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Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2019
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 1-5318
KENNAMETAL INC.
(Exact name of registrant as specified in its charter)
Pennsylvania
  
25-0900168
(State or other jurisdiction of incorporation or organization)
  
(I.R.S. Employer Identification No.)
 
 
 
600 Grant Street
  
 
Suite 5100
 
 
Pittsburgh,
Pennsylvania
 
15219-2706
(Address of principal executive offices)
  
(Zip Code)
Registrant’s telephone number, including area code: (412248-8000
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 No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
 
 
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes No
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol
Name of each exchange on which registered
Capital Stock, par value $1.25 per share
KMT
New York Stock Exchange
Preferred Stock Purchase Rights
 
New York Stock Exchange
As of October 31, 2019, 82,856,908 shares of the Registrant’s Capital Stock, par value $1.25 per share, were outstanding.
 


Table of Contents

KENNAMETAL INC.
FORM 10-Q
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2019
TABLE OF CONTENTS
 
Item No.
Page No.
 
 
 
 
 
 
1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2.
 
 
 
3.
 
 
 
4.
 
 
 
1.
 
 
 
2.
 
 
 
6.
 
 

2

Table of Contents

FORWARD-LOOKING INFORMATION
This Quarterly Report on Form 10-Q contains “forward-looking” statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements are statements that do not relate strictly to historical or current facts. You can identify forward-looking statements by the fact they use words such as “should,” “anticipate,” “estimate,” “approximate,” “expect,” “may,” “will,” “project,” “intend,” “plan,” “believe” and other words of similar meaning and expression in connection with any discussion of future operating or financial performance or events. We have also included forward-looking statements in this Quarterly Report on Form 10-Q concerning, among other things, our strategy, goals, plans and projections regarding our financial position, liquidity and capital resources, results of operations, market position and product development. These statements are based on current estimates that involve inherent risks and uncertainties. Should one or more of these risks or uncertainties materialize, or should the assumptions underlying the forward-looking statements prove incorrect, our actual results could vary materially from our current expectations. There are a number of factors that could cause our actual results to differ from those indicated in the forward-looking statements. They include: downturns in the business cycle or the economy; our ability to achieve anticipated benefits from our restructuring, simplification and modernization initiatives; risks related to our foreign operations and international markets, such as fluctuations in currency exchange rates, different regulatory environments, trade barriers, exchange controls, and social and political instability; changes in the regulatory environment in which we operate, including environmental, health and safety regulations; potential for future goodwill and other intangible asset impairment charges; our ability to protect and defend our intellectual property; continuity and security of information technology infrastructure; competition; our ability to retain our management and employees; demands on management resources; availability and cost of the raw materials we use to manufacture our products; product liability claims; integrating acquisitions and achieving the expected savings and synergies; global or regional catastrophic events; demand for and market acceptance of our products; business divestitures; labor relations; and implementation of environmental remediation matters. We provide additional information about many of the specific risks we face in the “Risk Factors” section of our Annual Report on Form 10-K. We can give no assurance that any goal or plan set forth in our forward-looking statements will be achieved and readers are cautioned not to place undue reliance on such statements, which speak only as of the date made. Except as required by law, we do not intend to release publicly any revisions to forward-looking statements as a result of future events or developments.





3

Table of Contents




PART I – FINANCIAL INFORMATION

ITEM 1.    FINANCIAL STATEMENTS

KENNAMETAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
 
 
 
 
 
 
Three Months Ended September 30,
(in thousands, except per share amounts)
2019
 
2018
Sales
$
518,088

 
$
586,687

Cost of goods sold
379,108

 
375,595

Gross profit
138,980

 
211,092

Operating expense
114,191

 
123,285

Restructuring and asset impairment charges (Note 6)
4,666

 
1,075

Amortization of intangibles
3,747

 
3,580

Operating income
16,376

 
83,152

Interest expense
7,881

 
8,097

Other income, net
(2,681
)
 
(2,761
)
Income before income taxes
11,176

 
77,816

Provision for income taxes
3,766

 
19,392

Net income
7,410

 
58,424

Less: Net income attributable to noncontrolling interests
944

 
1,725

Net income attributable to Kennametal
$
6,466

 
$
56,699

PER SHARE DATA ATTRIBUTABLE TO KENNAMETAL SHAREHOLDERS
Basic earnings per share
$
0.08

 
$
0.69

Diluted earnings per share
$
0.08

 
$
0.68

Dividends per share
$
0.20

 
$
0.20

Basic weighted average shares outstanding
82,881

 
82,105

Diluted weighted average shares outstanding
83,487

 
83,194


KENNAMETAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
 
 
 
 
 
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Net income
$
7,410

 
$
58,424

Other comprehensive loss, net of tax
 
 
 
Unrealized gain (loss) on derivatives designated and qualified as cash flow hedges
395

 
(262
)
Reclassification of unrealized loss on derivatives designated and qualified as cash flow hedges
181

 
595

Unrecognized net pension and other postretirement benefit gain
2,607

 
318

Reclassification of net pension and other postretirement benefit loss
1,960

 
1,312

Foreign currency translation adjustments
(35,426
)
 
(16,203
)
Total other comprehensive loss, net of tax
(30,283
)
 
(14,240
)
Total comprehensive (loss) income
(22,873
)
 
44,184

Less: comprehensive (loss) income attributable to noncontrolling interests
(449
)
 
493

Comprehensive (loss) income attributable to Kennametal Shareholders
$
(22,424
)
 
$
43,691

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

4

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KENNAMETAL INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
 
 
 
 
 
(in thousands, except per share data)
September 30,
2019
 
June 30,
2019
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
113,522

 
$
182,015

Accounts receivable, less allowance for doubtful accounts of $10,671 and $10,083, respectively
327,628

 
379,855

Inventories (Note 9)
557,133

 
571,576

Other current assets
67,106

 
57,381

Total current assets
1,065,389

 
1,190,827

Property, plant and equipment:
 
 
 
Land and buildings
349,435

 
351,142

Machinery and equipment
1,825,381

 
1,804,871

Less accumulated depreciation
(1,210,528
)
 
(1,221,118
)
Property, plant and equipment, net
964,288

 
934,895

Other assets:
 
 
 
Goodwill (Note 17)
294,584

 
300,011

Other intangible assets, less accumulated amortization of $153,788 and $158,507, respectively (Note 17)
156,708

 
160,998

Operating lease right-of-use assets (Note 10)
43,824

 

Deferred income taxes
18,921

 
20,507

Other
55,691

 
49,031

Total other assets
569,728

 
530,547

Total assets
$
2,599,405

 
$
2,656,269

LIABILITIES
 
 
 
Current liabilities:
 
 
 
Notes payable to banks
3,528

 
157

Current operating lease liabilities (Note 10)
13,598

 

Accounts payable
198,674

 
212,908

Accrued income taxes
24,156

 
29,223

Accrued expenses
53,702

 
76,616

Other current liabilities
125,061

 
142,822

Total current liabilities
418,719

 
461,726

Long-term debt, less current maturities (Note 11)
592,858

 
592,474

Operating lease liabilities (Note 10)
30,296

 

Deferred income taxes
23,233

 
23,322

Accrued pension and postretirement benefits
167,002

 
174,003

Accrued income taxes
8,921

 
9,038

Other liabilities
20,726

 
21,002

Total liabilities
1,261,755

 
1,281,565

Commitments and contingencies

 

EQUITY (Note 15)
 
 
 
Kennametal Shareholders’ Equity:
 
 
 
Preferred stock, no par value; 5,000 shares authorized; none issued

 

Capital stock, $1.25 par value; 120,000 shares authorized; 82,833 and 82,421 shares issued, respectively
103,542

 
103,026

Additional paid-in capital
530,695

 
528,827

Retained earnings
1,066,763

 
1,076,862

Accumulated other comprehensive loss
(402,434
)
 
(373,543
)
Total Kennametal Shareholders’ Equity
1,298,566

 
1,335,172

Noncontrolling interests
39,084

 
39,532

Total equity
1,337,650

 
1,374,704

Total liabilities and equity
$
2,599,405

 
$
2,656,269

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

5

Table of Contents

KENNAMETAL INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW (UNAUDITED)
 
 
 
 
 
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
OPERATING ACTIVITIES
 
 
 
Net income
$
7,410

 
$
58,424

Adjustments for non-cash items:
 
 
 
Depreciation
27,328

 
23,973

Amortization
3,747

 
3,580

Stock-based compensation expense
8,255

 
8,486

Restructuring charges: asset write-down (Note 6)
1,191

 
(288
)
Deferred income tax provision
261

 
20

Other
688

 
257

Changes in certain assets and liabilities:
 
 
 
Accounts receivable
41,606

 
9,009

Inventories
2,661

 
(48,597
)
Accounts payable and accrued liabilities
(47,070
)
 
(52,731
)
Accrued income taxes
(6,680
)
 
9,461

Accrued pension and postretirement benefits
(6,328
)
 
(4,348
)
Other
(5,524
)
 
1,955

Net cash flow provided by operating activities
27,545

 
9,201

INVESTING ACTIVITIES
 
 
 
Purchases of property, plant and equipment
(72,455
)
 
(43,263
)
Disposals of property, plant and equipment
395

 
833

Other
172

 
37

Net cash flow used for investing activities
(71,888
)
 
(42,393
)
FINANCING ACTIVITIES
 
 
 
Net increase (decrease) in notes payable
3,338

 
(16
)
Term debt repayments

 
(400,000
)
Purchase of capital stock
(53
)
 
(54
)
The effect of employee benefit and stock plans and dividend reinvestment
(5,819
)
 
(2,436
)
Cash dividends paid to Shareholders
(16,565
)
 
(16,399
)
Other
(866
)
 
16

Net cash flow used for financing activities
(19,965
)
 
(418,889
)
Effect of exchange rate changes on cash and cash equivalents
(4,185
)
 
(1,988
)
CASH AND CASH EQUIVALENTS
 
 
 
Net decrease in cash and cash equivalents
(68,493
)
 
(454,069
)
Cash and cash equivalents, beginning of period
182,015

 
556,153

Cash and cash equivalents, end of period
$
113,522

 
$
102,084

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


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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 
 
 



1.
BASIS OF PRESENTATION

The condensed consolidated financial statements and accompanying notes included in this Quarterly Report on Form 10-Q, which include our accounts and those of our majority-owned subsidiaries, should be read in conjunction with the consolidated financial statements and accompanying notes included in our Annual Report on Form 10-K for the fiscal year ended June 30, 2019 (the "2019 Annual Report"). The condensed consolidated balance sheet as of June 30, 2019 was derived from the audited balance sheet included in our 2019 Annual Report. The interim statements are unaudited; however, we believe that all adjustments necessary for a fair statement of the results of the interim periods were made and all adjustments are normal recurring adjustments. The results for the three months ended September 30, 2019 and 2018 are not necessarily indicative of the results to be expected for a full fiscal year. Unless otherwise specified, any reference to a “year” is to a fiscal year ended June 30. For example, a reference to 2020 is to the fiscal year ending June 30, 2020. When used in this Quarterly Report on Form 10-Q, unless the context requires otherwise, the terms "the Company," “we,” “our” and “us” refer to Kennametal Inc. and its subsidiaries.

2.
NEW ACCOUNTING STANDARDS
Adopted
In February 2016, the Financial Accounting Standards Board (FASB) issued ASU No. 2016-02, "Leases: Topic 842," which replaces the existing guidance in ASC 840, Leases. The standard establishes a right-of-use (ROU) model that requires a lessee to record a ROU asset and a lease liability on the balance sheet for substantially all leases. We adopted this ASU on July 1, 2019 using the modified retrospective transition approach with the optional transition relief that allows for a cumulative-effect adjustment in the period of adoption and without a restatement of prior periods. Therefore, prior period amounts were not adjusted and will continue to be reported under the accounting standards in effect for those periods. We determined that there was no cumulative-effect adjustment to beginning retained earnings on the condensed consolidated balance sheet. In addition, the Company elected the package of practical expedients permitted under the transition guidance within the new standard, which among other things, allowed us to carry forward historical lease classification. Adoption of this ASU resulted in the recording of lease liabilities of approximately $49 million with the offset to lease ROU assets of $49 million as of July 1, 2019. The standard did not materially impact our condensed consolidated statement of income and our condensed consolidated statement of cash flows. Refer to Note 10 for additional disclosures regarding the adoption of this new standard.
In August 2017, the FASB issued ASU No. 2017-12, "Targeted Improvements to Accounting for Hedging Activities," which seeks to improve financial reporting and obtain closer alignment with risk management activities, in addition to simplifying the application of hedge accounting guidance and additional disclosures. We adopted this ASU on July 1, 2019. Adoption of this guidance did not have a material effect on our consolidated financial statements.
In February 2018, the FASB issued ASU No. 2018-02, “Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income," which includes amendments allowing the reclassification of the income tax effects of the Tax Cuts and Jobs Act of 2017 (TCJA) to improve the usefulness of information reported to financial statement users. The amendments in this update also require certain disclosures about stranded tax effects. Certain guidance is optional and was effective for Kennametal July 1, 2019. We elected not to reclassify the stranded tax effects as permissible under this standard. Adoption of this guidance did not have a material effect on our consolidated financial statements.
In June 2018, the FASB issued ASU No. 2018-07, “Improvements to Nonemployee Share-Based Payment Accounting," which expands the scope of accounting for stock-based compensation to nonemployees. We adopted this ASU on July 1, 2019. Adoption of this guidance did not have a material effect on our consolidated financial statements.


7

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


3.
SUPPLEMENTAL CASH FLOW DISCLOSURES
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Cash paid during the period for:
 
 
 
Income taxes
$
9,631

 
$
9,911

Interest
6,337

 
9,966

Supplemental disclosure of non-cash information:
 
 
 
Changes in accounts payable related to purchases of property, plant and equipment
200

 
(3,200
)


4.
FAIR VALUE MEASUREMENTS
Fair value is defined as the price that would be received on the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value hierarchy consists of three levels to prioritize the inputs used in valuations, as defined below:
Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.
Level 2: Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly, including quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability (e.g., interest rates); and inputs that are derived principally from or corroborated by observable market data by correlation or other means.
Level 3: Inputs that are unobservable.
As of September 30, 2019, the fair values of the Company’s financial assets and financial liabilities are categorized as follows: 
(in thousands)
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
Derivatives (1)
$

 
$
644

 
$

 
$
644

Total assets at fair value
$

 
$
644

 
$

 
$
644

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Derivatives (1)
$

 
$
214

 
$

 
$
214

Total liabilities at fair value
$

 
$
214

 
$

 
$
214

 
As of June 30, 2019, the fair values of the Company’s financial assets and financial liabilities are categorized as follows:
(in thousands)
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
Derivatives (1)
$

 
$
152

 
$

 
$
152

Total assets at fair value
$

 
$
152

 
$

 
$
152

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Derivatives (1)
$

 
$
55

 
$

 
$
55

Total liabilities at fair value
$

 
$
55

 
$

 
$
55

 (1) Currency derivatives are valued based on observable market spot and forward rates and are classified within Level 2 of the fair value hierarchy.
There have been no changes in classification and transfers between levels in the fair value hierarchy in the current period.


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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


5.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
As part of our financial risk management program, we use certain derivative financial instruments. We do not enter into derivative transactions for speculative purposes and, therefore, hold no derivative instruments for trading purposes. We account for derivative instruments as a hedge of the related asset, liability, firm commitment or anticipated transaction, when the derivative is specifically designated and qualifies as a hedge of such items. Our objective in managing foreign exchange exposures with derivative instruments is to reduce volatility in cash flow. We measure hedge effectiveness by assessing the changes in the fair value or expected future cash flows of the hedged item.
The fair value of derivatives designated and not designated as hedging instruments in the condensed consolidated balance sheet are as follows:
(in thousands)
September 30,
2019
 
June 30,
2019
Derivatives designated as hedging instruments
 
 
 
Other current assets - range forward contracts
$
644

 
$
145

Total derivatives designated as hedging instruments
644

 
145

Derivatives not designated as hedging instruments
 
 
 
Other current assets - currency forward contracts

 
8

Other current liabilities - currency forward contracts
(214
)
 
(56
)
Total derivatives not designated as hedging instruments
(214
)
 
(48
)
Total derivatives
$
430

 
$
97


Certain currency forward contracts that hedge significant cross-border intercompany loans are considered as other derivatives and therefore do not qualify for hedge accounting. These contracts are recorded at fair value in the condensed consolidated balance sheet, with the offset to other income, net. Gains related to derivatives not designated as hedging instruments have been recognized as follows:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Other income, net - currency forward contracts
$
102

 
$
78

 
CASH FLOW HEDGES
Range forward contracts (a transaction where both a put option is purchased and a call option is sold) are designated as cash flow hedges and hedge anticipated cash flows from cross-border intercompany sales of products and services. Gains and losses realized on these contracts are recorded in accumulated other comprehensive loss and are recognized as a component of cost of goods sold and other income, net when the underlying sale of products or services is recognized into earnings. The notional amount of the contracts translated into U.S. dollars at September 30, 2019 and June 30, 2019, was $43.6 million and $61.5 million, respectively. The time value component of the fair value of range forward contracts is excluded from the assessment of hedge effectiveness. Assuming the market rates remain constant with the rates at September 30, 2019, we expect to recognize into earnings $0.3 million of income on outstanding derivatives in the next 12 months.
The following represents gains and losses related to cash flow hedges:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Gains (losses) recognized in other comprehensive loss, net
$
395

 
$
(262
)
Losses reclassified from accumulated other comprehensive loss into cost of goods sold and other income, net
$
159

 
$
532


No portion of the gains or losses recognized in earnings was due to ineffectiveness and no amounts were excluded from our effectiveness testing for the three months ended September 30, 2019 and 2018.

9

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


NET INVESTMENT HEDGES
As of September 30, 2019, we had certain foreign currency-denominated intercompany loans payable with total aggregate principal amounts of 22.5 million as net investment hedges to hedge the foreign exchange exposure of our net investment in our Euro-based subsidiaries. We recorded a gain of $1.1 million and $0.1 million as a component of foreign currency translation adjustments in other comprehensive loss for the three months ended September 30, 2019 and 2018, respectively.
As of September 30, 2019, the foreign currency-denominated intercompany loans payable designated as net investment hedges consisted of:
Instrument
Notional (EUR in thousands)(2)
Notional (USD in thousands)(2)
Maturity
Foreign currency-denominated intercompany loan payable
28,326

30,871

June 26, 2022
(2) Includes principal and accrued interest.

6.
RESTRUCTURING AND RELATED CHARGES
FY20 Restructuring Actions
In the June quarter of fiscal 2019, we began implementing the current phase of restructuring associated with our simplification/modernization initiative. These actions are expected to reduce structural costs, improve operational efficiency and position the Company for long-term profitable growth. These actions are expected to be completed in fiscal 2020 and are expected to be primarily cash expenditures.
The pre-tax charges for these programs are expected to be in the range of $55 million to $65 million, which are expected to be 80 percent Industrial, 15 percent Infrastructure and 5 percent Widia. Total restructuring and related charges since inception of $21.3 million were recorded for this program through September 30, 2019 consisting of: $15.3 million in Industrial, $4.1 million in Infrastructure and $1.9 million in Widia.
FY21 Restructuring Actions
On July 11, 2019, we announced the initiation of restructuring actions in Germany associated with simplification/modernization, which are expected to reduce structural costs. These actions are expected to be completed by fiscal 2021 and are expected to be primarily cash expenditures.
The pre-tax charges for these programs are expected to be in the range of $60 million to $75 million, which is expected to be primarily in the Industrial segment. Total restructuring and related charges since inception of $0.9 million were recorded for this program through September 30, 2019 in the Industrial segment.
Restructuring and Related Charges Recorded
We recorded restructuring and related charges of $8.0 million and $1.1 million for the three months ended September 30, 2019 and 2018, respectively. Of these amounts, restructuring charges totaled $4.7 million and $1.1 million for the three months ended September 30, 2019 and 2018, respectively. Restructuring-related charges of $3.3 million were recorded in cost of goods sold for the three months ended September 30, 2019.

10

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


As of September 30, 2019 and June 30, 2019, the total restructuring accrual is recorded in other current liabilities in our condensed consolidated balance sheet. The amount attributable to each segment is as follows:
(in thousands)
June 30, 2019
 
Expense
 
Asset Write-Down
 
Translation
 
Cash Expenditures
 
September 30, 2019
Industrial
 
 
 
 
 
 
 
 
 
 
 
Severance
$
8,863

 
$
2,030

 
$

 
$
(343
)
 
$
(2,742
)
 
$
7,808

Facilities

 
1,049

 
(1,049
)
 

 

 

Other
35

 
4

 

 
(2
)
 
(7
)
 
30

Total Industrial
$
8,898

 
$
3,083

 
$
(1,049
)
 
$
(345
)
 
$
(2,749
)
 
$
7,838

 
 
 
 
 
 
 
 
 
 
 
 
Widia
 
 
 
 
 
 
 
 
 
 
 
Severance
$
2,306

 
$
140

 
$

 
$
(24
)
 
$
(189
)
 
$
2,233

Facilities

 

 

 

 

 

Other
24

 

 

 

 

 
24

Total Widia
$
2,330

 
$
140

 
$

 
$
(24
)
 
$
(189
)
 
$
2,257

 
 
 
 
 
 
 
 
 
 
 
 
Infrastructure
 
 
 
 
 
 
 
 
 
 
 
Severance
$
7,956

 
$
1,311

 
$

 
$
(221
)
 
$
(1,770
)
 
$
7,276

Facilities

 
142

 
(142
)
 

 

 

Other
28

 
2

 

 
(1
)
 
(4
)
 
25

Total Infrastructure
$
7,984

 
$
1,455

 
$
(142
)
 
$
(222
)
 
$
(1,774
)
 
$
7,301

Total
$
19,212

 
$
4,678

 
$
(1,191
)
 
$
(591
)
 
$
(4,712
)
 
$
17,396



7.
STOCK-BASED COMPENSATION
Stock Options
Changes in our stock options for the three months ended September 30, 2019 were as follows:
 
Options
 
Weighted
Average
Exercise Price
 
Weighted Average Remaining Life (years)
 
Aggregate
Intrinsic value
(in thousands)
Options outstanding, June 30, 2019
781,673

 
$
33.92

 
 
 
 
Exercised
(17,152
)
 
21.48

 
 
 
 
Lapsed or forfeited
(33,592
)
 
42.78

 
 
 
 
Options outstanding, September 30, 2019
730,929

 
$
33.80

 
3.5
 
$
1,699

Options vested, September 30, 2019
730,929

 
$
33.80

 
3.5
 
$
1,699

Options exercisable, September 30, 2019
730,929

 
$
33.80

 
3.5
 
$
1,699


As of September 30, 2019, there was no unrecognized compensation cost related to options outstanding.
All options were fully vested as of September 30, 2019. Fair value of options vested during the three months ended September 30, 2018 was $1.0 million. The amount of cash received from the exercise of capital stock options during the three months ended September 30, 2019 and 2018 was $0.1 million and $3.1 million, respectively. The total intrinsic value of options exercised during the three months ended September 30, 2019 and 2018 was $0.2 million and $1.4 million, respectively.

11

Table of Contents

KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


Restricted Stock Units – Performance Vesting and Time Vesting
Changes in our performance vesting and time vesting restricted stock units for the three months ended September 30, 2019 were as follows:
 
Performance Vesting Stock Units
 
Performance Vesting Weighted Average Fair Value
 
Time Vesting
Stock Units
 
Time Vesting Weighted Average Fair Value
Unvested, June 30, 2019
405,230

 
$
35.58

 
926,927

 
$
36.43

Granted
275,216

 
28.74

 
612,036

 
27.90

Vested
(146,377
)
 
27.08

 
(390,570
)
 
32.87

Performance metric adjustments, net
32,707

 
32.79

 

 

Forfeited
(1,440
)
 
39.26

 
(4,852
)
 
37.68

Unvested, September 30, 2019
565,336

 
$
34.28

 
1,143,541

 
$
33.08

During the three months ended September 30, 2019 and 2018, compensation expense related to time vesting and performance vesting restricted stock units was $7.8 million. As of September 30, 2019, the total unrecognized compensation cost related to unvested time vesting and performance vesting restricted stock units was $33.4 million and is expected to be recognized over a weighted average period of 2.3 years.

8.
PENSION AND OTHER POSTRETIREMENT BENEFITS
The table below summarizes the components of net periodic pension income:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Service cost
$
450

 
$
411

Interest cost
6,824

 
7,990

Expected return on plan assets
(13,456
)
 
(13,462
)
Amortization of transition obligation
22

 
23

Amortization of prior service cost (credit)
12

 
(5
)
Recognition of actuarial losses
2,595

 
1,695

Settlement gain
(122
)
 

Net periodic pension income
$
(3,675
)
 
$
(3,348
)

The table below summarizes the components of net periodic other postretirement benefit cost:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Interest cost
$
101

 
$
153

Amortization of prior service credit
(69
)
 
(22
)
Recognition of actuarial loss
64

 
62

Net periodic other postretirement benefit cost
$
96

 
$
193



The service cost component of net periodic pension income is reported as a component of cost of goods sold and operating expense. All other components of net periodic pension income and net periodic other postretirement benefit cost are reported as a component of other income, net.


12

Table of Contents

KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


9.
INVENTORIES
We used the last-in, first-out (LIFO) method of valuing inventories for 40 percent and 41 percent of total inventories at September 30, 2019 and June 30, 2019, respectively. Inventory valuations under the LIFO method are based on an annual determination of quantities and costs as of June 30 of each year; therefore, the interim LIFO valuations are based on our projections of expected year-end inventory levels and costs and are subject to any final year-end LIFO inventory adjustments.
Inventories consisted of the following: 
(in thousands)
September 30, 2019
 
June 30, 2019
Finished goods
$
335,437

 
$
311,684

Work in process and powder blends
200,915

 
246,414

Raw materials
84,581

 
95,620

Inventories at current cost
620,933

 
653,718

Less: LIFO valuation
(63,800
)
 
(82,142
)
Total inventories
$
557,133

 
$
571,576



10.
LEASES
At the inception of our contracts we determine if the contract is or contains a lease. A contract is or contains a lease if it conveys the right to control the use of an identified asset for a period of time in exchange for consideration. ROU assets and operating lease liabilities are recognized based on the present value of lease payments over the lease term at commencement. For leases that do not have a readily determinable implicit rate, we use a discount rate based on our incremental borrowing rate, which is determined considering factors such as the lease term, our credit rating and the economic environment of the location of the lease as of the commencement date.
We account for non-lease components separately from lease components. These costs often relate to the payments for a proportionate share of real estate taxes, insurance, common area maintenance and other operating costs in addition to base rent. We also do not recognize ROU assets and liabilities for leases with an initial term of 12 months or less. Lease costs associated with leases of less than 12 months were $2.1 million for the three months ended September 30, 2019.
As a lessee, we have various operating lease agreements primarily related to real estate, vehicles and office and plant equipment. The Company’s real estate leases, which are comprised primarily of manufacturing, warehousing, office and administration facilities, represent a majority of our lease liability. Our lease payments are largely fixed. Any variable lease payments, including utilities, common area maintenance and repairs and maintenance, are expensed during the period incurred. Variable lease costs were immaterial for the three months ended September 30, 2019. A majority of our real estate leases include options to extend the lease and options to early terminate the lease. Leases with an early termination option generally involve a termination payment. We review all options to extend, terminate, or purchase the ROU assets at the inception of the lease and account for these options when they are reasonably certain of being exercised. Our lease agreements generally do not contain any material residual value guarantees or materially restrictive covenants. The Company does not have any material leases that have been signed but not commenced, and we did not have any lease transactions with related parties.
The weighted average remaining lease term and discount rate for our operating leases were approximately 8.5 years and 3.3 percent, respectively, at September 30, 2019.
Operating lease expense is recognized on a straight-line basis over the lease term and is included in operating expense on our consolidated statement of income. Operating lease cost was $4.1 million for the three months ended September 30, 2019.
The following table sets forth supplemental cash flow information related to our operating leases:
(in thousands)
 
Three Months Ended September 30, 2019
Operating cash flows from operating leases
 
$
3,840

ROU assets obtained in exchange for new operating lease liabilities
 
$
580



13

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


The following table sets forth the maturities of our operating lease liabilities and reconciles the respective undiscounted payments to the operating lease liabilities in the condensed consolidated balance sheet as of September 30, 2019:
Year Ended June 30,
(in thousands)
 
September 30, 2019
Remaining nine months of 2020
 
$
11,317

2021
 
10,748

2022
 
6,499

2023
 
3,962

2024
 
2,394

Thereafter
 
16,411

Total undiscounted operating lease payments
 
$
51,331

   Less: discount to net present value
 
7,437

Total operating lease liabilities
 
$
43,894



The following table sets forth the future minimum lease payments for non-cancelable operating leases as of the year ended June 30, 2019:
Year Ended June 30,
(in thousands)
 
June 30, 2019
2020
 
$
17,074

2021
 
12,212

2022
 
6,693

2023
 
4,294

2024
 
2,636

Thereafter
 
17,168

Total future minimum lease payments
 
$
60,077



11.
LONG-TERM DEBT
Our five-year, multi-currency, revolving credit facility, as amended and restated in June 2018 (Credit Agreement), provides for revolving credit loans of up to $700 million for working capital, capital expenditures and general corporate purposes. The Credit Agreement requires us to comply with various restrictive and affirmative covenants, including two financial covenants: a maximum leverage ratio and a minimum consolidated interest coverage ratio (as those terms are defined in the Credit Agreement). We were in compliance with all such covenants as of September 30, 2019. We had no borrowings outstanding under the Credit Agreement as of September 30, 2019 and June 30, 2019. Borrowings under the Credit Agreement are guaranteed by our significant domestic subsidiaries. The Credit Agreement matures in June 2023.
Fixed rate debt had a fair market value of $627.6 million and $622.0 million at September 30, 2019 and June 30, 2019, respectively. The Level 2 fair value is determined based on the quoted market prices for similar debt instruments as of September 30, 2019 and June 30, 2019, respectively.

12.
ENVIRONMENTAL MATTERS
The operation of our business has exposed us to certain liabilities and compliance costs related to environmental matters. We are involved in various environmental cleanup and remediation activities at certain of our locations.
We establish and maintain reserves for certain potential environmental liabilities. At September 30, 2019 and June 30, 2019, the balances of these reserves were $12.2 million and $12.4 million, respectively. These reserves represent anticipated costs associated with potential remedial requirements and are generally not discounted.

14

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


The reserves we have established for potential environmental liabilities represent our best current estimate of the costs of addressing all identified environmental situations, based on our review of currently available evidence, and taking into consideration our prior experience in remediation and that of other companies, as well as public information released by the United States Environmental Protection Agency (USEPA), other governmental agencies and by the Potentially Responsible Party (PRP) groups in which we are participating. Although our reserves currently appear to be sufficient to cover these potential environmental liabilities, there are uncertainties associated with environmental liabilities, and we can give no assurance that our estimate of any environmental liability will not increase or decrease in the future. The reserved and unreserved liabilities for all environmental concerns could change substantially due to factors such as the nature and extent of contamination, changes in remedial requirements, technological changes, discovery of new information, the financial strength of other PRPs, the identification of new PRPs and the involvement of and direction taken by the government on these matters.
Superfund Sites Among other environmental laws, we are subject to the Comprehensive Environmental Response Compensation and Liability Act of 1980 (CERCLA), under which we have been designated by the USEPA as a PRP with respect to environmental remedial costs at certain Superfund sites. We have evaluated our claims and liabilities associated with these Superfund sites based upon best currently available information. We believe our environmental accruals are adequate to cover our portion of the environmental remedial costs at the Superfund sites where we have been designated a PRP, to the extent these expenses are probable and reasonably estimable.

13.
INCOME TAXES

The effective income tax rates for the three months ended September 30, 2019 and 2018 were 33.7 percent and 24.9 percent, respectively. The increase is primarily due to the change in the jurisdictional mix caused by expected restructuring and related charges and the Base Erosion Anti-Abuse Tax (BEAT). The prior year rate includes a discrete charge of $1.0 million related to the one-time tax that was imposed on our unremitted foreign earnings under the Tax Cuts and Jobs Act of 2017 (TCJA).
Swiss tax reform effective January 1, 2020 was enacted in October 2019. We are in the process of evaluating the provisions of this new law and its effect on our tax provision, and will complete this evaluation in the December quarter of fiscal 2020.

14.
EARNINGS PER SHARE
Basic earnings per share is computed using the weighted average number of shares outstanding during the period, while diluted earnings per share is calculated to reflect the potential dilution that would occur related to the issuance of capital stock under stock option grants, performance awards and restricted stock units. The difference between basic and diluted earnings per share relates solely to the effect of capital stock options, performance awards and restricted stock units.
The following tables provide the computation of diluted shares outstanding for the three months ended September 30, 2019 and 2018:
 
 
Three Months Ended September 30,
(in thousands)
 
2019
 
2018
Weighted-average shares outstanding during period
 
82,881

 
82,105

Add: Unexercised stock options and unvested restricted stock units
 
606

 
1,089

Number of shares on which diluted earnings per share is calculated
 
83,487

 
83,194

Unexercised stock options with an exercise price greater than the average market price and restricted stock units not included in the computation because they were anti-dilutive
 
649

 
279




15

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


15.
EQUITY
A summary of the changes in the carrying amounts of total equity, Kennametal Shareholders’ equity and equity attributable to noncontrolling interests for the three months ending September 30, 2019 and 2018 is as follows:
 
Kennametal Shareholders’ Equity
 
 
 
 
(in thousands)
Capital
stock
 
Additional
paid-in
capital
 
Retained
earnings
 
Accumulated
other
comprehensive loss
 
Non-
controlling
interests
 
Total equity
Balance as of June 30, 2019
$
103,026

 
$
528,827

 
$
1,076,862

 
$
(373,543
)
 
$
39,532

 
$
1,374,704

Net income

 

 
6,466

 

 
944

 
7,410

Other comprehensive loss

 

 

 
(28,891
)
 
(1,392
)
 
(30,283
)
Dividend reinvestment
2

 
51

 

 

 

 
53

Capital stock issued under employee benefit and stock plans(3)
516

 
1,868

 

 

 

 
2,384

Purchase of capital stock
(2
)
 
(51
)
 

 

 

 
(53
)
Cash dividends

 

 
(16,565
)
 


 

 
(16,565
)
Total equity, September 30, 2019
$
103,542

 
$
530,695

 
$
1,066,763

 
$
(402,434
)
 
$
39,084

 
$
1,337,650

 
 
Kennametal Shareholders’ Equity
 
 
 
 
(in thousands)
Capital
stock
 
Additional
paid-in
capital
 
Retained
earnings
 
Accumulated other comprehensive loss
 
Non-
controlling
interests
 
Total equity
Balance as of June 30, 2018
$
102,058

 
$
511,909

 
$
900,683

 
$
(320,325
)
 
$
36,002

 
$
1,230,327

Net income

 

 
56,699

 

 
1,725

 
58,424

Other comprehensive loss

 

 

 
(13,008
)
 
(1,232
)
 
(14,240
)
Dividend reinvestment
2

 
52

 

 

 

 
54

Capital stock issued under employee benefit and stock plans(3)
557

 
5,440

 

 

 

 
5,997

Purchase of capital stock
(2
)
 
(52
)
 

 

 

 
(54
)
Cash dividends

 

 
(16,399
)
 

 

 
(16,399
)
Total equity, September 30, 2018
$
102,615

 
$
517,349

 
$
940,983

 
$
(333,333
)
 
$
36,495

 
$
1,264,109


(3) Net of restricted stock units delivered upon vesting to satisfy tax withholding requirements.
The amounts of comprehensive income attributable to Kennametal Shareholders and noncontrolling interests are disclosed in the condensed consolidated statements of comprehensive income.


16

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


16.
ACCUMULATED OTHER COMPREHENSIVE LOSS
The components of, and changes in, accumulated other comprehensive loss (AOCL) were as follows, net of tax, for the three months ended September 30, 2019:
(in thousands)
Pension and other postretirement benefits
Currency translation adjustment
Derivatives
Total
Attributable to Kennametal:
 
 
 
 
Balance, June 30, 2019
$
(222,270
)
$
(147,595
)
$
(3,678
)
$
(373,543
)
Other comprehensive income (loss) before reclassifications
2,607

(34,034
)
395

(31,032
)
Amounts reclassified from AOCL
1,960


181

2,141

Net current period other comprehensive
  income (loss)
4,567

(34,034
)
576

(28,891
)
AOCL, September 30, 2019
$
(217,703
)
$
(181,629
)
$
(3,102
)
$
(402,434
)
 
 
 
 
 
Attributable to noncontrolling interests:
 
 
 
 
Balance, June 30, 2019
$

$
(3,450
)
$

$
(3,450
)
Other comprehensive loss before
  reclassifications

(1,392
)

(1,392
)
Net current period other comprehensive
  loss

(1,392
)

(1,392
)
AOCL, September 30, 2019
$

$
(4,842
)
$

$
(4,842
)


The components of, and changes in, AOCL were as follows, net of tax, for the three months ended September 30, 2018:
(in thousands)
Pension and other postretirement benefits
Currency translation adjustment
Derivatives
Total
Attributable to Kennametal:
 
 
 
 
Balance, June 30, 2018
$
(187,755
)
$
(127,347
)
$
(5,223
)
$
(320,325
)
Other comprehensive income (loss) before reclassifications
318

(14,971
)
(262
)
(14,915
)
Amounts reclassified from AOCL
1,312


595

1,907

Net current period other comprehensive
  income (loss)
1,630

(14,971
)
333

(13,008
)
AOCL, September 30, 2018
$
(186,125
)
$
(142,318
)
$
(4,890
)
$
(333,333
)
 
 
 
 
 
Attributable to noncontrolling interests:
 
 
 
 
Balance, June 30, 2018
$

$
(2,913
)
$

$
(2,913
)
Other comprehensive loss before
  reclassifications

(1,232
)

(1,232
)
Net current period other comprehensive
  loss

(1,232
)

(1,232
)
AOCL, September 30, 2018
$

$
(4,145
)
$

$
(4,145
)


17

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


Reclassifications out of AOCL for the three months ended September 30, 2019 and 2018 consisted of the following:
 
Three Months Ended September 30,
 
 
(in thousands)
2019
 
2018
 
Affected line item in the Income Statement
Gains and losses on cash flow hedges:
 
 
 
 
 
Forward starting interest rate swaps
$
611

 
$
588

 
Interest expense
Currency exchange contracts
(371
)
 
200

 
Cost of goods sold and other income, net
Total before tax
240

 
788

 
 
Tax impact
(59
)
 
(193
)
 
Provision for income taxes
Net of tax
$
181

 
$
595

 
 
 
 
 
 
 
 
Pension and other postretirement benefits:
 
 
 
 
 
Amortization of transition obligations
$
22

 
$
23

 
Other income, net
Amortization of prior service credit
(57
)
 
(27
)
 
Other income, net
Recognition of actuarial losses
2,659

 
1,757

 
Other income, net
Total before tax
2,624

 
1,753

 
 
Tax impact
(664
)
 
(441
)
 
Provision for income taxes
Net of tax
$
1,960

 
$
1,312

 
 


The amount of income tax allocated to each component of other comprehensive loss for the three months ended September 30, 2019 and 2018 were as follows:
 
 
2019
 
 
 
 
2018
 
(in thousands)
Pre-tax
Tax impact
Net of tax
 
 
Pre-tax
Tax impact
Net of tax
Unrealized gain (loss) on derivatives designated and qualified as cash flow hedges
$
523

$
(128
)
$
395

 
 
$
(347
)
$
85

$
(262
)
Reclassification of unrealized loss on derivatives designated and qualified as cash flow hedges
240

(59
)
181

 
 
788

(193
)
595

Unrecognized net pension and other postretirement benefit gain
3,469

(862
)
2,607

 
 
412

(94
)
318

Reclassification of net pension and other postretirement benefit loss
2,624

(664
)
1,960

 
 
1,753

(441
)
1,312

Foreign currency translation adjustments
(35,579
)
153

(35,426
)
 
 
(16,270
)
67

(16,203
)
Other comprehensive loss
$
(28,723
)
$
(1,560
)
$
(30,283
)
 
 
$
(13,664
)
$
(576
)
$
(14,240
)



18

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KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


17.
GOODWILL AND OTHER INTANGIBLE ASSETS
A summary of the carrying amount of goodwill attributable to each segment, as well as the changes in such carrying amounts, is as follows:
(in thousands)
Industrial
 
Widia
 
Infrastructure
 
Total
Gross goodwill
$
409,912

 
$
40,941

 
$
633,211

 
$
1,084,064

Accumulated impairment losses
(137,204
)
 
(13,638
)
 
(633,211
)
 
(784,053
)
Balance as of June 30, 2019
$
272,708

 
$
27,303

 
$

 
$
300,011

 
 
 
 
 
 
 
 
Activity for the three months ended September 30, 2019:
 
 
 
 
 
 
 
Change in gross goodwill due to translation
(5,170
)
 
(257
)
 

 
(5,427
)
 
 
 
 
 
 
 
 
Gross goodwill
404,742

 
40,684

 
633,211

 
1,078,637

Accumulated impairment losses
(137,204
)
 
(13,638
)
 
(633,211
)
 
(784,053
)
Balance as of September 30, 2019
$
267,538

 
$
27,046

 
$

 
$
294,584


The components of our other intangible assets were as follows:
 
Estimated
Useful Life
(in years)
 
September 30, 2019
June 30, 2019
(in thousands)
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
 
Gross Carrying
Amount
 
Accumulated
Amortization
Contract-based
3 to 15
 

 

 
 
7,062

 
(7,062
)
Technology-based and other
4 to 20
 
45,992

 
(32,085
)
 
 
46,228

 
(31,890
)
Customer-related
10 to 21
 
203,871

 
(96,154
)
 
 
205,213

 
(94,711
)
Unpatented technology
10 to 30
 
31,549

 
(15,972
)
 
 
31,702

 
(15,492
)
Trademarks
5 to 20
 
14,695

 
(9,577
)
 
 
14,755

 
(9,352
)
Trademarks
Indefinite
 
14,389

 

 
 
14,545

 

Total
 
 
$
310,496

 
$
(153,788
)
 
 
$
319,505

 
$
(158,507
)


18.
SEGMENT DATA
The Company's reportable operating segments have been determined in accordance with the Company's internal management structure, which is organized based on operating activities, the manner in which we organize segments for making operating decisions and assessing performance and the availability of separate financial results. We do not allocate certain corporate expenses related to executive retirement plans, the Company’s Board of Directors and strategic initiatives, as well as certain other costs and report them in Corporate. None of our reportable operating segments represent the aggregation of two or more operating segments.
INDUSTRIAL The Industrial segment develops and manufactures high performance tooling and metalworking products and services for diverse end markets, including aerospace and defense, general engineering, energy and transportation. These products include milling, hole making, turning, threading and toolmaking systems used in the manufacture of airframes, aero engines, trucks and automobiles, ships and various types of industrial equipment. We leverage advanced manufacturing capabilities in combination with varying levels of customization to solve our customers’ toughest challenges and deliver improved productivity for a wide range of applicationsIndustrial goes to market under the Kennametal® brand through its direct sales force, a network of independent and national distributors, integrated supplier channels and via the Internet. Application engineers and technicians are critical to the sales process and directly assist our customers with specified product design, selection, application and support.
WIDIA Widia offers an assortment of standard and custom metal cutting solutions to general engineering, aerospace, energy and transportation customers. We serve our customers primarily through a network of value added resellers, integrated supplier channels and via the internet. Widia markets its products under the WIDIA®, WIDIA Hanita® and WIDIA GTD® brands.

19

Table of Contents

KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


INFRASTRUCTURE Our Infrastructure segment produces engineered tungsten carbide and ceramic components, earth-cutting tools, and advanced metallurgical powders, primarily for the energy, earthworks and general engineering end markets. These wear-resistant products include compacts, nozzles, frac seats and custom components used in oil & gas and petrochemical industries; rod blanks and abrasive water jet nozzles for general industries; earth cutting tools and systems used in underground mining, trenching and foundation drilling and road milling; tungsten carbide and specialty alloy powders for the oil and gas, aerospace and process industries; and ceramics used by the packaging industry for metallization of films and papers. We combine deep metallurgical and engineering expertise with advanced manufacturing capabilities to deliver solutions that drive improved productivity for our customers. Infrastructure markets its products primarily under the Kennametal® brand and sells through a direct sales force as well as through distributors.
Our sales and operating income (loss) by segment are as follows:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Sales:
 
 
 
Industrial
$
280,028

 
$
320,559

Widia
44,057

 
48,672

Infrastructure
194,003

 
217,456

Total sales
$
518,088

 
$
586,687

Operating income (loss):
 
 
 
Industrial
$
21,271

 
$
58,542

Widia
(1,965
)
 
2,093

Infrastructure
(2,690
)
 
23,860

Corporate
(240
)
 
(1,343
)
Total operating income
16,376

 
83,152

Interest expense
7,881

 
8,097

Other income, net
(2,681
)
 
(2,761
)
Income from continuing operations before income taxes
$
11,176

 
$
77,816


The following table presents Kennametal's revenue disaggregated by geography:
 
Three Months Ended
 
September 30, 2019
 
September 30, 2018
(in thousands)
Industrial
 
Widia
 
Infrastructure
 
Total Kennametal
 
Industrial
 
Widia
 
Infrastructure
 
Total Kennametal
Americas
42%
 
48%
 
63%
 
50%
 
39%
 
45%
 
65%
 
49%
EMEA
38
 
26
 
18
 
30
 
40
 
24
 
15
 
29
Asia Pacific
20
 
26
 
19
 
20
 
21
 
31
 
20
 
22
The following tables presents Kennametal's revenue disaggregated by end market:
 
Three Months Ended September 30, 2019
(in thousands)
Industrial
 
Widia
 
Infrastructure
 
Total Kennametal
General engineering
44%
 
100%
 
34%
 
45%
Transportation
33
 
 
 
18
Aerospace
14
 
 
 
7
Energy
9
 
 
29
 
16
Earthworks
 
 
37
 
14

20

Table of Contents

KENNAMETAL INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
 
 
 


 
Three Months Ended September 30, 2018
(in thousands)
Industrial
 
Widia
 
Infrastructure
 
Total Kennametal
General engineering
43%
 
100%
 
32%
 
44%
Transportation
35
 
 
 
19
Aerospace
13
 
 
 
7
Energy
9
 
 
34
 
17
Earthworks
 
 
34
 
13


19.
SUBSEQUENT EVENTS
On October 8, 2019, the Company signed a definitive agreement with Advanced Metallurgical Group N.V. to sell certain assets of the non-core specialty alloys and metals business located in New Castle, Pennsylvania. The transaction is expected to close during the December quarter of fiscal 2020. The carrying value of the assets, classified as held and used in the condensed consolidated balance sheets, is approximately $27 million as of September 30, 2019.

21

Table of Contents

Item 2.     MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (MD&A)
 
 
 


OVERVIEW
Kennametal Inc. was founded based on a tungsten carbide technology breakthrough in 1938. The Company was incorporated in Pennsylvania in 1943 as a manufacturer of tungsten carbide metal cutting tooling, and was listed on the New York Stock Exchange (NYSE) in 1967. With more than 80 years of materials expertise, the Company is a global industrial technology leader, helping customers across the aerospace, earthworks, energy, general engineering and transportation industries manufacture with precision and efficiency. This expertise includes the development and application of tungsten carbides, ceramics, super-hard materials and solutions used in metal cutting and extreme wear applications to keep customers up and running longer against conditions such as corrosion and high temperatures.
Our standard and custom product offering spans metalworking and wear applications including turning, milling, hole making, tooling systems and services, as well as specialized wear components and metallurgical powders. End users of our metalworking products include manufacturers engaged in a diverse array of industries including: the manufacturers of transportation vehicles and components, machine tools and light and heavy machinery; airframe and aerospace components; and energy-related components for the oil and gas industry, as well as power generation. Our wear and metallurgical powders are used by producers and suppliers in equipment-intensive operations such as road construction, mining, quarrying, oil and gas exploration, refining, production and supply.
Throughout the MD&A, we refer to measures used by management to evaluate performance. We also refer to a number of financial measures that are not defined under accounting principles generally accepted in the United States of America (U.S. GAAP), including organic sales decline, constant currency regional sales (decline) growth and constant currency end market sales decline. We provide the definitions of these non-GAAP financial measures at the end of the MD&A section as well as details on the use and derivation of these financial measures.
Our sales of $518.1 million for the quarter ended September 30, 2019 decreased 12 percent year-over-year, reflecting 11 percent organic sales decline and 2 percent unfavorable currency exchange effect, partially offset by a 1 percent favorable business day effect. We experienced significantly slower market conditions than we expected for the quarter across all regions and in our end markets, primarily general engineering, energy and transportation.
Operating income was $16.4 million, compared to $83.2 million in the prior year quarter. The decrease in operating income was primarily due to organic sales decline, higher raw material costs, unfavorable labor and fixed cost absorption in certain facilities due to lower volumes and simplification/modernization efforts in progress and greater restructuring and related charges, partially offset by incremental simplification/modernization benefits. Operating margin declined to 3.2 percent from 14.2 percent in the prior year quarter. Higher raw material costs, which are expected to abate in the second half of fiscal 2020, had a detrimental effect on year-over-year operating margin of approximately 360 basis points. Industrial segment operating margin was 7.6 percent, and Widia and Infrastructure segment operating loss margins were 4.5 percent and 1.4 percent, respectively.
Our capital structure and expected net cash flows from operating activities for the fiscal year enables us to deliver on our simplification/modernization investments as planned. Our structural cost reduction efforts are on schedule, including the proposed closures of three manufacturing locations and a distribution center. We recorded approximately $8 million of pre-tax restructuring and related charges in the quarter, and incremental pre-tax benefits from simplification/modernization restructuring were approximately $2 million in the quarter. Total benefits from simplification/modernization, including restructuring initiatives, were approximately $8 million in the quarter. We achieved annualized run-rate savings from simplification/modernization of approximately $58 million since inception.
As part of the FY20 Restructuring Actions, production was discontinued at our Lichtenau, Germany facility at the end of October. We expect to finalize negotiations with the relevant employee representatives in the December quarter of fiscal 2020.
As part of simplification/modernization initiatives, in October 2019 we signed a definitive agreement to sell certain assets of the non-core specialty alloys business located in New Castle, Pennsylvania. The transaction is expected to close during the December quarter of fiscal 2020. The carrying value of the assets, classified as held and used in the condensed consolidated balance sheets, is approximately $27 million as of September 30, 2019.
We reported current quarter earnings per diluted share (EPS) of $0.08. EPS for the current quarter includes restructuring and related charges of $0.09 per share. The earnings per diluted share of $0.68 in the prior year quarter included a discrete charge related to U.S. tax reform of $0.01 per share and restructuring and related charges of $0.01 per share.
We generated a net cash inflow from operating activities of $27.5 million during the three months ended September 30, 2019 compared to $9.2 million during the prior year quarter. Capital expenditures were $72.5 million and $43.3 million during the three months ended September 30, 2019 and 2018, respectively, with the increase primarily due to higher spending associated with our simplification/modernization initiatives.

22

Table of Contents

Item 2.     MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
 
 
 




RESULTS OF CONTINUING OPERATIONS

SALES
Sales for the three months ended September 30, 2019 were $518.1 million, a decrease of $68.6 million, or 12 percent, from $586.7 million in the prior year quarter. The decrease in sales was driven by 11 percent organic sales decline and 2 percent unfavorable currency exchange impact, partially offset by a 1 percent favorable business day effect.
 
Three Months Ended September 30, 2019
(in percentages)
As Reported
Constant Currency
End market sales decline:
 
 
Energy
(20)%
(19)%
Transportation
(19)
(17)
General engineering
(9)
(8)
Earthworks
(3)
(1)
Aerospace
(3)
(1)
Regional sales decline:
 
 
Asia Pacific
(16)%
(15)%
Europe, the Middle East and Africa (EMEA)
(11)
(7)
Americas
(10)
(10)

GROSS PROFIT
Gross profit for the three months ended September 30, 2019 was $139.0 million, a decrease of $72.1 million from $211.1 million in the prior year quarter. The decrease was primarily due to organic sales decline, higher raw material costs, unfavorable volume-related labor and fixed cost absorption in certain facilities in part due to simplification/modernization efforts in progress, unfavorable foreign currency exchange impact of approximately $3 million and unfavorable mix, partially offset by incremental simplification/modernization benefits. Gross profit margin for the three months ended September 30, 2019 was 26.8 percent, as compared to 36.0 percent in the prior year quarter. Higher raw material costs, which are expected to abate in the second half of fiscal 2020, had a detrimental effect on year-over-year gross profit margin of approximately 360 basis points.

OPERATING EXPENSE
Operating expense for the three months ended September 30, 2019 was $114.2 million compared to $123.3 million for the three months ended September 30, 2018. The decrease was primarily due to lower incentive compensation expense, incremental restructuring simplification benefits and favorable currency exchange impact of approximately $2 million.
We invested further in technology and innovation to continue delivering high quality products to our customers. Research and development expenses included in operating expense totaled $10.4 million and $9.7 million for the three months ended September 30, 2019 and 2018, respectively.


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RESTRUCTURING AND RELATED CHARGES AND ASSET IMPAIRMENT CHARGES
FY20 Restructuring Actions
In the June quarter of fiscal 2019, we began implementing the current phase of restructuring associated with our simplification/modernization initiative. These actions are expected to reduce structural costs, improve operational efficiency and position the Company for long-term profitable growth and are currently estimated to achieve $35 million to $40 million of annualized savings by the end of fiscal 2020. These actions are expected to be completed in fiscal 2020 and are expected to be primarily cash expenditures.
The pre-tax charges for these programs are expected to be in the range of $55 million to $65 million, which are expected to be 80 percent Industrial, 15 percent Infrastructure and 5 percent Widia. Restructuring and related charges since inception of $21.3 million were recorded for this program through September 30, 2019 consisting of: $15.3 million in Industrial, $4.1 million in Infrastructure and $1.9 million in Widia. Inception to date, we have achieved annualized savings of approximately $2 million.
FY21 Restructuring Actions
On July 11, 2019, we announced the initiation of restructuring actions in Germany associated with simplification/modernization, which are expected to reduce structural costs with estimated annualized savings of $25 million to $30 million. These actions are expected to be completed by fiscal 2021 and are expected to be primarily cash expenditures.
The pre-tax charges for these programs are expected to be in the range of $60 million to $75 million, which is expected to be primarily in the Industrial segment. Restructuring and related charges since inception of $0.9 million were recorded for this program through September 30, 2019 in the Industrial segment.
Restructuring and Related Charges Recorded
We recorded restructuring and related charges of $8.0 million and $1.1 million for the three months ended September 30, 2019 and 2018, respectively. Of these amounts, restructuring charges totaled $4.7 million and $1.1 million for the three months ended September 30, 2019 and 2018, respectively. Restructuring-related charges of $3.3 million were recorded in cost of goods sold for the three months ended September 30, 2019.

INTEREST EXPENSE
Interest expense for the three months ended September 30, 2019 decreased to $7.9 million compared to $8.1 million for the three months ended September 30, 2018.
OTHER INCOME, NET
Other income for the three months ended September 30, 2019 decreased slightly to $2.7 million from $2.8 million during the three months ended September 30, 2018.

PROVISION FOR INCOME TAXES
The effective income tax rates for the three months ended September 30, 2019 and 2018 were 33.7 percent and 24.9 percent, respectively. The increase is primarily due to the change in the jurisdictional mix caused by expected restructuring and related charges and the Base Erosion Anti-Abuse Tax. The prior year rate includes a discrete charge of $1.0 million related to the one-time tax that was imposed on our unremitted foreign earnings under the Tax Cuts and Jobs Act of 2017.
Swiss tax reform effective January 1, 2020 was enacted in October 2019. We are in the process of evaluating the provisions of this new law and its effect on our tax provision, and will complete this evaluation in the December quarter of fiscal 2020.

BUSINESS SEGMENT REVIEW
We operate three reportable segments consisting of Industrial, Widia and Infrastructure. Expenses that are not allocated are reported in Corporate. Segment determination is based upon the manner in which we organize segments for making operating decisions and assessing performance and the availability of separate financial results.

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Our sales and operating income by segment are as follows:
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Sales:
 
 
 
Industrial
$
280,028

 
$
320,559

Widia
44,057

 
48,672

Infrastructure
194,003

 
217,456

Total sales
$
518,088

 
$
586,687

Operating income (loss):
 
 
 
Industrial
$
21,271

 
$
58,542

Widia
(1,965
)
 
2,093

Infrastructure
(2,690
)
 
23,860

Corporate
(240
)
 
(1,343
)
Total operating income
16,376

 
83,152

Interest expense
7,881

 
8,097

Other income, net
(2,681
)
 
(2,761
)
Income from continuing operations before income taxes
$
11,176

 
$
77,816

INDUSTRIAL
 
Three Months Ended September 30,
(in thousands, except operating margin)
2019
 
2018
Sales
$
280,028

 
$
320,559

Operating income
21,271

 
58,542

Operating margin
7.6
%
 
18.3
%
 
Three Months Ended September 30, 2019
(in percentages)
Organic sales decline
(11)%
Foreign currency exchange impact(1)
(2)
Sales decline
(13)%
 
Three Months Ended September 30, 2019
(in percentages)
As Reported
 
Constant Currency
End market sales decline:
 
 
 
Transportation
(19)%
 
(17)%
General engineering
(11)
 
(9)
Energy
(9)
 
(8)
Aerospace
(3)
 
(1)
Regional sales decline:
 
 
 
Asia Pacific
(17)%
 
(15)%
EMEA
(15)
 
(12)
Americas
(8)
 
(7)

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For the three months ended September 30, 2019, Industrial sales decreased 13 percent from the prior year quarter. Transportation sales declined in all regions due to continued weakness in market conditions, while general engineering sales declined in all regions due to an overall softening in global manufacturing activity. Energy sales decreased due to a decline in oil and gas drilling in the Americas, partially offset by continued strength in renewable energy in China. Sales in aerospace were down primarily due to large projects in the prior year that did not repeat. The sales decrease in Asia Pacific was primarily driven by declines in the transportation and general engineering end markets, partially offset by an increase in the energy end market. The sales decrease in EMEA was mostly due to a decline in the transportation end market, but also due to declines in the general engineering and energy markets, partially offset by an increase in the aerospace end market. The sales decrease in the Americas was driven primarily by declines in the general engineering and transportation end markets, but also due to declines in the energy and aerospace end markets.
For the three months ended September 30, 2019, Industrial operating income decreased by $37.3 million, driven primarily by organic sales decline, unfavorable volume-related labor and fixed cost absorption in certain facilities in part due to simplification/modernization efforts in progress, greater restructuring and related charges, higher raw material costs and higher compensation expense, partially offset by incremental simplification/modernization benefits and favorable mix. Higher raw material costs, which are expected to abate in the second half of fiscal 2020, had a detrimental effect on year-over-year operating margin of approximately 140 basis points.

WIDIA
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Sales
$
44,057

 
$
48,672

Operating (loss) income
(1,965
)
 
2,093

Operating margin
(4.5
)%
 
4.3
%
 
Three Months Ended September 30, 2019
(in percentages)
Organic sales decline
(10)%
Foreign currency exchange impact(1)
(1)
Business days impact(2)
2
Sales decline
(9)%
 
Three Months Ended September 30, 2019
(in percentages)
As Reported
 
Constant Currency
Regional sales decline:
 
 
 
Asia Pacific
(24)%
 
(24)%
Americas
(3)
 
(3)
EMEA
(2)
 
For the three months ended September 30, 2019, Widia sales decreased 9 percent from the prior year quarter. The sales decrease in Asia Pacific was driven primarily by further deteriorating market conditions, specifically in India and China where the decline in auto production has affected distributors. The decrease in the Americas was primarily due to a slower U.S. manufacturing environment, partially offset by growth in products focused on aerospace applications. Sales in EMEA, despite the increasingly difficult market environment, were flat on a constant currency basis due to the growth in products focused on aerospace applications.

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For the three months ended September 30, 2019, Widia operating loss was $2.0 million compared to operating income of $2.1 million in the prior year quarter. The change was driven primarily by higher raw material costs, organic sales decline and higher manufacturing costs, partially offset by incremental simplification/modernization benefits. Higher raw material costs, which are expected to abate in the second half of fiscal 2020, had a detrimental effect on year-over-year operating margin of approximately 430 basis points.

INFRASTRUCTURE
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Sales
$
194,003

 
$
217,456

Operating (loss) income
(2,690
)
 
23,860

Operating margin
(1.4
)%
 
11.0
%
 
Three Months Ended September 30, 2019
(in percentages)
Organic sales decline
(11)%
Foreign currency exchange impact(1)
(1)
Business days impact(2)
1
Sales decline
(11)%
 
Three Months Ended September 30, 2019
(in percentages)
As Reported
 
Constant Currency
End market sales decline:
 
 
 
Energy
(24)%
 
(24)%
General engineering
(5)
 
(4)
Earthworks
(3)
 
(1)
Regional sales growth (decline):
 
 
 
Americas
(14)%
 
(14)%
Asia Pacific
(13)
 
(11)
EMEA
5
 
9
For the three months ended September 30, 2019, Infrastructure sales decreased by 11 percent from the prior year quarter. The U.S. oil and gas market drove year-over-year decline in the energy market with average U.S. land rig counts down 14 percent compared to the prior year quarter. The decline in general engineering was driven by slower economic conditions in the Americas and Asia Pacific, offset partially by increased defense-related business in EMEA. Earthworks end market sales were down year-over-year due to softness in mining in the Americas and Asia Pacific, partially offset by growth in Americas construction. The sales decrease in the Americas was primarily driven by a decline in the energy end market, while the decrease in Asia Pacific was primarily due to declines in the general engineering and earthworks end markets. The sales increase in EMEA was driven primarily by growth in the general engineering end market, partially offset by declines in both the earthworks and energy end markets.
For the three months ended September 30, 2019, Infrastructure operating loss was $2.7 million compared to operating income of $23.9 million in the prior year quarter. The change was driven primarily by higher raw material costs, unfavorable mix along with organic sales decline and higher manufacturing costs, partially offset by incremental simplification/modernization benefits. Higher raw material costs, which are expected to abate in the second half of fiscal 2020, had a detrimental effect on year-over-year operating margin of approximately 660 basis points.


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CORPORATE
 
Three Months Ended September 30,
(in thousands)
2019
 
2018
Corporate expense
$
(240
)
 
$
(1,343
)
For the three months ended September 30, 2019, Corporate expense decreased by $1.1 million from the prior year quarter.

LIQUIDITY AND CAPITAL RESOURCES
Cash flow from operations is the primary source of funding for our capital expenditures. For the three months ended September 30, 2019, cash flow provided by operating activities was $27.5 million, primarily due to the net inflow from net income with adjustments for non-cash items, partially offset by a net outflow from changes in other assets and liabilities.
Our five-year, multi-currency, revolving credit facility, as amended and restated in June 2018 (Credit Agreement), is used to augment cash from operations and is an additional source of funds. The Credit Agreement provides for revolving credit loans of up to $700.0 million for working capital, capital expenditures and general corporate purposes. The Credit Agreement allows for borrowings in U.S. dollars, euros, Canadian dollars, pounds sterling and Japanese yen. Interest payable under the Credit Agreement is based upon the type of borrowing under the facility and may be (1) LIBOR plus an applicable margin, (2) the greater of the prime rate or the Federal Funds effective rate plus an applicable margin, or (3) fixed as negotiated by us. The Credit Agreement matures in June 2023.
The Credit Agreement requires us to comply with various restrictive and affirmative covenants, including two financial covenants: a maximum leverage ratio and a minimum consolidated interest coverage ratio (as those terms are defined in the Credit Agreement). We were in compliance with all such covenants as of September 30, 2019. For the three months ended September 30, 2019, average daily borrowings outstanding under the Credit Agreement were approximately $1.9 million. We had no borrowings outstanding under the Credit Agreement as of September 30, 2019 and June 30, 2019. Borrowings under the Credit Agreement are guaranteed by our significant domestic subsidiaries.
We consider the majority of the unremitted earnings of our non-U.S. subsidiaries to be permanently reinvested. With regard to these unremitted earnings, we have not, nor do we anticipate the need to, repatriate funds to the U.S. to satisfy domestic liquidity needs arising in the ordinary course of business, including liquidity needs associated with our domestic debt service requirements. With regard to the small portion of unremitted earnings that are not indefinitely reinvested, we maintain a deferred tax liability for foreign withholding and U.S. state income taxes.
In 2012, we received an assessment from the Italian tax authority that denied certain tax deductions primarily related to our 2008 tax return. Attempts at negotiating a reasonable settlement with the tax authority were unsuccessful; and as a result, we decided to litigate the matter. While the outcome of the litigation is still pending, the authority has served notice requiring payment in the amount of €36 million. Accordingly, we will request a stay and expect not to make a payment in connection with this assessment. We continue to believe that the assessment is baseless and accordingly, no income tax liability has been recorded in connection with this assessment in any period. However, if the Italian tax authority were to be successful in litigation, settlement of the amount alleged by the Italian tax authority would result in an increase to income tax expense for as much as €36 million, or $40 million, of which penalties and interest is €20 million, or $23 million.
At September 30, 2019, cash and cash equivalents were $113.5 million, Total Kennametal Shareholders' equity was $1,298.6 million and total debt was $596.4 million. Our current senior credit ratings are at investment grade levels. We believe that our current financial position, liquidity and credit ratings provide us access to the capital markets. We believe that we have sufficient resources available to meet cash requirements for the next 12 months. We continue to closely monitor our liquidity position and the condition of the capital markets, as well as the counterparty risk of our credit providers. There have been no material changes in our contractual obligations and commitments since June 30, 2019.
Cash Flow Provided by Operating Activities
During the three months ended September 30, 2019, cash flow provided by operating activities was $27.5 million, compared to $9.2 million for the prior year period. Cash flow provided by operating activities for the current year period consisted of net income and non-cash items amounting to an inflow of $48.9 million and changes in certain assets and liabilities netting to an outflow of $21.3 million. Contributing to the changes in certain assets and liabilities were a decrease in accounts payable and accrued liabilities of $47.1 million, a decrease in accrued income taxes of $6.7 million and a decrease in accrued pension and postretirement benefits of $6.3 million. Partially offsetting these cash outflows was a decrease in accounts receivable of $41.6 million and a decrease in inventories of $2.7 million.

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During the three months ended September 30, 2018, cash flow provided by operating activities consisted of net income and non-cash items amounting to an inflow of $94.5 million and changes in certain assets and liabilities netting to an outflow of $85.3 million. Contributing to the changes in certain assets and liabilities were a decrease in accounts payable and accrued liabilities of $52.7 million, an increase in inventories $48.6 million due in part to increasing demand and raw material price increases and a decrease in accrued pension and postretirement benefits of $4.3 million. Partially offsetting these cash outflows was an increase in accrued income taxes of $9.5 million and a decrease in accounts receivable of $9.0 million.
Cash Flow Used for Investing Activities
Cash flow used for investing activities was $71.9 million for the three months ended September 30, 2019, compared to $42.4 million for the prior year period. During the current year period, cash flow used for investing activities included capital expenditures, net of $72.1 million, which consisted primarily of simplification/modernization initiatives and equipment upgrades.
For the three months ended September 30, 2018, cash flow used for investing activities included capital expenditures, net of $42.4 million, which consisted primarily of equipment upgrades and modernization initiatives.
Cash Flow Used for Financing Activities
Cash flow used for financing activities was $20.0 million for the three months ended September 30, 2019 compared to $418.9 million in the prior year period. During the current year period, cash flow used for financing activities included $16.6 million of cash dividends paid to Shareholders and $5.8 million of the effect of employee benefit and stock plans and dividend reinvestment, partially offset by a net increase in notes payable of $3.3 million.
For the three months ended September 30, 2018, cash flow used for financing activities included $400.0 million of term debt repayments from the early extinguishment of our 2.650 percent Senior Unsecured Notes, $16.4 million of cash dividends paid to Shareholders and $2.4 million of the effect of employee benefit and stock plans and dividend reinvestment.

FINANCIAL CONDITION
Working capital was $646.7 million at September 30, 2019, a decrease of $82.4 million from $729.1 million at June 30, 2019. The decrease in working capital was primarily driven by a decrease in cash and cash equivalents of $68.5 million; a decrease in accounts receivable of $52.2 million due primarily to a decline in sales, a decrease in inventories of $14.4 million and the addition of current operating lease liabilities of $13.6 million due to the adoption of the new lease accounting standard without a restatement of prior periods. Partially offsetting these items was a decrease in accrued expenses of $22.9 million primarily due to payroll timing and lower accrued vacation pay, a decrease in other current liabilities of $17.8 million primarily due to bonus payments, a decrease in accounts payable of $14.2 million and an increase in other current assets of $9.7 million. Currency exchange rate effects decreased working capital by a total of approximately $18 million, the impact of which is included in the aforementioned changes.
Property, plant and equipment, net increased $29.4 million from $934.9 million at June 30, 2019 to $964.3 million at September 30, 2019, primarily due to capital additions of $72.7 million, partially offset by depreciation expense of $27.3 million, a negative currency exchange impact of approximately $14 million and disposals of $1.7 million.
At September 30, 2019, other assets were $569.7 million, an increase of $39.2 million from $530.5 million at June 30, 2019. The primary driver for the increase was the addition of operating lease ROU assets of $43.8 million the quarter due to the adoption of the new lease accounting standard without a restatement of prior periods and an increase in other assets of $6.7 million primarily due to an increase in pension plan assets, partially offset by a decrease in goodwill of $5.4 million primarily due to unfavorable currency exchange effects and a $4.3 million decrease in other intangible assets, which was due to amortization expense of $3.7 million and unfavorable currency exchange effects of approximately $1 million.
Kennametal Shareholders' equity was $1,298.6 million at September 30, 2019, a decrease of $36.6 million from $1,335.2 million at June 30, 2019. The decrease was primarily due to unfavorable currency exchange effects of $34.0 million and cash dividends paid to Shareholders of $16.6 million, partially offset by net income attributable to Kennametal of $6.5 million, pension and other postretirement benefit effects in other comprehensive loss of $4.6 million and capital stock issued under employee benefit and stock plans of $2.4 million.

DISCUSSION OF CRITICAL ACCOUNTING POLICIES
There have been no changes to our critical accounting policies since June 30, 2019.

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Goodwill and Indefinite-Lived Intangible Assets The fair values of our reporting units are determined using a combination of a discounted cash flow analysis and market multiples based upon historical and projected financial information. We apply our best judgment when assessing the reasonableness of the financial projections used to determine the fair value of each reporting unit. We evaluate the recoverability of goodwill and other indefinite-lived intangible asset using a discounted cash flow analysis based on projected financial information. We perform our annual impairment tests for the June quarter in connection with our annual planning process unless there are impairment indicators based on the results of an ongoing cumulative qualitative assessment that warrants a test prior to that quarter. For the Widia reporting unit, recently certain macroeconomic factors have deteriorated, and as such we considered the potential for impairment of the carrying values of the Widia reporting unit goodwill and indefinite-lived trademark of $27.0 million and $14.4 million, respectively. While our review did not indicate an impairment triggering event as of September 30, 2019, it did indicate a likely decrease in the excess of fair value over carrying value compared to our most recent impairment test during the June quarter of fiscal 2019. Fair value determinations require considerable judgment and are sensitive to changes in underlying assumptions and factors. As a result, there can be no assurance that the estimates and assumptions made for purposes of the annual goodwill and indefinite-lived intangible impairment test will prove to be an accurate prediction of the future. Certain events or circumstances that could reasonably be expected to negatively affect the underlying key assumptions and ultimately impact the estimated fair values of our reporting units and of the indefinite-lived trademark may include such items as: (i) a decrease in expected future cash flows, specifically, a further decrease in sales volume driven by a prolonged weakness in customer demand or other pressures adversely affecting our long-term sales trends; (ii) inability to achieve the anticipated benefits from simplification/modernization and other cost reduction programs and (iii) inability to achieve the sales from our strategic growth initiatives.

NEW ACCOUNTING STANDARDS

See Note 2 to our condensed consolidated financial statements set forth in Part I, Item 1 of this Quarterly Report on Form 10-Q for a description of new accounting standards.

RECONCILIATION OF FINANCIAL MEASURES NOT DEFINED BY U.S. GAAP
In accordance with SEC rules, below are the definitions of the non-GAAP financial measures we use in this report and the reconciliation of these measures to the most closely related GAAP financial measure. We believe that these measures provide useful perspective on underlying business trends and results and provide a supplemental measure of year-over-year results. The non-GAAP financial measures described below are used by management in making operating decisions, allocating financial resources and for business strategy purposes. These measures may be useful to investors as they provide supplemental information about business performance and provide investors a view of our business results through the eyes of management. These non-GAAP financial measures are not intended to be considered by the user in place of the related GAAP financial measure, but rather as supplemental information to our business results. These non-GAAP financial measures may not be the same as similar measures used by other companies due to possible differences in method and in the items or events being adjusted.
Organic sales growth (decline) Organic sales growth (decline) is a non-GAAP financial measure of sales growth (decline) (which is the most directly comparable GAAP measure) excluding the impacts of acquisitions, divestitures, business days and foreign currency exchange from year-over-year comparisons. We believe this measure provides investors with a supplemental understanding of underlying sales trends by providing sales growth decline on a consistent basis. Also, we report organic sales growth (decline) at the consolidated and segment levels.
Constant currency end market sales growth (decline) Constant currency end market sales growth (decline) is a non-GAAP financial measure of sales decline (which is the most directly comparable GAAP measure) by end market excluding the impacts of acquisitions, divestitures and foreign currency exchange from year-over-year comparisons. We note that, unlike organic sales growth (decline), constant currency end market sales growth (decline) does not exclude the impact of business days. We believe this measure provides investors with a supplemental understanding of underlying end market trends by providing end market sales growth (decline) on a consistent basis. Also, we report constant currency end market sales growth (decline) at the consolidated and segment levels. Widia sales are reported only in the general engineering end market. Therefore, we do not provide constant currency end market sales growth (decline) for the Widia segment and, thus, do not include a reconciliation for that metric.

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Constant currency regional sales growth (decline) Constant currency regional sales growth (decline) is a non-GAAP financial measure of sales growth (decline) (which is the most directly comparable GAAP measure) by region excluding the impacts of acquisitions, divestitures and foreign currency exchange from year-over-year comparisons. We note that, unlike organic sales growth, constant currency regional sales growth (decline) does not exclude the impact of business days. We believe this measure provides investors with a supplemental understanding of underlying regional trends by providing regional sales growth (decline) on a consistent basis. Also, we report constant currency regional sales growth (decline) at the consolidated and segment levels.
Reconciliations of organic sales growth to sales growth (decline) are as follows:
Three Months Ended September 30, 2019
Industrial
Widia
Infrastructure
Total
Organic sales growth decline
(11)%
(10)%
(11)%
(11)%
Foreign currency exchange impact(1)
(2)
(1)
(1)
(2)
Business days impact(2)
2
1
1
Sales decline
(13)%
(9)%
(11)%
(12)%
Reconciliations of constant currency end market sales decline to end market sales growth decline(3), are as follows:
Industrial
 
 
 
 
Three Months Ended September 30, 2019
General engineering
Transportation
Aerospace
Energy
Constant currency end market sales decline
(9)%
(17)%
(1)%
(8)%
Foreign currency exchange impact(1)
(2)
(2)
(2)
(1)
End market sales decline(3)
(11)%
(19)%
(3)%
(9)%
Infrastructure
 
 
 
Three Months Ended September 30, 2019
Energy
Earthworks
General engineering
Constant currency end market sales decline
(24)%
(1)%
(4)%
Foreign currency exchange impact(1)
(2)
(1)
End market sales decline(3)
(24)%
(3)%
(5)%
Total
 
 
 
 
 
Three Months Ended September 30, 2019
General engineering
Transportation
Aerospace
Energy
Earthworks
Constant currency end market sales decline
(8)%
(17)%
(1)%
(19)%
(1)%
Foreign currency exchange impact(1)
(1)
(2)
(2)
(1)
(2)
End market sales decline(3)
(9)%
(19)%
(3)%
(20)%
(3)%

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Reconciliations of constant currency regional sales growth (decline) to reported regional sales growth (decline)(4), are as follows:
 
 
Three Months Ended 
 September 30, 2019
 
 
 
Americas
 
EMEA
 
Asia Pacific
 
Industrial
 
 
 
 
 
 
 
Constant currency regional sales decline
 
(7)%
 
(12)%
 
(15)%
 
Foreign currency exchange impact(1)
 
(1)
 
(3)
 
(2)
 
Regional sales decline(4)
 
(8)%
 
(15)%
 
(17)%
 
 
 
 
 
 
 
 
 
Widia
 
 
 
 
 
 
 
Constant currency regional sales decline
 
(3)%
 
—%
 
(24)%
 
Foreign currency exchange impact(1)
 
 
(2)
 
 
Regional sales decline(4)
 
(3)%
 
(2)%
 
(24)%
 
 
 
 
 
 
 
 
 
Infrastructure
 
 
 
 
 
 
 
Constant currency regional sales (decline) growth
 
(14)%
 
9%
 
(11)%
 
Foreign currency exchange impact(1)
 
 
(4)
 
(2)
 
Regional sales (decline) growth(4)
 
(14)%
 
5%
 
(13)%
 
 
 
 
 
 
 
 
 
Total
 
 
 
 
 
 
 
Constant currency regional sales decline
 
(10)%
 
(7)%
 
(15)%
 
Foreign currency exchange impact(1)
 
 
(4)
 
(1)
 
Regional sales decline(4)
 
(10)%
 
(11)%
 
(16)%
 
(1) Foreign currency exchange impact is calculated by dividing the difference between current period sales at prior period foreign exchange rates and prior period sales by prior period sales.
(2) Business days impact is calculated by dividing the year-over-year change in weighted average working days (based on mix of sales by country) by prior period weighted average working days.
(3) Aggregate sales for all end markets sum to the sales amount presented on Kennametal's financial statements.
(4) Aggregate sales for all regions sum to the sales amount presented on Kennametal's financial statements.

ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes to our market risk exposures since June 30, 2019.

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ITEM 4.    CONTROLS AND PROCEDURES

As of the end of the period covered by this Quarterly Report on Form 10-Q, the Company's management evaluated, with the participation of the Company's Chief Executive Officer and Chief Financial Officer, the effectiveness of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). The Company's disclosure controls were designed to provide a reasonable assurance that information required to be disclosed in reports that we file or submit under the Securities Exchange Act of 1934, as amended (Exchange Act), is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission. It should be noted that the design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote. However, the controls have been designed to provide reasonable assurance of achieving the controls' stated goals. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures are effective to provide reasonable assurance at September 30, 2019 to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is (i) accumulated and communicated to management, including the Company's Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure and (ii) recorded, processed, summarized and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission.

There were no changes in the Company's internal control over financial reporting that occurred during the Company's most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

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PART II. OTHER INFORMATION
 
ITEM 1.    LEGAL PROCEEDINGS
From time to time, we are party to legal claims and proceedings that arise in the ordinary course of business, which may relate to our operations or assets, including real, tangible or intellectual property. Although certain of these types of actions are currently pending, we do not believe that any individual proceeding is material or that our pending legal proceedings in the aggregate are material to Kennametal. See "Note 12. Environmental Matters" for a discussion of our exposure to certain environmental liabilities.

ITEM 2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ISSUER PURCHASES OF EQUITY SECURITIES
 
Period
Total Number of
Shares Purchased (1) 

 
Average Price
Paid per Share

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

 
Maximum Number
of Shares that May
Yet Be Purchased
Under the Plans or
Programs (2) 

July 1 through July 31, 2019
12,516

 
$
34.22

 

 
10,100,100

August 1 through August 31, 2019
125,330

 
33.08

 

 
10,100,100

September 1 through September 30, 2019
1,373

 
30.91

 

 
10,100,100

Total
139,219

 
$
33.16

 

 
 
 
(1)
During the current period, 1,875 shares were purchased on the open market on behalf of Kennametal to fund the Company’s dividend reinvestment program. Also, during the current period employees delivered 137,344 shares of restricted stock to Kennametal, upon vesting, to satisfy tax withholding requirements.
(2)
On July 25, 2013, the Company publicly announced an amended repurchase program for up to 17 million shares of its outstanding capital stock outside of the Company's dividend reinvestment program.

UNREGISTERED SALES OF EQUITY SECURITIES
None.    


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ITEM 6.    EXHIBITS
(31)
 
Rule 13a-14(a)/15d-14(a) Certifications
  
 
(31.1)
 
  
Filed herewith.
(31.2)
 
  
Filed herewith.
(32)
 
Section 1350 Certifications
  
 
(32.1)
 
  
Filed herewith.
(101)
 
XBRL
  
 
(101.INS) (3)
 
XBRL Instance Document
  
Filed herewith.
(101.SCH) (4)
 
XBRL Taxonomy Extension Schema Document
  
Filed herewith.
(101.CAL) (4)
 
XBRL Taxonomy Extension Calculation Linkbase Document
  
Filed herewith.
(101.DEF) (4)
 
XBRL Taxonomy Definition Linkbase
 
Filed herewith.
(101.LAB) (4)
 
XBRL Taxonomy Extension Label Linkbase Document
  
Filed herewith.
(101.PRE) (4)
 
XBRL Taxonomy Extension Presentation Linkbase Document
  
Filed herewith.
(3)
The instance document does not appear in the Interactive Data File because its XBRL (Extensible Business Reporting Language) tags are embedded within the Inline XBRL document.
(4)
Attached as Exhibit 101 to this report are the following documents formatted in Inline XBRL: (i) the Condensed Consolidated Statement of Income for the three months ended September 30, 2019 and 2018, (ii) the Condensed Consolidated Statement of Comprehensive Income for the three months ended September 30, 2019 and 2018, (iii) the Condensed Consolidated Balance Sheet at September 30, 2019 and June 30, 2019, (iv) the Condensed Consolidated Statement of Cash Flows for the three months ended September 30, 2019 and 2018 and (v) Notes to Condensed Consolidated Financial Statements for the three months ended September 30, 2019.

 

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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
KENNAMETAL INC.
 
Date:
November 6, 2019
By: 
 
/s/ Patrick S. Watson                                               
 
Patrick S. Watson
Vice President Finance and Corporate Controller

36
Exhibit


Exhibit 31.1
I, Christopher Rossi, certify that:
1.
I have reviewed this quarterly report on Form 10-Q of Kennametal Inc.;
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d -15(f)) for the registrant and have:
a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c)
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d)
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions)
a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
 

 
Date:
November 6, 2019
 
/s/ Christopher Rossi
 
 
 
Christopher Rossi
President and Chief Executive Officer


Exhibit


Exhibit 31.2
I, Damon J. Audia, certify that: 
1.
I have reviewed this quarterly report on Form 10-Q of Kennametal Inc.;
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d -15(f)) for the registrant and have:
a)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;
c)
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
d)
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent functions)
a)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

 
Date:
November 6, 2019
 
/s/ Damon J. Audia
 
 
 
Damon J. Audia
Vice President and Chief Financial Officer



Exhibit


Exhibit 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of Kennametal Inc. (the “Corporation”) on Form 10-Q for the period ended September 30, 2019, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), each of the undersigned officers of the Corporation certifies, pursuant to 18 U.S.C. § 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to his knowledge:
 
1)
The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and
2)
The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Corporation.

/s/ Christopher Rossi
Christopher Rossi
President and Chief Executive Officer
 
November 6, 2019
/s/ Damon J. Audia
Damon J. Audia
Vice President and Chief Financial Officer
 
November 6, 2019

*This certification is made solely for purposes of 18 U.S.C. Section 1350, subject to the knowledge standard contained therein, and not for any other purpose.