Notes") in the aggregate principal amount of $350,000 through a private placement. At June 30, 2016, $349,175, net of debt issuance costs of $825 and excluding accretion of original issuance costs, was outstanding and recorded in Long-term debt, less current portion. The proceeds are being used for general corporate purposes. The Notes, as shown in the table below, have maturities ranging from 10 to 30 years with a weighted average effective interest rate of 3.5%, excluding accretion of original issuance costs, and an average tenure of 19 years. Interest is payable semi-annually. The Notes contain certain affirmative and negative covenants. As of June 30, 2016, the Company was in compliance with all of its debt covenants.
The maturity and interest rates of the Notes are as follows:
 
Amount
 
Maturity Date
 
Interest Rate
Series A
$
100,000

 
August 20, 2025
 
3.15
%
Series B
100,000

 
August 20, 2030
 
3.35
%
Series C
50,000

 
April 1, 2035
 
3.61
%
Series D
100,000

 
April 1, 2045
 
4.02
%
 
NOTE 12 RETIREMENT AND POSTRETIREMENT BENEFIT PLANS
The components of total pension cost were as follows:
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2016
 
2015
 
2016
 
2015
Service cost
$
4,439

 
$
5,038

 
$
8,869

 
$
10,460

Interest cost
6,018

 
10,413

 
12,029

 
20,744

Expected return on plan assets
(8,894
)
 
(16,242
)
 
(17,758
)
 
(31,980
)
Amortization of prior service cost
(99
)
 
(156
)
 
(198
)
 
(312
)
Amortization of net loss
3,648

1 
5,872

 
6,314

1 
11,692

Defined benefit plans
5,112

 
4,925

 
9,256

 
10,604

Multi-employer plans
193

 
211

 
395

 
428

Defined contribution plans
2,192

 
2,945

 
4,161

 
5,961

Total pension cost
$
7,497

 
$
8,081

 
$
13,812

 
$
16,993


1
The amortization of net loss includes a $959 charge resulting from the deconsolidation of the Venezuelan subsidiary during the three and six months ended June 30, 2016.
The Company voluntarily contributed $20,000 to its defined benefit plans in the United States during the six months ended June 30, 2016. The decrease in the components of total pension cost for the defined benefit plans in 2016 was primarily due to the purchase of a group annuity contract in August 2015.

NOTE 13 — INCOME TAXES
The Company recognized $34,007 of tax expense on pretax income of $118,940, resulting in an effective income tax rate of 28.6% for the six months ended June 30, 2016.  The effective income tax rate was 25.6% for the six months ended June 30, 2015. The 2016 and 2015 effective income tax rates were lower than the Company’s statutory rate primarily due to the utilization of U.S. tax credits, income earned in lower tax rate jurisdictions and the reversal of an income tax valuation allowance as a result of a legal entity change to realign the Company’s tax structure. The 2015 effective income tax rate was also lower due to refund interest recognized as a reduction to tax expense.
As of June 30, 2016, the Company had $14,496 of unrecognized tax benefits.  If recognized, approximately $8,880 would be reflected as a component of income tax expense.

16

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

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 2011.  The Company is currently subject to various U.S. state and non-U.S. income tax audits. 
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 $2,384 in previously unrecognized tax benefits by the end of the second quarter 2017.

NOTE 14 — DERIVATIVES
The Company uses derivatives to manage exposures to currency exchange rates, interest rates and commodity prices arising in the normal course of business.  Both at inception and on an ongoing basis, the derivative instruments that qualify for hedge accounting are assessed as to their effectiveness, when applicable. Hedge ineffectiveness was immaterial in the six months ended June 30, 2016 and 2015.
The Company is subject to the credit risk of the counterparties to derivative instruments.  Counterparties include a number of major banks and financial institutions.  None of the concentrations of risk with any individual counterparty was considered significant at June 30, 2016.  The Company does not expect any counterparties to fail to meet their obligations.
Cash Flow Hedges
Certain foreign currency forward contracts and interest rate swap agreements were qualified and designated as cash flow hedges. The dollar equivalent gross notional amount of these short-term contracts was $121,144 at June 30, 2016 and $30,388 at December 31, 2015.
Net Investment Hedges
The Company has foreign currency forward contracts that were qualified and designated as net investment hedges. No such contracts were outstanding at June 30, 2016 and December 31, 2015.
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 $296,373 at June 30, 2016 and $267,626 at December 31, 2015
The Company had short-term silver forward contracts with notional amounts of $2,804 at December 31, 2015.
Fair values of derivative instruments in the Company’s Consolidated Balance Sheets follow:
 
 
June 30, 2016
 
December 31, 2015
Derivatives by hedge designation 
 
Other Current Assets
 
Other Current Liabilities
 
Other Current Assets
 
Other Current Liabilities
Designated as hedging instruments:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
499

 
$
568

 
$
178

 
$
731

Interest rate swap agreements
 

 
162

 

 

Not designated as hedging instruments:
 
 
 
 
 
 
 
 
Foreign exchange contracts
 
3,982

 
3,732

 
625

 
2,303

Commodity contracts
 

 

 
40

 
8

Total derivatives
 
$
4,481

 
$
4,462

 
$
843

 
$
3,042


17

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

The effects of undesignated derivative instruments on the Company’s Consolidated Statements of Operations for the three and six months ended June 30, 2016 and 2015 consisted of the following:
 
 
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
Derivatives by hedge designation
 
Classification of gain (loss)
 
2016
 
2015
 
2016
 
2015
Not designated as hedges:
 
 
 
 

 
 

 
 
 
 
Foreign exchange contracts
 
Selling, general & administrative expenses
 
$
(10,507
)
 
$
2,512

 
$
(6,910
)
 
$
(7,092
)
Commodity contracts
 
Cost of goods sold
 
(373
)
 
194

 
(742
)
 
50

The effects of designated hedges on AOCI and the Company’s Consolidated Statements of Operations consisted of the following:
Total gain (loss) recognized in AOCI, net of tax
 
June 30, 2016
 
December 31, 2015
Foreign exchange contracts
 
$
(260
)
 
$
(551
)
Net investment contracts
 
1,099

 
1,099

Interest rate swap agreements
 
(100
)
 

The Company expects a loss of $260 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. 
 
 
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
Derivative type
 
Gain (loss) reclassified from AOCI to:
 
2016
 
2015
 
2016
 
2015
Foreign exchange contracts
 
Sales
 
$
(152
)
 
$
8

 
$
(939
)
 
$
(521
)
 
 
Cost of goods sold
 
(154
)
 
306

 
(230
)
 
613


NOTE 15 - FAIR VALUE
The following table provides a summary of assets and liabilities as of June 30, 2016, measured at fair value on a recurring basis:
Description
 
Balance as of
June 30, 2016
 
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
 
$
4,481

 
$

 
$
4,481

 
$

Total assets
 
$
4,481

 
$

 
$
4,481

 
$

 
 
 
 
 
 
 
 
 
Liabilities:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
4,300

 
$

 
$
4,300

 
$

Interest rate swap agreements
 
162

 

 
162

 

Contingent considerations
 
9,251

 

 

 
9,251

Forward contract
 
14,936

 

 

 
14,936

Deferred compensation
 
24,266

 

 
24,266

 

Total liabilities
 
$
52,915

 
$

 
$
28,728

 
$
24,187


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, 2015, measured at fair value on a recurring basis:
Description
 
Balance as of December 31, 2015
 
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
 
$
803

 
$

 
$
803

 
$

Commodity contracts
 
40

 

 
40

 

Total assets
 
$
843

 
$

 
$
843

 
$

 
 
 
 
 
 
 
 
 
Liabilities:
 
 

 
 

 
 

 
 

Foreign exchange contracts
 
$
3,034

 
$

 
$
3,034

 
$

Commodity contracts
 
8

 

 
8

 

Contingent considerations
 
9,184

 

 

 
9,184

Forward contract
 
26,484

 

 

 
26,484

Deferred compensation
 
23,201

 

 
23,201

 

Total liabilities
 
$
61,911

 
$

 
$
26,243

 
$
35,668

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 interest rate swap agreements 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 six months ended June 30, 2016, there were no transfers between Levels 1, 2 or 3.
In connection with acquisitions, the Company recorded contingent considerations fair valued at $9,251 as of June 30, 2016. Under the contingent consideration agreements, the amounts to be paid are based upon actual financial results of the acquired entities for specified future periods.  The fair value of the contingent considerations are a Level 3 valuation and fair valued using probability weighted discounted cash flow analyses.
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 through 2016. A liability was recorded for the Canadian dollar denominated forward contract at a fair value of $14,936 as of June 30, 2016. The change in liability from December 31, 2015 was primarily the result of a $14,438 payment to acquire an additional financial interest in the entity offset by foreign exchange translation and additional accruals of $531 for the six months ended June 30, 2016. 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 forecasted earnings and cash flows over the three-year period ending December 31, 2016, present valued utilizing a risk based discount rate of 3.5% reflective of the Company's cost of debt and 13.7% as a risk adjusted cost of capital.
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, Short-term debt excluding the current portion of long-term debt and Trade accounts payable approximated book value due to the short-term nature of these instruments at both June 30, 2016 and December 31, 2015.  The fair value of long-term debt at June 30, 2016 and December 31, 2015, including the current portion, was approximately $381,128 and $342,602, respectively, which was determined using available market information and methodologies requiring judgment.  The carrying value of this debt at such dates was $361,089 and $351,803, 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, CNC and plasma cutters, wire feeding systems, robotic welding packages, integrated automation systems, fume extraction equipment, consumable electrodes, fluxes and welding accessories. The Company's product offering also includes 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 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. 
During the first quarter of 2016, the Company realigned its organizational and leadership structure into three operating segments to support growth strategies and enhance the utilization of the Company’s worldwide resources and global sourcing initiatives. The operating segments consist of Americas Welding, International Welding and The Harris Products Group.  The Americas Welding segment includes welding operations in North and South America. The International Welding segment primarily includes welding operations in Europe, Africa, Asia and Australia. The Harris Products Group includes the Company’s global cutting, soldering and brazing businesses as well as its retail business in the United States. All prior period results have been revised to reflect the realigned segment structure.
As further described in Note 1 to the consolidated financial statements, effective June 30, 2016, the Company determined that it no longer had control of its subsidiary in Venezuela as a result of restrictive exchange controls and Venezuelan operating restrictions that have significantly impacted the ability to make key operational decisions.  As a result, the Company has deconsolidated its subsidiary in Venezuela. Operating results through June 30, 2016 include the results of the Venezuelan subsidiary.


20

Table of Contents

Results of Operations
Three Months Ended June 30, 2016 Compared with Three Months Ended June 30, 2015
 
Three Months Ended June 30,
 
2016
 
2015
 
Change
 
Amount
 
% of Sales
 
Amount
 
% of Sales
 
Amount
 
%
Net sales
$
592,418

 
100.0
%
 
$
664,740

 
100.0
%
 
$
(72,322
)
 
(10.9
%)
Cost of goods sold
389,491

 
65.7
%
 
438,959

 
66.0
%
 
(49,468
)
 
(11.3
%)
Gross profit
202,927

 
34.3
%
 
225,781

 
34.0
%
 
(22,854
)
 
(10.1
%)
Selling, general & administrative expenses
120,497

 
20.3
%
 
127,755

 
19.2
%
 
(7,258
)
 
(5.7
%)
Rationalization and asset impairment charges

 

 
1,239

 
0.2
%
 
(1,239
)
 
(100.0
%)
Loss on deconsolidation of Venezuelan subsidiary
34,348

 
5.8
 %
 

 

 
34,348

 
100.0
 %
Operating income
48,082

 
8.1
%
 
96,787

 
14.6
%
 
(48,705
)
 
(50.3
%)
Interest income
435

 
0.1
%
 
738

 
0.1
%
 
(303
)
 
(41.1
%)
Equity earnings in affiliates
839

 
0.1
%
 
979

 
0.1
%
 
(140
)
 
(14.3
%)
Other income
588

 
0.1
%
 
317

 

 
271

 
85.5
%
Interest expense
(4,186
)
 
(0.7
%)
 
(4,387
)
 
(0.7
%)
 
201

 
4.6
%
Income before income taxes
45,758

 
7.7
%
 
94,434

 
14.2
%
 
(48,676
)
 
(51.5
%)
Income taxes
14,449

 
2.4
%
 
23,558

 
3.5
%
 
(9,109
)
 
(38.7
%)
Net income including non-controlling interests
31,309

 
5.3
%
 
70,876

 
10.7
%
 
(39,567
)
 
(55.8
%)
Non-controlling interests in subsidiaries’ loss
(8
)
 

 
(22
)
 

 
14

 
63.6
%
Net income
$
31,317

 
5.3
%
 
$
70,898

 
10.7
%
 
$
(39,581
)
 
(55.8
%)
Net Sales:  Net sales for the second quarter of 2016 decreased 10.9% from the second quarter 2015.  The sales decrease reflects volume decreases of 9.7%, price increases of 28.4%, increases from acquisitions of 3.0% and unfavorable impacts from foreign exchange of 32.6%.  Sales volumes decreased primarily as a result of softer demand associated with the current economic environment and weakness in oil & gas and U.S. export markets. Product pricing increased from prior year levels reflecting the highly inflationary environment in Venezuela. Excluding Venezuela, pricing and foreign exchange had unfavorable impacts of 0.9% and 1.5%, respectively.
Gross Profit:  Gross profit decreased 10.1% to $202,927 for the second quarter 2016 compared with $225,781 in the second quarter 2015.  As a percentage of Net sales, Gross profit increased to 34.3% in the second quarter 2016 from 34.0% in the second quarter 2015.  Gross margins increased due to lower raw material costs and the benefit of cost reduction actions. The second quarter 2016 includes a LIFO charge of $2,022 compared with a credit of $2,930 in the prior year period.
Selling, General & Administrative (“SG&A”) Expenses:  SG&A expenses were lower by $7,258, or 5.7%, in the second quarter 2016 compared with the second quarter of 2015.  As a percentage of Net sales, SG&A expenses were 20.3% and 19.2% in the second quarter 2016 and 2015, respectively.  The decrease in SG&A expenses was predominantly due to lower bonus expense of $6,091, lower salaries and wages of $2,203 and lower foreign exchange transaction losses of $2,264, partially offset by incremental SG&A from acquisitions of $3,986. Foreign currency exchange rates had a $2,749 favorable translation impact on SG&A expenses.
Loss on Deconsolidation of Venezuelan Subsidiary: In the second quarter 2016, the Company recorded a loss of $34,348, $33,251 after-tax, related to the deconsolidation of its Venezuelan subsidiary. See Note 1 to the consolidated financial statements for additional information.
Interest Expense:  Interest expense decreased to $4,186 in the second quarter 2016 from $4,387 in the second quarter of 2015. The decrease is due to an adjustment to the consideration expected to be paid to acquire additional ownership interests of a majority-owned subsidiary in the prior-year period.

21

Table of Contents

Income Taxes:  The Company recognized $14,449 of tax expense on pretax income of $45,758, resulting in an effective income tax rate of 31.6% for the three months ended June 30, 2016 compared with an effective income tax rate of 24.9% in the second quarter of 2015. The effective income tax rate is higher in the current period as compared to the second quarter of 2015 due to the impact of the deconsolidation of Venezuela partially offset by the reversal of an income tax valuation allowance as a result of a legal entity change to realign the Company’s tax structure.
Net Income:  Net income for the second quarter 2016 was $31,317 compared with $70,898 in the second quarter of 2015.  Diluted earnings per share for the second quarter 2016 were $0.45 compared with $0.94 in the second quarter of 2015.  Reported net income includes a loss related to the deconsolidation of the Company's Venezuelan subsidiary partially offset by reduced income tax associated with the reversal of valuation allowances on deferred tax assets more-likely-than-not to be realized.

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 June 30, 2016:
 
 
 
Change in Net Sales due to:
 
 
 
Net Sales
2015
 
Volume
 
Acquisitions
 
Price
 
Foreign
Exchange
 
Net Sales
2016
Operating Segments
 

 
 

 
 

 
 

 
 

 
 

Americas Welding
$
451,001

 
$
(59,999
)
 
$
16,323

 
$
193,706

 
$
(212,659
)
 
$
388,372

International Welding
141,927

 
(5,112
)
 
3,702

 
(3,883
)
 
(3,819
)
 
132,815

The Harris Products Group
71,812

 
736

 

 
(809
)
 
(508
)
 
71,231

Consolidated
$
664,740

 
$
(64,375
)
 
$
20,025

 
$
189,014

 
$
(216,986
)
 
$
592,418

 
 
 
 
 
 
 
 
 
 
 
 
Americas Welding (excluding Venezuela)
427,649

 
(55,013
)
 
16,323

 
(1,071
)
 
(5,349
)
 
382,539

Consolidated (excluding Venezuela)
641,389

 
(59,389
)
 
20,025

 
(5,764
)
 
(9,676
)
 
586,585

 
 
 
 
 
 
 
 
 
 
 
 
% Change
 

 
 

 
 

 
 

 
 

 
 

Americas Welding
 

 
(13.3
%)
 
3.6
%
 
43.0
%
 
(47.2
%)
 
(13.9
%)
International Welding
 

 
(3.6
%)
 
2.6
%