Quarterly Report (10-q)

Date : 06/05/2018 @ 4:53PM
Source : Edgar (US Regulatory)
Stock : Quanex Building Products Corp. (NX)
Quote : 18.7  0.0 (0.00%) @ 2:05AM

Quarterly Report (10-q)

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549  
 ________________________________________________
FORM 10-Q
 ________________________________________________
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended April 30, 2018
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 1-33913
   ________________________________________________
  QUANEX BUILDING PRODUCTS CORPORATION
(Exact name of registrant as specified in its charter)
   ________________________________________________  
DELAWARE
 
26-1561397
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
1800 West Loop South, Suite 1500, Houston, Texas 77027
(Address of principal executive offices and zip code)
Registrant’s telephone number, including area code: (713) 961-4600
   ________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes   x     No   ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   x     No   ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a 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. (Check one):
Large accelerated filer
 
x
 
Accelerated filer
 
¨
Non-accelerated filer
 
o   (Do not check if a smaller reporting company)
 
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 period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Securities Act.
 
¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes   ¨     No  x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.  
Class
 
Outstanding at June 1, 2018
Common Stock, par value $0.01 per share
 
35,060,911
 



QUANEX BUILDING PRODUCTS CORPORATION

INDEX
 
PART I.
 
 
 
Item 1:
Financial Statements (Unaudited)
 
 
 
 
Condensed Consolidated Balance Sheets – April 30, 2018 and October 31, 2017
 
 
 
 
Condensed Consolidated Statements of Income (Loss) – Three  and Six Months Ended April 30, 2018 and 2017
 
 
 
 
Condensed Consolidated Statements of Comprehensive Income (Loss) - Three and Six Months Ended April 30, 2018 and 2017
 
 
 
 
Condensed Consolidated Statements of Cash Flow – Six Months Ended April 30, 2018 and 2017
 
 
 
 
 
 
 
 
 
 
 
Item 2:
 
 
 
Item 3:
 
 
 
Item 4:
 
 
PART II.
 
 
 
Item 6:



PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
QUANEX BUILDING PRODUCTS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)  
 
April 30,
2018
 
October 31,
2017
 
(In thousands, except share 
amounts)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
10,098

 
$
17,455

Accounts receivable, net of allowance for doubtful accounts of $472 and $333
76,594

 
79,411

Inventories, net (Note 2)
92,928

 
87,529

Prepaid and other current assets
8,527

 
7,406

Total current assets
188,147

 
191,801

Property, plant and equipment, net of accumulated depreciation of $276,909 and $264,047
209,459

 
211,131

Goodwill (Note 3)
224,728

 
222,194

Intangible assets, net (Note 3)
133,193

 
139,778

Other assets
9,244

 
8,975

Total assets
$
764,771

 
$
773,879

LIABILITIES AND STOCKHOLDERS' EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
44,492

 
$
44,150

Accrued liabilities
34,576

 
38,871

Income taxes payable (Note 7)
2,284

 
2,192

Current maturities of long-term debt (Note 4)
16,167

 
21,242

Total current liabilities
97,519

 
106,455

Long-term debt (Note 4)
210,857

 
218,184

Deferred pension and postretirement benefits (Note 6)
5,890

 
4,433

Deferred income taxes (Note 7)
14,889

 
21,960

Other liabilities
15,290

 
16,000

Total liabilities
344,445

 
367,032

Commitments and contingencies (Note 8)

 

Stockholders’ equity:
 
 
 
Preferred stock, no par value, shares authorized 1,000,000; issued and outstanding - none

 

Common stock, $0.01 par value, shares authorized 125,000,000; issued 37,463,059 and 37,508,877, respectively; outstanding 35,090,153 and 34,838,134, respectively
375

 
375

Additional paid-in-capital
253,269

 
255,719

Retained earnings
230,945

 
225,704

Accumulated other comprehensive loss
(19,951
)
 
(25,076
)
Less: Treasury stock at cost, 2,372,906 and 2,670,743 shares, respectively
(44,312
)
 
(49,875
)
Total stockholders’ equity
420,326

 
406,847

Total liabilities and stockholders' equity
$
764,771

 
$
773,879

The accompanying notes are an integral part of the financial statements.

1


QUANEX BUILDING PRODUCTS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (LOSS)
(Unaudited)
 
 
Three Months Ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands, except per share amounts)
Net sales
$
214,212


$
209,133

 
$
405,878

 
$
404,229

Cost and expenses:
 
 
 
 
 
 
 
Cost of sales (excluding depreciation and amortization)
168,741


162,132

 
323,181

 
317,079

Selling, general and administrative
23,783


26,916

 
47,859

 
54,361

Restructuring charges
242

 
1,080

 
608

 
2,219

Depreciation and amortization
13,310


14,380

 
26,583

 
29,786

Operating income
8,136

 
4,625

 
7,647

 
784

Non-operating (expense) income:
 
 
 
 
 
 
 
Interest expense
(2,502
)

(2,391
)
 
(4,943
)
 
(4,551
)
Other, net
(105
)

(135
)
 
212

 
526

Income (loss) before income taxes
5,529

 
2,099

 
2,916

 
(3,241
)
Income tax (expense) benefit
(1,393
)

(637
)
 
6,167

 
977

Net income (loss)
$
4,136

 
$
1,462

 
$
9,083

 
$
(2,264
)
 
 
 
 
 
 
 
 
Basic income (loss) per common share
$
0.12

 
$
0.04

 
$
0.26

 
$
(0.07
)
 
 
 
 
 
 
 
 
Diluted income (loss) per common share:
$
0.12

 
$
0.04

 
$
0.26

 
$
(0.07
)
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding:
 
 
 
 
 
 
 
Basic
34,796

 
34,146

 
34,731

 
34,099

Diluted
35,115

 
34,769

 
35,166

 
34,099

 
 
 
 
 
 
 
 
Cash dividends per share
$
0.04

 
$
0.04

 
$
0.08

 
$
0.08


The accompanying notes are an integral part of the financial statements.


2


QUANEX BUILDING PRODUCTS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE (LOSS) INCOME
(Unaudited)

 
Three Months Ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands)
Net income (loss)
$
4,136

 
$
1,462

 
$
9,083

 
$
(2,264
)
Other comprehensive (loss) income:
 
 
 
 
 
 
 
Foreign currency translation adjustments (loss) gain
(5,328
)
 
3,744

 
5,822

 
6,576

Change in pension from net unamortized gain tax (expense)

 

 
(697
)
 

Other comprehensive (loss) income
(5,328
)
 
3,744

 
5,125

 
6,576

Comprehensive (loss) income
$
(1,192
)
 
$
5,206

 
$
14,208

 
$
4,312


The accompanying notes are an integral part of the financial statements.


3


QUANEX BUILDING PRODUCTS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(Unaudited)
 
 
Six Months Ended
 
April 30,
 
2018
 
2017
 
(In thousands)
Operating activities:
 
 
 
Net income (loss)
$
9,083

 
$
(2,264
)
Adjustments to reconcile net income (loss) to cash provided by operating activities:
 
 
 
Depreciation and amortization
26,583

 
29,786

Stock-based compensation
211

 
3,222

Deferred income tax
(8,087
)
 
(4,233
)
Other, net
(321
)
 
1,355

Changes in assets and liabilities:
 
 
 
Decrease in accounts receivable
3,357

 
4,564

Increase in inventory
(4,623
)
 
(6,593
)
Increase in other current assets
(1,047
)
 
(506
)
Increase (decrease) in accounts payable
378

 
(7,170
)
Decrease in accrued liabilities
(5,220
)
 
(7,469
)
Increase in income taxes payable
25

 
3,215

Increase in deferred pension and postretirement benefits
1,457

 
1,682

(Decrease) increase in other long-term liabilities
(38
)
 
945

Other, net
(143
)
 
195

Cash provided by operating activities
21,615

 
16,729

Investing activities:
 
 
 
Acquisitions, net of cash acquired

 
(8,497
)
Capital expenditures
(15,213
)
 
(17,550
)
Proceeds from disposition of capital assets
180

 
593

Cash used for investing activities
(15,033
)
 
(25,454
)
Financing activities:
 
 
 
Borrowings under credit facilities
21,500

 
53,500

Repayments of credit facility borrowings
(34,000
)
 
(52,250
)
Repayments of other long-term debt
(442
)
 
(1,363
)
Common stock dividends paid
(2,800
)
 
(2,749
)
Issuance of common stock
2,564

 
1,726

Payroll tax paid to settle shares forfeited upon vesting of stock
(706
)
 
(957
)
Cash used for financing activities
(13,884
)
 
(2,093
)
Effect of exchange rate changes on cash and cash equivalents
(55
)
 
(195
)
Decrease in cash and cash equivalents
(7,357
)
 
(11,013
)
Cash and cash equivalents at beginning of period
17,455

 
25,526

Cash and cash equivalents at end of period
$
10,098

 
$
14,513

The accompanying notes are an integral part of the financial statements.

4


QUANEX BUILDING PRODUCTS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(Unaudited)
 
Six Months Ended April 30, 2018
Common
Stock
 
Additional
Paid-in
Capital
 
Retained
Earnings
 
Accumulated
Other
Comprehensive Loss
 
Treasury
Stock
 
Total
Stockholders’
Equity
 
(In thousands, no per share amounts shown except in verbiage)
Balance at October 31, 2017
$
375

 
$
255,719

 
$
225,704

 
$
(25,076
)
 
$
(49,875
)
 
$
406,847

Net income

 

 
9,083

 

 

 
9,083

Foreign currency translation adjustment

 

 

 
5,822

 

 
5,822

Common dividends ($0.08 per share)

 

 
(2,800
)
 

 

 
(2,800
)
Change in pension from net unamortized gain tax (expense)

 

 

 
(697
)
 

 
(697
)
Stock-based compensation activity:
 
 
 
 
 
 
 
 
 
 

Expense related to stock-based compensation

 
211

 

 

 

 
211

Stock options exercised

 
(149
)
 
(1,005
)
 

 
3,718

 
2,564

Restricted stock awards granted

 
(1,371
)
 

 

 
1,371

 

Performance share awards vested

 
(473
)
 

 

 
473

 

Other

 
(668
)
 
(37
)
 

 
1

 
(704
)
Balance at April 30, 2018
$
375

 
$
253,269

 
$
230,945

 
$
(19,951
)
 
$
(44,312
)
 
$
420,326


The accompanying notes are an integral part of the financial statements.


5

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


1. Nature of Operations and Basis of Presentation
Quanex Building Products Corporation is a component supplier to original equipment manufacturers (OEMs) in the building products industry. These components can be categorized as window and door (fenestration) components and kitchen and bath cabinet components. Examples of fenestration components include: (1) energy-efficient flexible insulating glass spacers, (2) extruded vinyl profiles, (3) window and door screens, and (4) precision-formed metal and wood products. We also manufacture cabinet doors and other components for OEMs in the kitchen and bathroom cabinet industry. In addition, we provide certain other non-fenestration components and products, which include solar panel sealants, trim moldings, vinyl decking, fencing, water retention barriers, and conservatory roof components. We have organized our business into three reportable business segments. For additional discussion of our reportable business segments, see Note 14, "Segment Information." We use low-cost, short lead-time production processes and engineering expertise to provide our customers with specialized products for their specific window, door, and cabinet applications. We believe these capabilities provide us with unique competitive advantages. We serve a primary customer base in North America and the United Kingdom, and also serve customers in international markets through our operating plants in the United Kingdom and Germany, as well as through sales and marketing efforts in other countries.
Unless the context indicates otherwise, references to "Quanex", the "Company", "we", "us" and "our" refer to the consolidated business operations of Quanex Building Products Corporation and its subsidiaries.
The accompanying interim condensed consolidated financial statements include the accounts of Quanex Building Products Corporation. All intercompany accounts and transactions have been eliminated in consolidation. These financial statements have been prepared by us, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) have been condensed or omitted pursuant to such rules and regulations. The condensed consolidated balance sheet as of October 31, 2017 was derived from audited financial information, but does not include all disclosures required by U.S. GAAP. The accompanying financial statements should be read in conjunction with the audited consolidated financial statements and the notes thereto, included in our Annual Report on Form 10-K for the fiscal year ended October 31, 2017 . In our opinion, the accompanying financial statements contain all adjustments (which consist of normal recurring adjustments, except as disclosed herein) necessary to fairly present our financial position, results of operations and cash flows for the interim periods. The results of operations for the periods presented are not necessarily indicative of the results to be expected for the full year or for any future periods.
In preparing financial statements, we make informed judgments and estimates that affect the reported amounts of assets and liabilities as of the date of the financial statements and affect the reported amounts of revenues and expenses during the reporting period. We review our estimates on an on-going basis, including those related to impairment of long lived assets and goodwill, contingencies and income taxes. Changes in facts and circumstances may result in revised estimates and actual results may differ from these estimates.
Restructuring
We accrue one-time severance costs pursuant to an approved plan of restructuring at the communication date, when affected employees have been notified of the potential severance and sufficient information has been provided for the employee to calculate severance benefits, in the event the employee is involuntarily terminated. In addition, we accrue costs associated with the termination of contractual commitments including operating leases at the time the lease is terminated pursuant to the lease provisions or in accordance with another agreement with the landlord. Otherwise, we continue to recognize operating lease expense through the cease-use date. After the cease-use date, we determine if our operating lease payments are at market. We assume sublet of the facility at the market rate. To the extent our lease obligations exceed the fair value rentals, we discount to arrive at the present value and record a liability. If the facility is not sublet, we expense the amount of the rental in the current period. For other costs directly related to the restructuring effort, such as equipment moving costs, we expense in the period incurred.
We closed a kitchen and bathroom cabinet door business in Mexico in October 2016 and another plant in Lansing, Kansas in September 2017. We closed two United States vinyl operations plants in November 2016 and January 2017. Pursuant to these restructuring efforts, we expensed $0.2 million and $0.6 million during the three and six months ended April 30, 2018 respectively, and $1.1 million and $2.2 million , respectively, for the comparable prior year periods. Our facility lease obligations were deemed to be at fair market value and we have not yet negotiated exit from our remaining lease obligations at two of these facilities. We expect to continue to incur costs related to these operating leases and other costs associated with these restructuring efforts during fiscal 2018.
In 2017, we evaluated the remaining depreciable lives of property, plant and equipment that will be abandoned or otherwise disposed as of the plant closures and recorded a change in estimate associated with the remaining useful lives of these assets. We

6

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


recorded accelerated depreciation of $1.4 million and $3.0 million related to this change in estimate for the three and six months ended April 30, 2017, respectively. In addition, we evaluated the remaining service lives of intangible assets with defined lives associated with our United States vinyl extrusion business and recorded a change in estimate associated with the remaining useful lives of a customer relationship intangible and a utility process intangible asset which resulted in an increase in amortization expense of $0.3 million and $1.3 million for the three and six months ended April 30, 2017 , respectively. We do not expect to incur incremental depreciation and amortization expense in fiscal 2018 associated with these restructuring efforts.
Acquisitions
As more fully described in our Annual Report on Form 10-K for the year ended October 31, 2017, on November 7, 2016, we paid $8.5 million pursuant to an earn-out provision for the acquisition of HLP. We have included this earn-out payment under the caption "Acquisitions, net of cash acquired" in the accompanying cash flow statement for the six months ended April 30, 2017 .
Related Parties
We are party to operating leases associated with HLP for which a former owner, who is now our employee, has an ownership interest. These leases include our primary operating facilities, a finished goods warehouse, a mixing plant, and a manufacturing facility. The lease for the manufacturing facility which has a 20 -year term began in 2007, the lease for the manufacturing facility which has a 15 -year term began in 2012, the lease for the mixing plant has a 13.5 -year term which began in 2013, and the lease for the warehouse has a 20 -year life which began in 2017. We have recorded rent expense pursuant to these agreements of approximately $0.6 million and $1.2 million , for the three and six months ended April 30, 2018 , respectively and $0.3 million and $0.6 million , respectively, for the comparable prior year periods. Commitments under these lease arrangements are included in our operating lease commitments as disclosed in our Annual Report on Form 10-K for the year ended October 31, 2017.
2. Inventories
Inventories consisted of the following at April 30, 2018 and October 31, 2017 :
 
April 30,
2018
 
October 31,
2017
 
(In thousands)
Raw materials
$
51,113

 
$
50,472

Finished goods and work in process
46,179

 
40,087

Supplies and other
2,040

 
2,655

Total
99,332

 
93,214

Less: Inventory reserves
6,404

 
5,685

Inventories, net
$
92,928

 
$
87,529

Fixed costs related to excess manufacturing capacity, if any, have been expensed in the period they were incurred and, therefore, are not capitalized into inventory.
Our inventories at April 30, 2018 and October 31, 2017 were valued using the following costing methods:
 
April 30,
2018
 
October 31,
2017
 
(In thousands)
LIFO
$
5,522

 
$
4,444

FIFO
87,406

 
83,085

Total
$
92,928

 
$
87,529

During interim periods, we estimate a LIFO reserve based on our expectations of year-end inventory levels and costs. If our calculations indicate that an adjustment at year-end will be required, we may record a proportionate share of this amount during the period. At year-end, we calculate the actual LIFO reserve and record an adjustment for the difference between the annual calculation and any estimates recognized during the interim periods.  Because the interim projections are subject to many factors beyond our control, the results could differ significantly from the year-end LIFO calculation. We did not record an interim LIFO reserve adjustment for the six months ended April 30, 2018 and 2017 .     

7

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


For inventories valued under the LIFO method, replacement cost exceeded the LIFO value by approximately $1.1 million at April 30, 2018 and October 31, 2017 .
3. Goodwill and Intangible Assets
Goodwill
The change in the carrying amount of goodwill for the six months ended April 30, 2018 was as follows:
 
Six Months Ended
 
April 30, 2018
 
(In thousands)
Beginning balance as of November 1, 2017
$
222,194

Foreign currency translation adjustment
2,534

Balance as of the end of the period
$
224,728

At our last annual test date, August 31, 2017, we evaluated the recoverability of goodwill at each of our five reportable units with goodwill balances and determined that our goodwill was not impaired.  For the reporting unit included in our NA Cabinet Components operating segment, we performed the first step of the goodwill impairment test at March 31, 2018, as our annual long-range planning effort produced lower forecasted results compared to the prior year’s process, a potential indicator of impairment.  We determined the fair value of this reportable unit exceeded its carrying value by approximately 4.5% as of March 31, 2018, a reduction from the 5.2% at our August 31, 2017 testing date.  Should our actual results for our NA Cabinet Components operating segment be lower than expected in the future, the corresponding goodwill could become impaired and the impairment could be material. The goodwill impairment testing process is more fully described in our Annual Report on Form 10-K for the year ended October 31, 2017. For a summary of the change in the carrying amount of goodwill by segment, see Note 13, "Segment Information", included herewith.
Identifiable Intangible Assets
Amortizable intangible assets consisted of the following as of April 30, 2018 and October 31, 2017 :
 
April 30, 2018
 
October 31, 2017
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
(In thousands)
Customer relationships
$
156,664

 
$
54,249

 
$
155,230

 
$
48,479

Trademarks and trade names
56,500

 
31,315

 
56,058

 
29,509

Patents and other technology
22,342

 
16,749

 
22,624

 
16,146

Total
$
235,506

 
$
102,313

 
$
233,912

 
$
94,134


Pursuant to a change in estimate with regard to the remaining service lives of certain intangible assets, we recorded incremental amortization expense of $0.3 million and $1.3 million for the three and six months ended April 30, 2017 . See additional disclosure at Note 1, "Nature of Operations, Basis of Presentation and Significant Accounting Policies - Restructuring."
During the six months ended April 30, 2018 , we retired identifiable intangible assets of $0.3 million related to patents and other technology.
We had aggregate amortization expense related to intangible assets for the three and six months ended April 30, 2018 of $4.1 million and $8.2 million , respectively, and $4.4 million and $9.9 million , respectively, for the comparable prior year periods.

8

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


Estimated remaining amortization expense, assuming current intangible balances and no new acquisitions, for each of the fiscal years ending October 31, is as follows (in thousands):
 
Estimated
Amortization Expense
2018 (remaining six months)
$
8,055

2019
15,499

2020
14,442

2021
12,721

2022
12,096

Thereafter
70,380

Total
$
133,193


4. Debt and Capital Lease Obligations
Debt consisted of the following at April 30, 2018 and October 31, 2017 :
 
April 30,
2018
 
October 31,
2017
 
(In thousands)
Revolving Credit Facility
$
79,000

 
$
84,000

Term Loan A
131,250

 
138,750

Capital lease obligations and other
18,584

 
18,764

Unamortized deferred financing fees
(1,810
)
 
(2,088
)
Total debt
$
227,024

 
$
239,426

Less: Current maturities of long-term debt
16,167

 
21,242

Long-term debt
$
210,857

 
$
218,184

As more fully described in our Annual Report on Form 10-K for the year ended October 31, 2017, we maintain a $450.0 million credit agreement comprising a $150.0 million Term Loan A and a $300.0 million revolving credit facility (collectively, the “Credit Agreement”), with Wells Fargo Bank, National Association, as Agent, Swingline Lender and Issuing Lender, and Bank of America, N.A. serving as Syndication Agent. The Credit Agreement has a five-year term, maturing on July 29, 2021, and requires interest payments calculated, at our election and depending upon our Consolidated Leverage Ratio, at either a Base Rate plus an applicable margin or the LIBOR Rate plus an applicable margin. At the time of the initial borrowing, the applicable rate was LIBOR + 2.00% . In addition, we are subject to commitment fees for the unused portion of the Credit Agreement.
The applicable margin and commitment fees are outlined in the following table:
Pricing Level
  
Consolidated Leverage Ratio
  
Commitment Fee
 
LIBOR Rate Loans
  
Base Rate Loans
I
  
Less than or equal to 1.50 to 1.00
  
0.200%
 
1.50%
  
0.50%
II
  
Greater than 1.50 to 1.00, but less than or equal to 2.25 to 1.00
  
0.225%
 
1.75%
  
0.75%
III
  
Greater than 2.25 to 1.00, but less than or equal to 3.00 to 1.00
  
0.250%
 
2.00%
  
1.00%
IV
 
Greater than 3.00 to 1.00
 
0.300%
 
2.25%
 
1.25%
In the event of default, outstanding borrowings would accrue interest at the Default Rate, as defined, whereby the obligations will bear interest at a per annum rate equal to 2% above the total per annum rate otherwise applicable.
The term loan portion of the Credit Agreement requires quarterly principal payments on the last business day of each fiscal quarter in accordance with a stated repayment schedule. Required aggregate principal repayments total $15.0 million for the succeeding twelve-month period, and are included in the accompanying condensed consolidated balance sheet under the caption “Current Maturities of Long-term Debt.” No stated principal payments are required under the revolving credit portion of the Credit

9

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


Agreement, except upon maturity. Mandatory prepayments of "excess cash flow" as defined in the agreement are required until we achieve a Consolidated Leverage Ratio less than 2.25 to 1.00, after which, prepayments of “excess cash flow” as defined in the agreement are no longer required.
The Credit Agreement contains a: (1) Consolidated Fixed Charge Coverage Ratio requirement whereby we must not permit the Consolidated Fixed Charge Coverage Ratio, as defined, to be less than 1.10 to 1.00, and (2) Consolidated Leverage Ratio requirement, as summarized by period in the following table:
Period
  
Maximum Ratio
January 31, 2017 through January 30, 2018
  
3.25 to 1.00
January 31, 2018 and thereafter
 
3.00 to 1.00
In addition to maintaining these financial covenants, the Credit Agreement also limits our ability to enter into certain business transactions, such as to incur indebtedness or liens, to acquire businesses or dispose of material assets, make restricted payments, pay dividends (limited to $10.0 million per year) and other transactions as further defined in the Credit Agreement. Substantially all of our domestic assets, with the exception of real property, are utilized as collateral for the Credit Agreement.
As of April 30, 2018 , we had $210.3 million of borrowings outstanding under the Credit Agreement (reduced by unamortized debt issuance costs of $1.8 million ), $5.3 million of outstanding letters of credit and $18.6 million outstanding primarily under capital leases. We had $215.7 million available for use under the Credit Agreement at April 30, 2018 . Outstanding borrowings under the Credit Agreement accrue interest at 3.90% per annum. Our weighted average borrowing rate for borrowings outstanding during the six months ended April 30, 2018 and 2017 was 3.55% and 2.76% , respectively. We were in compliance with our debt covenants as of April 30, 2018 .
Other Debt Instruments
Historically, we have maintained certain capital lease obligations related to equipment purchases. On February 20, 2017, we entered into a capital lease for warehouse space at HLP with a related-party company that is owned by our employee, the former owner of HLP. This new warehouse was anticipated at the time of the HLP acquisition in June 2015, and the lease was negotiated at arms-length. The lease accrues interest at 3.57% per annum, and extends for a twenty-year period through the year 2036. We recorded the leased asset at inception at fair value of $16.6 million and recorded a corresponding liability for our obligation under this lease. We are recognizing interest expense using the effective interest method over the term. Our cash commitments under this lease are £0.9 million per year for an aggregate of £17.8 million (or approximately $25.5 million ). The cost and accumulated depreciation of property, plant and equipment under all outstanding capital leases at April 30, 2018 was $23.4 million and $2.7 million , respectively, including $17.6 million and $0.9 million , respectively, related to the HLP warehouse lease. Our total obligations under capital leases and other total $18.6 million at April 30, 2018 , of which $1.7 million is classified in the current portion of long-term debt and $16.9 million is classified as long-term debt on the accompanying unaudited condensed consolidated balance sheet. These obligations accrue interest at an average rate of 3.6% , and extend through the year 2036 .

10

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


5. Retirement Plans
Pension Plan
Our non-contributory, single employer defined benefit pension plan covers a majority of our employees in the United States excluding employees of recent acquisitions. Employees of acquired companies may be covered after a transitional period. The net periodic pension cost for this plan for the three and six months ended April 30, 2018 and 2017 was as follows:
 
Three Months Ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands)
Service cost
$
1,023

 
$
971

 
$
1,972

 
$
1,897

Interest cost
354

 
216

 
568

 
428

Expected return on plan assets
(621
)
 
(474
)
 
(1,087
)
 
(931
)
Amortization of net (gain) loss
(102
)
 
144

 
42

 
286

Net periodic benefit cost
$
654

 
$
857

 
$
1,495

 
$
1,680

During 2017, we contributed $3.6 million to fund our plan, and we expect to make a contribution to our plan in September 2018 of approximately $3.6 million .
Other Plans
We also have a supplemental benefit plan covering certain executive officers and a non-qualified deferred compensation plan covering members of the Board of Directors and certain key employees. As of April 30, 2018 and October 31, 2017 , our liability under the supplemental benefit plan was approximately $3.7 million and $3.4 million , respectively. The liability associated with the deferred compensation plan was approximately $3.7 million and $4.0 million as of April 30, 2018 and October 31, 2017, respectively. We record the current portion of liabilities associated with these plans under the caption "Accrued Liabilities," and the long-term portion under the caption "Other Liabilities" in the accompanying condensed consolidated balance sheets.
6. Warranty Obligations
We accrue warranty obligations as we recognize revenue associated with certain products. We make provisions for our warranty obligations based upon historical experience of costs incurred for such obligations adjusted, as necessary, for current conditions and factors. There are significant uncertainties and judgments involved in estimating our warranty obligations, including changing product designs, differences in customer installation processes and future claims experience which may vary from historical claims experience. Therefore, the ultimate amount we incur as warranty costs in the near and long-term may not be consistent with our current estimate.
A reconciliation of the activity related to our accrued warranty, including both the current and long-term portions (reported in accrued liabilities and other liabilities, respectively, on the accompanying condensed consolidated balance sheet) follows:
 
Six Months Ended
 
April 30, 2018
 
(In thousands)
Beginning balance as of November 1, 2017
$
323

Provision for warranty expense
8

Warranty costs paid
(15
)
Total accrued warranty as of the end of the period
$
316

Less: Current portion of accrued warranty
152

Long-term portion of accrued warranty
$
164



11

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


7. Income Taxes
To determine our income tax expense or benefit for interim periods, consistent with accounting standards, we apply the estimated annual effective income tax rate to year-to-date results. Our estimated annual effective tax rates for the six months ended April 30, 2018 and 2017 were 24.0% and 30.1% , respectively, excluding discrete items. The change in the annual rate was due largely to the effect of the Tax Cuts and Jobs Act (the Act) which was signed into law on December 22, 2017.
The Act reduced our federal income tax rate from 35.0% to 23.3% for the fiscal year ending October 31, 2018. Discrete items contributing to the income tax benefit for the six months ended April 30, 2018 included $7.7 million for the re-measurement of our deferred income tax assets and liabilities due to the decrease in the federal corporate income tax rate and a benefit of $0.3 million for the true up of our accruals and related deferred taxes from prior year filings and settled tax audits, partially offset by a tax expense of $1.2 million for the one-time mandatory transition tax on deemed repatriation of previously tax-deferred and unremitted foreign earnings.
The following table reconciles our effective income tax benefit rate to the federal statutory rate of 23.3% and 35.0% for the six months ended April 30, 2018 and 2017 , respectively:
 
Six months ended April 30,
 
2018
 
2017
United States tax at statutory rate
23.3
 %
 
35.0
 %
State and local income tax
2.7

 
1.5

Non-United States income tax
(1.0
)
 
(7.1
)
Other permanent differences
(1.0
)
 
0.7

Deferred rate impact of enactment of tax reform
(266.5
)
 

Tax impact of stock based compensation
(1.4
)
 

Impact of deemed repatriation
42.0

 

Return to actual adjustments
(9.6
)
 

Effective tax benefit rate
(211.5
)%
 
30.1
 %
The United States statutory rate of 23.3% reflects the period November 1, 2017 to December 31, 2017 at the previous 35.0% rate and the period January 1, 2018 to October 31, 2018 at the new 21.0% rate.
Given the significance of the Act, the SEC staff issued Staff Accounting Bulletin No. 118 (SAB 118), which allows registrants to record provisional amounts during a one year “measurement period”. During the measurement period, impacts of the Act are expected to be recorded at the time a reasonable estimate for all or a portion of the effects can be made, and provisional amounts can be recognized and adjusted as information becomes available, prepared or analyzed. In accordance with SAB 118, a company must reflect the income tax effects of those aspects of the Act for which the accounting under ASC 740 is complete. To the extent that a company’s accounting for certain income tax effects of the Tax Act is incomplete but it is able to determine a reasonable estimate, it must record a provisional estimate in the financial statements. If a company cannot determine a provisional estimate to be included in the financial statements, it should continue to apply ASC 740 on the basis of the provisions of the tax laws that were in effect immediately before the enactment of the Act.
As of April 30, 2018 , we have not completed the accounting for the tax effects of the Act. However, we have made an initial assessment of the Act and recorded a discrete benefit of $6.5 million during the six-month period ended April 30, 2018 . We believe that our assessment of the re-measurement of our deferred income tax assets and liabilities to be complete, while we consider our tax expense related to the one-time mandatory transition tax on deemed repatriation of previously tax-deferred and unremitted foreign earnings and our tax benefit of stock based compensation to be provisional. At this time, our estimate does not reflect changes in current interpretations of compensation deduction limitations, effects of any state tax law changes and uncertainties regarding interpretations that may arise as a result of federal tax reform. Any additional impact of the enactment of the Act will be recorded as they are identified during the one-year measurement period provided for in SAB 118.
In light of the Act, we repatriated $2.5 million of excess cash from our insulating glass spacer division in the United Kingdom. This was repatriation of excess cash that was a portion of the one-time mandatory transition tax discussed above. We will continue to evaluate our foreign cash position and may repatriate additional foreign earnings in the future. With the exception of the one-time mandatory transition tax on deemed repatriation of previously tax-deferred and unremitted foreign earnings, we do not anticipate any material tax impact from any potential repatriation of previously unremitted foreign earnings.

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


As of April 30, 2018 , our liability for uncertain tax positions (UTP) of $0.6 million relates to certain state tax items regarding the interpretation of tax laws and regulations. Judgment is required in assessing the future tax consequences of events that have been recognized in our financial statements or tax returns. The final outcome of the future tax consequences of legal proceedings, if any, as well as the outcome of competent authority proceedings, changes in regulatory tax laws, or interpretation of those tax laws could impact our financial statements. We are subject to the effect of these matters occurring in various jurisdictions. The disallowance of the UTP would not materially affect the annual effective tax rate. We do not believe any of the UTP at April 30, 2018 will be recognized within the next twelve months.
We evaluate the likelihood of realization of our deferred tax assets by considering both positive and negative evidence. We believe there is no need for a valuation allowance of the federal net operating losses. We will continue to evaluate our position throughout the year. We maintain a valuation allowance for certain state net operating losses which totaled $1.3 million at April 30, 2018 .
8. Contingencies
Remediation and Environmental Compliance Costs
Under applicable state and federal laws, we may be responsible for, among other things, all or part of the costs required to remove or remediate wastes or hazardous substances at locations we, or our predecessors, have owned or operated. From time to time, we also have been alleged to be liable for all or part of the costs incurred to clean up third-party sites where there might have been an alleged improper disposal of hazardous substances. At present, we are not involved in any such matters.
From time to time, we incur routine expenses and capital expenditures associated with compliance with existing environmental regulations, including control of air emissions and water discharges, and plant decommissioning costs. We have not incurred any material expenses or capital expenditures related to environmental matters during the past three fiscal years, and do not expect to incur a material amount of such costs in fiscal 2018. While we will continue to have future expenditures related to environmental matters, any such amounts are impossible to reasonably estimate at this time. Based upon our experience to date, we do not believe that our compliance with environmental requirements will have a material adverse effect on our operations, financial condition or cash flows.
Spacer Migration
We were notified by certain customers through our German operation that the vapor barrier employed on certain spacer products manufactured prior to March 2014 may permit spacer migration in certain extreme circumstances. This product does not have a specific customer warranty, but we have received claims from customers related to this issue, which we continue to investigate. The balance of the accrual for this matter was $1.3 million and $1.6 million at October 31, 2017 and April 30, 2018 . During the six months ended April 30, 2018 , we incurred additional claims of $1.0 million , which were offset by payments of $0.7 million . We cannot estimate any future liability with regard to unasserted claims. We evaluate this reserve at each balance sheet date. We investigate any claims, but we are not obligated to honor any future claims.
Litigation
From time to time, we, along with our subsidiaries, are involved in various litigation matters arising in the ordinary course of our business, including those arising from or related to contractual matters, commercial disputes, intellectual property, personal injury, environmental matters, product performance or warranties, product liability, insurance coverage and personnel and employment disputes.
We regularly review with legal counsel the status of all ongoing proceedings, and we maintain insurance against these risks to the extent deemed prudent by our management and to the extent such insurance is available. However, there is no assurance that we will prevail in these matters or that our insurers will accept full coverage of these matters, and we could, in the future, incur judgments, enter into settlements of claims, or revise our expectations regarding the outcome or insurability of matters we face, which could materially impact our results of operations.
We have been and are currently party to multiple claims, some of which are in litigation, relating to alleged defects in a commercial sealant product that was manufactured and sold during the 2000's. During the six months ended April 30, 2018 , our insurance carrier reimbursed fees and expenses originally incurred as part of our defense of these various commercial sealant claims totaling $0.5 million . While we believe that our product was not defective and that we would prevail in these commercial sealant product claims if taken to trial, the timing, ultimate resolution and potential impact of these claims is not currently determinable. Nevertheless, after taking into account all currently available information, including our defenses, the advice of our counsel, and the extent and currently-expected availability of our existing insurance coverage, we believe that the eventual

13

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


outcome of these commercial sealant claims will not have a material adverse effect on our overall financial condition, results of operations or cash flows, and we have not recorded any accrual with regard to these claims.
9. Derivative Instruments
Our derivative activities are subject to the management, direction, and control of the Chief Financial Officer and Chief Executive Officer. Certain transactions in excess of specified levels require further approval from the Board of Directors.
The nature of our business activities requires the management of various financial and market risks, including those related to changes in foreign currency exchange rates. We have historically used foreign currency forwards and options to mitigate or eliminate certain of those risks at our subsidiaries. We use foreign currency contracts to offset fluctuations in the value of accounts receivable and accounts payable balances that are denominated in currencies other than the United States dollar, including the Euro, British Pound and Canadian Dollar. Currently, we do not enter into derivative transactions for speculative or trading purposes. We are exposed to credit loss in the event of nonperformance by the counterparties to our derivative transactions. We attempt to mitigate this risk by monitoring the creditworthiness of our counterparties and limiting our exposure to individual counterparties. In addition, we have established master netting agreements in certain cases to facilitate the settlement of gains and losses on specific derivative contracts.
We have not designated any of our derivative contracts as hedges for accounting purposes in accordance with the provisions under the Accounting Standards Codification Topic 815 "Derivatives and Hedging " (ASC 815). Therefore, changes in the fair value of these contracts and the realized gains and losses are recorded in the unaudited condensed consolidated statements of income (loss) for the three and six months ended April 30, 2018 and 2017 as follows (in thousands):
 
 
Three Months Ended
 
Six Months Ended
 
 
April 30,
 
April 30,
Location of gains (losses):
 
2018
 
2017
 
2018
 
2017
Other, net
Foreign currency derivatives
26

 
(34
)
 
(29
)
 
110

We have chosen not to offset any of our derivative instruments in accordance with the provisions of ASC 815. Therefore, the assets and liabilities are presented on a gross basis on the accompanying condensed consolidated balance sheets. Less than $0.1 million of fair value related to foreign currency derivatives was included in prepaid and other current assets as of April 30, 2018 and October 31, 2017. Less than $0.1 million of fair value related to foreign currency derivatives was included in accrued liabilities as of October 31, 2017 .
The following table summarizes the notional amounts and fair value of outstanding derivative contracts at April 30, 2018 and October 31, 2017 (in thousands):
 
 
Notional as indicated
 
Fair Value in $
 
 
April 30,
2018
 
October 31,
2017
 
April 30,
2018
 
October 31,
2017
Foreign currency derivatives:
 
 
 
 
 
 
 
 
Sell EUR, buy USD
EUR
$

 
$
1,271

 
$

 
$
24

Sell CAD, buy USD
CAD
124

 
320

 

 
1

Sell GBP, buy USD
GBP
196

 
75

 
5

 

Buy EUR, sell USD
EUR
12

 

 

 

Buy EUR, sell GBP
EUR
183

 
30

 
2

 
(1
)
Buy USD, sell EUR
USD
17

 

 

 

For the classification in the fair value hierarchy, see Note 10, "Fair Value Measurement of Assets and Liabilities", included herewith.

10. Fair Value Measurement of Assets and Liabilities
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value hierarchy distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity's own

14

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assumptions about market data developed based on the best information available in the circumstances (unobservable inputs). The fair value hierarchy consists of three broad levels, which gives the highest priority to Level 1 and the lowest priority to Level 3. The three levels of the fair value hierarchy are described 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 both significant to the fair value measurement and unobservable.
As of April 30, 2018 and October 31, 2017 , foreign currency derivatives were the only instruments being measured on a recurring basis. Less than $0.1 million of foreign currency derivatives were included in total assets as of April 30, 2018 and less than $0.1 million of foreign currency derivatives were included in total assets and total liabilities as of October 31, 2017 . All of our derivative contracts are valued using quoted market prices from brokers or exchanges and are classified within Level 2 of the fair value hierarchy.
We have recorded land totaling approximately $2.4 million at fair value on a non-recurring basis which is classified as a Level 3 measurement as of April 30, 2018 and October 31, 2017 . The fair value was based on broker opinions received during the fourth fiscal quarter of the year ended October 31, 2017.
Carrying amounts reported on the balance sheet for cash, cash equivalents, accounts receivable and accounts payable approximate fair value due to the short-term maturity of these instruments. Our outstanding debt is variable rate debt that re-prices frequently, thereby limiting our exposure to significant change in interest rate risk. As a result, the fair value of our debt instruments approximates carrying value at April 30, 2018 , and October 31, 2017 (Level 3 measurement).
11. Stock-Based Compensation
We have established and maintain an Omnibus Incentive Plan (2008 Plan) that provides for the granting of restricted stock awards, stock options, restricted stock units, performance share awards, performance restricted stock units, and other stock-based and cash-based awards. The 2008 Plan is administered by the Compensation and Management Development Committee of the Board of Directors.
The aggregate number of shares of common stock authorized for grant under the 2008 Plan is 7,650,000 as approved by shareholders. Any officer, key employee and/or non-employee director is eligible for awards under the 2008 Plan. We grant restricted stock units to non-employee directors on the first business day of each fiscal year. As approved by the Compensation & Management Development Committee of our Board of Directors annually, we grant a mix of stock options, restricted stock awards, performance shares and/or performance restricted stock units to officers, management and key employees. Occasionally, we may make additional grants to key employees at other times during the year.
Restricted Stock Awards
Restricted stock awards are granted to key employees and officers annually, and typically cliff vest over a three year period with service and continued employment as the only vesting criteria. The recipient of the restricted stock award is entitled to all of the rights of a shareholder, except that the award is nontransferable during the vesting period. The fair value of the restricted stock award is established on the grant date and then expensed over the vesting period resulting in an increase in additional paid-in-capital. Shares are generally issued from treasury stock at the time of grant.

15

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


A summary of non-vested restricted stock awards activity during the six months ended April 30, 2018 is presented below:
 
Restricted Stock Awards
 
Weighted Average
Grant Date Fair Value per Share
Non-vested at October 31, 2017
284,300

 
$
19.66

Granted
73,400

 
20.70

Cancelled
(14,400
)
 
19.57

Vested
(61,800
)
 
20.28

Non-vested at April 30, 2018
281,500

 
$
19.80

The total weighted average grant-date fair value of restricted stock awards that vested during each of the six month periods ended April 30, 2018 and 2017 was $1.3 million and $1.2 million , respectively. As of April 30, 2018 , total unrecognized compensation cost related to unamortized restricted stock awards was $2.5 million . We expect to recognize this expense over the remaining weighted average vesting period of 2.0 years .
Stock Options
Historically, stock options have been awarded to key employees, officers and non-employee directors. Effective May 2015, the director compensation structure was revised to eliminate the annual grant of stock options to non-employee directors. Employee stock options typically vest ratably over a three -year period with service and continued employment as the vesting conditions. Our stock options may be exercised up to a maximum of ten years from the date of grant. The fair value of the stock options is determined on the grant date and expensed over the vesting period resulting in an increase in additional paid-in-capital. For employees who are nearing retirement-eligibility, we recognize stock option expense ratably over the shorter of the vesting period or the period from the grant-date to the retirement-eligibility date. During December 2017, the Compensation & Management Committee of the Board of Directors approved a change to the long-term incentive award program eliminating the grant of stock options and replacing this award with a grant of performance restricted stock units as further described below.
We use a Black-Scholes pricing model to estimate the fair value of stock options. A description of the methodology for the valuation assumptions was disclosed in our Annual Report on Form 10-K for the fiscal year ended October 31, 2017 .
The following table provides a summary of assumptions used to estimate the fair value of our stock options issued during the six months ended April 30, 2017 .
   
Six Months Ended
 
April 30, 2017
Weighted-average expected volatility
34.7%
Weighted-average expected term (in years)
5.7
Risk-free interest rate
2.0%
Expected dividend yield over expected term
1.0%
Weighted average grant date fair value
$6.25

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


The following table summarizes our stock option activity for the six months ended April 30, 2018 :
 
Stock Options
 
Weighted Average
Exercise Price
 
Weighted Average
Remaining Contractual
Term (in years)
 
Aggregate
Intrinsic
Value (000s)
Outstanding at October 31, 2017
2,152,758

 
$
17.44

 
 
 
 
Granted

 

 
 
 
 
Exercised
(199,097
)
 
12.88

 
 
 
 
Forfeited/Expired
(19,885
)
 
19.30

 
 
 
 
Outstanding at April 30, 2018
1,933,776

 
$
17.90

 
4.8
 
$
1,556

Vested or expected to vest at April 30, 2018
1,933,776

 
$
17.90

 
4.8
 
$
1,556

Exercisable at April 30, 2018
1,668,799

 
$
17.66

 
4.3
 
$
1,556

Intrinsic value is the amount by which the market price of the common stock on the date of exercise exceeds the exercise price of the stock option. The total intrinsic value of stock options exercised during the six months ended April 30, 2018 and 2017 was $1.9 million and $0.1 million . The weighted-average grant date fair value of stock options that vested during the six months ended April 30, 2018 and 2017 was $1.5 million and $1.8 million , respectively. As of April 30, 2018 , total unrecognized compensation cost related to stock options was $0.5 million . We expect to recognize this expense over the remaining weighted average vesting period of 1.3 years .
Restricted Stock Units
Restricted stock units may be awarded to key employees and officers from time to time, and annually to non-employee directors. The non-employee director restricted stock units vest immediately but are payable only upon the director's cessation of service unless an election is made by the non-employee director to settle and pay the award on an earlier specified date. Restricted stock units awarded to employees and officers typically cliff vest after a three -year period with service and continued employment as the vesting conditions. Restricted stock units are not considered outstanding shares and do not have voting rights, although the holder does receive a cash payment equivalent to the dividend paid, on a one-for-one basis, on our outstanding common shares. Once the criteria is met, each restricted stock unit is payable to the holder in cash based on the market value of one share of our common stock. Accordingly, we record a liability for the restricted stock units on our balance sheet and recognize any changes in the market value during each reporting period as compensation expense.
As of April 30, 2018 , there were no non-vested restricted stock units. During the six month periods ended April 30, 2018 and 2017 , non-employee directors received 18,050 and 24,560 restricted stock units, respectively, at a grant date fair value of $21.85 and $15.65 , respectively, which vested immediately. During the six month periods ended April 30, 2018 and 2017 , there were no payments to settle restricted stock units.
Performance Share Awards
We have awarded annual grants of performance shares to key employees and officers. These awards cliff vest after a three -year period with service and performance measures (relative total shareholder return (R-TSR) and earnings per share (EPS) growth), as vesting conditions. However, the number of shares earned is variable depending on the metrics achieved, and the settlement method is 50% in cash and 50% in our common stock.
To account for these awards, we have bifurcated the portion subject to a market condition (relative total shareholder return) and the portion subject to an internal performance measure (earnings per share growth). We have further bifurcated these awards based on the settlement method, as the portion expected to settle in stock (equity component) and the portion expected to settle in cash (liability component).
To value the shares subject to the market condition, we utilized a Monte Carlo simulation model to arrive at a grant-date fair value. This amount will be expensed over the three-year term of the award with a credit to additional paid-in-capital. To value the shares subject to the internal performance measure, we used the value of our common stock on the date of grant as the grant-date fair value per share. This amount is being expensed over the three -year term of the award, with a credit to additional paid-in-capital, and could fluctuate depending on the number of shares ultimately expected to vest based on our assessment of the probability that the performance conditions will be achieved. For both performance conditions, the portion of the award expected to settle in cash is recorded as a liability and is being marked to market over the three -year term of the award, and can fluctuate

17

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


depending on the number of shares ultimately expected to vest. Depending on the achievement of the performance conditions, 0% to 200% of the awarded performance shares may ultimately vest.
The following table summarizes our performance share grants and the grant date fair value for the EPS and R-TSR performance metrics:
 
Grant Date Fair Value
Grant Date
Shares Awarded
 
EPS
 
R-TSR
 
Shares Forfeited
December 2, 2015
158,100

 
$
19.31

 
$
23.72

 
15,400

January 25, 2016
4,300

 
17.46

 
26.65

 

November 30, 2016
186,500

 
19.45

 
26.61

 
7,400

December 7, 2017
146,500

 
$
20.70

 
$
21.81

 
3,900

On December 3, 2017, 123,600 shares vested pursuant to the December 2014 grant, resulting in the issuance of 25,340 shares of common stock and a cash payment of $0.6 million . The November 2016 and December 2017 grants include a return on invested capital (ROIC) metric which, if achieved, could enhance the number of shares that are ultimately issued but cannot exceed the maximum (200%). Due to the uncertainty with regard to achieving this metric, no value has been assigned. In the event and at such time the metric is deemed achievable, compensation expense will begin to be recognized through the remaining vesting period. During the three and six months ended April 30, 2018 , we recorded a decrease in compensation expense of $1.0 million and $1.6 million , respectively, which reflects a decrease in the number of shares expected to vest in December 2018 associated with the December 2, 2015 performance share grant, as well as current expense for other outstanding performance share grants. During the three and six months ended April 30, 2017, we recorded compensation expense of $0.7 million and $1.7 million related to our performance share awards.
Performance share awards are not considered outstanding shares and do not have voting rights, although dividends are accrued over the performance period and will be payable in cash based upon the number of performance shares ultimately earned.
The performance shares are excluded from the diluted weighted-average shares used to calculate earnings per share until the performance criteria is probable to result in the issuance of contingent shares. As of April 30, 2018 , we have deemed no shares related to the December 2015 grant of performance shares as probable to vest.
Performance Restricted Stock Units
We awarded performance restricted share units to key employees and officers in December 2017. These awards cliff vest upon a three-year service period with the absolute total shareholder return of our common stock over this three-year term as the vesting criteria. The number of shares earned is variable depending on the metric achieved, and the settlement method is 100% in our common stock, with accrued dividends paid in cash at the time of vesting, assuming the shares had been outstanding throughout the performance period.
To value the shares, we utilized a Monte Carlo simulation model to arrive at a grant-date fair value. This amount will be adjusted for forfeitures and expensed over the three-year term of the award with a credit to additional paid-in-capital. Depending on the achievement of the performance conditions, a minimum of 0% and a maximum of 150% of the awarded performance restricted stock units may vest. Specifically, the awards vest on a continuum with the following Absolute Total Shareholder Return (A-TSR) milestones:
Vesting Level
 
Vesting Criteria
 
Percentage of Award Vested
Level 1
 
A-TSR greater than or equal to 50%
 
150%
Level 2
 
A-TSR less than 50% and greater than or equal to 20%
 
100%
Level 3
 
A-TSR less than 20% and greater than or equal to -20%
 
50%
Level 4
 
A-TSR less than -20%
 
—%
On December 7, 2017, we awarded 78,200 performance restricted share units with a grant date fair value of $17.76 per share. During the six months ended April 30, 2018, 2,100 of the performance restricted share units were forfeited. During the three and

18

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


six months ended April 30, 2018 , we recorded compensation expense of approximately $0.1 million and $0.2 million , respectively, related to our performance share restricted units.
Similar to performance shares, the performance restricted stock units are not considered outstanding shares, do not have voting rights, and are excluded from diluted weighted-average shares used to calculate earnings per share until the performance criteria is probable to result in the issuance of contingent shares.
Treasury Shares
We record treasury stock purchases under the cost method whereby the entire cost of the acquired stock is recorded as treasury stock. Shares are generally issued from treasury stock at the time of grant of restricted stock awards, and upon the exercise of stock options and upon the vesting of performance shares and performance restricted stock units. On the subsequent issuance of treasury shares, we record proceeds in excess of cost as an increase in additional paid in capital. A deficiency of such proceeds relative to costs would be applied to reduce paid-in-capital associated with prior issuances to the extent available, with the remainder recorded as a charge to retained earnings. We recorded a charge to retained earnings of $1.0 million during the six months ended April 30, 2018 .
The following table summarizes the treasury stock activity during the six months ended April 30, 2018 :
 
Six Months Ended
 
April 30, 2018
Beginning balance as of November 1, 2017
2,670,743

Restricted stock awards granted
(73,400
)
Performance share awards vested
(25,340
)
Stock options exercised
(199,097
)
Balance at April 30, 2018
2,372,906

12. Other (Expense) Income
Other (expense) income included under the caption "Other, net" on the accompanying condensed consolidated statements of income (loss), consisted of the following for the three and six months ended April 30, 2018 and 2017 :
 
Three Months Ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands)
Foreign currency transaction (losses) gains
$
(158
)
 
$
(121
)
 
$
196

 
$
365

Foreign currency derivative gains (losses)
26

 
(34
)
 
(29
)
 
110

Interest income
25

 
19

 
40

 
46

Other
2

 
1

 
5

 
5

Other, net
$
(105
)
 
$
(135
)
 
$
212

 
$
526


19

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


13. Segment Information
We present three reportable business segments in accordance with Topic 280-10-50, "Segment Reporting" (ASC 280): (1) North American Engineered Components segment (“NA Engineered Components”), comprising four operating segments primarily focused on the fenestration market in North America including vinyl profiles, insulating glass (IG) spacers, screens & other fenestration components; (2) European Engineered Components segment (“EU Engineered Components”), comprising our United Kingdom-based vinyl extrusion business, manufacturing vinyl profiles & conservatories, and the European insulating glass business manufacturing IG spacers; and (3) North American Cabinet Components segment (“NA Cabinet Components”), comprising solely the North American cabinet door and components business acquired in November 2015. We maintain an Unallocated Corporate & Other grouping which includes LIFO inventory adjustments, corporate office charges, and inter-segment eliminations, less an allocation of a portion of the general and administrative costs associated with the corporate office which have been allocated to the reportable business segments, based upon a relative measure of profitability, in order to more accurately reflect each reportable business segment's administrative cost. Certain costs are not allocated to the reportable operating segments, but remain in Unallocated Corporate & Other, including transaction expenses, stock-based compensation, long-term incentive awards based on the performance of our common stock and other factors, certain severance and legal costs not deemed to be allocable to all segments, depreciation of corporate assets, interest expense, other, net, income taxes and inter-segment eliminations. The accounting policies of our operating segments are the same as those used to prepare the accompanying condensed consolidated financial statements. Corporate general and administrative expense allocated during the three and six month periods ended April 30, 2018 were $4.9 million and $10.0 million , respectively, and $4.2 million and $8.5 million , respectively, for the prior year comparable periods.
ASC 280 permits aggregation of operating segments based on factors including, but not limited to: (1) similar nature of products serving the building products industry, primarily the fenestration business; (2) similar production processes, although there are some differences in the amount of automation amongst operating plants; (3) similar types or classes of customers, namely the primary OEMs; (4) similar distribution methods for product delivery, although the extent of the use of third-party distributors will vary amongst the businesses; (5) similar regulatory environment; and (6) converging long-term economic similarities.
Segment information for the three and six months ended April 30, 2018 and 2017 , and total assets as of April 30, 2018 and October 31, 2017 are summarized in the following table (in thousands):

20

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


 
NA Eng. Comp.
 
EU Eng. Comp.
 
NA Cabinet Comp.
 
Unallocated Corp. & Other
 
Total
Three Months Ended April 30, 2018
 
 
 
 
 
 
 
 
 
Net sales
$
114,157

 
$
38,824

 
$
62,668

 
$
(1,437
)
 
$
214,212

Depreciation and amortization
6,808

 
2,527

 
3,839

 
136

 
13,310

Operating income (loss)
5,559

 
2,453

 
202

 
(78
)
 
8,136

Capital expenditures
3,567

 
1,456

 
2,313

 
66

 
7,402

Three Months Ended April 30, 2017
 
 
 
 
 
 
 
 
 
Net sales
$
111,165

 
$
34,205

 
$
65,080

 
$
(1,317
)
 
$
209,133

Depreciation and amortization
8,540

 
2,306

 
3,394

 
140

 
14,380

Operating income (loss)
3,969

 
2,937

 
2,002

 
(4,283
)
 
4,625

Capital expenditures
5,689

 
1,807

 
1,913

 

 
9,409

Six Months Ended April 30, 2018
 
 
 
 
 
 
 
 
 
Net sales
$
216,883

 
$
72,820

 
$
118,590

 
$
(2,415
)
 
$
405,878

Depreciation and amortization
13,819

 
4,976

 
7,525

 
263

 
26,583

Operating income (loss)
7,172

 
3,740

 
(2,675
)
 
(590
)
 
7,647

Capital expenditures
7,464

 
3,864

 
3,771

 
114

 
15,213

Six Months Ended April 30, 2017
 
 
 
 
 
 
 
 
 
Net sales
$
217,248

 
$
65,774

 
$
123,710

 
$
(2,503
)
 
$
404,229

Depreciation and amortization
18,478

 
4,362

 
6,669

 
277

 
29,786

Operating income (loss)
4,039

 
5,140

 
1,175

 
(9,570
)
 
784

Capital expenditures
9,400

 
4,951

 
2,997

 
202

 
17,550

As of April 30, 2018
 
 
 
 
 
 
 
 
 
Total assets
$
249,021

 
$
223,303

 
$
286,305

 
$
6,142

 
$
764,771

As of October 31, 2017
 
 
 
 
 
 
 
 
 
Total assets
$
258,315

 
$
219,622

 
$
285,457

 
$
10,485

 
$
773,879

During 2017, we transferred two operating plants that manufacture wood products (fenestration and non-fenestration products) from the NA Engineered Components segment to the NA Cabinet Components segment, to better align wood-related products under a common segment management team, which is expected to generate operational efficiencies and synergies. The operating results and total assets presented reflect this transfer as if it occurred on November 1, 2016.
The following table reconciles our segment presentation, as previously reported in our Quarterly Report on Form 10-Q for the three and six months ended April 30, 2017 , to the current presentation (in thousands):

21

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


Three Months Ended April 30, 2017
As Previously Reported
 
Reclassification
 
Current Presentation
 
(in thousands)
NA Engineered Components
 
 
 
 
 
Net sales
$
116,410

 
$
(5,245
)
 
$
111,165

Depreciation and amortization
8,669

 
(129
)
 
8,540

Operating income (loss)
4,937

 
(968
)
 
3,969

Capital expenditures
$
5,940

 
$
(251
)
 
5,689

EU Engineered Components
 
 
 
 
 
Net sales
$
34,205

 
$

 
$
34,205

Depreciation and amortization
2,306

 

 
2,306

Operating income (loss)
2,937

 

 
2,937

Capital expenditures
$
1,807

 
$

 
1,807

NA Cabinet Components
 
 
 
 
 
Net sales
$
59,147

 
$
5,933

 
$
65,080

Depreciation and amortization
3,265

 
129

 
3,394

Operating income (loss)
1,034

 
968

 
2,002

Capital expenditures
$
1,662

 
$
251

 
$
1,913

Unallocated Corporate & Other
 
 
 
 
 
Net sales
$
(629
)
 
$
(688
)
 
$
(1,317
)
Depreciation and amortization
140

 

 
140

Operating income (loss)
(4,283
)
 

 
(4,283
)
Capital expenditures
$

 
$

 
$

Six Months Ended April 30, 2017
As Previously Reported
 
Reclassification
 
Current Presentation
 
(in thousands)
NA Engineered Components
 
 
 
 
 
Net sales
$
227,483

 
$
(10,235
)
 
$
217,248

Depreciation and amortization
18,747

 
(269
)
 
18,478

Operating income (loss)
5,238

 
(1,199
)
 
4,039

Capital expenditures
$
9,696

 
$
(296
)
 
$
9,400

EU Engineered Components
 
 
 
 
 
Net sales
$
65,774

 
$

 
$
65,774

Depreciation and amortization
4,362

 

 
4,362

Operating income (loss)
5,140

 

 
5,140

Capital expenditures
$
4,951

 
$

 
$
4,951

NA Cabinet Components
 
 
 
 
 
Net sales
$
112,144

 
$
11,566

 
$
123,710

Depreciation and amortization
6,400

 
269

 
6,669

Operating income (loss)
(24
)
 
1,199

 
1,175

Capital expenditures
$
2,701

 
$
296

 
$
2,997

Unallocated Corporate & Other
 
 
 
 
 
Net sales
$
(1,172
)
 
$
(1,331
)
 
$
(2,503
)
Depreciation and amortization
277

 

 
277

Operating income (loss)
(9,570
)
 

 
(9,570
)
Capital expenditures
$
202

 
$

 
$
202


22

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


The following table summarizes the change in the carrying amount of goodwill by segment for the six months ended April 30, 2018 (in thousands):
 
NA Eng. Comp.
 
EU Eng. Comp.
 
NA Cabinet Comp.
 
Unallocated Corp. & Other
 
Total
Balance as of October 31, 2017
$
38,712

 
$
69,735

 
$
113,747

 
$

 
$
222,194

Foreign currency translation adjustment

 
2,534

 

 

 
2,534

Balance as of April 30, 2018
$
38,712

 
$
72,269

 
$
113,747

 
$

 
$
224,728

For further details of Goodwill, see Note 4, "Goodwill & Intangible Assets", located herewith.
We did not allocate non-operating loss or income tax benefit to the reportable segments. The following table reconciles operating loss as reported above to net income (loss) for the three and six months ended April 30, 2018 and 2017 :
 
Three Months Ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands)
Operating loss
$
8,136

 
$
4,625

 
$
7,647

 
$
784

Interest expense
(2,502
)
 
(2,391
)
 
(4,943
)
 
(4,551
)
Other, net
(105
)
 
(135
)
 
212

 
526

Income tax benefit
(1,393
)
 
(637
)
 
6,167

 
977

Net income (loss)
$
4,136

 
$
1,462

 
$
9,083

 
$
(2,264
)
Product Sales
We produce a wide variety of products that are used in the fenestration industry, including window and door systems; accessory trim profiles with real wood veneers and wood grain laminate finishes; window spacer systems; extruded vinyl products; metal fabrication; and astragals, thresholds and screens. In addition, we produce certain non-fenestration products, including kitchen and bath cabinet doors and components, trim moldings, solar edge tape, plastic decking, fencing, water retention barriers, conservatory roof components, and other products.

23

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


The following table summarizes our product sales for the three and six months ended April 30, 2018 and 2017 into general groupings by segment to provide additional information to our shareholders. For all periods presented, this table reflects the reclassification of two operating plants transferred from the NA Engineered Components segment to the NA Cabinet Components segment, as applicable.
 
Three months ended
 
Six Months Ended
 
April 30,
 
April 30,
 
2018
 
2017
 
2018
 
2017
 
(In thousands)
NA Engineered Components:
 
 
 
 
 
 
 
United States - fenestration
$
97,005

 
$
92,327

 
$
184,787

 
$
182,039

International - fenestration
8,897

 
8,646

 
15,906

 
14,986

United States - non-fenestration
4,697

 
6,698

 
8,843

 
12,529

International - non-fenestration
3,558

 
3,494

 
7,347

 
7,694

 
$
114,157

 
$
111,165

 
$
216,883

 
$
217,248

EU Engineered Components:
 
 
 
 
 
 
 
United States - fenestration
$

 
$
79

 
$

 
$
114

International - fenestration
32,847

 
30,536

 
62,716

 
59,441

International - non-fenestration
5,977

 
3,590

 
10,104

 
6,219

 
$
38,824

 
$
34,205

 
$
72,820

 
$
65,774

NA Cabinet Components:
 
 
 
 
 
 
 
United States - fenestration
$
3,403

 
$
3,363

 
$
6,850

 
$
6,696

United States - non-fenestration
58,698

 
60,965

 
110,703

 
115,655

International - non-fenestration
567

 
752

 
1,037

 
1,359

 
$
62,668

 
$
65,080

 
$
118,590

 
$
123,710

Unallocated Corporate & Other
 
 
 
 
 
 
 
Eliminations
$
(1,437
)
 
$
(1,317
)
 
$
(2,415
)
 
$
(2,503
)
 
$
(1,437
)
 
$
(1,317
)
 
$
(2,415
)
 
$
(2,503
)
Net sales
$
214,212

 
$
209,133

 
$
405,878

 
$
404,229

14. Earnings Per Share
We compute basic earnings (loss) per share by dividing net income (loss) by the weighted average number of common shares outstanding during the period. Diluted earnings per common and potential common shares include the weighted average of additional shares associated with the incremental effect of dilutive employee stock options, non-vested restricted stock as determined using the treasury stock method prescribed by U.S. GAAP and contingent shares associated with performance share awards, if dilutive.
Basic and diluted earnings per share for the each of the three months ended April 30, 2018 and 2017, and for the six months ended April 30, 2018, were calculated as follows (in thousands, except per share data):
 
Three Months Ended April 30, 2018
 
Net Income
 
Weighted Average Shares
 
Per Share
Basic earnings per common share
$
4,136

 
34,796

 
$
0.12

Effect of dilutive securities:
 
 
 
 
 
Stock options
 
 
183

 
 
Restricted stock awards
 
 
136

 
 
Diluted earnings per common share
$
4,136

 
35,115

 
$
0.12


24

QUANEX BUILDING PRODUCTS CORPORATION
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (continued)



 


 
Three Months Ended April 30, 2017
 
Net Income
 
Weighted Average Shares
 
Per Share
Basic earnings per common share
$
1,462

 
34,146

 
$
0.04

Effect of dilutive securities:
 
 
 
 
 
Stock options
 
 
440

 
 
Restricted stock awards