THE SHERWIN-WILLIAMS COMPANY 
(dollars in millions, except as noted and per share data) BACKGROUNDThe Sherwin-Williams Company , founded in 1866, and its consolidated wholly owned subsidiaries (collectively, the "Company") are engaged in the development, manufacture, distribution and sale of paint, coatings and related products to professional, industrial, commercial and retail customers primarily inNorth and South America with additional operations in theCaribbean region and throughoutEurope ,Asia andAustralia . The Company is structured into three reportable segments-The Americas Group ,Consumer Brands Group andPerformance Coatings Group (collectively, the "Reportable Segments")-and an Administrative segment in the same way it is internally organized for assessing performance and making decisions regarding allocation of resources. See Note 17 of Item 1 for additional information on the Company's Reportable Segments. SUMMARY •Consolidated net sales increased 5.2% in the quarter to$5.122 billion •Net sales from stores inU.S. andCanada open more than twelve calendar months increased 3.1% in the quarter •Diluted net income per share increased to$7.66 per share in the quarter compared to$6.16 per share in the third quarter 2019 •Third quarter 2020 included charges of$0.63 per share for acquisition-related amortization expense; third quarter 2019 included charges of$0.63 per share for acquisition-related amortization expense and$0.14 per share for integration costs, partially offset by a$0.28 per share benefit from the resolution of theCalifornia litigation •Net operating cash increased 54% year-to-date to$2.56 billion , or 18.5% of sales OUTLOOK OnMarch 11, 2020 , theWorld Health Organization declared the outbreak of the novel coronavirus (COVID-19) to be a global pandemic and recommended containment and mitigation measures worldwide. While the response to the outbreak continues to evolve, it has led to stay-at-home orders and physical distancing guidelines, among other mandates, that have substantially disrupted normal activities in most segments of the global economy. We have worked with government and health authorities to continue to operate our business during this crisis, including our company-operated stores, manufacturing plants and other facilities, due to the essential nature of our products. We have endeavored to follow recommended actions of government authorities and health officials in order to protect the health and well-being of our employees, customers and their families worldwide by implementing online and phone ordering of products, using curb side pickup or delivery, and implementing remote, alternate and flexible work arrangements where possible. We will continue to work with government authorities and health officials in implementing appropriate safety measures, adapting as recommendations and safety protocols evolve so that we may maintain our operations, keep our stores open and continue to return employeeswho work in office environments. While the COVID-19 pandemic did not have a material adverse effect on our consolidated financial results for the first three quarters, we anticipate the impact of the deterioration of theU.S and global economies may continue and could have an adverse impact on our business in future periods. The extent to which our operations will be impacted by the outbreak depends largely on future developments, including the duration, severity and scope of the pandemic, all of which remain uncertain. We have a strong liquidity position, with$619.9 million in cash and$3.50 billion of unused capacity under our credit facilities atSeptember 30, 2020 . The Company is in compliance with bank covenants and expects to remain in compliance. During the first half of the year, we took actions to preserve liquidity and generate cash flow during the crisis. As the circumstances around the COVID-19 pandemic remain fluid, we continue to actively monitor the pandemic's impact to the Company worldwide, including our financial position, liquidity, results of operations and cash flows, while managing our response to the crisis through collaboration with employees, customers, suppliers, government authorities, health officials and other business partners. Please see Item 1A "Risk Factors" in Part II of this Quarterly Report on Form 10-Q for further information regarding the current and potential impact of the COVID-19 pandemic on the Company. 25 -------------------------------------------------------------------------------- RESULTS OF OPERATIONS The Company has historically experienced, and expects to continue to experience, variability in quarterly results. The results of operations for the three and nine months endedSeptember 30, 2020 are not indicative of the results to be expected for the full year as business is seasonal in nature with the majority of Net sales for the Reportable Segments traditionally occurring during the second and third quarters. However, periods of economic downturn can alter the Company's seasonal patterns. The following discussion and analysis addresses comparisons of material changes in the consolidated financial statements for the three and nine months endedSeptember 30, 2020 and 2019. Net Sales (millions of dollars) Three Months EndedSeptember 30 , Nine Months Ended September 30, 2020 2019 $ Change % Change 2020 2019 $ Change % Change The Americas Group$ 2,978.3 $ 2,898.2 $ 80.1 2.8 %$ 7,807.5 $ 7,809.1 $ (1.6) - % Consumer Brands Group 838.1 678.4 159.7 23.5 % 2,440.6 2,137.4 303.2 14.2 % Performance Coatings Group 1,305.3 1,290.2 15.1 1.2 % 3,622.7 3,838.0 (215.3) (5.6) % Administrative 0.5 0.9 (0.4) (44.4) % 2.1 1.9 0.2 10.5 % Total$ 5,122.2 $ 4,867.7 $ 254.5 5.2 %$ 13,872.9 $ 13,786.4 $ 86.5 0.6 % Three Months EndedSeptember 30, 2020 Consolidated net sales increased in the third quarter of 2020 due primarily to higher sales to most of theConsumer Brands Group's retail customers in all regions, continued strong sales in residential repaint and DIY in North American stores, and a return to growth inPerformance Coatings Group . Currency translation rate changes decreased net sales by 0.9% in the third quarter of 2020. Net sales of all consolidated foreign subsidiaries were up 5.3% to$967.6 million in the third quarter compared to$918.8 million in the same period last year. The increase in net sales for all consolidated foreign subsidiaries in the third quarter was due primarily to higher volume sales to most of theConsumer Brands Group's retail customers. Net sales of all operations other than consolidated foreign subsidiaries were up 5.2% to$4.155 billion in the third quarter compared to$3.949 billion in the same period last year. Net sales inThe Americas Group increased in the third quarter of 2020 due primarily to higher residential repaint, DIY and new residential paint sales in theU.S. andCanada , partially offset by the impacts of COVID-19 on demand in some end market segments served. Net sales from stores open for more than twelve calendar months in theU.S. andCanada increased 3.1% in the third quarter compared to last year's comparable period. Sales of non-paint products increased 0.2% compared to last year's third quarter. A discussion of changes in volume versus pricing for sales of products other than paint is not pertinent due to the wide assortment of general merchandise sold. Net sales of theConsumer Brands Group increased in the third quarter due primarily to higher volume sales to most of the group's retail customers in all regions. Net sales in thePerformance Coatings Group stated inU.S. dollars increased in the third quarter primarily due to higher sales volume and improving demand in most businesses and regions, led by our Packaging and Industrial Wood divisions. Currency translation rate changes decreased thePerformance Coatings Group's net sales by 1.4% in the third quarter. Nine Months EndedSeptember 30, 2020 Consolidated net sales increased slightly in the first nine months of 2020 due primarily to higher sales to most of theConsumer Brands Group's retail customers in all regions, mostly offset by demand softness in some end markets inThe Americas Group and thePerformance Coatings Group caused by the impacts of COVID-19 and unfavorable currency translation rate changes. Currency translation rate changes decreased net sales by 1.3% in the first nine months of 2020. Net sales of all consolidated foreign subsidiaries were down 7.1% to$2.572 billion in the first nine months compared to$2.768 billion in the same period last year. The decrease in net sales for all consolidated foreign subsidiaries in the first nine months was due primarily to demand softness in some end markets from the impacts of COVID-19, and unfavorable currency translation rate changes. Net sales of all operations other than consolidated foreign subsidiaries were up 2.6% to$11.301 billion in the first nine months compared to$11.019 billion in the same period last year. Net sales inThe Americas Group were essentially flat in the first nine months of 2020 due primarily to the impacts of COVID-19 on demand in most end market segments served during the second quarter. Net sales from stores open for more than twelve calendar months in theU.S. andCanada increased 0.7% in the first nine months compared to last year's comparable 26 -------------------------------------------------------------------------------- period. Sales of non-paint products decreased 4.3% over last year's first nine months. A discussion of changes in volume versus pricing for sales of products other than paint is not pertinent due to the wide assortment of general merchandise sold. Net sales of theConsumer Brands Group increased in the first nine months due primarily to higher volume sales to most of the group's North American and European retail customers. Net sales in thePerformance Coatings Group stated inU.S. dollars decreased in the first nine months primarily due to softer end market demand in most businesses, mostly due to the impacts of COVID-19, and unfavorable currency translation rate changes, partially offset by increased sales in the Packaging and Coil divisions in all regions. Currency translation rate changes decreased thePerformance Coatings Group's net sales by 2.2% in the first nine months of 2020. Income Before Income Taxes The following table presents the components of income before income taxes as a percentage of net sales: (millions of dollars, except % of sales data) Three Months EndedSeptember 30 , Nine Months EndedSeptember 30, 2020 2019 2020 2019 % of Net % of Net % of Net Sales Sales Sales % of Net Sales Gross profit$ 2,455.3 47.9 %$ 2,225.6 45.7 %$ 6,553.9 47.2 %$ 6,142.1 44.6 % Selling, general and administrative expenses 1,406.8 27.5 % 1,345.2 27.6 % 4,005.7 28.9 % 3,920.5 28.4 % Other general expense - net 10.5 0.2 % 12.0 0.2 % 13.1 0.1 % 18.7 0.2 % Amortization 78.7 1.5 % 77.5 1.6 % 234.2 1.7 % 234.4 1.7 % Interest expense 83.3 1.6 % 85.3 1.8 % 257.6 1.8 % 265.5 1.9 % Interest and net investment income (1.4) - % (0.6) - % (2.6) - % (1.6) - % California litigation expense - - % (34.7) (0.7) % - - % (34.7) (0.2) % Other expense - net 1.8 - % 31.1 0.6 % 30.6 0.2 % 54.9 0.4 % Income before income taxes $ 875.6 17.1 %$ 709.8 14.6 %$ 2,015.3 14.5 %$ 1,684.4 12.2 % Three Months EndedSeptember 30, 2020 Consolidated gross profit increased$229.7 million in the third quarter of 2020 compared to the same period in 2019. Consolidated gross profit as a percent of consolidated net sales increased in the third quarter of 2020 to 47.9%, compared to 45.7% during the same period in 2019. Consolidated gross profit dollars and percent improved as a result of favorable customer and product mix and moderating raw material costs.The Americas Group's gross profit in the third quarter of 2020 was higher than last year by$107.2 million due primarily to favorable customer and product mix and moderating raw material costs, partially offset by unfavorable currency translation rate changes.The Americas Group's gross profit as a percent of sales increased in the third quarter of 2020 compared to the same period in 2019 for these same reasons.The Consumer Brands Group's gross profit increased by$90.3 million in the third quarter compared to the same period last year due primarily to higher sales volume to most of the group's retail customers and moderating raw material costs.The Consumer Brands Group's gross profit as a percent of sales increased in the third quarter compared to the same period last year due to higher sales volume, moderating raw material costs and actions taken over the past year to improve international operating margins.The Performance Coatings Group's gross profit increased$31.2 in the third quarter compared to the same period last year, when stated inU.S. dollars, primarily due to moderating raw material costs and higher sales volume.The Performance Coatings Group's gross profit as a percent of sales increased in the third quarter compared to the same period last year for these same reasons. Consolidated selling, general and administrative expenses (SG&A) increased$61.6 million in the third quarter of 2020 versus the same period last year due primarily to increased spending from new store openings, and to support higher DIY sales levels with our retail customers. As a percent of sales, consolidated SG&A remained relatively flat at 27.5% in the third quarter of 2020, from 27.6% in the same period last year.The Americas Group's SG&A increased$36.5 million in the third quarter of 2020 compared to the same period last year due primarily to increased spending from new store openings and additional sales reps.The Consumer Brands Group's SG&A increased$8.3 million in the third quarter compared to the same period last year to support higher sales levels.The Performance Coatings Group's SG&A increased$9.1 million in the third quarter compared to the same period last year to 27 -------------------------------------------------------------------------------- support higher sales levels and investments in information technology systems. The Administrative segment's SG&A increased$7.7 million in the third quarter compared to the same period last year due primarily to investments in information technology systems, partially offset by lower integration costs. In the third quarter of 2020, amortization of acquired intangibles was$50.5 million and$21.7 million for the Performance Coatings and Consumer Brands Groups, respectively. In the third quarter of 2019, amortization of acquired intangibles was$50.5 million and$21.4 million for the Performance Coatings and Consumer Brands Groups, respectively. Other expense - net improved$29.3 million in the third quarter of 2020 compared to the same period in 2019 primarily due to a decrease in foreign currency transaction related losses and the recognition of a$14.8 million loss on extinguishment of debt in the prior year. Nine Months EndedSeptember 30, 2020 Consolidated gross profit increased$411.8 million in the first nine months of 2020 compared to the same period in 2019. Consolidated gross profit as a percent of consolidated net sales increased in the first nine months of 2020 to 47.2%, compared to 44.6% during the same period in 2019. Consolidated gross profit dollars and percent improved as a result of favorable customer and product mix and moderating raw material costs.The Americas Group's gross profit in the first nine months of 2020 was higher than last year by$236.6 million due to moderating raw material costs and favorable customer and product mix, partially offset by unfavorable currency translation rate changes.The Americas Group's gross profit as a percent of sales increased in the first nine months of 2020 compared to the same period in 2019 for the same reasons.The Consumer Brands Group's gross profit increased by$178.7 million in the first nine months compared to the same period last year due primarily to higher sales volume to most of the group's North American and European retail customers and moderating raw material costs.The Consumer Brands Group's gross profit as a percent of sales increased in the first nine months compared to the same period last year for these same reasons.The Performance Coatings Group's gross profit decreased$15.5 million in the first nine months compared to the same period last year, when stated inU.S. dollars, primarily due to unfavorable currency translation rate changes, partially offset by moderating raw material costs.The Performance Coatings Group's gross profit as a percent of sales increased in the first nine months compared to the same period last year due to moderating raw material costs. Consolidated SG&A increased$85.2 million in the first nine months of 2020 versus the same period last year due primarily to increased expenses inThe Americas Group , partially offset by reduced or deferred corporate costs related to COVID-19. As a percent of sales, consolidated SG&A in the first nine months compared to the same period last year increased due to these same reasons.The Americas Group's SG&A increased$108.0 million in the first nine months of 2020 due primarily to increased spending from new store openings, additional sales reps and COVID-19 costs primarily in the second quarter.The Consumer Brands Group's SG&A increased$3.1 million in the first nine months compared to the same period last year primarily to support higher sales levels, partially offset by currency translation rate changes.The Performance Coatings Group's SG&A increased$2.1 million in the first nine months compared to the same period last year primarily due to investments in information technology systems and expenses related to COVID-19, partially offset by currency translation rate changes. The Administrative segment's SG&A decreased$28.0 million in the first nine months compared to the same period last year due primarily to lower investments in information technology systems. Other general expense - net decreased$5.6 million in the first nine months of 2020 compared to the same period in 2019 primarily due to increased gains from the sale and disposition of fixed assets in the current year. In the first nine months of 2020, amortization of acquired intangibles was$150.6 million and$64.5 million for the Performance Coatings and Consumer Brands Groups, respectively. In the first nine months of 2019, amortization of acquired intangibles was$152.1 million and$64.1 million for the Performance Coatings and Consumer Brands Groups, respectively. Other expense - net improved$24.3 million in the first nine months of 2020 compared to the same period in 2019 primarily due to a $$32.4 million charge recognized in 2019 for the settlement of a domestic pension plan, partially offset by a$6.5 million increase in losses recognized upon extinguishment of debt. The following table presents income before income taxes by segment and as a percentage of net sales by segment: 28 --------------------------------------------------------------------------------
Three Months Ended Nine Months Ended
September 30, % September 30, %
2020 2019 Change 2020 2019 Change
Income Before Income Taxes:
The Americas Group $ 747.4 $ 663.6 12.6 % $ 1,735.4 $ 1,607.1 8.0 %
Consumer Brands Group 198.3 114.9 72.6 % 519.2 343.5 51.1 %
Performance Coatings Group 155.3 137.5 12.9 % 366.4 386.5 (5.2) %
Administrative (225.4) (206.2) (9.3) % (605.7) (652.7) 7.2 %
Total $ 875.6 $ 709.8 23.4 % $ 2,015.3 $ 1,684.4 19.6 %
Income Before Income Taxes
as a % of Net Sales:
The Americas Group 25.1 % 22.9 % 22.2 % 20.6 %
Consumer Brands Group 23.7 % 16.9 % 21.3 % 16.1 %
Performance Coatings Group 11.9 % 10.7 % 10.1 % 10.1 %
Administrative nm nm nm nm
Total 17.1 % 14.6 % 14.5 % 12.2 %
nm - not meaningful
Income Tax Expense
The effective tax rate was 19.4% for the third quarter of 2020 compared to 18.8%
for the third quarter of 2019 and 19.4% for the first nine months of 2020
compared to 23.3% for the first nine months of 2019. The decrease in the
effective tax rate in the current year compared to prior year was primarily due
to a $74.3 million tax provision recorded in the first nine months of 2019
related to the reversal of previously recognized net tax benefits from federal
renewable energy tax credit funds. The effective tax rate was also favorably
impacted by tax benefits related to employee share based payments during 2020
and 2019. The other significant components of the Company's tax rate were
consistent year over year. See Note 15 of Item 1 for additional information.
Net Income Per Share
Diluted net income per share in the third quarter of 2020 increased to $7.66 per
share compared to $6.16 per share in the third quarter of 2019. Diluted net
income per share for the third quarter of 2020 included a $0.63 per share charge
for acquisition-related amortization expense. The third quarter of 2019 included
charges of $0.63 per share for acquisition-related amortization expense and
$0.14 per share for integration costs, partially offset by a benefit of $0.28
per share from the resolution of the California litigation. Currency translation
rate changes had a negligible impact on diluted net income per share in the
third quarter.
Diluted net income per share in the first nine months of 2020 increased to
$17.60 per share compared to $13.82 per share in the first nine months of 2019.
Diluted net income per share for the first nine months of 2020 included a $1.87
per share charge for acquisition-related amortization expense. The first nine
months of 2019 included charges of $1.90 per share for acquisition-related
amortization expense, $0.33 per share for integration costs, $0.79 per share for
a tax credit investment loss and $0.27 per share for pension plan settlement
expense, partially offset by a benefit of $0.28 per share from the resolution of
the California litigation. Currency translation rate changes decreased diluted
net income per share in the first nine months by $0.09 per share.
FINANCIAL CONDITION, LIQUIDITY AND CASH FLOW
Overview
The Company's financial condition, liquidity and cash flow continued to be
strong during the first nine months of 2020 as net operating cash was $2.564
billion , an improvement of $902.4 million from the prior year comparable period,
primarily due to improved operating results as consolidated income before income
taxes increased $330.9 million to $2.015 billion in the current year or 14.5% of
net sales.
Cash and cash equivalents increased $458.1 million during the first nine months
of 2020. Cash flow from operations funded normal seasonal working capital
increases, allowed the Company to return $1.663 billion to shareholders in the
form of share
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buybacks and cash dividends and repay $205.7 million in long-term debt (net of
proceeds from issuances) during the first nine months of 2020. At September 30,
2020 , the Company's cash and cash equivalents were $619.9 million compared to
$161.8 million and $189.6 million at December 31, 2019 and September 30, 2019 ,
respectively.
Total debt at September 30, 2020 was $8.291 billion or 66.3% as a percentage of
total capitalization compared to $8.685 billion or 67.8% at December 31, 2019
and $8.908 billion or 68.9% at September 30, 2019 . At September 30, 2020 , the
Company had remaining short-term borrowing ability of $3.500 billion . The
Company continues to maintain sufficient short-term borrowing capacity at
reasonable rates, and the Company has sufficient cash on hand and total
available borrowing capacity to fund its current operating needs.
Net Working Capital
Net working capital, defined as total current assets less total current
liabilities, increased $775.4 million to a surplus of $817.3 million at
September 30, 2020 compared to a surplus of $41.9 million at September 30, 2019 .
The net working capital increase is primarily due to cash generated from
operations, a reduction in short-term borrowings and the current portion of
long-term debt, partially offset by decreases in accounts receivable and
inventory.
Comparing current asset balances at September 30, 2020 to September 30, 2019 ,
cash and cash equivalents increased $430.3 million , accounts receivable
decreased $24.5 million , inventories decreased $152.2 million due to increased
DIY paint demand, and other current assets increased $14.3 million primarily
related to prepaid expenses. Current liability balances decreased at
September 30, 2020 compared to September 30, 2019 primarily due to a $435.5
million decrease in short-term borrowings, a $405.5 million decrease in the
current portion of long-term debt, partially offset by increases in accrued
expenses and accounts payable. At September 30, 2020 , the Company's current
ratio was 1.19 compared to 1.02 and 1.01 at December 31, 2019 and September 30,
2019 , respectively.
Goodwill and Intangible Assets
Goodwill and intangible assets decreased $235.0 million from December 31, 2019
and decreased $343.7 million from September 30, 2019 . The net decrease during
the first nine months of 2020 was primarily due to amortization of $234.2
million and foreign currency translation of $1.6 million . The net decrease over
the twelve month period from September 30, 2019 was primarily due to
amortization of $312.6 million , impairment of indefinite-lived trademarks during
the fourth quarter of 2019 of $122.1 million and foreign currency translation of
$86.6 million , partially offset by acquisitions of $3.6 million . The fair value
of the Company's acquired intangible assets may be impacted by the Company's
ongoing integration efforts.
During the first nine months of 2020, the Company considered the current and
expected future economic and market conditions surrounding the COVID-19 pandemic
when evaluating whether an interim impairment trigger had occurred related to
the Company's recognized goodwill and intangible assets. While the Company
determined no impairment trigger occurred during the first nine months of 2020
and believes its assumptions and estimates of fair value related to reporting
units and indefinite-lived trademarks are reasonable, actual financial results
could differ from those estimates due to the inherent uncertainty involved in
making such estimates. Changes in assumptions concerning future financial
results (including sales projections related to trademarks impaired during the
fourth quarter of 2019) or other underlying assumptions could have a significant
impact and future impairment charges could be required.
See Note 6 in the Company's Annual Report on Form 10-K for the year ended
December 31, 2019 for more information concerning the Company's goodwill and
intangible assets, including impairment testing of these assets.
Other Assets
Other assets at September 30, 2020 increased $6.8 million in the first nine
months of 2020 and decreased $40.1 million from a year ago. The increase in the
first nine months was primarily due to an increase in other investments,
partially offset by a decrease in deposits. The decrease from September 30, 2019
was primarily due to decreases in deferred tax assets and other investments.
Property, Plant and Equipment
Net property, plant and equipment decreased $55.2 million in the first nine
months of 2020 and decreased $18.3 million in the twelve months since
September 30, 2019 . The decrease in the first nine months was primarily due to
depreciation expense of $200.0 million , unfavorable changes in currency
translation rates of $14.6 million and sale or disposition of fixed assets of
$34.4 million , partially offset by capital expenditures of $193.8 million . Since
September 30, 2019 , the decrease was primarily due to depreciation expense of
$267.1 million , sale or disposition of fixed assets of $54.1 million , and
unfavorable changes in currency translation rates of $11.8 million , partially
offset by capital expenditures of $297.9 million and acquisitions of $16.8
million . Capital expenditures primarily represented expenditures associated with
improvements and normal equipment
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replacement in manufacturing and distribution facilities in the Consumer Brands
Group , normal equipment replacement in The Americas and Performance Coatings
Groups, and aviation transportation and information systems hardware in the
Administrative segment.
Debt
In March 2020 , the Company issued $500.0 million of 2.30% Senior Notes due May
2030 and $500.0 million of 3.30% Senior Notes due May 2050 (collectively the
"New Notes") in a public offering. The net proceeds from the issuance of the New
Notes were used to repurchase a portion of the 2.75% Senior Notes due 2022 and
redeem the 2.25% Senior Notes due May 2020 . The repurchase of the 2.75% Senior
Notes due 2022 during the first quarter of 2020 resulted in a loss of $21.3
million recorded in Other expense - net.
On September 14, 2020 , the Company amended its five-year credit agreement
entered into on May 6, 2016 . The primary purpose of the amendment was to extend
the maturity of $75.0 million of the commitments available for borrowing and
obtaining the issuance, renewal, extension and increase of a revolving letter of
credit from June 20, 2021 to June 20, 2025 .
At September 30, 2020 , the Company's outstanding debt was primarily comprised of
$8.291 billion of long-term debt primarily associated with senior notes. There
were no borrowings outstanding on its revolving lines of credit or under its
commercial paper program. The Company had unused capacity under its various
credit agreements of $3.500 billion at September 30, 2020 .
Defined Benefit Pension and Other Postretirement Benefit Plans
Long-term liabilities for postretirement benefits other than pensions did not
change significantly from December 31, 2019 and September 30, 2019 . See Note 8
in the Company's Annual Report on Form 10-K for the year ended December 31, 2019
for more information concerning the Company's benefit plan obligations.
Deferred Income Taxes
Deferred income taxes at September 30, 2020 decreased $13.2 million in the first
nine months of 2020, and decreased $140.2 million from a year ago, primarily due
to amortization of acquisition-related intangible assets.
Other Long-Term Liabilities
Environmental-Related Liabilities
The operations of the Company, like those of other companies in the same
industry, are subject to various federal, state and local environmental laws and
regulations. These laws and regulations not only govern current operations and
products, but also impose potential liability on the Company for past
operations. Management expects environmental laws and regulations to impose
increasingly stringent requirements upon the Company and the industry in the
future. Management believes that the Company conducts its operations in
compliance with applicable environmental laws and regulations and has
implemented various programs designed to protect the environment and promote
continued compliance.
Depreciation of capital expenditures and other expenses related to ongoing
environmental compliance measures were included in the normal operating expenses
of conducting business. The Company's capital expenditures, depreciation and
other expenses related to ongoing environmental compliance measures were not
material to the Company's financial condition, liquidity, cash flow or results
of operations during the first nine months of 2020. Management does not expect
that such capital expenditures, depreciation and other expenses will be material
to the Company's financial condition, liquidity, cash flow or results of
operations in 2020. See Note 8 for further information on environmental-related
long-term liabilities.
Contractual Obligations, Commercial Commitments and Warranties
Short-term borrowings decreased $204.5 million to $0.2 million at September 30,
2020 from $204.7 million at December 31, 2019 . Total long-term debt decreased
$189.5 million to $8.291 billion at September 30, 2020 from $8.481 billion at
December 31, 2019 , and decreased $181.6 million from $8.473 billion at
September 30, 2019 .
The California litigation accrual decreased $12.0 million to $64.7 million
($12.0 million current and $52.7 million long-term) at September 30, 2020 from
$76.7 million at September 30, 2019 as a result of the Company remitting its
annual payment in September in accordance with the final court approved
agreement to resolve the litigation. See Note 9 for additional information.
There have been no other significant changes to the Company's contractual
obligations and commercial commitments in the third quarter of 2020 as
summarized in Management's Discussion and Analysis of Financial Condition and
Results of Operations in the Company's Annual Report on Form 10-K for the year
ended December 31, 2019 .
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See Note 9 for information concerning litigation. Shareholders' Equity Shareholders' equity increased$84.0 million to$4.207 billion atSeptember 30, 2020 from$4.123 billion atDecember 31, 2019 and increased$184.4 million from$4.023 billion atSeptember 30, 2019 . The increase in Shareholders' equity for the first nine months of 2020 resulted from net income of$1.623 billion and an increase in other capital of$220.3 million primarily associated with stock-based compensation expense and stock option exercises, partially offset by$1.277 billion ofTreasury stock activity primarily attributable to treasury stock repurchases, cash dividends paid on common stock of$367.8 million and an increase in Accumulated other comprehensive loss of$112.8 million . The increase in Shareholders' equity sinceSeptember 30, 2019 resulted from net income of$1.872 billion and an increase in other capital of$294.0 million primarily associated with stock-based compensation expense and stock option exercises, partially offset by$1.481 billion ofTreasury stock activity primarily attributable to treasury stock repurchases, cash dividends paid on common stock of$473.7 million and an increase in Accumulated other comprehensive loss of$25.2 million . During the first nine months of 2020, the Company purchased 2,300,000 shares of its common stock for treasury purposes through open market purchases. The Company acquires its common stock for general corporate purposes, and depending on its cash position and market conditions, it may acquire additional shares in the future. The Company had remaining authorization atSeptember 30, 2020 to purchase 6.15 million shares of its common stock. InFebruary 2020 , the Company's Board of Directors increased the quarterly cash dividend from$1.13 per share to$1.34 per share. This quarterly dividend will result in an annual dividend for 2020 of$5.36 per share or a 32.5% payout of 2019 diluted net income per share. Net Investment Hedges InFebruary 2020 , the Company settled its$400.0 million U.S. Dollar to Euro cross currency swap contract entered into inMay 2019 to hedge the Company's net investment in its European operations. At the time of the settlement, an unrealized gain of$11.8 million , net of tax, was recognized in AOCI. For the three and nine months endedSeptember 30, 2019 , an unrealized gain of$13.9 million and$8.9 million , respectively, net of tax, was recognized in AOCI. InFebruary 2020 , the Company entered intotwo U.S. Dollar to Euro cross currency swap contracts to hedge the Company's net investment in its European operations. The contracts have a notional value of$500.0 million and$244.0 million , respectively, and mature onJune 1, 2024 andNovember 15, 2021 , respectively. During the term of the$500.0 million contract, the Company will pay fixed-rate interest in Euros and receive fixed-rate interest inU.S. Dollars, thereby effectively converting a portion of the Company'sU.S. Dollar denominated fixed-rate debt to Euro denominated fixed-rate debt. During the term of the$244.0 million contract, the Company will pay floating-rate interest in Euros and receive floating-rate interest inU.S. Dollars. The fair value of the contracts are included in Other liabilities on the balance sheet. See Note 13. The changes in fair value are recognized in the foreign currency translation adjustments component of AOCI. For the three and nine months endedSeptember 30, 2020 , an unrealized loss of$26.4 million and$37.1 million , respectively, net of tax, was recognized in AOCI. Cash Flow Net operating cash for the nine months endedSeptember 30, 2020 was a cash source of$2.564 billion compared to a cash source of$1.661 billion for the same period in 2019. The improvement in net operating cash was primarily due to an increase in net income and improved working capital management, partially offset by an increase in cash requirements for long-term items. Net investing cash usage decreased$111.9 million in the first nine months of 2020 to a usage of$176.6 million from a usage of$288.5 million in 2019 primarily due to a decrease in cash used for acquisitions and an increase in proceeds from sale of assets. Net financing cash usage increased$574.5 million to a usage of$1.916 billion in the first nine months of 2020 from a usage of$1.342 billion for the same period in 2019 primarily due to an increase in treasury stock purchases, repayments of short-term borrowings and cash dividends, partially offset by a decrease in long-term debt repayments and issuances, as well as the issuance of 100,000 shares of treasury stock (which were associated with the domestic defined benefit plan terminated in 2018). In the twelve month period fromOctober 1, 2019 throughSeptember 30, 2020 , the Company generated net operating cash of$3.224 billion , used$350.7 million in investing activities and used$2.421 billion in financing activities. 32 -------------------------------------------------------------------------------- Market Risk The Company is exposed to market risk associated with interest rate, foreign currency and commodity fluctuations. The Company occasionally utilizes derivative instruments as part of its overall financial risk management policy, but does not use derivative instruments for speculative or trading purposes. The Company believes it may be exposed to continuing market risk from foreign currency exchange rate and commodity price fluctuations. However, the Company does not expect that foreign currency exchange rate and commodity price fluctuations or hedging contract losses will have a material adverse effect on the Company's financial condition, results of operations or cash flows. Financial Covenant Certain borrowings contain a consolidated leverage covenant. The covenant states that the Company's leverage ratio is not to exceed 3.75 to 1.00. The leverage ratio is defined as the ratio of total indebtedness (the sum of Short-term borrowings, Current portion of long-term debt and Long-term debt) at the reporting date to consolidated "Earnings Before Interest, Taxes, Depreciation, and Amortization" (EBITDA), as defined in the credit agreement, for the 12-month period ended on the same date. Refer to the "Non-GAAP Financial Measures" section below for a reconciliation of EBITDA to Net income. AtSeptember 30, 2020 , the Company was in compliance with the covenant and expects to remain in compliance. The Company's notes, debentures and revolving credit agreements contain various default and cross-default provisions. In the event of default under any one of these arrangements, acceleration of the maturity of any one or more of these borrowings may result. See Note 7 in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 for more information concerning the Company's debt and related covenant. Non-GAAP Financial Measures Management utilizes certain financial measures that are not in accordance withU.S. generally accepted accounting principles (US GAAP) to analyze and manage the performance of the business. The required disclosures for these non-GAAP measures are shown below. The Company provides such non-GAAP information in reporting its financial results to give investors additional data to evaluate the Company's operations. Management does not, nor does it suggest investors should, consider such non-GAAP measures in isolation from, or in substitution for, financial information prepared in accordance with US GAAP. EBITDA EBITDA is a non-GAAP financial measure defined as net income from continuing operations before income taxes and interest, depreciation and amortization. Management considers EBITDA useful in understanding the operating performance of the Company. The reader is cautioned that the Company's EBITDA should not be compared to other entities unknowingly. Further, EBITDA should not be considered alternatives to Net income or Net operating cash as an indicator of operating performance or as a measure of liquidity. The reader should refer to the determination of Net income and Net operating cash in accordance with US GAAP disclosed in the Statements of Consolidated Income and Statements of Consolidated Cash Flows in Item 1. The following table summarizes EBITDA as calculated by management for the periods indicated below: (millions of dollars) Three Months Ended Nine Months Ended September 30, September 30, 2020 2019 2020 2019 Net income$ 705.8 $ 576.5 $ 1,623.4 $ 1,292.7 Interest expense 83.3 85.3 257.6 265.5 Income taxes 169.8 133.3 391.9 391.7 Depreciation 67.4 65.3 200.0 195.0 Amortization 78.7 77.5 234.2 234.4 EBITDA$ 1,105.0 $ 937.9 $ 2,707.1 $ 2,379.3 CRITICAL ACCOUNTING POLICIES AND ESTIMATES The preparation of financial statements in conformity withU.S. generally accepted accounting principles (US GAAP) requires management to make estimates and assumptions that affect amounts reported in the accompanying consolidated unaudited interim financial statements. These determinations were made based upon management's best estimates, judgments and assumptions that were believed to be reasonable under the circumstances, giving due consideration to materiality. We do not believe there is a great likelihood that materially different amounts would be reported under different conditions or using different assumptions related to the accounting policies described below. However, application of these accounting policies 33 -------------------------------------------------------------------------------- involves the exercise of judgment and use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates. A comprehensive discussion of the Company's critical accounting policies, management estimates and significant accounting policies followed in the preparation of the financial statements is included in Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 1 in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 . There have been no significant changes in critical accounting policies, management estimates or accounting policies followed since the year endedDecember 31, 2019 . 34 -------------------------------------------------------------------------------- CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION Certain statements contained in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in this report constitute "forward-looking statements" within the meaning of the federal securities laws. These forward-looking statements are based upon management's current expectations, estimates, assumptions and beliefs concerning future events and conditions and may discuss, among other things, anticipated future performance (including sales and earnings), expected growth, future business plans and the costs and potential liability for environmental-related matters and the lead pigment and lead-based paint litigation. Any statement that is not historical in nature is a forward-looking statement and may be identified by the use of words and phrases such as "believe," "expect," "may," "will," "should," "project," "could," "plan," "goal," "potential," "seek," "intend" or "anticipate" or the negative thereof or comparable terminology. Readers are cautioned not to place undue reliance on any forward-looking statements. Forward-looking statements are necessarily subject to risks, uncertainties and other factors, many of which are outside our control, that could cause actual results to differ materially from such statements and from our historical results and experience. These risks, uncertainties and other factors include such things as: •general business conditions, strengths of retail and manufacturing economies and growth in the coatings industry; •changes in general domestic and international economic conditions such as inflation rates, interest rates, tax rates, unemployment rates, higher labor and healthcare costs, recessions, and changing government policies, laws and regulations; •changes in raw material and energy supplies and pricing; •changes in our relationships with customers and suppliers; •our ability to successfully integrate past and future acquisitions into our existing operations, as well as the performance of the businesses acquired; •competitive factors, including pricing pressures and product innovation and quality; •our ability to attain cost savings from productivity initiatives; •risks and uncertainties associated with our expansion into and our operations inAsia ,Europe ,South America and other foreign markets, including general economic conditions, inflation rates, recessions, foreign currency exchange rates, foreign investment and repatriation restrictions, legal and regulatory constraints, civil unrest and other external economic and political factors; •the achievement of growth in foreign markets, such asAsia ,Europe andSouth America ; •increasingly stringent domestic and foreign governmental regulations, including those affecting health, safety and the environment; •inherent uncertainties involved in assessing our potential liability for environmental-related activities; •other changes in governmental policies, laws and regulations, including changes in tariff policies, as well as changes in accounting policies and standards and taxation requirements (such as new tax laws and new or revised tax law interpretations); •the nature, cost, quantity and outcome of pending and future litigation and other claims, including the lead pigment and lead-based paint litigation, and the effect of any legislation and administrative regulations relating thereto; •adverse weather conditions or impacts of climate change, natural disasters and public health crises, including the COVID-19 pandemic; and •the duration, severity and scope of the COVID-19 pandemic and the actions implemented by international, federal, state and local public health and governmental authorities to contain and combat the outbreak and spread of COVID-19, which may exacerbate one or more of the aforementioned and/or other risks, uncertainties and factors more fully described in the Company's reports filed with theSecurities and Exchange Commission . Readers are cautioned that it is not possible to predict or identify all of the risks, uncertainties and other factors that may affect future results and that the above list should not be considered to be a complete list. Any forward-looking statement speaks only as of the date on which such statement is made, and we undertake no obligation to update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as otherwise required by law. 35
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