PART II
Item 5.
Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities
The Company’s common stock is listed, and principally traded, on the New York Stock Exchange (“NYSE”). The Company’s symbol for its common stock is “ELY.” As of January 31, 2018, the number of holders of record of the Company’s common stock was 5,236. The following table sets forth the range of high and low per share sales prices of the Company’s common stock and per share dividends for the periods indicated.
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Year Ended December 31,
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2017
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2016
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Period:
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High
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Low
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Dividend
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High
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Low
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Dividend
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First Quarter
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$
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12.00
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$
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9.93
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$
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0.01
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$
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9.62
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$
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8.27
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$
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0.01
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Second Quarter
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$
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13.35
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$
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10.93
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$
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0.01
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$
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10.58
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$
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9.09
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$
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0.01
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Third Quarter
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$
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14.49
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$
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12.36
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$
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0.01
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$
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11.80
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$
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10.19
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$
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0.01
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Fourth Quarter
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$
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15.63
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$
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13.60
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$
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0.01
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$
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12.50
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$
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9.96
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$
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0.01
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The Company intends to continue to pay quarterly dividends subject to liquidity, capital availability and quarterly determinations that cash dividends are in the best interests of its shareholders. Future dividends may be affected by, among other items, the Company’s views on potential future capital requirements, projected cash flows and needs, changes to the Company’s business model, and certain restrictions limiting dividends imposed by the ABL Facility (see
Note 4
“
Financing Arrangements
,” in the Notes to Consolidated Financial Statements in this Form 10-K).
Performance Graph
The following graph presents a comparison of the cumulative total shareholder return of the Company’s common stock since December 31, 2012 to two indices: the Standard & Poor’s 500 Index (“S&P 500”) and the Standard & Poor’s 600 Smallcap Index (“S&P 600”). The S&P 500 tracks the aggregate price performance of equity securities of 500 large-cap companies that are actively traded in the United States, and is considered to be a leading indicator of U.S. equity securities. The S&P 600 is a market value-weighted index that tracks the aggregate price performance of equity securities from a broad range of small-cap stocks traded in the United States. The graph assumes an initial investment of $100 at December 31, 2012 and reinvestment of all dividends in ELY stock on the dividend payable date.
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2012
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2013
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2014
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2015
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2016
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2017
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Callaway Golf (NYSE: ELY)
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$
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100.00
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$
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118.55
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$
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145.08
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$
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168.85
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$
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168.89
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$
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214.70
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S&P 500
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$
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100.00
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$
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129.60
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$
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144.36
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$
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143.31
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$
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156.98
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$
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187.47
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S&P 600 Smallcap
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$
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100.00
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$
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139.60
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$
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145.80
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$
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140.90
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$
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175.77
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$
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196.38
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The Callaway Golf Company cumulative total shareholder return is based upon the closing prices of Callaway Golf Company common stock on December 31,
2012
,
2013
,
2014
,
2015
,
2016
and
2017
of $6.50, $8.43, $7.70, $9.42, $10.96 and $13.93, respectively.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
In August 2014, the Company's Board of Directors authorized a $50.0 million share repurchase program under which the Company is authorized to repurchase shares of its common stock in the open market or in private transactions, subject to the Company’s assessment of market conditions and buying opportunities. The repurchases are made consistent with the terms of the Company's primary credit facility which limits the amount of stock that can be repurchased. The repurchase program will remain in effect until completed or until terminated by the Board of Directors.
The table below summarizes the Company's share repurchases during the fourth quarter of
2017
.
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Three Months Ended December 31, 2017
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Total Number
of Shares
Purchased
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Weighted
Average Price
Paid per Share
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Total Number of Shares Purchased as Part of Publicly Announced Programs
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Maximum Dollar Value that May Yet Be Purchased Under the Programs
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October 1, 2017—October 31, 2017
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3,472
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$14.79
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3,472
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$
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25,353,111
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November 1, 2017—November 30, 2017
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—
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$—
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—
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$
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25,353,111
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December 1, 2017—December 31, 2017
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6,178
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$14.12
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6,178
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$
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25,265,877
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Total
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9,650
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$28.91
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9,650
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$
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25,265,877
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During
2017
, the Company repurchased approximately
1,536,000
shares of its common stock under the 2014 repurchase program at an average cost per share of
$10.82
for a total cost of
$16.6 million
. Included in these amounts are $6.6 million of shares the Company withheld to satisfy the Company's tax withholding obligations in connection with the vesting and settlement of employee restricted stock unit awards. The Company’s repurchases of shares of common stock are recorded at cost and result in a reduction of shareholders’ equity. As of
December 31, 2017
, the total amount remaining under the repurchase authorization was
$25.3
million.
Item 6.
Selected Financial Data
The following statements of operations data and balance sheet data for the five years ended
December 31, 2017
were derived from the Company’s audited consolidated financial statements. Consolidated balance sheets at
December 31, 2017
and
2016
and the related consolidated statements of operations and cash flows for each of the three years in the period ended
December 31, 2017
and notes thereto appear elsewhere in this report. The following data should be read in conjunction with the annual consolidated financial statements, related notes and other financial information.
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Years Ended December 31,
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2017
(1)(2)(4)
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2016
(3)(4)(5)
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2015
(6)
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2014
(6)
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2013
(6)(8)
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Statement of Operations Data:
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(In thousands, except per share data)
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Net sales
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$
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1,048,736
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$
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871,192
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$
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843,794
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$
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886,945
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$
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842,801
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Cost of sales
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568,288
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486,181
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486,161
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529,019
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528,043
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Gross profit
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480,448
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385,011
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357,633
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357,926
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314,758
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Selling, general and administrative expenses
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365,043
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307,525
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297,477
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295,893
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294,583
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Research and development expenses
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36,568
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33,318
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33,213
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31,285
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30,937
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Income (loss) from operations
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78,837
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44,168
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26,943
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30,748
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(10,762
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)
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Interest income
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454
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621
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388
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438
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558
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Interest expense
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(4,365
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(2,368
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(8,733
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)
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(9,499
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)
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(9,123
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)
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Gain on sale of investments in golf-related ventures
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—
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17,662
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—
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—
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—
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Other income (expense), net
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(6,871
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)
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(1,690
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1,465
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(48
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)
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6,005
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Income (loss) before income taxes
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68,055
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58,393
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20,063
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21,639
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(13,322
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)
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Income tax (benefit) provision
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26,388
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(132,561
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)
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5,495
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5,631
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5,599
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Net income (loss)
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41,667
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190,954
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14,568
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16,008
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(18,921
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)
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Dividends on convertible preferred stock
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—
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—
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—
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—
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3,332
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Less: Net income attributable to non-controlling interests
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861
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1,054
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—
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—
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—
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Net income (loss) allocable to common shareholders
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$
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40,806
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$
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189,900
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$
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14,568
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$
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16,008
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$
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(22,253
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)
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Earnings (loss) per common share:
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Basic
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$
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0.43
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$
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2.02
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$
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0.18
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$
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0.21
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$
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(0.31
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)
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Diluted
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$
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0.42
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$
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1.98
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$
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0.17
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$
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0.20
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$
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(0.31
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)
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Dividends paid per common share
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$
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0.04
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$
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0.04
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$
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0.04
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$
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0.04
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$
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0.04
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December 31,
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2017
(1)(2)(4)
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2016
(3)(4)(5)(7)
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2015
(6)(7)
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2014
(6)
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2013
(6)(8)
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Balance Sheet Data:
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(In thousands)
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Cash and cash equivalents
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$
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85,674
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$
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125,975
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$
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49,801
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$
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37,635
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$
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36,793
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Working capital
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$
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151,610
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$
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273,571
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$
|
212,851
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$
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199,905
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$
|
195,407
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Total assets
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$
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991,157
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$
|
801,282
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$
|
631,224
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$
|
624,811
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|
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$
|
663,863
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Long-term liabilities
|
$
|
17,408
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|
|
$
|
5,828
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$
|
39,643
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$
|
149,149
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$
|
153,048
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Total Callaway Golf Company shareholders’ equity
|
$
|
649,631
|
|
|
$
|
598,906
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$
|
412,945
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|
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$
|
291,534
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|
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$
|
284,619
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(1)
|
In 2017, the Company completed the acquisitions of OGIO and TravisMathew. The Company's consolidated statement of operations includes the recognition of $3.1 million and $2.4 million in one-time transaction costs for OGIO and TravisMathew, respectively. The Company's consolidated balance sheet includes the addition of $66.0 million and $124.6 million in total net assets related to OGIO and TravisMathew, respectively.
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(2)
|
On December 22, 2017, the Tax Act was enacted into legislation, which includes a broad range of provisions affecting businesses. The Tax Act significantly revises how companies compute their U.S corporate tax liability by, among other provisions, reducing the corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017. Pursuant to the Tax Act, the Company recorded net tax expense of $7.5 million, which was comprised of $11.1 million of income tax expense related to the revaluation of deferred tax assets, partially offset by a tax benefit of $3.6 million as a result of the mandatory deemed repatriation on earnings and profits of U.S.-owned foreign subsidiaries. For further discussion see
Note 10
"
Income Taxes
" in the Notes to the Consolidated Financial Statements in this Form 10-K.
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(3)
|
The Company's tax provision, total assets and long-term liabilities were significantly impacted in 2016 by the reversal of the Company's valuation allowance on its U.S. deferred tax assets. In the fourth quarter of 2016, the Company performed an analysis to determine the realization of its deferred tax assets and concluded that it was more likely than not that the majority of its U.S. deferred tax assets will be realized, which resulted in a one-time, non-cash benefit of $156.6 million related to the reversal of the Company's valuation allowance on its U.S. deferred tax assets. This reversal was partially offset by the recognition of $16.0 million in income taxes that were retroactive for all of 2016 on the Company's U.S. business. For further discussion see
Note 10
"
Income Taxes
" in the Notes to the Consolidated Financial Statements in this Form 10-K.
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(4)
|
In July 2016, the Company contributed
$10.6 million
, primarily in cash, for a
52%
ownership of the new joint venture, Callaway Apparel K.K. (see
Note 8
"
Joint Venture
" in the Notes to the Consolidated Financial Statements in this Form 10-K). The Company is required to consolidate the financial results of the joint venture and, as a result, the Company recorded net income attributable to the non-controlling interest of
$0.9 million
and
$1.1 million
in its consolidated statement of operations during the years ended
December 31, 2017
and 2016, respectively. The Company recognized a non-controlling interest of
$9.7 million
at both
December 31, 2017
and
2016
in its consolidated balance sheets and consolidated statements of shareholders' equity.
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(5)
|
In April 2016, the Company sold approximately
10.0%
or
$5.8 million
(on a cost basis) of its preferred shares in Topgolf for
$23.4 million
, and recognized a gain of approximately
$17.7 million
in other income (expense) during the second quarter of 2016. See
Note 7
"
Investments
" in the Notes to the Consolidated Financial Statements in this Form 10-K.
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(6)
|
In August 2012, the Company issued $112.5 million of 3.75% Convertible Senior Notes (the “convertible notes”) in exchange for cash and 0.6 million shares of the Company’s then-outstanding 7.50% Series B Cumulative Perpetual Convertible Preferred Stock in separate, privately negotiated exchange transactions. During the second half of 2015, the convertible notes were eliminated pursuant to certain exchange transactions and shareholder conversions, which resulted, among other things, in the issuance of approximately 15.0 million shares of common stock to the note holders (see
Note 4
“
Financing Arrangements
” in the Notes to Consolidated Financial Statements in this Form 10-K). In connection with the elimination of the convertible notes and the issuance of the 15.0 million shares of common stock, the Company recorded $109.0 million in shareholders' equity as of December 31, 2015, net of the outstanding discount of $3.4 million. The Company recognized interest expense of
$3.2 million
, $5.0 million and $4.9 million for the years ended December 31, 2015, 2014 and 2013, respectively.
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(7)
|
In December 2015, the Company early adopted Accounting Standards Update No 2015-17, "Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes." This update eliminates the current requirement for organizations to present deferred tax liabilities and assets as current and noncurrent in a classified balance sheet, and instead classify all deferred tax assets and liabilities as noncurrent. The adoption of this update was made on a prospective basis as of December 31, 2015, therefore working capital and long-term liabilities in 2015 as well as 2016 are not comparable to prior periods presented.
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(8)
|
The Company’s operating statements for the year ended December 31, 2013 include pre-tax charges of
$16.6 million
in connection with the Company's cost-reduction initiatives that were announced in July 2012. As a result of these initiatives, in 2012, the Company recorded related decreases in working capital and total assets from the impairment of certain intangible assets including goodwill, as well as the write-off of certain long-lived assets and inventory.
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Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with the Consolidated Financial Statements, the related notes and the section “Important Notice to Investors Regarding Forward-Looking Statements” that appear elsewhere in this report.
`Critical Accounting Policies and Estimates
The Company’s discussion and analysis of its results of operations, financial condition and liquidity are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP). The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, shareholders’ equity, sales and expenses, as well as related disclosures of contingent assets and liabilities. The Company bases its estimates on historical experience and on various other assumptions that management believes to be reasonable under the circumstances. Actual results may materially differ from these estimates under different assumptions or conditions. On an ongoing basis, the Company reviews its estimates to ensure that the estimates appropriately reflect changes in its business and new information as it becomes available.
Management believes the critical accounting policies discussed below affect its more significant estimates and assumptions used in the preparation of its consolidated financial statements. For a complete discussion of all of the Company’s significant accounting policies, see
Note 2
“
Summary of Significant Accounting Policies
” in the Notes to Consolidated Financial Statements in this Form 10-K.
Revenue Recognition
Through December 31, 2017, the Company accounted for revenue recognition in accordance with Accounting Standards Codification (“ASC”) Topic 605, “Revenue Recognition.” Beginning on January 1, 2018, the Company will account for revenue recognition under Topic 606, "Revenue from Contracts with Customers," which will accelerate the timing of certain sales promotions and price concessions that the Company offers to its retailers to earlier in the product life cycle. For further discussion of Topic 606, see
Note 2
“
Summary of Significant Accounting Policies
” in the Notes to Consolidated Financial Statements in this Form 10-K.
In accordance with Topic 605, sales are recognized, in general, as products are shipped to customers, net of an allowance for sales returns and accruals for sales programs. In certain cases, the Company recognizes sales when products are received by customers. The Company records a reserve for anticipated returns through a reduction of sales and cost of sales in the period that the related sales are recorded. Sales returns are estimated based upon historical returns, current economic trends, changes in customer demands and sell-through of products. In addition, from time to time, the Company offers sales programs that allow for specific returns. The Company records a reserve for anticipated returns related to these sales programs based on the terms of the sales program. Historically, the Company’s actual sales returns have not been materially different from management’s original estimates. The Company does not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions used to calculate the allowance for sales returns. However, if the actual costs of sales returns are significantly different than the recorded estimated allowance, the Company may be exposed to losses or gains that could be material. Assuming there had been a 10% increase over the recorded estimated allowance for
2017
sales returns, pre-tax income for the year ended
December 31, 2017
would have decreased by approximately
$1.5 million
.
The Company also records estimated reductions to revenue for sales programs such as incentive offerings. Sales program accruals are estimated based upon the attributes of the sales program, management’s forecast of future product demand, and historical customer participation in similar programs. The Company’s primary sales program, “the Preferred Retailer Program,” offers longer payment terms during the initial sell-in period, as well as potential rebates and discounts, for participating retailers in exchange for providing certain benefits to the Company, including the maintenance of agreed upon inventory levels, prime product placement and retailer staff training. Under this program, qualifying retailers can earn either discounts or rebates based upon the amount of product purchased. Discounts are applied and recorded at the time of sale. For rebates, the Company accrues an estimate of the rebate at the time of sale based on the customer’s estimated qualifying current year product purchases. The estimate is based on the historical level of purchases, adjusted for any factors expected to affect the current year purchase levels. The estimated year-end rebate is adjusted quarterly based on actual purchase levels, as necessary. The Preferred Retailer Program is generally short term in nature and the actual costs of the program are known as of the end of the year and paid to customers shortly after year-end. In addition to the Preferred Retailer Program, the Company from time to time offers additional sales program incentive offerings which are also generally short term in nature. Historically the Company’s actual costs related to its Preferred Retailer Program and other sales programs have not been materially different than its estimates.
Revenues from gift cards are deferred and recognized when the cards are redeemed. In addition, the Company recognizes revenue from unredeemed gift cards when the likelihood of redemption becomes remote and under circumstances that comply with any applicable state escheatment laws. The Company’s gift cards have no expiration date. To determine when redemption is remote, the Company analyzes an aging of unredeemed cards (based on the date the card was last used or the activation date if the card has never been used) and compares that information with historical redemption trends. The Company does not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions used to determine the timing of recognition of gift card revenues. The deferred revenue associated with outstanding gift cards was
$1.0 million
and
$1.3 million
at
December 31, 2017
and
2016
, respectively.
Allowance for Doubtful Accounts
The Company maintains an allowance for estimated losses resulting from the failure of its customers to make required payments. An estimate of uncollectible amounts is made by management based upon historical bad debts, current customer receivable balances, age of customer receivable balances, the customer’s financial condition and current economic trends, all of which are subject to change. If the actual uncollected amounts significantly exceed the estimated allowance, the Company’s operating results would be significantly adversely affected. Assuming there had been a 10% increase in uncollectible accounts over the
2017
recorded estimated allowance for doubtful accounts, pre-tax income for the year ended
December 31, 2017
would have decreased by approximately
$0.4 million
.
Inventories
Inventories are valued at the lower of cost or fair market value. Cost is determined using the first-in, first-out (FIFO) method. The inventory balance, which includes material, labor and manufacturing overhead costs, is recorded net of an estimated allowance for obsolete or unmarketable inventory. The estimated allowance for obsolete or unmarketable inventory is based upon current inventory levels, sales trends and historical experience as well as management’s understanding of market conditions and forecasts of future product demand, all of which are subject to change.
The calculation of the Company’s allowance for obsolete or unmarketable inventory requires management to make assumptions and to apply judgment regarding inventory aging, forecasted consumer demand and pricing, regulatory (USGA and R&A) rule changes, the promotional environment and technological obsolescence. The Company does not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions used to calculate the allowance. However, if estimates regarding consumer demand are inaccurate or changes in technology affect demand for certain products in an unforeseen manner, the Company may need to increase its inventory allowance, which could significantly adversely affect the Company’s operating results. Assuming there had been a 10% increase in obsolete or unmarketable inventory over the
2017
recorded estimated allowance for obsolete or unmarketable inventory, pre-tax income for the year ended
December 31, 2017
would have decreased by approximately
$1.4 million
.
Long-Lived Assets, Goodwill and Non-Amortizing Intangible Assets
In the normal course of business, the Company acquires tangible and intangible assets. The Company periodically evaluates the recoverability of the carrying amount of its long-lived assets, including property, plant and equipment and amortizing intangible assets, and investments whenever events or changes in circumstances indicate that the carrying amount of the asset may not be fully recoverable or exceeds its fair value. The Company evaluates the recoverability of its goodwill and non-amortizing intangible assets at least annually or more frequently whenever indicators are present that the carrying amounts of these assets may not be fully recoverable. Determining whether an impairment has occurred typically requires various estimates and assumptions, including determining the amount of undiscounted cash flows directly related to the potentially impaired asset, the useful life over which cash flows will occur, the timing of the impairment test, and the asset’s residual value, if any.
To determine fair value, the Company uses its internal cash flow estimates discounted at an appropriate rate, quoted market prices, royalty rates when available and independent appraisals as appropriate. Any required impairment loss is measured as the amount by which the carrying amount of the asset exceeds its fair value and is recorded as a reduction in the carrying value of the asset and a charge to earnings.
The Company uses its best judgment based on current facts and circumstances related to its business when making these estimates. However, if actual results are not consistent with the Company’s estimates and assumptions used in calculating future cash flows and asset fair values, the Company may be exposed to losses that could be material. The Company completed its annual impairment test and fair value analysis of goodwill and other indefinite-lived intangible assets as of
December 31, 2017
, and the
estimated fair values of the Company’s reporting units, as well as the estimated fair values of certain trade names and trademarks, significantly exceeded their carrying values. As a result, no impairment was recorded as of
December 31, 2017
.
Warranty Policy
The Company has a stated two-year warranty policy for its golf clubs. The Company’s policy is to accrue the estimated cost of satisfying future warranty claims at the time the sale is recorded. In estimating its future warranty obligations, the Company considers various relevant factors, including the Company’s stated warranty policies and practices, the historical frequency of claims, and the cost to replace or repair its products under warranty.
The Company’s estimates for calculating the warranty reserve are principally based on assumptions regarding the warranty costs of each club product line over the expected warranty period. Where little or no claims experience may exist, the Company’s warranty obligation calculation is based upon long-term historical warranty rates of similar products until sufficient data is available. As actual model-specific rates become available, the Company’s estimates are modified to ensure that the forecast is within the range of likely outcomes.
Historically, the Company’s actual warranty claims have not been materially different from management’s original estimated warranty obligation. The Company does not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions used to calculate the warranty obligation. However, if the number of actual warranty claims or the cost of satisfying warranty claims were to significantly exceed the estimated warranty reserve, the Company may be exposed to losses that could be material. Assuming there had been a 10% increase in warranty claims over the
2017
recorded estimated allowance for warranty obligations, pre-tax income for the year ended
December 31, 2017
would have decreased by approximately
$0.7 million
.
Income Taxes
Current income tax expense or benefit is the amount of income taxes expected to be payable or receivable for the current year. A deferred income tax asset or liability is established for the difference between the tax basis of an asset or liability computed pursuant to ASC Topic 740, "Income Taxes," and its reported amount in the financial statements that will result in taxable or deductible amounts in future years when the reported amount of the asset or liability is recovered or settled, respectively. The Company maintains a valuation allowance for a deferred tax asset when it is deemed to be more likely than not that some or all of the deferred tax asset will not be realized. In evaluating whether a valuation allowance is required under such rules, the Company considers all available positive and negative evidence, including prior operating results, the nature and reason for any losses, its forecast of future taxable income, and the dates on which any deferred tax assets are expected to expire. These assumptions require a significant amount of judgment. These estimates are based on the Company’s best judgment at the time made based on current and projected circumstances and conditions. In 2011, as a result of this evaluation, the Company recorded a valuation allowance against its U.S. deferred tax assets. During the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance on those deferred tax assets. For further discussion see
Note 10
“
Income Taxes
” in the Notes to Consolidated Financial Statements in this Form 10-K.
Pursuant to ASC Topic 740-25-6, the Company is required to accrue for the estimated additional amount of taxes for uncertain tax positions if it is deemed to be more likely than not that the Company would be required to pay such additional taxes. The Company is required to file federal and state income tax returns in the United States and various other income tax returns in foreign jurisdictions. The preparation of these income tax returns requires the Company to interpret the applicable tax laws and regulations in effect in such jurisdictions, which could affect the amount of tax paid by the Company. The Company accrues an amount for its estimate of additional tax liability, including interest and penalties in income tax expense, for any uncertain tax positions taken or expected to be taken in an income tax return. The Company reviews and updates the accrual for uncertain tax positions as more definitive information becomes available. Historically, additional taxes paid as a result of the resolution of the Company’s uncertain tax positions have not been materially different from the Company’s expectations. The Company recognizes interest and/or penalties related to income tax matters in income tax expense.
On December 22, 2017, the U.S. government enacted comprehensive tax legislation referred to as the Tax Cuts and Jobs Act (the “Tax Act”). Shortly after the Tax Act was enacted, the SEC issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act ("SAB 118"), which provides guidance on accounting for the Tax Act’s impact. SAB 118 provides a measurement period, which should not extend beyond one year from the Tax Act enactment date, during which a company acting in good faith may complete the accounting for the impacts of the Tax Act under ASC Topic 740. In accordance
with SAB 118, the Company must reflect the income tax effects of the Tax Act in the reporting period in which the accounting under ASC Topic 740 is complete.
To the extent that the Company’s accounting for certain income tax effects of the Tax Act is incomplete, the Company can determine a reasonable estimate for those effects and record a provisional estimate in the consolidated financial statements in the first reporting period in which a reasonable estimate can be determined. If the Company cannot determine a provisional estimate to be included in the consolidated financial statements, the Company should continue to apply ASC Topic 740 based on the provisions of the tax laws that were in effect immediately prior to the Tax Act being enacted. If the Company is unable to provide a reasonable estimate of the impacts of the Tax Act in a reporting period, a provisional amount must be recorded in the first reporting period in which a reasonable estimate can be determined. For further information, see
Note 10
“
Income Taxes
” in the Notes to Consolidated Financial Statements in this Form 10-K.
Share-based Compensation
The Company grants stock options, stock appreciation rights, restricted stock awards, restricted stock units, performance share units and other equity-based awards to the Company’s officers, employees, consultants and certain other non-employees who provide services to the Company. The Company accounts for share-based compensation arrangements in accordance with ASC Topic 718, “Stock Compensation,” which requires the measurement and recognition of compensation expense for all share-based payment awards to employees and non-employees based on estimated fair values. ASC Topic 718 further requires a reduction in share-based compensation expense by an estimated forfeiture rate. The forfeiture rate used by the Company is based on historical forfeiture trends. If actual forfeitures are not consistent with the Company’s estimates, the Company may be required to increase or decrease compensation expenses in future periods.
Performance share units are stock-based awards in which the number of shares ultimately received depends on the Company's performance against specified goals that are measured over a designated performance period from the date of grant. These performance goals are established by the Company at the beginning of the performance period. At the end of the performance period, the number of shares of stock that could be issued is fixed based upon the degree of achievement of the performance goals. The number of shares that could be issued can range from
0%
to
200%
of the participant's target award. Performance share units are initially valued at the Company's closing stock price on the date of grant. Compensation expense, net of estimated forfeitures, is recognized over the vesting period and will vary based on the anticipated performance level during the performance period. If the performance goals are not probable of achievement during the performance period, compensation expense would be reversed. The awards are canceled if the performance goals are not achieved as of the end of the performance period. The performance units vest in full at the end of a three-year period.
The Company uses the Black-Scholes option valuation model to estimate the fair value of its stock options and stock appreciation rights (“SARs”) at the date of grant. The Black-Scholes option valuation model requires the input of highly subjective assumptions including the Company’s expected stock price volatility, the expected dividend yield, the expected term of an option or SAR and the risk-free interest rate, which is based on the U.S. Treasury yield curve in effect at the time of grant. The Company uses historical data to estimate the expected price volatility and the expected term. The Company uses forecasted dividends to estimate the expected dividend yield. Changes in subjective input assumptions can materially affect the fair value estimates of an option or SAR. Furthermore, the estimated fair value of an option or SAR does not necessarily represent the value that will ultimately be realized by an employee. Compensation expense is recognized on a straight-line basis over the vesting period for stock options. Compensation expense for SARs is recognized on a straight-line basis over the vesting period based on an award’s estimated fair value, which is remeasured at the end of each reporting period. Once vested, SARs continued to be remeasured to fair value until they are exercised.
The Company records compensation expense for restricted stock awards and restricted stock units (collectively “restricted stock”) based on the estimated fair value of the award on the date of grant. The estimated fair value is determined based on the closing price of the Company’s common stock on the date of grant multiplied by the number of shares underlying the award. Compensation expense is recognized on a straight-line basis over the vesting period, reduced by an estimated forfeiture rate.
Phantom stock units are a form of share-based awards that are indexed to the Company’s stock and are settled in cash. Compensation expense for phantom stock units is recognized on a straight-line basis over the vesting period based on the award’s estimated fair value. Fair value is remeasured at the end of each interim reporting period through the award’s settlement date and is based on the closing price of the Company’s stock.
Foreign Currency Translation
A significant portion of the Company’s business is conducted outside of the United States in currencies other than the U.S. dollar. As a result, changes in foreign currency exchange rates can have a significant effect on the Company’s financial results. Revenues and expenses that are denominated in foreign currencies are translated using the average exchange rate for the period. Assets and liabilities are translated at the rate of exchange on the balance sheet date. Gains and losses from assets and liabilities denominated in a currency other than the functional currency of the entity on which they reside are generally recognized currently in the Company's statements of operations. Gains and losses from translation of foreign subsidiary financial statements into U.S. dollars are included in accumulated other comprehensive income or loss.
As part of the Company's overall strategy to manage its level of exposure to the risk of fluctuations in foreign currency exchange rates, the Company enters into foreign currency forward contracts. While these foreign currency forward contracts can mitigate the effects of changes in foreign currency exchange rates, they do not eliminate those effects, which can be significant. For all contracts that qualify as cash flow hedges, the Company records gains and losses in other comprehensive income or loss. These gains and losses are released from other comprehensive income or loss and recognized in net sales or cost of goods sold in the period in which the underlying hedged transaction is recognized. Gains and losses on derivatives that are not elected for hedge accounting treatment or that do not meet hedge accounting requirements are recorded immediately in other income (expense).
Recent Accounting Pronouncements
Information regarding recent accounting pronouncements is contained in
Note 2
“
Summary of Significant Accounting Policies
” in the Notes to Consolidated Financial Statements in this Form 10-K, which is incorporated herein by this reference.
Discussion of Non-GAAP Measures
In addition to the financial results contained in this report, which have been prepared and presented in accordance with GAAP, the Company has also included supplemental information concerning the Company’s financial results on a non-GAAP basis. This non-GAAP information includes certain of the Company's financial results without transaction costs and transition costs associated with the OGIO and TravisMathew acquisitions as well as the impact of the new tax legislation for the year ended December 31, 2017, and excludes the effects of the reversal of the deferred tax valuation allowance and the gain on the sale of a portion of the Company's Topgolf investment for the year ended December 31, 2016. In addition, non-GAAP information includes certain of the Company’s financial results on a constant currency basis for the comparative years ended December 31, 2016 and 2015. This constant currency information estimates what the Company’s financial results would have been without changes in foreign currency exchange rates. This information is calculated by taking the local currency results for 2016 and translating them into U.S. dollars based upon the foreign currency exchange rates for the applicable comparable prior period. It does not include any other effect of changes in foreign currency rates on the Company’s results or business.
The Company has included in this report information to reconcile this non-GAAP information to the most directly comparable GAAP information. The non-GAAP information presented in this report should not be considered in isolation or as a substitute for any measure derived in accordance with GAAP. The non-GAAP information may also be inconsistent with the manner in which similar measures are derived or used by other companies. Management uses such non-GAAP information for financial and operational decision-making purposes and as a means to evaluate period over period comparisons of the underlying performance of its business and in forecasting the Company’s business going forward. Management believes that the presentation of such non-GAAP information, when considered in conjunction with the most directly comparable GAAP information, provides additional useful comparative information for investors in their assessment of the underlying performance of the Company’s business.
Results of Operations
Overview of Business, Seasonality and Foreign Currency
Products
The Company designs, manufactures and sells high quality golf clubs, golf balls, golf bags and other golf-related accessories. The Company designs its products to be technologically advanced and in this regard invests a considerable amount in research and development each year. The Company designs golf products for golfers of all skill levels, both amateur and professional. In January 2017, the Company completed the acquisition of OGIO, a leading manufacturer of high quality bags, accessories and apparel in the golf and lifestyle categories, and in August 2017, the Company completed the acquisition of TravisMathew, a golf
and lifestyle apparel company. The primary reason for these acquisitions was to enhance the Company's presence in golf while also providing a platform for future growth in the lifestyle category.
Operating Segments
As a result of the Company's apparel joint venture in Japan established in July 2016, as well as the Company's acquisition of OGIO in January 2017, the Company reassessed its operating segments during the first quarter of 2017. With the addition of the apparel joint venture and OGIO acquisition, the Company anticipates generating significant growth within its accessories and other product category that was previously included within the Company's Golf Clubs segment. As a result, and based on the Company's assessment, as of January 1, 2017 the Company began including sales generated from golf apparel and footwear, golf bags, golf gloves, travel gear, headwear and other golf-related accessories, OGIO branded gear and accessories, retail apparel sales from the Company's joint venture in Japan, TravisMathew branded apparel, and royalties from licensing of the Company’s trademarks and service marks for various soft goods products in the Gear, Accessories and Other operating segment. The Golf Clubs segment now consists of Callaway Golf woods, hybrids, irons and wedges, Odyssey putters, including Toulon Design putters by Odyssey, packaged sets and sales of pre-owned golf clubs. At the product category level, sales of packaged sets are included within irons, and sales of pre-owned golf clubs are included in the respective woods, irons and putters product categories. Prior year amounts have been reclassified to reflect these changes. The Golf Balls segment continues to consist of Callaway Golf and Strata golf balls that are designed, manufactured and sold by the Company. As discussed in
Note 17
“
Segment Information
” in the Notes to Consolidated Financial Statements in this Form 10-K, the Company’s operating segments exclude a significant amount of corporate general administrative expenses and other income (expense) not utilized by management in determining segment profitability.
Cost of Sales
The Company’s cost of sales is comprised primarily of material and component costs, distribution and warehousing costs, and overhead. As a result of the actions taken to improve manufacturing efficiencies, over 85% of the Company's manufacturing costs, primarily material and component costs, are variable in nature and fluctuate with sales volumes. With respect to the Company's operating segments, variable costs as a percentage of cost of sales range between 85% to 95% for Golf Clubs and 75% to 85% for Golf Balls. Variable costs for Gear, Accessories and Other are generally greater than 95% as fewer fixed costs are used in the manufacturing of the Company's soft goods products. Generally, the relative significance of the components of cost of sales does not vary materially from these percentages from period to period. See "Years Ended December 31, 2017 and 2016—Segment Profitability" and "Years Ended December 31, 2016 and 2015—Segment Profitability" below for further discussion of gross margins.
Seasonality
Golf Club and Golf Balls
In most of the regions where the Company conducts business, the game of golf is played primarily on a seasonal basis. Weather conditions generally restrict golf from being played year-round, except in a few markets, with many of the Company’s on-course customers closing for the cold weather months. The Company’s golf club and golf ball businesses are therefore subject to seasonal fluctuations. In general, during the first quarter, the Company begins selling its golf club and golf ball products into the golf retail channel for the new golf season. This initial sell-in generally continues into the second quarter. The Company’s second-quarter sales are significantly affected by the amount of reorder business of the products sold during the first quarter. The Company’s third-quarter sales are generally dependent on reorder business but can also include smaller new product launches, typically resulting in lower sales than the second quarter as many retailers begin decreasing their inventory levels in anticipation of the end of the golf season. The Company’s fourth-quarter sales are generally less than the other quarters due to the end of the golf season in many of the Company’s key regions. However, third-quarter sales can be affected by a mid-year product launch, and fourth-quarter sales can be affected from time to time by the early launch of product introductions related to the new golf season of the subsequent year. This seasonality, and therefore quarter-to-quarter fluctuations, can be affected by many factors, including the timing of new product introductions as well as weather conditions. In general, because of this seasonality, a majority of the Company’s sales from its Golf Clubs and Golf Balls operating segments and most, if not all, of its profitability from these segments generally occurs during the first half of the year.
Gear, Accessories and Other
Sales of the Company's gear and accessories historically followed the golf clubs and golf balls seasonality, where most of the sales and profitability occurred during the first half of the year. With the Company's addition of the Japan apparel joint venture and the acquisition of OGIO as discussed above, the Company's seasonality shifted to the second half of the year as these businesses
generate higher sales in the third and fourth quarters during the winter apparel season in Japan, and during the holiday season in the United States when sales of OGIO branded products are higher. Sales of the recently acquired TravisMathew brand of apparel and accessories are expected to be higher during the first half of the year, when the golf season is at its peak.
Foreign Currency
A significant portion of the Company’s business is conducted outside of the United States in currencies other than the U.S. dollar. As a result, changes in foreign currency rates can have a significant effect on the Company’s financial results. The Company enters into foreign currency forward contracts to mitigate the effects of changes in foreign currency rates. While these foreign currency forward contracts can mitigate the effects of changes in foreign currency rates, they do not eliminate those effects, which can be significant. These effects include (i) the translation of results denominated in foreign currency into U.S. dollars for reporting purposes, (ii) the mark-to-market adjustments of certain intercompany balance sheet accounts denominated in foreign currencies and (iii) the mark-to-market adjustments of the Company’s foreign currency forward contracts. In general, the Company’s overall financial results are affected positively by a weaker U.S. dollar and are affected negatively by a stronger U.S. dollar as compared to the foreign currencies in which the Company conducts its business.
Executive Summary
In comparing the Company’s results for 2017 to the prior year, the following factors affect the year-over-year comparisons:
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•
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The Company’s results for 2017 include transaction and transition expenses of $11.3 million related to the OGIO and TravisMathew acquisitions completed in January 2017 and August 2017, respectively.
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•
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The Company’s results for 2016 include a pre-tax gain of $17.7 million from the sale of approximately 10% of the Company's investment in Topgolf. There was no such sale or gain in 2017.
|
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•
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The Company’s results of operations for 2017 include the operating results from the OGIO and TravisMathew businesses, which are incremental to the results in the comparative periods of 2016. In addition, the Company’s results of operations for 2017 include the incremental operating results from the apparel joint venture in Japan, which was established in July 2016. The Company’s results of operations for 2016 only include the joint venture’s operating results beginning in the third quarter.
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•
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In the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance that was established on its U.S. deferred tax assets, and recognized a one-time income tax benefit of $156.6 million. As a result of this reversal, in 2017, the Company recognized a non-recurring, non-cash tax benefit of $4.1 million related to taxes on intercompany transactions.
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•
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In December 2017, the U.S. government enacted the Tax Act into legislation. As a result of the Tax Act, the Company recognized income tax expense of $7.5 million in the fourth quarter of 2017 (see further discussion below in the results of operations for the years ended December 31, 2017 and 2016).
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•
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Beginning in January 2017, the Company began reporting three operating segments (namely, Golf Clubs, Golf Balls and Gear, Accessories and Other) as opposed to the two operating segments reported in 2016 (namely, Golf Clubs and Golf Balls). For comparison purposes, the 2016 results have been reclassified to reflect the current year operating segment presentation.
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The Company’s results for 2017 reflect its continued brand momentum and increased hard goods market share, as well as increased sales in all operating segments and in all major reporting geographic regions. Net sales for 2017 increased by $177.5 million or 20.4% to $1,048.7 million compared to 2016. This increase is attributable to the strength of the Company’s 2017 product line, including the continued success of the current year Epic line of products, increased golf ball sales, including the new Chrome Soft X ball, and increased sales of gear and accessories as a result of the OGIO and TravisMathew acquisitions and the new apparel joint venture in Japan.
The Company’s gross margin improved 160 basis points to 45.8% in 2017 compared to 2016. This improvement was primarily due to a favorable shift in product mix toward the higher margin Epic line of woods and irons combined with an overall increase in average selling prices. Gross margin for 2017 also included the favorable impact of less discounting and lower promotional activity compared to 2016. This increase was partially offset by an increase in club component costs due to the higher cost materials and technology incorporated into current year products.
Operating expenses increased $60.8 million or 17.8% to $401.6 million in 2017 compared to 2016 primarily due to higher variable expenses resulting from the increase in net sales period over period, the consolidation of the newly acquired OGIO and TravisMathew businesses in 2017 including $8.8 million of non-recurring transaction and transition expenses related to these acquisitions, and incremental operating expenses from the apparel joint venture in Japan.
In 2016, the Company completed the sale of a small portion of its preferred shares of Topgolf for total proceeds of $23.4 million, and recognized a pre-tax gain of $17.7 million.
The provision for income taxes increased by $158.9 million to $26.4 million in 2017 compared to 2016. This increase reflects the reversal of a significant portion of the valuation allowance on the Company's U.S. deferred tax assets of $156.6 million in the fourth quarter of 2016. The income tax provision for 2017 includes income tax expense of $7.5 million as a result of the newly enacted Tax Act. This was partially offset by a non-recurring, non-cash tax benefit of $4.1 million related to taxes on intercompany transactions resulting from the 2016 release of the valuation allowance against the Company’s U.S. deferred tax assets.
Net income decreased $149.1 million or 78.5% to $40.8 million in 2017 compared to 2016, and diluted earnings per share decreased by $1.56 or 78.8% to $0.42. On a non-GAAP basis, excluding the acquisition costs and the impact of the Tax Act in 2017, and the Topgolf gain and the reversal of the valuation allowance in 2016, the Company's net income and diluted earnings per share for 2017 would have increased by $28.5 million to $51.3 million and by $0.29 to $0.53, respectively, compared to 2016.
Years Ended December 31, 2017 and 2016
Net sales for the year ended
December 31, 2017
increased
$177.5 million
(
20.4%
) to
$1,048.7 million
compared to
$871.2 million
for the year ended
December 31, 2016
. This improvement was driven by an increase in net sales in all three of the Company's operating segments. The increase in gear, accessories and other was largely due to the Company's newly acquired businesses, OGIO and TravisMathew, and the Company's apparel joint venture in Japan which contributed to incremental sales of bags, accessories and apparel in the golf and lifestyle categories
. The increase in net sales in the Golf Clubs and Golf Balls operating segments was driven by the success of the Epic line of drivers and fairway woods and the Supersoft and Chrome Soft lines of golf balls, respectively.
The Company’s net sales by operating segment are presented below (dollars in millions):
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Years Ended
December 31,
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|
Growth
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Golf Clubs
|
$
|
643.1
|
|
|
$
|
582.4
|
|
|
$
|
60.7
|
|
|
10.4
|
%
|
Golf Balls
|
162.5
|
|
|
152.3
|
|
|
10.2
|
|
|
6.7
|
%
|
Gear, Accessories and Other
|
243.1
|
|
|
136.5
|
|
|
106.6
|
|
|
78.1
|
%
|
|
$
|
1,048.7
|
|
|
$
|
871.2
|
|
|
$
|
177.5
|
|
|
20.4
|
%
|
For further discussion of each operating segment’s results, see "Operating Segment Results for the Years Ended December 31, 2017 and 2016" below.
Net sales information by region is summarized as follows (dollars in millions):
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Years Ended
December 31,
|
|
Growth
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
United States
|
$
|
566.4
|
|
|
$
|
447.6
|
|
|
$
|
118.8
|
|
|
26.5
|
%
|
Europe
|
139.5
|
|
|
122.8
|
|
|
16.7
|
|
|
13.6
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%
|
Japan
|
199.3
|
|
|
170.8
|
|
|
28.5
|
|
|
16.7
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%
|
Rest of Asia
|
76.5
|
|
|
67.1
|
|
|
9.4
|
|
|
14.0
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%
|
Other foreign countries
|
67.0
|
|
|
62.9
|
|
|
4.1
|
|
|
6.5
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%
|
|
$
|
1,048.7
|
|
|
$
|
871.2
|
|
|
$
|
177.5
|
|
|
20.4
|
%
|
Net sales in the United States increased
$118.8 million
(
26.5%
) to
$566.4 million
during
2017
compared to
$447.6 million
in
2016
, primarily due to the continued success of the Company's new Epic line of drivers and fairway woods, combined with increased sales of bags, gear and apparel due to the Company's acquisition of Ogio and TravisMathew during the current year. The Company’s sales in regions outside of the United States increased
$58.8 million
(
13.9%
) to
$482.4 million
in
2017
compared to
$423.6 million
in
2016
, primarily due to the formation of the Company's apparel joint venture in Japan beginning in the third
quarter of 2016 combined with the continued success of the Company's Epic line of woods and irons. Foreign currency exchange rates had an unfavorable impact of
$9.9 million
on the Company's net sales denominated in foreign currencies.
Gross profit increased
$95.4 million
to
$480.4 million
in
2017
from
$385.0 million
in
2016
. Gross profit as a percent of net sales ("gross margin") increased 160 basis points to
45.8%
in
2017
from
44.2%
in
2016
. The increase in gross margin was primarily due to a 410 basis point favorable shift in price and product mix in the woods product category due to the success of the current year Epic drivers, which have higher margins compared to the XR 16 drivers sold in the prior year, combined with a general increase in average selling prices across most product categories. This increase was partially offset by a decrease of approximately 180 basis points primarily due to (i) an increase in club component costs due to the higher cost of materials and technology incorporated into current year products, (ii) higher freight costs resulting from more air shipments to meet the high demand of the Company's current year products, as well as (iii) the slightly dilutive impact of the Company's newly acquired OGIO and TravisMathew businesses, which in the aggregate had lower gross margins relative to the Company's core business. On a full year basis, the gross margin for the TravisMathew business would be expected to be accretive to the Company's overall gross margin. Foreign currency exchange rates also had an unfavorable impact of approximately 70 basis points on the Company's gross margins during the current year. For a further discussion of gross margin, see "Segment Profitability" below.
Selling expenses increased by
$35.3 million
to
$270.9 million
(
25.8%
of net sales) in 2017 compared to
$235.6 million
(
27.0%
of net sales) in
2016
. This increase was primarily due to an additional $18.5 million of incremental selling costs resulting from the formation and consolidation of the Company's apparel joint venture in Japan established during the third quarter of 2016, and the acquisitions of OGIO in January 2017 and TravisMathew in August 2017, as well as increases of $8.5 million in marketing and tour expenses, $6.9 million in employee costs due to increases in sales commissions, accrued employee incentive compensation and stock compensation expense, and $1.2 million in travel expenses.
General and administrative expenses increased by
$22.2 million
to
$94.2 million
(
9.0%
of net sales) in 2017 compared to
$72.0 million
(
8.3%
of net sales) in
2016
. This increase was primarily due to $8.8 million of non-recurring transaction and transition costs incurred in connection with the acquisitions of OGIO and TravisMathew, $9.3 million of incremental general and administrative costs resulting from the consolidation of the Company's new businesses, a $5.7 million increase in employee costs due to increases in accrued employee incentive compensation expense and stock compensation expense, and $1.0 million in legal expenses. These increases were partially offset by a decrease of $1.8 million in bad debt expense.
Research and development expenses increased by
$3.3 million
to
$36.6 million
(
3.5%
of net sales) in 2017 compared to
$33.3 million
(
3.8%
of net sales) in
2016
, primarily due to a $1.7 million increase in employee costs due to increases in accrued employee incentive compensation expense and stock compensation expense, combined with increases in research expenses and professional fees.
Interest expense increased by
$2.0 million
to
$4.4 million
in 2017 compared to
$2.4 million
in
2016
primarily due to the refinancing of the Company's ABL Credit Facility during the fourth quarter of 2017 (see
Note 4
"
Financing Arrangements
" to the Notes to Consolidated Financial Statements in this Form 10-K).
During 2016, the Company sold approximately 10.0% of its preferred shares in Topgolf for $23.4 million and recognized a $17.7 million gain in other income. See
Note 7
“
Investments
” to the Notes to Consolidated Financial Statements in this Form 10-K.
Other expense, net increased by
$5.2 million
to
$6.9 million
in 2017 compared to
$1.7 million
in
2016
primarily due to an increase in net foreign currency losses from non-designated foreign currency hedging contracts.
The Company recorded an income tax provision of
$26.4 million
in 2017, compared to an income tax benefit of
$132.6 million
in
2016
. The income tax benefit for 2016 includes a non-cash benefit of $156.6 million related to the reversal of a signification portion of the Company's valuation allowance on its U.S. deferred tax assets. This reversal was partially offset by the recognition of $16.0 million in income taxes that were retroactive for all of 2016 on the Company's earnings in the U.S.
As of December 31, 2017, the Company recorded income tax expense of $7.5 million as a result of the Tax Act, which is comprised of $11.1 million of income tax expense as a result of the re-measurement of deferred tax assets and liabilities at the new lower statutory tax rate of 21%, partially offset by a net tax benefit of $3.6 million as a result of the mandatory deemed repatriation on earnings and profits of U.S.-owned foreign subsidiaries, which generated foreign tax credits in excess of the tax expense recognized on the deemed repatriation. The Company has elected to record the mandatory repatriation and re-measurement of deferred taxes as a provisional amount for the year ended December 31, 2017, which the Company believes is a reasonable estimate in accordance with the Tax Act. However, due to the complexity and considerable amount of changes in tax law, the
Company will adjust its estimates and further refine its tax calculations, if necessary, as changes to interpretations and further guidance around the newly enacted provisions are issued by the Internal Revenue Service. The Company is still evaluating various international provisions included in the Tax Act and has therefore not completed its assessment. These provisions will be effective for the Company beginning on January 1, 2018, and may materially impact the Company’s effective tax rate in future years. For further discussion, see
Note 10
"
Income Taxes
" to the Notes to Consolidated Financial Statements in this Form 10-K.
Net income in 2017 decreased to
$40.8 million
compared to
$191.0 million
in
2016
. Diluted earnings per share decreased to $0.42 on 96.6 million diluted shares outstanding in 2017 compared to $1.98 on 95.8 million diluted shares outstanding in
2016
. On a non-GAAP basis, excluding after-tax acquisition costs of $7.1 million and the impact of the new tax legislation of $3.4 million for the year ended December 31, 2017, and the impact of the reversal of a significant portion of the Company's valuation allowance of $156.6 million and the Topgolf gain of $17.7 million during the year ended December 31, 2016, the Company's net income and diluted earnings per share for 2017 would have increased by $28.5 million or 125% to $51.3 million and by $0.29 or 121% to $0.53 for 2017, respectively, compared to 2016.
The table below presents a reconciliation of the Company's results under GAAP for the years ended December 31, 2017 and 2016, to the Company's non-GAAP results as defined above for the same periods (in millions).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, 2017
|
|
Year Ended December 31, 2016
|
|
As Reported
|
|
Acquisition Costs
(1)
|
|
Non-Cash Tax Adjustment
(2)
|
|
Non-GAAP
|
|
As Reported
|
|
Release of Tax VA
(3)
|
|
Topgolf Gain
(4)
|
|
Non-GAAP
|
Net income (loss) attributable to Callaway Golf Company
|
$
|
40.8
|
|
|
$
|
(7.1
|
)
|
|
$
|
(3.4
|
)
|
|
$
|
51.3
|
|
|
$
|
189.9
|
|
|
$
|
156.6
|
|
|
$
|
10.5
|
|
|
$
|
22.8
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted earnings (loss) per share
|
$
|
0.42
|
|
|
$
|
(0.07
|
)
|
|
$
|
(0.04
|
)
|
|
$
|
0.53
|
|
|
$
|
1.98
|
|
|
$
|
1.63
|
|
|
$
|
0.11
|
|
|
$
|
0.24
|
|
Weighted-average shares outstanding
|
96.6
|
|
|
96.6
|
|
|
96.6
|
|
|
96.6
|
|
|
95.8
|
|
95.8
|
|
95.8
|
|
|
95.8
|
|
|
95.8
|
|
|
|
(1)
|
Represents transaction and transition costs associated with the acquisition of OGIO in January 2017 and transaction costs associated with the acquisition of TravisMathew in August 2017. The income tax benefit of $3.6 million associated with these costs was based on the Company's statutory tax rate for 2017.
|
|
|
(2)
|
Represents the impact of the Tax Act as discussed above, which resulted in $7.5 million of income tax expense, offset by a non-recurring, non-cash $4.1 million tax benefit related to taxes on intercompany transactions, resulting from the 2016 release of the valuation allowance against the Company’s U.S. deferred tax assets.
|
|
|
(3)
|
Non-cash tax benefit due to the reversal of a significant portion of the Company's deferred tax valuation allowance in the fourth quarter of 2016.
|
|
|
(4)
|
Gain recognized on the sale of approximately 10.0% of the Company's investment in Topgolf in the second quarter of 2016.
|
Operating Segment Results for the Years Ended December 31, 2017 and 2016
Golf Clubs
Golf club sales increased
$60.7 million
(
10.4%
) to
$643.1 million
in 2017 compared to
$582.4 million
in 2016. This increase was primarily due to the continued success of the current year Epic line of drivers and fairway woods, offset by a decrease in net sales of irons and putters due to the timing of product launches.
Net sales information for the Golf Clubs segment by product category is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth/(Decline)
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Woods
|
$
|
307.9
|
|
|
$
|
216.1
|
|
|
$
|
91.8
|
|
|
42.5
|
%
|
Irons
|
250.6
|
|
|
278.6
|
|
|
(28.0
|
)
|
|
(10.1
|
)%
|
Putters
|
84.6
|
|
|
87.7
|
|
|
(3.1
|
)
|
|
(3.5
|
)%
|
|
$
|
643.1
|
|
|
$
|
582.4
|
|
|
$
|
60.7
|
|
|
10.4
|
%
|
Net sales of woods increased
$91.8 million
(
42.5%
) to
$307.9 million
in 2017 compared to 2016, primarily due to a 32.9% improvement in average selling prices and a 7.2% improvement in sales volume. The increase in average selling prices and sales volume was primarily due to the success of the current year Epic line of higher priced premium drivers and fairway woods, which outpaced sales of the lower priced XR 16 line of woods in 2016. In addition, average selling prices were favorably impacted by a decrease in promotional activity year over year. The increase in sales volume was partially offset by a shift in launch timing of the Company's new hybrid products.
Net sales of irons decreased
$28.0 million
(
10.1%
) to
$250.6 million
in 2017 compared to 2016, primarily due to a 15.4% decrease in sales volume, partially offset by a 6.4% increase in average selling prices. The decrease in sales volume was primarily due to the timing of product launches, resulting in fewer irons products launched in 2017 compared to 2016. The increase in average selling prices was primarily due to a favorable shift in product mix resulting from the launch of the premium Epic line of irons in 2017, which have a higher average selling price compared to the lower priced Steelhead XR and XR OS core line of irons launched in the prior year. In addition, average selling prices were favorably impacted by a decrease in promotional activity year over year.
Net sales of putters decreased
$3.1 million
(
3.5%
) to
$84.6 million
in 2017 compared to 2016, primarily due to a 10.2% decline in sales volumes partially offset by a 7.4% increase in average selling prices. The decline in sales volume was primarily due to the timing of product launches which resulted in fewer putter products launched in 2017 compared to 2016. The increase in average selling prices was primarily due to the launch of Odyssey Works line of putters in 2017, which have higher average selling prices compared to the core putter models sold in the prior year, partially offset by an increase in promotional activity year over year.
Golf Balls
Net sales information for the Golf Balls segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Golf balls
|
$
|
162.5
|
|
|
$
|
152.3
|
|
|
$
|
10.2
|
|
|
6.7
|
%
|
Net sales of golf balls increased $
10.2 million
(
6.7%
) to $
162.5 million
for in 2017 compared to 2016, primarily due to an 8.7% increase in sales volume with relatively flat average selling prices. The increase in sales volume was primarily due to the success of the Company's new Supersoft and Chrome Soft X golf balls launched in 2017, combined with the continued success of the Chrome Soft golf balls launched in 2016.
Gear, Accessories and Other
Net sales information for the Gear, Accessories and Other segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Gear, accessories and other
|
$
|
243.1
|
|
|
$
|
136.5
|
|
|
$
|
106.6
|
|
|
78.1
|
%
|
Net sales of gear, accessories and other increased
$106.6 million
(
78.1%
) to
$243.1 million
in 2017 compared to 2016. This increase was primarily due to incremental sales of gear, accessories and apparel of approximately $100.0 million as a result of the Company's acquisitions of OGIO in January 2017 and TravisMathew in August 2017, and the Company's apparel joint venture in Japan, which was established during the third quarter of 2016. Additionally, sales of Callaway gloves, headwear, and footwear increased in 2017 compared to 2016.
Segment Profitability
Profitability by operating segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
2017
|
|
2016
|
|
Dollars
|
|
Percent
|
Income before income taxes:
|
|
|
|
|
|
|
|
Golf clubs
|
$
|
77.0
|
|
|
$
|
48.5
|
|
|
$
|
28.5
|
|
|
58.8
|
%
|
Golf balls
|
26.9
|
|
|
23.9
|
|
|
3.0
|
|
|
12.6
|
%
|
Gear, accessories and other
|
30.6
|
|
|
18.2
|
|
|
12.4
|
|
|
68.1
|
%
|
Reconciling items
(1)
|
(66.4
|
)
|
|
(32.2
|
)
|
|
(34.2
|
)
|
|
106.2
|
%
|
|
$
|
68.1
|
|
|
$
|
58.4
|
|
|
$
|
9.7
|
|
|
16.6
|
%
|
|
|
(1)
|
Reconciling items represent corporate general and administrative expenses and other income (expense) not included by management in determining segment profitability. The increase in reconciling items in 2017 compared to 2016 was primarily due to
$11.3 million
in one-time transaction and transitional costs associated with the acquisitions of OGIO in January 2017 and TravisMathew in August 2017, a $17.7 million gain recognized in the second quarter of 2016 in connection with the sale of approximately 10.0% of the Company's investment in Topgolf, in addition to increases in employee costs, professional fees and legal expenses. For further discussion, see
Note 7
“
Investments
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
Pre-tax income in the Company’s Golf Clubs operating segment improved to
$77.0 million
for 2017 from
$48.5 million
for 2016. This increase was primarily due to a $43.0 million increase in gross profit (or an increase of 240 basis points in gross margin) partially offset by a $14.4 million increase in operating expenses. The increase in gross margin was primarily due to a favorable shift in price and product mix within the woods product category, combined with an increase in average selling prices across all golf club product categories, which resulted in a positive impact to gross margin of approximately 500 basis points. The favorable shift in price and product mix in the woods product category was due to the success of the Epic line of premium drivers launched in 2017, which have higher margins compared to the XR 16 line of core drivers sold in 2016. This increase in margin was partially offset by an increase in cost of approximately 210 basis points due to an increase in club component costs due to the higher cost materials and technology incorporated into current year products and higher freight costs resulting from more air shipments to meet the high demand of the Company's current year products. The increase in operating expenses was primarily due to increases in marketing expenses, research and development and employee costs.
Pre-tax income in the Company’s Golf Balls operating segment improved to
$26.9 million
for 2017 from
$24.0 million
in 2016. This increase was primarily due to a $4.0 million increase in gross profit with relatively flat gross margins year over year, partially offset by a $1.1 million increase in operating expenses.
Pre-tax income in the Company's Gear, Accessories and Other operating segment increased to
$30.6 million
for 2017 from
$18.2 million
for 2016. This increase was primarily due to a $48.5 million increase in gross profit, offset by a $36.1 million increase in operating expenses, both due to the incremental sales and expenses from the acquisitions of OGIO in January 2017 and TravisMathew in August 2017, in addition to the Company's apparel joint venture in Japan established during the third quarter of 2016.
Years Ended December 31, 2016 and 2015
Net sales for the year ended December 31, 2016 increased $27.4 million (3.2%) to $871.2 million compared to $843.8 million for the year ended December 31, 2015 primarily due to the Company's completion of its apparel joint venture in Japan during the second quarter of 2016, which has been consolidated with the Company's results since July 1, 2016, resulting in an increase in net sales of accessories and other products. In addition, despite softer than anticipated market conditions in 2016, the Company improved its market share due to the continued strength of its brand, resulting in increased sales in both the Company's Golf Clubs and Golf Balls operating segments. Overall, net sales were favorably impacted by an increase in average selling prices across all product categories, partially offset by a decline in sales volumes. Changes in foreign currency rates were favorable to the Company's net sales in 2016. Had the Company used 2015 foreign currency exchange rates to translate net sales for 2016, the Company's net sales for 2016 would have been lower by 0.9%.
The Company’s net sales by operating segment are presented below (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
Constant Currency Growth vs. 2015
|
|
2016
(1)
|
|
2015
(1)
|
|
Dollars
|
|
Percent
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
|
|
Golf clubs
|
$
|
582.4
|
|
|
$
|
581.5
|
|
|
$
|
0.9
|
|
|
0.2
|
%
|
|
(0.4)%
|
Golf balls
|
152.3
|
|
|
143.1
|
|
|
9.2
|
|
|
6.4
|
%
|
|
6.4%
|
Gear, accessories and other
|
136.5
|
|
|
119.2
|
|
|
17.3
|
|
|
14.5
|
%
|
|
10.5%
|
|
$
|
871.2
|
|
|
$
|
843.8
|
|
|
$
|
27.4
|
|
|
3.2
|
%
|
|
2.3%
|
|
|
(1)
|
Prior period amounts have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017. For further discussion, see
Note 17
“
Segment Information
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
For further discussion of each operating segment’s results, see “Golf Clubs Segment” and “Golf Balls Segment” results below.
Net sales information by region is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth / (Decline)
|
|
Constant Currency Growth/(Decline) vs. 2015
|
|
2016
|
|
2015
|
|
Dollars
|
|
Percent
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
|
|
United States
|
$
|
447.6
|
|
|
$
|
446.5
|
|
|
$
|
1.1
|
|
|
0.2
|
%
|
|
0.2%
|
Europe
|
122.8
|
|
|
125.1
|
|
|
(2.3
|
)
|
|
(1.8
|
)%
|
|
2.8%
|
Japan
|
170.8
|
|
|
138.0
|
|
|
32.8
|
|
|
23.8
|
%
|
|
10.6%
|
Rest of Asia
|
67.1
|
|
|
70.3
|
|
|
(3.2
|
)
|
|
(4.6
|
)%
|
|
(2.1)%
|
Other foreign countries
|
62.9
|
|
|
63.9
|
|
|
(1.0
|
)
|
|
(1.6
|
)%
|
|
1.9%
|
|
$
|
871.2
|
|
|
$
|
843.8
|
|
|
$
|
27.4
|
|
|
3.2
|
%
|
|
2.3%
|
Net sales in the United States increased $1.1 million (0.2%) to $447.6 million during 2016 compared to $446.5 million in 2015, primarily as a result of improved market share due to the continued strength of the brand. The Company’s sales in regions outside of the United States increased $26.3 million (6.6%) to $423.6 million in 2016 compared to $397.3 million in 2015, primarily due to the formation of the Company's apparel joint venture in Japan beginning in the third quarter of 2016. In addition, foreign currency exchange rates had a favorable impact of $8.4 million on the Company's net sales denominated in foreign currencies. This increase was partially offset by softer than anticipated market conditions in Asia.
Gross profit increased $27.4 million to $385.0 million in 2016 from $357.6 million in 2015. Gross profit as a percent of net sales ("gross margin") increased 180 basis points to 44.2% in 2016 from 42.4% in 2015. This increase in gross margin was primarily due to an increase of 143 basis points resulting from improved operational efficiencies, combined with an increase of 84 basis points in price and product mix as a result of an increase in average selling prices within the golf balls, irons and woods categories, partially offset by an increase in promotional activity on some of the Company's irons products period over period and the unfavorable impact (47 basis points) of changes in foreign currency exchange rates primarily from inventory held in foreign regions. For a further discussion of gross margin, see "Segment Profitability" below.
Selling expenses increased by $6.6 million to $235.6 million (27.0% of net sales) for the year ended December 31, 2016 compared to $228.9 million (27.1% of net sales) in the comparable period of 2015, primarily due to
the formation of the Company's apparel joint venture in Japan which resulted in $6.4 million of additional selling expenses.
General and administrative expenses increased by $3.4 million to $72.0 million (8.3% of net sales) for the year ended December 31, 2016 compared to $68.6 million (8.1% of net sales) in the comparable period of 2015. This increase was primarily due to an increase of $3.2 million in legal expenses and professional fees resulting primarily from corporate development projects, and $0.9 million of additional general and administrative expenses resulting from the formation and consolidation of the Company's
apparel joint venture in Japan. These increases were partially offset by a $1.5 million decrease in stock compensation expense as a result of the payout of cash-settled stock awards period over period.
Research and development expenses increased by $0.1 million to $33.3 million (3.8% of net sales) for the year ended December 31, 2016 compared to $33.2 million (3.9% of net sales) in the comparable period of 2015.
Interest expense decreased by $6.3 million to $2.4 million for the year ended December 31, 2016 compared to $8.7 million in the comparable period of 2015 primarily due to the savings realized in connection with the retirement of the Company's convertible notes into shares of common stock during the second half of 2015, including the acceleration of debt issuance costs (see Note 4 "Financing Arrangements" to the Notes to Consolidated Financial Statements in this Form 10-K).
During 2016, the Company sold approximately 10.0% of its preferred shares in Topgolf for $23.4 million and recognized a $17.7 million gain in other income. See Note 7 “Investments” to the Notes to Consolidated Financial Statements in this Form 10-K.
Excluding the gain recognized from the sale of preferred shares of Topgolf as discussed above, other income (expense) decreased by $3.2 million to other expense of $1.7 million for the year ended December 31, 2016 compared to other income of $1.5 million in the comparable period of 2015 primarily due to an increase in net foreign currency losses from non-designated foreign currency hedging contracts.
The Company recorded an income tax benefit of $132.6 million for the year ended December 31, 2016, compared to an income tax provision of $5.5 million in the comparable period of 2015. The income tax benefit for 2016 includes a one-time, non-cash benefit of $156.6 million related to the reversal of a signification portion of the Company's valuation allowance on its U.S. deferred tax assets. This reversal was partially offset by the recognition of $16.0 million in income taxes that were retroactive for all of 2016 on the Company's U.S. business earnings. The Company used an effective U.S. income tax rate that is close to statutory rates to assess the income tax provision on its U.S. business. For further discussion, see Note 10 "Income Taxes" to the Notes to Consolidated Financial Statements in this Form 10-K.
Net income for the year ended December 31, 2016 increased to $189.9 million compared to $14.6 million in the comparable period of 2015. Diluted earnings per share increased to $1.98 on 95.8 million diluted shares outstanding in 2016 from $0.17 on 84.6 million diluted shares outstanding in 2015. As discussed above, during the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance on its U.S. deferred tax assets and recognized income taxes that were retroactive for all of 2016 on the Company's U.S. business earnings, which resulted in a net favorable impact to net income of $140.6 million ($1.47 per share). In addition, net income for 2016 includes a $17.7 million ($0.18 per share) pre-tax gain, as discussed above, from the sale preferred shares in Topgolf. Excluding the impact of the valuation allowance reversal, the recognition of additional income taxes and the gain recognized on the sale of a portion of the Company's investment in Topgolf, the Company's net income would have been $31.6 million, a 116.4% increase compared to 2015, and diluted earnings per share would have been $0.33, a 94.1% increase compared to 2015.
Golf Clubs Segment
Golf Club sales increased $0.9 million (0.2%) to $582.4 million in 2016 compared to $581.5 million in 2015. This increase was primarily due to an increase in average selling prices across all product categories, partially offset by a decrease in sales volumes in the woods, irons and putters categories.
Net sales information for the Golf Clubs segment by product category is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth/(Decline)
|
|
2016
(1)
|
|
2015
(1)
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Woods
|
$
|
216.1
|
|
|
$
|
229.0
|
|
|
$
|
(12.9
|
)
|
|
(5.6
|
)%
|
Irons
|
278.6
|
|
|
264.5
|
|
|
14.1
|
|
|
5.3
|
%
|
Putters
|
87.7
|
|
|
88.0
|
|
|
(0.3
|
)
|
|
(0.3
|
)%
|
|
$
|
582.4
|
|
|
$
|
581.5
|
|
|
$
|
0.9
|
|
|
0.2
|
%
|
|
|
(1)
|
Prior period amounts have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017. For further discussion, see
Note 17
“
Segment Information
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
Net sales of woods decreased $12.9 million (5.6%) to $216.1 million for the year ended December 31, 2016 compared to the prior year, primarily due to a 8.4% decline in sales volumes partially offset by a 3.0% increase in average selling prices. The decline in sales volumes was primarily due to a shift in launch timing resulting in fewer woods products launched during 2016 compared to the prior year. The increase in average selling prices was primarily due to a price increase on the Company's XR 16 drivers and fairway woods launched in 2016, relative to the XR woods launched in the prior year.
Net sales of irons increased $14.1 million (5.3%) to $278.6 million for the year ended December 31, 2016 compared to the prior year, primarily due to a 6.8% increase in average selling prices, partially offset by a 1.4% decline in sales volumes. The increase in average selling prices was primarily due to a full year of sales of the more premium APEX irons which were launched during the fourth quarter of 2015, combined with an increase in average selling prices of wedges resulting from price reductions taken in the prior year on the Mac Daddy 2 wedges in anticipation of the MD3 launch, in addition to an increase in sales of packaged sets. This increase was partially offset by an increase in promotional activity in 2016 related to reduced prices on the Company's XR irons which were in the second year of their product life cycle. The slight decline in sales volumes related to a decline in unit sales of wedges due to the full launch of the MD3 wedges in 2015 compared to the more limited launches of the X Series and MD Forged wedges in 2016.
Net sales of putters decreased $0.3 million (0.3%) to $87.7 million for the year December 31, 2016 compared to the prior year, primarily due to a 1.2% decline in sales volumes, partially offset by a 1.6% increase in average selling prices. The decline in sales volume was primarily due to the 2016 launch of the Company's White Hot RX putters, which was a smaller launch compared to the full line of Odyssey Works putters launched in the prior year. The increase in average selling prices was primarily due to the limited offerings of the Company's Toe Up and Stroke Lab putters, which had a higher average selling price than the Company's core putters offered in the prior year.
Golf Balls Segment
Net sales information for the Golf Balls segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
2016
|
|
2015
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Golf balls
|
$
|
152.3
|
|
|
$
|
143.1
|
|
|
$
|
9.2
|
|
|
6.4
|
%
|
Net sales of golf balls increased $9.2 million (6.4%) to $152.3 million for the year ended December 31, 2016 compared to the prior year, primarily due to a 10.3% increase in average selling prices, partially offset by a 3.6% decrease in sales volumes. The increase in average selling prices was primarily due to an increase in the sales price of the Company's 2016 Chrome Soft golf balls combined with sales of the Company's higher priced Truvis golf balls during the current year. The decline in sales volume was primarily due to a decrease in sales of the Company's lower priced special market golf balls in 2016 compared to 2015.
Gear, Accessories and Other Segment
Net sales information for the Gear, Accessories and Other segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth
|
|
2016
(1)
|
|
2015
(1)
|
|
Dollars
|
|
Percent
|
Net sales:
|
|
|
|
|
|
|
|
Gear, accessories and other
|
$
|
136.5
|
|
|
$
|
119.2
|
|
|
$
|
17.3
|
|
|
14.5
|
%
|
|
|
(1)
|
Prior period amounts have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017. For further discussion, see
Note 17
“
Segment Information
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
Net sales of accessories and other products increased $17.3 million (14.5%) to $136.5 million for the year ended December 31, 2016 compared to the prior year. This increase was primarily due to the Company's new apparel joint venture in Japan established during the third quarter of 2016, in addition to an increase in other accessories compared to the same period in 2015. These increases were partially offset by a decline in sales of golf bags, gloves and footwear.
Segment Profitability
Profitability by operating segment is summarized as follows (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended
December 31,
|
|
Growth/(Decline)
|
|
2016
(1)
|
|
2015
(1)
|
|
Dollars
|
|
Percent
|
Income before income taxes:
|
|
|
|
|
|
|
|
Golf clubs
|
$
|
48.5
|
|
|
$
|
32.6
|
|
|
$
|
15.9
|
|
|
48.8
|
%
|
Golf balls
|
23.9
|
|
|
19.0
|
|
|
4.9
|
|
|
25.8
|
%
|
Gear, accessories and other
|
18.2
|
|
|
19.1
|
|
|
(0.9
|
)
|
|
(4.7
|
)%
|
Reconciling items
(2)
|
(32.2
|
)
|
|
(50.6
|
)
|
|
18.4
|
|
|
(36.4
|
)%
|
|
$
|
58.4
|
|
|
$
|
20.1
|
|
|
$
|
38.3
|
|
|
190.5
|
%
|
|
|
(1)
|
Prior period amounts have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017. For further discussion, see
Note 17
“
Segment Information
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
|
|
(2)
|
Reconciling items represent corporate general and administrative expenses and other income (expense) not included by management in determining segment profitability. The decrease in reconciling items in 2016 compared to 2015 was primarily due to a $17.7 million gain recognized in the second quarter of 2016 in connection with the sale of approximately 10.0% of the Company's investment in Topgolf, combined with decreases of $6.4 million in interest expense and $1.6 million in corporate stock compensation expense, partially offset by a $4.0 million increase in foreign currency exchange losses.
|
Pre-tax income in the Company’s Golf Clubs operating segment improved to $48.5 million for 2016 from $32.6 million for 2015. This increase was primarily due to an increase in gross profit of $13.7 million (or increase of 230 basis points in gross margin), combined with slight decrease of $2.1 million (1%) in operating expenses. The improvement in gross margin was primarily due to an increase of 110 basis points as a result of a reduction in costs, driven primarily by the favorable sourcing of raw materials, combined with improved operational efficiencies resulting from reduced fixed charges. Sales price and mix improved by 70 basis points primarily due to an increase in average selling prices, primarily within the irons category, partially offset by an increase in promotional activity year over year. Foreign currency translation had a positive impact to gross margin of 40 basis points due to the impact of changes in foreign currency rates on inventory held at foreign regions.
Pre-tax income in the Company’s Golf Balls operating segment improved to $23.9 million for 2016 from $19.0 million in 2015. This increase was primarily due to a $9.1 million increase in net sales (as discussed above) which contributed to a $7.6 million increase in gross profit (or a 240 basis point improvement in gross margin), partially offset by an increase of $2.6 million in operating expenses. The improvement in gross margin was primarily attributable to an increase in sales price and mix of 400 basis points due to the Chrome Soft golf balls launched in the current year at higher average selling prices compared to the Chrome Soft golf balls launched in the prior year, partially offset by an increase in cost of 230 basis points.
Pre-tax income in the Company's Gear, Accessories and Other operating segment decreased to $18.2 million for 2016 from $19.1 million for 2015. This decrease was primarily due to the addition of the Company's apparel joint venture in Japan established during the third quarter of 2016, which resulted in a $6.9 million increase in operating expenses, partially offset by an increase in net sales of $17.3 million (as discussed above), which contributed to an increase in gross profit of $6.0 million.
Financial Condition
The Company’s cash and cash equivalents decreased
$40.3 million
to
$85.7 million
at
December 31, 2017
, from
$126.0 million
at
December 31, 2016
. The decrease in cash was primarily driven by $181.8 million of net cash used to fund the Company's acquisitions of OGIO in January 2017 and TravisMathew in August 2017. Cash generated from operating activities improved to
$117.7 million
during
2017
compared to
$77.7 million
during
2016
primarily due a 16.5% increase in pre-tax earnings combined with an overall improvement in the Company's cash collection cycle as a result of improved payment terms period over period and the timing of inventory purchases and improved inventory management period over period. During 2017, the Company used its cash and cash equivalents, cash from its operating activities, and borrowings under its credit facilities to repurchase
$16.6 million
in shares of its common stock and pay tax withholding obligations with the vesting and settlement of employee equity awards, as well as to fund
$26.2 million
in capital expenditures,
$21.5 million
in investments in golf-related ventures, and the OGIO and TravisMathew acquisitions as discussed above. Management expects to fund the Company’s future operations from current cash balances and cash provided by its operating activities combined with borrowings under its current and future credit facilities, as deemed necessary (see
Note 4
"
Financing Arrangements
" in the Notes to Consolidated Financial Statements in this Form 10-K for further information on the ABL Facility).
The Company’s accounts receivable balance fluctuates throughout the year as a result of the general seasonality of the Company’s business. The Company’s accounts receivable balance will generally be at its highest during the first and second quarters due to the seasonal peak in the golf season, and it will generally decline significantly during the third and fourth quarters as a result of an increase in cash collections and lower sales. As of
December 31, 2017
, the Company’s net accounts receivable decreased to
$94.7 million
from
$127.9 million
as of
December 31, 2016
. This
$33.1 million
decrease was primarily attributable to the timing of sales in the fourth quarter of 2017 compared to the same period in 2016, combined with a decrease in past-due accounts and an overall improvement in payment terms.
The Company’s inventory balance fluctuates throughout the year as a result of the general seasonality of the Company’s business and is also affected by the timing of new product launches. Generally, the Company’s buildup of inventory levels begins during the fourth quarter and continues heavily into the first quarter as well as into the beginning of the second quarter in order to meet demand during the height of the golf season. Inventory levels start to decline toward the end of the second quarter and are at their lowest during the third quarter. Inventory levels are also impacted by the timing of new product launches. The Company’s inventories increased to
$262.5 million
as of
December 31, 2017
from
$189.4 million
as of
December 31, 2016
. This
$73.1 million
increase was primarily attributable to incremental inventory from the acquisitions of OGIO in January 2017 and TravisMathew in August 2017, combined with the timing and volume of inventory purchases related to products launched period over period. Inventories as a percentage of the trailing 12 months net sales increased to 25.0% as of
December 31, 2017
compared to 21.7% as of
December 31, 2016
.
Liquidity and Capital Resources
The information set forth in
Note 4
“
Financing Arrangements
,” in the Notes to Consolidated Financial Statements in this Form 10-K, is incorporated herein by this reference.
Liquidity
The Company’s principal sources of liquidity consist of its existing cash balances, funds expected to be generated from operations and its credit facilities. Based upon the Company’s current cash balances, its estimates of funds expected to be generated from operations in 2018, and current and projected availability under its current or future credit facilities, the Company believes that it will be able to finance current and planned operating requirements, capital expenditures, contractual obligations and commercial commitments for at least the next 12 months from the issuance of this Form 10-K.
The Company’s ability to generate sufficient positive cash flows from operations is subject to many risks and uncertainties, including future economic trends and conditions, demand for the Company’s products, foreign currency exchange rates, and other risks and uncertainties applicable to the Company and its business (see “Risk Factors” contained in Part I, Item 1A in this Form 10-K). If the Company is unable to generate sufficient cash flows to fund its business due to a decline in sales or otherwise and is unable to reduce its manufacturing costs and operating expenses to offset such decline, the Company will need to increase its reliance on its credit facilities for needed liquidity. If the credit facilities are not then available or sufficient and the Company could not secure alternative financing arrangements, the Company’s future operations would be materially adversely affected.
In November 2017, the Company amended and restated its primary credit facility (the Third Amended and Restated Loan and Security Agreement) with Bank of America N.A. and other lenders (the “ABL Facility”), which provides a senior secured asset-based revolving credit facility of up to
$330.0 million
. The amounts outstanding under the ABL Facility are secured by certain assets, including cash (to the extent pledged by the Company), the Company's intellectual property, certain eligible real estate, inventory and accounts receivable of the Company’s subsidiaries in the United States, Canada and the United Kingdom. The real estate and intellectual property components of the borrowing base under the ABL Facility are both amortizing. The amount available for the real estate portion is reduced quarterly over a 15-year period, and the amount available for the intellectual property portion is reduced quarterly over a 3-year period. As of
December 31, 2017
, the Company had
$74.0 million
in borrowings outstanding under the ABL Facility and
$0.9 million
in outstanding letters of credit. The Company was in compliance with all financial covenants of the ABL Facility as of
December 31, 2017
. The ABL Facility also includes a senior secured term loan facility (the "Term Loan Facility") of
$30.0 million
, which is secured by a portion of the Company's intellectual property. The Term Loan Facility may be borrowed at any time until April 20, 2018 and will begin amortizing 15 months after the borrowing date. There were no amounts outstanding under the Term Loan Facility as of
December 31, 2017
.
In August 2017, the Company acquired TravisMathew for $124.6 million in an all-cash transaction, subject to customary working capital adjustments, and in January 2017 acquired OGIO for $66.0 million (
Note 3
“
Business Combinations
,” in the Notes to Consolidated Financial Statements in this Form 10-K). The Company funded these acquisitions with its existing cash balances combined with borrowings from the ABL Facility.
As of
December 31, 2017
, approximately 93% of the Company’s total cash is held in regions outside of the United States. If the Company were to repatriate such cash, outside of settling intercompany balances during the normal course of operations, it may need to accrue and pay incremental withholding taxes. Due to changes enacted by the Tax Act, incremental U.S. federal income tax is no longer a consideration upon distribution. The Company has not, nor does it intend to, repatriate funds to the United States to satisfy domestic liquidity needs arising in the ordinary course of business, including liquidity needs associated with its domestic debt service requirements. In 2015 and 2014, the Company ceased its business operations in Thailand and Malaysia, respectively, and accordingly, the Company no longer maintains a permanent reinvestment assertion with respect to these two entities. In April 2017, the Company completed the liquidation process for its subsidiary in Malaysia and repatriated the undistributed earnings of this entity to the United States. The amount repatriated was not material to the Company's consolidated condensed financial statements. The Company intends to repatriate the undistributed earnings from its Thailand entity to the United States at the time that the winding-down process has been completed. The Company expects no incremental U.S. income taxes related to reversing its permanent reinvestment assertion due to the mandatory repatriation clauses of the Tax Act. Except for the Company's foreign subsidiary in Thailand, the Company considers the undistributed earnings of its foreign subsidiaries to be permanently reinvested and, accordingly, no U.S. withholding taxes have been provided thereon.
Share Repurchases
In August 2014, the Company's Board of Directors authorized a $50.0 million share repurchase program under which the Company is authorized to repurchase shares of its common stock in the open market or in private transactions, subject to the Company’s assessment of market conditions and buying opportunities. The repurchases are made consistent with the terms of the Company's ABL Facility which defines the amount of stock that can be repurchased. The repurchase program will remain in effect until completed or until terminated by the Board of Directors.
During 2017, the Company repurchased approximately
1,536,000
shares of its common stock under the 2014 repurchase program at an average cost per share of
$10.82
for a total cost of
$16.6 million
. Included in these amounts are $6.6 million of shares the Company withheld to satisfy the Company's tax withholding obligations in connection with the vesting and settlement of employee restricted stock unit awards. The Company’s repurchases of shares of common stock are recorded at cost and result in a reduction of shareholders’ equity. As of December 31, 2017, the total amount remaining under the repurchase authorization was
$25.3
million.
Significant Obligations
The following table summarizes certain significant cash obligations as of
December 31, 2017
that will affect the Company’s future liquidity (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due By Period
|
|
Total
|
|
Less than
1 Year
|
|
1-3 Years
|
|
3-5 Years
|
|
More than
5 Years
|
ABL Facility
|
$
|
74.0
|
|
|
74.0
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Japan ABL Facility
|
13.8
|
|
|
13.8
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Capital Leases
(1)
|
0.3
|
|
|
0.2
|
|
|
0.1
|
|
|
—
|
|
|
—
|
|
Operating leases
(2)
|
54.3
|
|
|
8.6
|
|
|
15.8
|
|
|
12.7
|
|
|
17.2
|
|
Unconditional purchase obligations
(3)
|
72.5
|
|
|
39.3
|
|
|
27.4
|
|
|
5.8
|
|
|
—
|
|
Uncertain tax contingencies
(4)
|
4.6
|
|
|
0.6
|
|
|
1.4
|
|
|
0.4
|
|
|
2.2
|
|
Employee incentive compensation
(5)
|
20.9
|
|
|
20.9
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Equipment Note
(6)
|
11.8
|
|
|
—
|
|
|
—
|
|
|
11.8
|
|
|
—
|
|
Interest on equipment note
|
1.2
|
|
|
0.4
|
|
|
0.6
|
|
|
0.2
|
|
|
—
|
|
Other long term liabilities
|
0.5
|
|
|
—
|
|
|
—
|
|
|
—
|
|
|
0.5
|
|
Total
|
$
|
253.9
|
|
|
$
|
157.8
|
|
|
$
|
45.3
|
|
|
$
|
30.9
|
|
|
$
|
19.9
|
|
|
|
(1)
|
Amounts represent future minimum lease payments. Capital lease obligations are included in accounts payable and accrued expenses and other long-term liabilities in the accompanying consolidated balance sheets.
|
|
|
(2)
|
The Company leases certain warehouse, distribution and office facilities, vehicles and office equipment under operating leases. The amounts presented in this line item represent commitments for minimum lease payments under non-cancelable operating leases.
|
|
|
(3)
|
During the normal course of its business, the Company enters into agreements to purchase goods and services, including purchase commitments for production materials, endorsement agreements with professional golfers and other endorsers, employment and consulting agreements, and intellectual property licensing agreements pursuant to which the Company is required to pay royalty fees. It is not possible to determine the amounts the Company will ultimately be required to pay under these agreements as they are subject to many variables including performance-based bonuses, severance arrangements, the Company’s sales levels, and reductions in payment obligations if designated minimum performance criteria are not achieved. The amounts listed approximate minimum purchase obligations, base compensation, and guaranteed minimum royalty payments the Company is obligated to pay under these agreements. The actual amounts paid under some of these agreements may be higher or lower than the amounts included. In the aggregate, the actual amount paid under these obligations is likely to be higher than the amounts listed as a result of the variable nature of these obligations. In addition, the Company also enters into unconditional purchase obligations with various vendors and suppliers of goods and services in the normal course of operations through purchase orders or other documentation or that are undocumented except for an invoice. Such unconditional purchase obligations are generally outstanding for periods less than a year and are settled by cash payments upon delivery of goods and services and are not reflected in this line item.
|
|
|
(4)
|
Amount represents the current and non-current portions of uncertain income tax positions as recorded on the Company's consolidated balance sheet as of
December 31, 2017
. Amount excludes uncertain income tax positions that the Company would be able to offset against deferred taxes. For further discussion, see
Note 10
“
Income Taxes
” in the Notes to Consolidated Financial Statements in this Form 10-K.
|
|
|
(5)
|
Amount represents accrued employee incentive compensation expense earned in 2017, and paid in February 2018.
|
|
|
(6)
|
In December 2017, the Company entered into a long-term financing agreement (the "Equipment Note") secured by certain equipment at the Company's golf ball manufacturing facility. As of
December 31, 2017
, the Company had
$11,815,000
outstanding under this agreement. For further discussion, see
Note 4
"
Financing Arrangements
" in the Notes to Consolidated Financial Statements in this Form 10-K.
|
During its normal course of business, the Company has made certain indemnities, commitments and guarantees under which it may be required to make payments in relation to certain transactions. These include (i) intellectual property indemnities to the Company’s customers and licensees in connection with the use, sale and/or license of Company products or trademarks, (ii) indemnities to various lessors in connection with facility leases for certain claims arising from such facilities or leases, (iii) indemnities to vendors and service providers pertaining to the goods or services provided to the Company or based on the
negligence or willful misconduct of the Company, and (iv) indemnities involving the accuracy of representations and warranties in certain contracts. In addition, the Company has made contractual commitments to each of its officers and certain other employees providing for severance payments upon the termination of employment. The Company has also issued guarantees in the form of a standby letter of credit in the amount of $
0.9 million
as security for contingent liabilities under certain workers’ compensation insurance policies.
The duration of these indemnities, commitments and guarantees varies, and in certain cases may be indefinite. The majority of these indemnities, commitments and guarantees do not provide for any limitation on the maximum amount of future payments the Company could be obligated to make. Historically, costs incurred to settle claims related to indemnities have not been material to the Company’s financial position, results of operations or cash flows. In addition, the Company believes the likelihood is remote that payments under the commitments and guarantees described above will have a material effect on the Company’s financial condition. The fair value of indemnities, commitments and guarantees that the Company issued during the fiscal year ended
December 31, 2017
was not material to the Company’s financial position, results of operations or cash flows.
In addition to the contractual obligations listed above, the Company’s liquidity could also be adversely affected by an unfavorable outcome with respect to claims and litigation that the Company is subject to from time to time. See
Note 11
“
Commitments & Contingencies
” in the Notes to Consolidated Financial Statements in this Form 10-K.
Capital Resources
The Company does not currently have any material commitments for capital expenditures.
Off-Balance Sheet Arrangements
The Company has no material off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of Regulation S-K .
Item 7A.
Quantitative and Qualitative Disclosures about Market Risk
The Company uses derivative financial instruments to mitigate its exposure to changes in foreign currency exchange rates. Transactions involving these financial instruments are with creditworthy banks, including one of the banks that is party to the Company’s ABL Facility (see
Note 4
“
Financing Arrangements
” in the Notes to the Consolidated Financial Statements in this Form 10-K). The use of these instruments exposes the Company to market and credit risk which may at times be concentrated with certain counterparties, although counterparty nonperformance is not anticipated. The Company is also exposed to interest rate risk from its credit facilities.
Foreign Currency Fluctuations
Information about the Company's foreign currency hedging activities is set forth in
Note 16
“
Derivatives and Hedging
” in the Notes to Consolidated Financial Statements in this Form 10-K, which is incorporated herein by this reference.
As part of the Company’s risk management procedure, a sensitivity analysis model is used to measure the potential loss in future earnings of market-sensitive instruments resulting from one or more selected hypothetical changes in interest rates or foreign currency values. The sensitivity analysis model quantifies the estimated potential effect of unfavorable movements of 10% in foreign currencies to which the Company was exposed at
December 31, 2017
through its foreign currency forward contracts.
The estimated maximum one-day loss from the Company’s foreign currency forward contracts, calculated using the sensitivity analysis model described above, was $2.5 million at
December 31, 2017
. The Company believes that such a hypothetical loss from its foreign currency forward contracts would be partially offset by increases in the value of the underlying transactions being hedged.
The sensitivity analysis model is a risk analysis tool and does not purport to represent actual losses in earnings that will be incurred by the Company, nor does it consider the potential effect of favorable changes in market rates. It also does not represent the maximum possible loss that may occur. Actual future gains and losses will differ from those estimated because of changes or differences in market rates and interrelationships, hedging instruments and hedge percentages, timing and other factors.
Interest Rate Fluctuations
The Company is exposed to interest rate risk from its credit facilities. Outstanding borrowings under these credit facilities accrue interest as described in
Note 4
“
Financing Arrangements
” in the Notes to Consolidated Financial Statements in this Form 10-K. As part of the Company’s risk management procedures, a sensitivity analysis was performed to determine the impact of unfavorable changes in interest rates on the Company’s cash flows. The sensitivity analysis quantified that the incremental expense incurred by a 10% increase in interest rates would be $0.2 million over the 12-month period ending on
December 31, 2017
.
Item 8.
Financial Statements and Supplementary Data
The Company’s Consolidated Financial Statements as of
December 31, 2017
and
2016
and for each of the three years in the period ended
December 31, 2017
, together with the report of the Company's independent registered public accounting firm, are included in this Annual Report on Form 10-K beginning on page F-1.
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Controls and Procedures
Disclosure Controls and Procedures.
The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness, as of
December 31, 2017
, of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act). Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures were effective as of
December 31, 2017
.
Management’s Report on Internal Control over Financial Reporting.
The Company’s management is responsible for establishing and maintaining effective internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act). Management assessed the effectiveness of the Company’s internal control over financial reporting as of
December 31, 2017
. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in its report entitled
Internal Control—Integrated Framework (2013).
Based on that assessment, management concluded that as of
December 31, 2017
, the Company’s internal control over financial reporting was effective based on the COSO criteria.
Changes in Internal Control over Financial Reporting
. During the fourth quarter ended
December 31, 2017
, there were no changes in the Company’s internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Because of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
The effectiveness of the Company’s internal control over financial reporting as of
December 31, 2017
has been audited by Deloitte & Touche LLP, the Company’s independent registered public accounting firm, as stated in its report which is included herein.
Item 9B.
Other Information
None.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Callaway Golf Company
Carlsbad, California
Opinion on Internal Control over Financial Reporting
We have audited the internal control over financial reporting of Callaway Golf Company and its subsidiaries (the “Company”) as of December 31, 2017, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2017, based on criteria established in Internal Control - Integrated Framework (2013) issued by COSO.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated financial statements as of and for the year ended December 31, 2017, of the Company and our report dated February 27, 2018 expressed an unqualified opinion on those financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ DELOITTE & TOUCHE LLP
Costa Mesa, California
February 27, 2018
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. The Company
Callaway Golf Company (“Callaway Golf” or the “Company”), a Delaware corporation, together with its subsidiaries, designs, manufactures and sells high quality golf clubs (drivers, fairway woods, hybrids, irons, wedges and putters), golf balls, golf bags and other golf-related accessories. The Company generally sells its products to golf retailers (including pro shops at golf courses and off-course retailers), sporting goods retailers, Internet retailers and mass merchants, directly and through its wholly-owned subsidiaries, and to third-party distributors in the United States and in over
100
countries around the world. The Company also sells pre-owned Callaway Golf products through its website www.callawaygolfpreowned.com and sells new Callaway Golf products through its websites www.callawaygolf.com and www.odysseygolf.com.In 2016, the Company further expanded its business into golf and lifestyle apparel and accessories with the completion of the golf apparel joint venture in Japan in July 2016. In 2017, the Company acquired OGIO International, Inc. ("OGIO"), a leading manufacturer of high quality bags, accessories and apparel in the golf and lifestyle categories, and TravisMathew, LLC ("TravisMathew"), a golf and lifestyle apparel company. These acquisitions are expected to enhance the Company's presence in golf while also providing a platform for future growth in the lifestyle category. In connection with the apparel joint venture in Japan and the TravisMathew acquisition, the Company now has retail locations in Japan and the U.S. that sell Callaway and TravisMathew branded apparel, gear and other golf accessories directly to consumers. In addition, the Company licenses its trademarks and service marks in exchange for a royalty fee to third parties for use on golf related accessories including golf apparel and footwear, golf gloves, prescription eyewear and practice aids as well as OGIO branded gear and accessories.
Note 2. Summary of Significant Accounting Policies
Principles of Consolidation
The accompanying consolidated financial statements include the accounts of the Company and its domestic and foreign subsidiaries. All intercompany transactions and balances have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States ("GAAP") requires management to make estimates and judgments that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Examples of such estimates include provisions for warranty, uncollectible accounts receivable, inventory obsolescence, sales returns, tax contingencies and provisional estimates due to the Tax Cuts and Jobs Act (the "Tax Act") enacted in December 2017, estimates on the valuation of share-based awards and recoverability of long-lived assets and investments. Actual results may materially differ from these estimates. On an ongoing basis, the Company reviews its estimates to ensure that these estimates appropriately reflect changes in its business or as new information becomes available.
Recent Accounting Standards
In August 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2017-12, "Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities." The new standard is designed to refine and expand hedge accounting for both financial (e.g., interest rate) and commodity risks. Its provisions create more transparency around how economic results are presented, both on the face of the financial statements and in the footnotes. It also makes certain targeted improvements to simplify the application of hedge accounting guidance. The new standard is effective for public business entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption, including adoption in an interim period, is permitted. If early adoption is elected in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period (i.e., the initial application date). The Company is currently evaluating the impact this ASU will have on its consolidated condensed financial statements and disclosures.
In March 2016, the FASB issued ASU No. 2016-09, "Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting." This amendment is intended to simplify several aspects of the accounting for share-based payment transactions, including (i) the recognition of excess tax benefits or deficiencies in the operating statement when compensatory stock awards are vested and settled, and the presentation of these tax benefits or deficiencies as an operating cash
outflow on the statement of cash flows, (ii) the option to withhold the maximum statutory tax rate on the settlement of compensatory stock without triggering liability accounting, as well as presenting the shares withheld for the settlement of these taxes as a financing outflow on the statement of cash flows, and (iii) the option to elect a change in the accounting policy to account for forfeitures as they occur. This amendment became effective for the Company as of January 1, 2017. The Company adopted this ASU using the modified retrospective transition method with respect to the recognition of excess tax benefits in the consolidated condensed statement of operations. The adoption did not result in a cumulative-effect adjustment to equity as of January 1, 2017. The amendment related to the cash flow presentation of shares acquired to satisfy the Company's minimum tax withholding requirements in connection with the settlement of compensatory stock was applied retrospectively as a financing outflow. The adoption had no impact to any periods presented on the consolidated condensed statement of cash flows as these cash outflows have historically been presented as a financing activity. The Company elected not to change its accounting policy on the recognition of estimated forfeitures.
In March 2016, the FASB issued ASU No. 2016-04, "Liabilities—Extinguishment of Liabilities (Subtopic 405-20): Recognition of Breakage for Certain Prepaid Stored-Value Products." The amendment clarifies when it is acceptable to recognize the unredeemed portion of prepaid gift cards into income, and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, with early adoption permitted. The Company does not expect the adoption of this amendment will have a material impact on the Company's consolidated financial statements. As of
December 31, 2017
, the Company had
$971,000
of deferred revenue related to unredeemed gift cards.
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)."
Under the new guidance, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date:
(i) a lease liability, which is a lessee's obligation to make lease payments arising from a lease, measured on a discounted basis; and
(ii) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term.
Under the new guidance, lessor accounting is largely unchanged and lessees will no longer be provided with a source of off-balance sheet financing. This ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption is permitted.
Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. The Company is currently evaluating the impact this ASU will have on its consolidated financial statements and disclosures.
In January 2016, the FASB issued ASU No. 2016-01, "Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities." The amendment requires (i) equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income, (ii) public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes and (iii) separate presentation of financial assets and financial liabilities by measurement category and form of financial asset (i.e., securities or loans and receivables). This amendment eliminates the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost. This amendment is effective for public companies for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. As of December 31, 2017, the Company had an investment in Topgolf International, Inc. of
$70,495,000
, consisting of common stock and various classes of preferred stock, that was accounted for at cost in accordance with ASC Topic 325, “Investments—Other.” Based on prior observable market transactions, the Company believes that the fair value of its investment in Topgolf significantly exceeds its cost. If there are any observable price changes related to this investment or a similar investment of the same issuer in fiscal years beginning after December 15, 2017, the Company would be required to assess the fair value impact, if any, on each class of stock, and write the individual security interest up or down to its estimated fair value, which could have a significant effect on the Company's financial position and results of operations (see
Note 7
).
In July 2015, the FASB issued ASU No. 2015-11, "Inventory (Topic 330): Simplifying the Measurement of Inventory." This amendment requires an entity to measure in-scope inventory at the lower of cost or net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. For public business entities, this ASU is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The adoption of this amendment did not have a material impact on the Company's consolidated condensed financial statements.
In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers: (Topic 606)." This ASU affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards (e.g., insurance contracts or lease contracts). The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This ASU also requires additional disclosures regarding revenue and contracts with customers. The Company completed its analysis of this ASU, and determined that the new standard will not change the total amount of revenue recognized, only accelerate the timing of accruals of certain sales promotions and price concessions that the Company offers to its retailers to earlier in the product life cycle. This shift in expense will have an impact on quarter-over-quarter net sales trends. The Company will adopt the new standard as of January 1, 2018 using the modified retrospective approach, which requires the prospective application of the new standard with disclosures of results under the old standard in order to make period over period comparisons comparable. Upon adoption, the Company expects to record a one-time reduction to retained earnings, net of income taxes, of approximately
$11,000,000
, with a corresponding reduction to accounts receivable and an increase to deferred tax assets in its consolidated condensed balance sheet.
Revenue Recognition
Through December 31, 2017, the Company accounted for revenue recognition in accordance with Accounting Standards Codification (“ASC”) Topic 605, “Revenue Recognition.” As stated above, beginning on January 1, 2018, the Company will account for revenue recognition under Topic 606, "Revenue from Contracts with Customers," which will accelerate the timing of certain sales promotions and price concessions that the Company offers to its retailers to earlier in the product life cycle.
In accordance with Topic 605, sales are recognized, in general, as products are shipped to customers, and at point of sale for transactions in retail locations, net of an allowance for sales returns and sales programs. In certain cases, the Company recognizes sales when products are received by customers. The criteria for recognition of revenue are met when persuasive evidence that an arrangement exists and both title and risk of loss have passed to the customer, the price is fixed or determinable and collectability is reasonably assured. Sales returns are estimated based upon historical returns, current economic trends, changes in customer demands and sell-through of products. The Company also records estimated reductions to revenue for sales programs such as incentive offerings. Sales program accruals are estimated based upon the attributes of the sales program, management’s forecast of future product demand, and historical customer participation in similar programs. The increase in the allowance for sales returns as of December 31, 2017 compared to December 31, 2016 was due to a shift in the timing of one of the Company's major return programs.
The following table provides a reconciliation of the activity related to the Company’s allowance for sales returns:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
|
(In thousands)
|
Beginning balance
|
$
|
9,341
|
|
|
$
|
8,148
|
|
|
$
|
8,944
|
|
Provision
|
37,521
|
|
|
38,444
|
|
|
35,746
|
|
Sales returns
|
(31,392
|
)
|
|
(37,251
|
)
|
|
(36,542
|
)
|
Ending balance
|
$
|
15,470
|
|
|
$
|
9,341
|
|
|
$
|
8,148
|
|
Revenues from gift cards are deferred and recognized when the cards are redeemed. In addition, the Company recognizes revenue from unredeemed gift cards when the likelihood of redemption becomes remote and under circumstances that comply with any applicable state escheatment laws. The Company’s gift cards have no expiration date. To determine when redemption is remote, the Company analyzes an aging of unredeemed cards (based on the date the card was last used or the activation date if the card has never been used) and compares that information with historical redemption trends. The deferred revenue associated with outstanding gift cards decreased to
$971,000
at
December 31, 2017
from
$1,273,000
at
December 31, 2016
. The amounts are recorded in accounts payable and accrued expenses on the accompanying consolidated balance sheets.
Royalty income is recorded in net sales as underlying product sales occur, subject to certain minimums, in accordance with the related licensing arrangements. The Company recognized royalty income under its various licensing agreements of
$18,622,000
,
$7,622,000
and
$8,062,000
during
2017
,
2016
and
2015
, respectively. The increase in royalty income in 2017 compared to 2016 was primarily due to royalties recognized in connection with OGIO branded products.
Warranty Policy
The Company has a stated
two
-year warranty policy for its golf clubs. The Company’s policy is to accrue the estimated cost of satisfying future warranty claims at the time the sale is recorded. In estimating its future warranty obligations, the Company considers various relevant factors, including the Company’s stated warranty policies and practices, the historical frequency of claims, and the cost to replace or repair its products under warranty. The increase in warranty expense and the claims paid in 2017 compared to 2016 was primarily due to additional claims related to certain 2015 putter models. The Company believes it has resolved the quality issues related to these putters.
The following table provides a reconciliation of the activity related to the Company’s reserve for warranty expense:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
|
(In thousands)
|
Beginning balance
|
$
|
5,395
|
|
|
$
|
5,706
|
|
|
$
|
5,607
|
|
Provision
|
9,434
|
|
|
5,493
|
|
|
5,220
|
|
Claims paid/costs incurred
|
(8,172
|
)
|
|
(5,804
|
)
|
|
(5,121
|
)
|
Ending balance
|
$
|
6,657
|
|
|
$
|
5,395
|
|
|
$
|
5,706
|
|
Fair Value Measurements
Fair value is defined as the price that would be received to sell an asset or the price paid to transfer a liability (the exit price) in the principal and most advantageous market for the asset or liability in an orderly transaction between market participants. The Company measures and discloses the fair value of nonfinancial and financial assets and liabilities utilizing a hierarchy of valuation techniques based on whether the inputs to a fair value measurement are considered to be observable or unobservable in a marketplace. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. This hierarchy requires the use of observable market data when available. The measurement of assets and liabilities at fair value are classified using the following three-tier hierarchy:
Level 1
: Quoted market prices in active markets for identical assets or liabilities;
Level 2
: Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which significant inputs and significant value drivers are observable in active markets; and
Level 3
: Fair value measurements derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
The Company measures fair value using a set of standardized procedures that are outlined herein for all assets and liabilities which are required to be measured at fair value. When available, the Company utilizes quoted market prices from an independent third-party source to determine fair value and classifies such items in Level 1. In some instances where a market price is available, but the instrument is in an inactive or over-the-counter market, the Company consistently applies the dealer (market maker) pricing estimate and uses a midpoint approach on bid and ask prices from financial institutions to determine the reasonableness of these estimates. Assets and liabilities subject to this fair value valuation approach are typically classified as Level 2.
Items valued using internally-generated valuation techniques are classified according to the lowest level input that is significant to the fair value measurement. As a result, the asset or liability could be classified in either Level 2 or Level 3 even though there may be some significant inputs that are readily observable. The Company utilizes a discounted cash flow valuation model whenever applicable to derive a fair value measurement on long-lived assets and goodwill and intangible assets. The Company uses its internal cash flow estimates discounted at an appropriate rate, quoted market prices, royalty rates when available and independent appraisals as appropriate. The Company also considers its counterparty’s and own credit risk on derivatives and other liabilities measured at their fair value.
Advertising Costs
The Company's primary advertising costs are from television and print media advertisements. The Company’s policy is to expense advertising costs, including production costs, as incurred. Advertising expenses for
2017
,
2016
and
2015
were
$62,898,000
,
$59,003,000
and
$57,392,000
, respectively.
Research and Development Costs
Research and development costs are expensed as incurred. Research and development costs for
2017
,
2016
and
2015
were
$36,568,000
, $
33,318,000
and $
33,213,000
, respectively.
Foreign Currency Translation and Transactions
A significant portion of the Company’s business is conducted outside of the United States in currencies other than the U.S. dollar. As a result, changes in foreign currency exchange rates can have a significant effect on the Company’s financial results. Revenues and expenses that are denominated in foreign currencies are translated using the average exchange rate for the period. Assets and liabilities are translated at the rate of exchange on the balance sheet date. Gains and losses from assets and liabilities denominated in a currency other than the functional currency of the entity on which they reside are generally recognized currently in the Company's statements of operations. Gains and losses from the translation of foreign subsidiary financial statements into U.S. dollars are included in accumulated other comprehensive income or loss (see Accumulated Other Comprehensive Income policy below).
The Company recorded a net gain in foreign currency transactions of
$808,000
and
$226,000
in 2017 and 2016, respectively, and a net loss of
$1,611,000
in
2015
.
Derivatives and Hedging
In order to mitigate the impact of foreign currency translation on transactions, the Company uses foreign currency forward contracts that are accounted for as non-designated and designated hedges pursuant to ASC Topic 815, “Derivatives and Hedging” ("ASC Topic 815"). ASC Topic 815 requires that an entity recognize all derivatives as either assets or liabilities in the balance sheet, measure those instruments at fair value and recognize changes in the fair value of derivatives in earnings in the period of change unless the derivative qualifies as designated cash flow hedge that offsets certain exposures. Certain criteria must be satisfied in order for derivative financial instruments to be classified and accounted for as a cash flow hedge. Gains and losses from the remeasurement of qualifying cash flow hedges are recorded as a component of other comprehensive income and released into earnings as a component of cost of goods sold or net sales during the period in which the hedged transaction takes place. Gains and losses on the ineffective portion of hedges (hedges that do not meet accounting requirements due to ineffectiveness) and derivatives that are not elected for hedge accounting treatment are immediately recorded in earnings as a component of other income (expense).
Cash and Cash Equivalents
Cash equivalents are highly liquid investments purchased with original maturities of three months or less.
Trade Accounts Receivable
The Company records its trade accounts receivable at net realizable value. This value includes an appropriate allowance for estimated uncollectible accounts to reflect any loss anticipated on the trade accounts receivable balances and charged to the provision for doubtful accounts. An estimate of uncollectible amounts is made by management based upon historical bad debts, current customer receivable balances, age of customer receivable balances, the customer’s financial condition and current economic trends, all of which are subject to change. Actual uncollected amounts have historically been consistent with the Company’s expectations. In general, the Company has trade insurance to mitigate the risk of uncollectible accounts on its outstanding accounts receivable. The Company considers this insurance coverage when estimating its provision for uncollectible accounts. Insurance claim recoveries from this trade insurance are applied to the Company’s outstanding accounts receivable or are recorded as a reduction to bad debt expense in the period in which the claim is received.
The following table provides a reconciliation of the activity related to the Company’s allowance for doubtful accounts:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
|
(In thousands)
|
Beginning balance
|
$
|
5,728
|
|
|
$
|
5,645
|
|
|
$
|
6,460
|
|
Provision
|
2,335
|
|
|
2,398
|
|
|
992
|
|
Write-off of uncollectible amounts, net of recoveries
|
(3,616
|
)
|
|
(2,315
|
)
|
|
(1,807
|
)
|
Ending balance
|
$
|
4,447
|
|
|
$
|
5,728
|
|
|
$
|
5,645
|
|
Inventories
Inventories are valued at the lower of cost or net realizable value. Cost is determined using the first-in, first-out (FIFO) method. The inventory balance, which includes material, labor and manufacturing overhead costs, is recorded net of an estimate for obsolete or unmarketable inventory. This estimate is based upon current inventory levels, sales trends and historical experience as well as management’s estimates of market conditions and forecasts of future product demand, all of which are subject to change.
Property, Plant and Equipment
Property, plant and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over estimated useful lives as follows:
|
|
|
Buildings and improvements
|
10-30 years
|
Machinery and equipment
|
5-10 years
|
Furniture, computers and equipment
|
3-5 years
|
Production molds
|
2-5 years
|
Normal repairs and maintenance costs are expensed as incurred. Expenditures that materially increase values, change capacities or extend useful lives are capitalized. The related costs and accumulated depreciation of disposed assets are eliminated and any resulting gain or loss on disposition is included in net income/(loss). Construction in-process consists primarily of costs associated with building improvements, machinery and equipment that have not yet been placed into service, unfinished molds as well as in-process internally developed software.
In accordance with ASC Topic 350-40, “Internal-Use Software,” the Company capitalizes certain costs incurred in connection with developing or obtaining internal use software. Costs incurred in the preliminary project stage are expensed. All direct external costs incurred to develop internal-use software during the development stage are capitalized and amortized using the straight-line method over the remaining estimated useful lives. Costs such as maintenance and training are expensed as incurred.
Long-Lived Assets
In accordance with ASC Topic 360-10-35, “Impairment or Disposal of Long-Lived Assets”, the Company assesses potential impairments of its long-lived assets whenever events or changes in circumstances indicate that the asset’s carrying value may not be recoverable. An impairment charge would be recognized when the carrying amount of a long-lived asset or asset group is not recoverable and exceeds its fair value. The carrying amount of a long-lived asset or asset group is not recoverable if it exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset or asset group.
Goodwill and Intangible Assets
Goodwill and intangible assets, which consist of trade names, trademarks, service marks, trade dress, patents and other intangible assets, were acquired in connection with the acquisition of Odyssey Sports, Inc. in 1997, FrogTrader, Inc. in 2004, OGIO in January 2017, TravisMathew in August 2017, and certain foreign distributors.
In accordance with ASC Topic 350, “Intangibles—Goodwill and Other,” goodwill and intangible assets with indefinite lives are not amortized but instead are measured for impairment at least annually or more frequently when events indicate that an impairment exists. The Company calculates impairment as the excess of the carrying value of goodwill and other indefinite-lived intangible assets over their estimated fair value. If the carrying value exceeds the estimate of fair value a write-down is recorded. To determine fair value, the Company uses its internal discounted cash flow estimates, quoted market prices, royalty rates when available and independent appraisals when appropriate. The Company completed its annual impairment test and fair value analysis of goodwill and other indefinite-lived intangible assets as of
December 31, 2017
, and the estimated fair values of the Company’s reporting units, as well as the estimated fair values of certain trade names and trademarks, significantly exceeded their carrying values. As a result,
no
impairment was recorded as of
December 31, 2017
.
Intangible assets that are determined to have definite lives are amortized over their estimated useful lives and are measured for impairment only when events or circumstances indicate the carrying value may be impaired in accordance with ASC Topic 360-10-35 discussed above. See
Note 6
for further discussion of the Company’s goodwill and intangible assets.
Investments
The Company determines the appropriate classification of its investments at the time of acquisition and reevaluates such classification at each balance sheet date. Investments that do not have readily determinable fair values are stated at cost. The Company monitors investments for impairment whenever events or changes in circumstances indicate that the investment's carrying value may not be recoverable. An impairment charge would be recognized when the carrying amount exceeds its fair value. See
Note 7
for further discussion of the Company’s investments.
Share-Based Compensation
The Company accounts for its share-based compensation arrangements in accordance with ASC Topic 718, “Compensation—Stock Compensation” (“ASC Topic 718”), which requires the measurement and recognition of compensation expense for all share-based payment awards to employees and non-employees based on estimated fair values. ASC Topic 718 further requires a reduction in share-based compensation expense by an estimated forfeiture rate. The forfeiture rate used by the Company is based on historical forfeiture trends. If actual forfeiture rates are not consistent with the Company’s estimates, the Company may be required to increase or decrease compensation expenses in future periods.
Performance share units are stock-based awards in which the number of shares ultimately received depends on the Company's performance against specified goals that are measured over a designated performance period from the date of grant. These performance goals are established by the Company at the beginning of the performance period. At the end of the performance period, the number of shares of stock that could be issued is fixed based upon the degree of achievement of the performance goals. The number of shares that could be issued can range from
0%
to
200%
of the participant's target award. Performance share units are initially valued at the Company's closing stock price on the date of grant. Compensation expense, net of estimated forfeitures, is recognized over the vesting period and will vary based on the anticipated performance level during the performance period. If the performance goals are not probable of achievement during the performance period, compensation expense would be reversed. The awards are forfeited if the performance goals are not achieved as of the end of the performance period. The performance units vest in full at the end of a
three
-year period.
The Company uses the Black-Scholes option valuation model to estimate the fair value of its stock options and stock appreciation rights (“SARs”) at the date of grant. The Black-Scholes option valuation model requires the input of subjective assumptions to calculate the value of stock options/SARs. The Company uses historical data among other information to estimate the expected price volatility, expected term and forfeiture rate. The Company uses forecasted dividends to estimate the expected dividend yield. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant. Compensation expense is recognized on a straight-line basis over the vesting period for stock options. Compensation expense for SARs is recognized on a straight-line basis over the vesting period based on an estimated fair value, which is remeasured at the end of each reporting period. Once vested, the SARs continue to be remeasured to fair value until they are exercised.
The Company records compensation expense for restricted stock awards and restricted stock units (collectively “restricted stock”) based on the estimated fair value of the award on the date of grant. The estimated fair value is determined based on the closing price of the Company’s common stock on the award date multiplied by the number of shares underlying the restricted stock awarded. Total compensation expense is recognized on a straight-line basis over the vesting period.
Phantom stock units are a form of share-based awards that are indexed to the Company’s stock and are settled in cash. Compensation expense is recognized on a straight-line basis over the vesting period based on the award’s estimated fair value. Fair value is remeasured at the end of each interim reporting period through the award’s settlement date and is based on the closing price of the Company’s stock.
Income Taxes
Current income tax expense or benefit is the amount of income taxes expected to be payable or receivable for the current year. A deferred income tax asset or liability is established for the difference between the tax basis of an asset or liability computed pursuant to ASC Topic 740 and its reported amount in the financial statements that will result in taxable or deductible amounts in future years when the reported amount of the asset or liability is recovered or settled, respectively. The Company maintains a valuation allowance for a deferred tax asset when it is deemed to be more likely than not that some or all of the deferred tax asset will not be realized. In evaluating whether a valuation allowance is required under such rules, the Company considers all available positive and negative evidence, including prior operating results, the nature and reason for any losses, its forecast of future taxable income, and the dates on which any deferred tax assets are expected to expire. These assumptions require a significant amount of judgment, including estimates of future taxable income. These estimates are based on the Company’s best judgment at the time
made based on current and projected circumstances and conditions. In 2011, as a result of this evaluation, the Company recorded a valuation allowance against its U.S. deferred tax assets. During the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance on those deferred tax assets. For further information, see
Note 10
“
Income Taxes
.”
Pursuant to ASC Topic 740-25-6, the Company is required to accrue for the estimated additional amount of taxes for uncertain tax positions if it is deemed to be more likely than not that the Company would be required to pay such additional taxes. The Company is required to file federal and state income tax returns in the United States and various other income tax returns in foreign jurisdictions. The preparation of these income tax returns requires the Company to interpret the applicable tax laws and regulations in effect in such jurisdictions, which could affect the amount of tax paid by the Company. The Company accrues an amount for its estimate of additional tax liability, including interest and penalties in income tax expense, for any uncertain tax positions taken or expected to be taken in an income tax return. The Company reviews and updates the accrual for uncertain tax positions as more definitive information becomes available. Historically, additional taxes paid as a result of the resolution of the Company’s uncertain tax positions have not been materially different from the Company’s expectations. The Company recognizes interest and/or penalties related to income tax matters in income tax expense. For further information, see
Note 10
“
Income Taxes
.”
On December 22, 2017, the U.S. government enacted comprehensive tax legislation referred to as the Tax Cuts and Jobs Act. Shortly after the Tax Act was enacted, the SEC issued Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act ("SAB 118"), which provides guidance on accounting for the Tax Act’s impact. SAB 118 provides a measurement period, which should not extend beyond one year from the Tax Act enactment date, during which a company acting in good faith may complete the accounting for the impacts of the Tax Act under ASC Topic 740. In accordance with SAB 118, the Company must reflect the income tax effects of the Tax Act in the reporting period in which the accounting under ASC Topic 740 is complete.
To the extent that the Company’s accounting for certain income tax effects of the Tax Act is incomplete, the Company can determine a reasonable estimate for those effects and record a provisional estimate in the consolidated financial statements in the first reporting period in which a reasonable estimate can be determined. If the Company cannot determine a provisional estimate to be included in the consolidated financial statements, the Company should continue to apply ASC Topic 740 based on the provisions of the tax laws that were in effect immediately prior to the Tax Act being enacted. If the Company is unable to provide a reasonable estimate of the impacts of the Tax Act in a reporting period, a provisional amount must be recorded in the first reporting period in which a reasonable estimate can be determined. For further information, see
Note 10
“
Income Taxes
.”
Other Income (Expense), Net
Other income (expense), net primarily includes gains and losses on foreign currency forward contracts and foreign currency transactions. The components of other income (expense), net are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
|
(In thousands)
|
Foreign currency forward contract gain (loss), net
|
$
|
(7,688
|
)
|
|
$
|
(2,917
|
)
|
|
$
|
2,877
|
|
Foreign currency transaction gain (loss), net
|
808
|
|
|
226
|
|
|
(1,611
|
)
|
Other
|
9
|
|
|
1,001
|
|
|
199
|
|
|
$
|
(6,871
|
)
|
|
$
|
(1,690
|
)
|
|
$
|
1,465
|
|
Accumulated Other Comprehensive Loss
Accumulated other comprehensive loss includes the impact of foreign currency translation adjustments and activity related to derivative instruments designated for hedge accounting. The total equity adjustment from foreign currency translation included in accumulated other comprehensive loss were losses of
$14,198,000
,
$7,727,000
and
$11,542,000
as of
December 31, 2017
,
2016
and
2015
, respectively. With the exception of the Company's entity in Thailand, the Company met the permanent reinvestment criteria and as such it does not accrue income taxes on foreign currency translation adjustments (see Note 10 for further discussion). The total equity adjustment from activity related to derivative instruments was a net loss of
$1,898,000
as of
December 31, 2017
and net gains of
$1,074,000
and
$525,000
in
2016
and
2015
, respectively. For further information see
Note 16
"Derivatives and Hedging."
The following table details the amounts reclassified from accumulated other comprehensive loss to cost of goods sold, as well as changes in foreign currency translation for the years ended
December 31, 2017
,
2016
and
2015
(in thousands).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Derivative Instruments
|
|
Foreign Currency Translation
|
|
Total
|
Accumulated other comprehensive loss, December 31, 2014
|
$
|
—
|
|
|
$
|
(796
|
)
|
|
$
|
(796
|
)
|
Change in derivative instruments
|
2,892
|
|
|
—
|
|
|
2,892
|
|
Amounts reclassified to other income (expense) due to hedge instrument ineffectiveness
|
(576
|
)
|
|
—
|
|
|
(576
|
)
|
Net gains reclassified to cost of goods sold
|
(1,791
|
)
|
|
—
|
|
|
(1,791
|
)
|
Foreign currency translation adjustments
|
—
|
|
|
(11,542
|
)
|
|
(11,542
|
)
|
Accumulated other comprehensive loss, December 31, 2015
|
525
|
|
|
(12,338
|
)
|
|
(11,813
|
)
|
Change in derivative instruments
|
(567
|
)
|
|
—
|
|
|
(567
|
)
|
Net losses reclassified to cost of goods sold
|
1,500
|
|
|
—
|
|
|
1,500
|
|
Net losses reclassified to net sales
|
1,014
|
|
|
—
|
|
|
1,014
|
|
Foreign currency translation adjustments
|
—
|
|
|
(7,698
|
)
|
|
(7,698
|
)
|
Income tax expense
|
(902
|
)
|
|
—
|
|
|
(902
|
)
|
Accumulated other comprehensive loss, December 31, 2016, after tax
|
1,570
|
|
|
(20,036
|
)
|
|
(18,466
|
)
|
Change in derivative instruments
|
(2,679
|
)
|
|
—
|
|
|
(2,679
|
)
|
Net losses reclassified to cost of goods sold
|
187
|
|
|
—
|
|
|
187
|
|
Foreign currency translation adjustments
|
—
|
|
|
14,198
|
|
|
14,198
|
|
Income tax expense
|
594
|
|
|
—
|
|
|
594
|
|
Accumulated other comprehensive loss, December 31, 2017, after tax
|
$
|
(328
|
)
|
|
$
|
(5,838
|
)
|
|
$
|
(6,166
|
)
|
Segment Information
The Company has
three
operating segments, namely Golf Clubs, Golf Balls and Gear, Accessories and Other as of December 31, 2017. Prior to 2017, the Company's operating segments consisted of Golf Clubs and Golf Balls. Due to the recent growth in the accessories and other product category within Golf Clubs from the formation of the apparel joint venture in Japan as well as the Company's acquisition of OGIO in January 2017, the Company reassessed its operating segments during the first quarter of 2017, consistent with the way management reviews its business operations on an ongoing basis. As a result, and based on the Company's assessment, as of January 1, 2017, the Company added a third operating segment, Gear, Accessories and Other, which includes soft goods products and licensing revenues that were formerly in the accessories and other product category within Golf Clubs. Soft goods products include golf apparel and footwear, golf bags, golf gloves, travel gear, headwear and other golf-related accessories, retail apparel sales from the Company's joint venture in Japan, and OGIO branded products as of January 2017. Licensing revenues include royalties from licensing of the Company’s trademarks and service marks for various soft goods. TravisMathew branded products are also included in this operating segment as of August 2017. Subsequent to this change, the Golf Clubs operating segment consists of Callaway Golf woods, hybrids, irons and wedges, Odyssey putters, including Toulon Design putters by Odyssey, packaged sets and sales of pre-owned golf clubs. The Golf Balls segment continues to consist of Callaway Golf and Strata golf balls that are designed, manufactured and sold by the Company. As a result of these changes, prior period amounts have been reclassified in order to make prior periods comparable to 2017. This information, as well as information about the Company's geographic areas, is presented in
Note 17
“
Segment Information
.”
Concentration of Risk
The Company operates in the golf equipment industry and has a concentrated customer base, which is primarily comprised of golf equipment retailers (including pro shops at golf courses and off-course retailers), sporting goods retailers and mass merchants and foreign distributors. On a consolidated basis, no single customer accounted for more than
10%
,
8%
and
9%
of the Company’s consolidated revenues in
2017
,
2016
and
2015
, respectively. The Company's top five customers accounted for approximately
21%
,
22%
and
26%
of the Company's consolidated revenues in 2017, 2016 and 2015, respectively.
With respect to the Company's segments, the Company's top five
|
|
•
|
Golf Club customers accounted for approximately
20%
,
26%
and
28%
of total consolidated Golf Club sales in 2017, 2016 and 2015, respectively;
|
|
|
•
|
Golf Ball customers accounted for approximately
30%
,
28%
and
30%
of total consolidated Golf Ball sales in 2017, 2016 and 2015, respectively; and
|
|
|
•
|
Gear and Accessories customers accounted for approximately
15%
,
18%
and
21%
of total consolidated Gear and Accessories sales in 2017, 2016 and
2015
, respectively.
|
A loss of one or more of these customers could have a significant effect on the Company's net sales. Prior period percentages have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017. For further discussion, see
Note 17
“
Segment Information
.”
With respect to the Company's trade receivables, the Company performs ongoing credit evaluations of its customers’ financial condition and generally requires no collateral from these customers. The Company maintains reserves for estimated credit losses, which it considers adequate to cover any such losses. At
December 31, 2017
and
2016
,
no single customer represented over 9% of the Company’s outstanding accounts receivable balance.
Managing customer-related credit risk is more difficult in regions outside of the United States. Of the Company’s total net sales, approximately
46%
,
49%
and
47%
were derived from sales outside of the United States in
2017
,
2016
and
2015
, respectively. Prolonged unfavorable economic conditions could significantly increase the Company’s credit risk with respect to its outstanding accounts receivable.
The Company is dependent on a limited number of suppliers for its clubheads and shafts, some of which are single sourced. Furthermore, some of the Company’s products require specially developed manufacturing techniques and processes which make it difficult to identify and utilize alternative suppliers quickly. In addition, many of the Company’s suppliers are not well capitalized and prolonged unfavorable economic conditions could increase the risk that they will go out of business. If current suppliers are unable to deliver clubheads, shafts or other components, or if the Company is required to transition to other suppliers, the Company could experience significant production delays or disruption to its business. The Company also depends on a single or a limited number of suppliers for the materials it uses to make its golf balls. Many of these materials are customized for the Company. Any delay or interruption in such supplies could have a material adverse impact on the Company’s golf ball business. If the Company were to experience any such delays or interruptions, the Company may not be able to find adequate alternative suppliers at a reasonable cost or without significant disruption to its business.
The Company’s financial instruments that are subject to concentrations of credit risk consist primarily of cash equivalents, trade receivables and foreign currency forward contracts.
From time to time, the Company invests its excess cash in money market accounts and short-term U.S. government securities and has established guidelines relative to diversification and maturities in an effort to maintain safety and liquidity. These guidelines are periodically reviewed and modified to take advantage of trends in yields and interest rates.
The Company enters into foreign currency forward contracts for the purpose of hedging foreign exchange rate exposures on existing or anticipated transactions. In the event of a failure to honor one of these contracts by one of the banks with which the Company has contracted, management believes any loss would be limited to the exchange rate differential from the time the contract was made until the time it was settled.
Note 3. Business Combinations
During 2017, the Company completed the acquisitions of OGIO and TravisMathew. The purchase price of each acquisition was allocated to the underlying assets acquired and liabilities assumed based upon their estimated fair values as of the date of acquisition in accordance with ASC Topic 820, "Fair Value Measurement." The excess between the purchase price and the fair value of the net identifiable tangible and intangible assets acquired and liabilities assumed was allocated to goodwill. The Company determined the estimated fair values after review and consideration of relevant information, including discounted cash flows, quoted market prices and estimates made by management. The Company may retrospectively adjust the fair value of the identifiable assets acquired and the liabilities assumed, as necessary, during the measurement period of up to one year from the acquisition date, to reflect new information existing at the acquisition date affecting the measurement of those amounts at that date, and any additional assets or liabilities existing at that date.
Valuations of acquired intangible assets and inventory are subject to fair value measurements that were based primarily on significant inputs not observable in the market and thus represent Level 3 measurements (see
Note 15
).
Both acquisitions were treated as asset purchases for income tax purposes and, as such, the Company expects to deduct all of the intangible assets, including goodwill.
Acquisition of OGIO International, Inc.
On January 11, 2017, the Company acquired all of the outstanding shares of capital stock of OGIO, a leading manufacturer of high quality bags, accessories and apparel in the golf and lifestyle categories, in a cash transaction pursuant to the terms of a Share Purchase Agreement, by and among the Company, OGIO, and each of the shareholders and option holders of OGIO.
The acquired furniture, fixtures, office equipment, leasehold improvements, computer equipment and warehouse equipment were all valued at their estimated replacement cost, which the Company determined approximated the net book value of the assets on the date of the acquisition. Inventory was valued using the net realizable value approach, which was based on the estimated selling price in the ordinary course of business less reasonable disposal costs. The customer and distributor relationships were valued under the income approach based on the present value of future earnings. The trade name was valued under the royalty savings income approach method, which is equal to the present value of the after-tax royalty savings attributable to owning the trade name as opposed to paying a third party for its use. For this valuation, the Company used a royalty rate of
7.5%
, which is reflective of royalty rates paid in market transactions, and a discount rate of
14.0%
on the future cash flows generated by the net after-tax savings. Goodwill arising from the acquisition consists largely of the synergies expected from combining the operations of the Company and OGIO. For segment reporting purposes, goodwill is reported in the Gear, Accessories and Other operating segment.
The total purchase price was valued at
$65,951,000
. The Company incurred transaction costs of approximately
$3,052,000
, of which
$1,805,000
was recognized in general and administrative expenses during the
twelve
months ended
December 31, 2017
. The remainder was recognized in 2016.
The following table summarizes the fair values of the assets acquired and liabilities assumed as of the acquisition date based on the purchase price allocation (in thousands):
|
|
|
|
|
|
|
At January 11, 2017
|
Assets Acquired
|
|
|
Cash
|
|
$
|
8,061
|
|
Accounts receivable
|
|
7,696
|
|
Inventory
|
|
7,092
|
|
Other current assets
|
|
328
|
|
Property and equipment
|
|
2,369
|
|
Intangibles - trade name
|
|
49,700
|
|
Intangibles - customer & distributor relationships
|
|
1,500
|
|
Intangibles - non-compete agreements
|
|
150
|
|
Goodwill
|
|
5,885
|
|
Total assets acquired
|
|
82,781
|
|
Liabilities Assumed
|
|
|
Accounts Payable and accrued liabilities
|
|
16,830
|
|
Net assets acquired
|
|
$
|
65,951
|
|
Acquisition of TravisMathew, LLC
On August 17, 2017, the Company acquired TravisMathew, a golf and lifestyle apparel company in an all-cash transaction pursuant to the terms of an Agreement and Plan of Merger, by and among the Company, TravisMathew, OTP LLC, a California limited liability company and wholly-owned subsidiary of the Company (“Merger Sub”), and a representative of the equity holders of TravisMathew. The Company acquired TravisMathew by way of a merger of Merger Sub with and into TravisMathew, with TravisMathew surviving as a wholly-owned subsidiary of the Company. The acquisition is expected to enhance the Company's strategy of developing growth in areas tangential to the golf equipment business.
The acquired furniture, fixtures, office equipment, leasehold improvements, computer equipment and warehouse equipment were all valued at their estimated replacement cost, which the Company determined approximated the net book value of the assets on the date of the acquisition. Inventory was valued using the net realizable value approach, which was based on the estimated selling price in the ordinary course of business less reasonable disposal costs. The licensing agreement was valued under the income approach based on the projected royalty income from the distributors. The customer and distributor relationships were valued
under the income approach based on the present value of future earnings. The trade name was valued under the royalty savings income approach method, which is equal to the present value of the after-tax royalty savings attributable to owning the trade name as opposed to paying a third party for its use. For this valuation, the Company used a royalty rate of
8.0%
, which is reflective of royalty rates paid in market transactions, and a discount rate of
11.0%
on the future cash flows generated by the net after-tax savings. Goodwill arising from the acquisition consists largely of the synergies expected from combining the operations of the Company and TravisMathew. For segment reporting purposes, goodwill is reported in the Gear, Accessories and Other operating segment.
The total purchase price was valued at
$124,578,000
. In connection with the acquisition, during the year ended
December 31, 2017
, the Company recognized transaction costs of approximately
$2,521,000
in general and administrative expenses.
The following table summarizes the preliminary estimated fair values of the assets acquired and liabilities assumed as of the acquisition date based on the purchase price allocation (in thousands):
|
|
|
|
|
|
|
At August 17, 2017
|
Assets Acquired
|
|
|
Cash
|
|
$
|
663
|
|
Accounts receivable
|
|
9,715
|
|
Inventory
|
|
11,909
|
|
Other current assets
|
|
549
|
|
Property and equipment
|
|
4,327
|
|
Other assets
|
|
117
|
|
Intangibles - trade name
|
|
78,400
|
|
Intangibles - licensing agreement
|
|
1,100
|
|
Intangibles - customer & distributor relationships
|
|
4,450
|
|
Intangibles - non-compete agreements
|
|
600
|
|
Goodwill
|
|
23,640
|
|
Total assets acquired
|
|
135,470
|
|
Liabilities Assumed
|
|
|
Accounts Payable and accrued liabilities
|
|
10,892
|
|
Net assets acquired
|
|
$
|
124,578
|
|
Supplemental Pro-Forma Information (Unaudited)
The following table presents supplemental pro-forma information for the years ended
December 31, 2017
and
2016
as if both the OGIO and TravisMathew acquisitions had occurred on January 1, 2016. These amounts have been calculated after applying the Company's accounting policies and are based upon currently available information. For this analysis, the Company assumed that costs associated with the acquisitions, including the amortization of intangible assets and the step-up of inventory, as well as the tax effect on those costs, were recognized as of January 1, 2016. Pre-acquisition net sales and net income amounts for both OGIO and TravisMathew were derived from the books and records of OGIO and TravisMathew prepared prior to the respective acquisition and are presented for informational purposes only and do not purport to be indicative of the results of future operations or of the results that would have occurred had the acquisition taken place as of the dates noted below.
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
(in thousands)
|
|
|
|
Net sales
|
$
|
1,086,593
|
|
|
$
|
964,514
|
|
Net income (loss) attributable to Callaway Golf Company
|
$
|
52,514
|
|
|
$
|
188,117
|
|
For the year ended
December 31, 2017
, the Company's consolidated net sales included
$66,670,000
attributable to OGIO and TravisMathew. Due to the integration of OGIO into the Company's operations since the day of acquisition, the net income for OGIO could not be determined and is therefore not presented. The Company's consolidated results of operations for the year ended
December 31, 2017
included a net loss of
$1,721,000
related to TravisMathew.
Note 4. Financing Arrangements
In addition to cash on hand, as well as cash generated from operations, the Company relies on its primary asset-based revolving credit facility and its Japan asset-based revolving credit facilities to manage seasonal fluctuations in liquidity and to provide additional liquidity when the Company’s operating cash flows are not sufficient to fund the Company’s requirements. As of
December 31, 2017
, the Company had
$87,755,000
outstanding under these facilities,
$887,000
in outstanding letters of credit, and
$85,674,000
in cash and cash equivalents. As of
December 31, 2017
, the Company's available liquidity, which is comprised of cash on hand and amounts available under both facilities, after letters of credit was
$238,884,000
. At
December 31, 2016
the Company had
$11,966,000
outstanding under these facilities,
$823,000
in outstanding letters of credit, and
$125,975,000
in cash and cash equivalents. As of
December 31, 2016
, the Company's available liquidity was
$225,216,000
.
Primary Asset-Based Revolving Credit Facility
In November 2017, the Company amended and restated its primary credit facility (the Third Amended and Restated Loan and Security Agreement) with Bank of America N.A. and other lenders (the “ABL Facility”), which provides a senior secured asset-based revolving credit facility of up to
$330,000,000
, comprised of a
$260,000,000
U.S. facility (of which
$20,000,000
is available for letters of credit), a
$25,000,000
Canadian facility (of which
$5,000,000
is available for letters of credit), and a
$45,000,000
United Kingdom facility (of which
$2,000,000
is available for letters of credit), in each case subject to borrowing base availability under the applicable facility. The amounts outstanding under the ABL Facility are secured by certain assets, including cash (to the extent pledged by the Company), the Company's intellectual property, certain eligible real estate, inventory and accounts receivable of the Company’s subsidiaries in the United States, Canada and the United Kingdom. The real estate and intellectual property components of the borrowing base under the ABL Facility are both amortizing. The amount available for the real estate portion is reduced quarterly over a
15
-year period, and the amount available for the intellectual property portion is reduced quarterly over a
3
-year period.
As of
December 31, 2017
, the Company had
$74,000,000
in borrowings outstanding under the ABL Facility and
$887,000
in outstanding letters of credit. Amounts available under the ABL Facility fluctuate with the general seasonality of the business and increase and decrease with changes in the Company’s inventory and accounts receivable balances. Amounts available are highest during the first half of the year when the Company’s inventory and accounts receivable balances are higher and lower during the second half of the year when the Company's inventory levels decrease and its accounts receivable decrease as a result of cash collections and lower sales. Average outstanding borrowings during the year ended
December 31, 2017
were
$40,657,000
, and average amounts available under the ABL Facility during the year ended
December 31, 2017
, after outstanding borrowings and letters of credit, was approximately
$118,282,000
. Amounts borrowed under the ABL Facility may be repaid and borrowed as needed. The entire outstanding principal amount (if any) is due and payable at
November 20, 2022
.
The ABL Facility includes certain restrictions including, among other things, restrictions on the incurrence of additional debt, liens, stock repurchases and other restricted payments, asset sales, investments, mergers, acquisitions and affiliate transactions.
In addition, the ABL Facility imposes restrictions on the amount the Company could pay in annual cash dividends, including meeting certain restrictions on the amount of additional indebtedness and requirements to maintain a certain fixed charge coverage ratio under certain circumstances
. As of
December 31, 2017
, the Company was in compliance with all financial covenants of the ABL Facility. Additionally, the Company is subject to compliance with a fixed charge coverage ratio covenant during, and continuing
30
days after, any period in which the Company’s borrowing base availability, as amended, falls below
10%
of the maximum facility amount. The Company’s borrowing base availability was above
$33,000,000
during the year ended
December 31, 2017
, and the Company was in compliance with the fixed charge coverage ratio as of
December 31, 2017
. Had the Company not been in compliance with the fixed charge coverage ratio as of
December 31, 2017
, the Company's maximum amount of additional indebtedness that could have been outstanding on
December 31, 2017
would have been reduced by
$33,000,000
.
The interest rate applicable to outstanding loans under the ABL Facility fluctuates depending on the Company’s “availability ratio," which is expressed as a percentage of (i) the average daily availability under the ABL Facility to (ii) the sum of the Canadian, the U.K. and the U.S. borrowing bases, as adjusted.
The applicable margin for any month will be reduced by 0.25% if the Company’s availability ratio is greater than or equal to 67% so long as no default or event of default exists.
At
December 31, 2017
, the Company’s trailing 12-month average interest rate applicable to its outstanding loans under the ABL Facility was
3.32%
. The ABL Facility provides for monthly fees of
0.25%
of the unused portion of the ABL Facility.
The fees incurred in connection with the origination and amendment of the ABL Facility totaled
$2,246,000
, which are amortized into interest expense over the term of the ABL Facility agreement. Unamortized origination fees as of
December 31, 2017
and
2016
were
$2,197,000
and
$1,297,000
, respectively, of which
$454,000
and
$519,000
, respectively, were included in
other current assets and
$1,743,000
and
$778,000
, respectively, were included in other long-term assets in the accompanying consolidated balance sheets.
In addition to the revolving credit facility, the Company also has a senior secured term loan facility (the "Term Loan Facility") in an amount
$30,000,000
under the ABL Facility agreement, which is secured by a portion of the Company's intellectual property. The Term Loan Facility provides for a monthly commitment fee equal to
0.50%
on the unused portion of the Term Loan Facility until the Term Loan Facility is drawn or terminated. The Term Loan Facility may be borrowed at any time until April 20, 2018 and will begin amortizing 15 months after the borrowing date. If the Term Loan Facility is ever outstanding, the Company must maintain a minimum Fixed Charge Coverage Ratio of
1.25
and a maximum leverage ratio of
4.0
. The entire outstanding principal amount (if any) is due and payable at
November 20, 2021
. There were
no
amounts outstanding under the Term Loan Facility as of
December 31, 2017
.
The Term Loan Facility is also subject to a one-time excess cash flow payment for the 2018 fiscal year, which cannot exceed the least of (i)
50%
of excess cash flow, (ii)
$10 million
and (iii) the amount that would put the Company into cash dominion under the ABL Facility. The excess cash flow payment must be made within
60 days
after the delivery of audited financial statements for 2018.
Japan ABL Facility
The Company has a separate asset-based loan and guarantee agreement between its subsidiary in Japan and The Bank of Tokyo-Mitsubishi UFG, Ltd and The Development Bank of Japan (as amended, the "Japan ABL Facility"), which provides a credit facility of up to
2,000,000,000
Yen (or U.S.
$17,748,000
, using the exchange rate in effect as of
December 31, 2017
) over a
two
-year term, subject to borrowing base availability under the facility. The amounts outstanding are secured by certain assets, including eligible inventory. The Company had
1,550,000,000
Yen (or U.S.
$13,755,000
) outstanding under this facility at
December 31, 2017
. The facility also includes certain restrictions, including covenants related to certain pledged assets and financial performance metrics. As of
December 31, 2017
, the Company was in compliance with these covenants. This facility is subject to an effective interest rate equal to TIBOR plus
0.25%
. At
December 31, 2017
, the trailing 12-month average interest rate applicable to the Company's outstanding borrowings under this facility was
0.28%
.
During the first quarter of 2017, the Company entered into a second asset-based loan between its subsidiary in Japan and The Bank of Tokyo-Mitsubishi UFG, LTD, which provides a credit facility of up to
1,000,000,000
Yen (or U.S.
$8,874,000
) over a 10-month term, subject to borrowing base availability under the facility. The amounts outstanding are secured by certain assets, including eligible accounts receivable. The Company had
no
borrowings outstanding under this facility as of
December 31, 2017
. The facility also includes certain restrictions, including covenants related to certain pledged assets and financial performance metrics. As of
December 31, 2017
, the Company was in compliance with these covenants. This facility is
subject to an effective interest rate equal to TIBOR plus 0.75%
. At December 31, 2017, the trailing 12-month average interest rate applicable to the Company's outstanding loans under the Japan ABL Facility was subject to an effective interest rate of
0.78%
.
In January 2018, the Company renewed the
two
asset-based loans with the Bank of Tokyo-Mitsubishi UFJ, combining them into one revolving credit facility. The new agreement provides a credit facility of up to
4 billion
Yen (or
$36,776,000
, using the exchange rate in effect as of January 31, 2018) over a
three
-year term, subject to borrowing base availability under the facility. The amounts are secured by certain assets, including eligible inventory and accounts receivable.
The facility also includes certain restrictions, including covenants related to certain pledged assets and financial performance metrics. This facility is subject to an effective interest rate equal to TIBOR plus
0.80%
.
Equipment Note
In December 2017, the Company entered into a long-term financing agreement (the "Equipment Note") secured by certain equipment at the Company's golf ball manufacturing facility. As of
December 31, 2017
, the Company had
$11,815,000
outstanding under this agreement, of which
$2,367,000
is due within the next 12 months and
$9,448,000
is due over the balance of the term. The Company's interest rate applicable to outstanding borrowings was
3.79%
. At
December 31, 2017
, interest expense was nominal.
The Equipment Note is subject to compliance with a fixed charge coverage ratio covenant of
1.25
during each fiscal quarter in which the Company has outstanding borrowings, and a fixed charge coverage ratio of
1.0
during periods in which no borrowings are outstanding. As of
December 31, 2017
, the Company was in compliance with these covenants.
Convertible Senior Notes
In 2012, the Company issued
$112,500,000
of
3.75%
Convertible Senior Notes (the “convertible notes”). The convertible notes were convertible, at the option of the note holder, at any time on or prior to the close of business on the business day immediately preceding
August 15, 2019
, into shares of common stock at an initial conversion rate of 133.3333 shares per $1,000 principal amount of convertible notes, which is equal to an aggregate of
15,000,000
shares of common stock at a conversion price of approximately
$7.50
per share, subject to customary anti-dilution adjustments. In connection with these convertible notes, the Company incurred transactional fees of
$3,537,000
.
During the second half of 2015, the convertible notes were retired pursuant to certain exchange transactions and shareholder conversions, which resulted, among other things, in the issuance of approximately
15,000,000
shares of common stock to the note holders. In connection with the retirement of the convertible notes, the Company recorded
$108,955,000
in shareholders' equity as of December 31, 2015, net of the outstanding discount of
$3,395,000
. There were
no
convertible notes outstanding as of
December 31, 2017
and
2016
.
In connection with the retirement of the convertible notes in 2015, the Company accelerated the amortization of transaction fees during the second half of 2015. There were
no
transaction fees remaining to be amortized at
December 31, 2017
or
2016
. Total interest and amortization expense recognized during the year ended December 31, 2015 was
$3,158,000
.
Note 5. Earnings per Common Share
Basic earnings per common share is computed by dividing net income by the weighted-average number of common shares outstanding for the period.
Diluted earnings per common share takes into account the potential dilution that could occur if securities, or other contracts to issue common stock, were exercised. Dilutive securities are included in the calculation of diluted earnings per common share using the treasury stock method in accordance with ASC Topic 260, “Earnings per Share.” Dilutive securities include options granted pursuant to the Company’s stock option plans and outstanding restricted stock units and performance share units granted to employees and non-employee directors (see
Note 13
).
Weighted-average common shares outstanding—diluted is the same as weighted-average common shares outstanding—basic in periods when a net loss is reported or in periods when anti-dilution occurs.
The following table summarizes the computation of basic and diluted earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
(1)
|
|
2015
|
|
(In thousands, except per share data)
|
Earnings per common share—basic
|
|
|
|
|
|
Net income attributable to Callaway Golf Company
|
$
|
40,806
|
|
|
$
|
189,900
|
|
|
$
|
14,568
|
|
Weighted-average common shares outstanding—basic
|
94,329
|
|
|
94,045
|
|
|
83,116
|
|
Basic earnings per common share
|
$
|
0.43
|
|
|
$
|
2.02
|
|
|
$
|
0.18
|
|
|
|
|
|
|
|
Earnings per common share—diluted
|
|
|
|
|
|
Net income attributable to Callaway Golf Company
|
$
|
40,806
|
|
|
$
|
189,900
|
|
|
$
|
14,568
|
|
Weighted-average common shares outstanding—basic
|
94,329
|
|
|
94,045
|
|
|
83,116
|
|
Options and restricted stock
|
2,248
|
|
|
1,800
|
|
|
1,495
|
|
Weighted-average common shares outstanding—diluted
|
96,577
|
|
|
95,845
|
|
|
84,611
|
|
Diluted earnings per common share
(1)
|
$
|
0.42
|
|
|
$
|
1.98
|
|
|
$
|
0.17
|
|
|
|
(1)
|
During the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance on its U.S. deferred tax assets. This resulted in a favorable impact to net income of
$156,600,000
(
$1.63
per share), partially offset by
$15,974,000
(
$0.16
per share) as the result of the recognition of income taxes that were retroactive for all of 2016 on the Company's U.S. business (see
Note 10
). In addition, net income for 2016 includes a
$17,662,000
(
$0.18
per share) pre-tax gain from the sale of approximately
10.0%
of the Company's investment in Topgolf (see
Note 7
).
|
Earnings per share—diluted, reflects the potential dilution that could occur if convertible securities, or other contracts to issue common stock, were exercised or converted into common stock. Options with an exercise price in excess of the average market value of the Company's common stock during the period have been excluded from the calculation as their effect would be antidilutive.
Antidilutive securities excluded from the earnings per share computation are summarized as follows:
|
|
•
|
For the year ended December 31, 2017, securities outstanding totaling approximately
129,000
, comprised of anti-dilutive options.
|
|
|
•
|
For the year ended December 31, 2016, securities outstanding totaling approximately
313,000
, compromised of anti-dilutive options.
|
|
|
•
|
For the year ended December 31, 2015, securities outstanding totaling approximately
10,812,000
, including common shares underlying convertible senior notes of
10,248,000
, in addition to anti-dilutive options.
|
Note 6. Goodwill and Intangible Assets
Goodwill at
December 31, 2017
increased to
$56,429,000
from
$25,593,000
at
December 31, 2016
. The Company recorded additions to goodwill of
$5,885,000
and
$23,640,000
as a result of the acquisitions of OGIO completed in January 2017 and TravisMathew completed in August 2017, respectively. Goodwill also increased
$1,311,000
due to foreign currency fluctuations. The Company's goodwill is reported within the Golf Clubs and Gear, Accessories and Other operating segments (see Note 17).
In accordance with ASC Topic 350, “Intangibles—Goodwill and Other,” the Company’s goodwill and certain intangible assets are not amortized, but are subject to an annual impairment test. The following sets forth the intangible assets by major asset class:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Useful
Life
(Years)
|
|
December 31, 2017
|
|
December 31, 2016
|
|
Gross
|
|
Accumulated
Amortization
|
|
Net Book
Value
|
|
Gross
|
|
Accumulated
Amortization
|
|
Net Book
Value
|
|
|
|
|
|
(In thousands)
|
|
|
|
|
|
(In thousands)
|
|
|
Indefinite-lived:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Trade name, trademark and trade dress and other
|
NA
|
|
$
|
218,364
|
|
|
|
$
|
—
|
|
|
|
$
|
218,364
|
|
|
$
|
88,590
|
|
|
|
$
|
—
|
|
|
|
$
|
88,590
|
|
Amortizing:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Patents
|
2-16
|
|
31,581
|
|
|
|
31,491
|
|
|
|
90
|
|
|
31,581
|
|
|
|
31,440
|
|
|
|
141
|
|
Developed technology and other
|
1-9
|
|
15,780
|
|
|
|
8,476
|
|
|
|
7,304
|
|
|
7,981
|
|
|
|
7,981
|
|
|
|
—
|
|
Total intangible assets
|
|
|
$
|
265,725
|
|
|
|
$
|
39,967
|
|
|
|
$
|
225,758
|
|
|
$
|
128,152
|
|
|
|
$
|
39,421
|
|
|
|
$
|
88,731
|
|
The increase in intangible assets is related to the acquisition of non-amortizing trademarks, trade names and goodwill in addition to amortizing intangibles in connection with the OGIO and TravisMathew acquisitions. Aggregate amortization expense on intangible assets was approximately
$546,000
,
$71,000
and
$51,000
for the years ended
December 31, 2017
,
2016
and
2015
, respectively. Amortization expense related to intangible assets at
December 31, 2017
in each of the next five fiscal years and beyond is expected to be incurred as follows (in thousands):
|
|
|
|
|
2018
|
$
|
1,066
|
|
2019
|
1,053
|
|
2020
|
966
|
|
2021
|
910
|
|
2022
|
734
|
|
Thereafter
|
2,665
|
|
|
$
|
7,394
|
|
Note 7. Investments
Investment in Topgolf International, Inc.
The Company owns a minority interest in Topgolf International, Inc., doing business as the Topgolf Entertainment Group (“Topgolf”), the owner and operator of Topgolf entertainment centers, which ownership consists of common stock and various classes of preferred stock. In connection with this investment, the Company has a preferred partner agreement with Topgolf in which the Company has preferred signage rights, rights as the preferred supplier of golf products used or offered for use at Topgolf facilities at prices no less than those paid by the Company’s customers, preferred retail positioning in the Topgolf retail stores, access to consumer information obtained by Topgolf, and other rights incidental to those listed above.
The Company invested
$21,499,000
,
$1,448,000
and
$940,000
in shares of Topgolf in
2017
,
2016
and
2015
, respectively.
In December, 2017, Topgolf announced that it had completed a private placement led by Fidelity Management and Research Company (the "Fidelity Investment"), in which the Company invested
$20,000,000
in preferred shares of Topgolf. Due to the nature and timing of this transaction, the Company believes the carrying value of its series F preferred shares that were purchased in this private placement, approximates fair value as of December 31, 2017. The Company is unable to estimate the fair value of its other series of preferred stock or common stock due to the dissimilar nature of conversion rights, liquidation features and other preferred terms of these shares relative to the series F preferred shares. Further, it would not be practicable for the Company to determine the discount, if any, that would be applicable to any preferred terms, as well as any other rights provided to the holders of the various series of preferred stock, nor a premium, if any, for the incremental value that might apply in the case of a change in control transaction (e.g. an initial public offering or sale of Topgolf). The Company’s Topgolf shares are illiquid and there is no assurance that all classes of Topgolf shares would receive equivalent value upon a sale or other liquidation. Due to these factors, the Company believes that it is not practicable on a cost-benefit basis to estimate the fair value of its Topgolf shares.
In February 2016, Topgolf announced that Providence Equity Partners L.L.C. (“Providence Equity”) made a significant minority preferred stock investment in Topgolf (the “Providence Equity Investment”). As required by the terms of the Providence Equity Investment, Topgolf used a portion of the proceeds it received to repurchase shares from its existing shareholders, other than Providence Equity (the “Topgolf Repurchase Program”). In April 2016, the Company sold approximately
10.0%
or
$5,767,000
(on a cost basis) of its preferred shares in Topgolf under the Topgolf Repurchase Program for
$23,429,000
, and recognized a gain of approximately
$17,662,000
in other income (expense) during the second quarter.
In December 2015, the Company and Topgolf entered into a shareholder loan agreement, which resulted in a note receivable from Topgolf for
$3,200,000
. The loan was subject to an annual interest rate of
10%
, and was due and payable on March 30, 2016. The loan was paid in full in February 2016.
As of
December 31, 2017
and
2016
, the Company's total investment in Topgolf was
$70,495,000
and
$48,997,000
, respectively. The Company's ownership percentage at December 31, 2017 was approximately
14.0%
.
As of
December 31, 2017
, there were no impairment indicators present with respect to this investment. Based on prior observable market transactions, the Company believes that the fair value of its investment in Topgolf significantly exceeds its cost. In accordance with ASU No. 2016-01, "Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities," if there are any observable price changes related to this investment or a similar investment of the same issuer, in fiscal years beginning after December 15, 2017, the Company would be required to assess the fair value impact, if any, on each class of stock, and write the individual security interest up or down to its estimated fair value, which could have a significant effect on the Company's financial position and results of operations. For further discussion, see “Recent Accounting Standards” in Note 2.
The Company’s total ownership interest in Topgolf, including the Company's voting rights in the preferred shares of Topgolf, remains at less than 20.0% of the outstanding equity securities of Topgolf. Therefore, the Company does not have the ability to significantly influence the operating and financing activities and policies of Topgolf. Accordingly, this investment is accounted for at cost as of
December 31, 2017
.
Note 8. Joint Venture
Effective July 1, 2016, the Company completed the previously announced joint venture with its long-time apparel licensee, TSI Groove & Sports Co, Ltd., ("TSI"), a premier apparel manufacturer in Japan. The new venture is named Callaway Apparel K.K. and includes the design, manufacture and distribution of Callaway-branded apparel, footwear and headwear in Japan. The Company contributed
$10,556,000
, primarily in cash, for a
52%
ownership of the joint venture, and TSI contributed
$9,744,000
,
primarily in inventory, for the remaining
48%
. The Company has a majority voting percentage on matters pertaining to the business operations and significant management decisions of the joint venture, and as such, the Company is required to consolidate the financial results of the joint venture with the financial results of the Company. The joint venture was consolidated one month in arrears.
As a result of the consolidation, during the years ended
December 31, 2017
and 2016, the Company recorded net income attributable to the non-controlling interest of
$861,000
and
$1,054,000
, respectively. During the year ended
December 31, 2017
, the joint venture paid a dividend of
$974,000
to TSI, which was recorded as a reduction in non-controlling interests in the consolidated condensed financial statements as of
December 31, 2017
. Total non-controlling interests on the Company's consolidated balance sheet and consolidated statement of shareholders' equity was
$9,744,000
and
$9,694,000
at
December 31, 2017
and
2016
, respectively.
Note 9. Selected Financial Statement Information
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
2017
|
|
2016
|
|
(In thousands)
|
Accounts receivable, net:
|
|
|
|
Trade accounts receivable
|
$
|
114,642
|
|
|
$
|
142,932
|
|
Allowance for sales returns
|
(15,470
|
)
|
|
(9,341
|
)
|
Allowance for doubtful accounts
|
(4,447
|
)
|
|
(5,728
|
)
|
|
$
|
94,725
|
|
|
$
|
127,863
|
|
Inventories:
|
|
|
|
Raw materials
|
$
|
67,785
|
|
|
$
|
46,451
|
|
Work-in-process
|
868
|
|
|
739
|
|
Finished goods
|
193,833
|
|
|
142,210
|
|
|
$
|
262,486
|
|
|
$
|
189,400
|
|
Property, plant and equipment, net:
|
|
|
|
Land
|
$
|
7,322
|
|
|
$
|
7,251
|
|
Buildings and improvements
|
71,692
|
|
|
67,945
|
|
Machinery and equipment
|
98,116
|
|
|
110,799
|
|
Furniture, computers and equipment
|
108,706
|
|
|
102,421
|
|
Production molds
|
19,604
|
|
|
19,843
|
|
Construction-in-process
|
10,665
|
|
|
4,724
|
|
|
316,105
|
|
|
312,983
|
|
Accumulated depreciation
|
(245,878
|
)
|
|
(258,508
|
)
|
|
$
|
70,227
|
|
|
$
|
54,475
|
|
Accounts payable and accrued expenses:
|
|
|
|
Accounts payable
|
$
|
63,204
|
|
|
$
|
54,574
|
|
Accrued expenses
|
87,925
|
|
|
57,478
|
|
Accrued goods in-transit
|
24,998
|
|
|
20,469
|
|
|
$
|
176,127
|
|
|
$
|
132,521
|
|
Accrued employee compensation and benefits:
|
|
|
|
Accrued payroll and taxes
|
$
|
29,363
|
|
|
$
|
23,133
|
|
Accrued vacation and sick pay
|
9,781
|
|
|
8,722
|
|
Accrued commissions
|
1,029
|
|
|
713
|
|
|
$
|
40,173
|
|
|
$
|
32,568
|
|
Note 10. Income Taxes
The Company’s income before income tax provision was subject to taxes in the following jurisdictions for the following periods (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
(1)
|
|
2015
|
United States
|
$
|
50,706
|
|
|
$
|
38,268
|
|
|
$
|
6,864
|
|
Foreign
|
17,349
|
|
|
20,125
|
|
|
13,199
|
|
|
$
|
68,055
|
|
|
$
|
58,393
|
|
|
$
|
20,063
|
|
The expense (benefit) for income taxes is comprised of (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
(2)
|
|
2015
|
Current tax provision:
|
|
|
|
|
|
Federal
|
$
|
610
|
|
|
$
|
541
|
|
|
$
|
271
|
|
State
|
1,259
|
|
|
543
|
|
|
431
|
|
Foreign
|
6,135
|
|
|
7,289
|
|
|
4,393
|
|
|
8,004
|
|
|
8,373
|
|
|
5,095
|
|
Deferred tax expense (benefit):
|
|
|
|
|
|
Federal
|
20,746
|
|
|
(129,405
|
)
|
|
(41
|
)
|
State
|
(1,127
|
)
|
|
(10,693
|
)
|
|
113
|
|
Foreign
|
(1,235
|
)
|
|
(836
|
)
|
|
328
|
|
|
18,384
|
|
|
(140,934
|
)
|
|
400
|
|
Income tax provision
|
$
|
26,388
|
|
|
$
|
(132,561
|
)
|
|
$
|
5,495
|
|
|
|
(1)
|
Income before income taxes in 2016 includes a gain of
$17,662,000
that was recognized in connection with the sale of preferred shares of the Company's investment in Topgolf. See Note 7 for further discussion.
|
|
|
(2)
|
The income tax benefit for 2016 includes the reversal of a significant portion of the valuation allowance on the Company's deferred tax assets in the U.S. See further discussion below.
|
On December 22, 2017, the Tax Act was enacted into legislation, which includes a broad range of provisions affecting businesses. The Tax Act significantly revises how companies compute their U.S corporate tax liability by, among other provisions, reducing the corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017, implementing a territorial tax system, and requiring a mandatory one-time tax on U.S. owned undistributed foreign earnings and profits known as the toll charge or transition tax.
Pursuant to the SEC Staff Accounting Bulletin ("SAB") No. 118, "Income Tax Accounting Implications of the Tax Cuts and Jobs Act" ("SAB 118"), a company may select among one of three scenarios to reflect the impact of the Tax Act in its financial statements within a measurement period. Those scenarios are (i) a final estimate which effectively closes the measurement period; (ii) a reasonable estimate leaving the measurement period open for future revisions; and (iii) no estimate as the law is still being analyzed in which case a company continues to apply its accounting on the basis of the provisions of the tax laws that were in effect immediately before the enactment of the Tax Act. SAB 118 allows for the reporting provisional of amounts for certain income tax effects in scenarios (ii) and (iii). The measurement period begins in the reporting period that includes the Tax Act’s enactment date and ends when an entity has obtained, prepared, and analyzed the information that was needed in order to complete the accounting requirements under ASC Topic 740. The Company was able to provide a reasonable estimate for the revaluation of deferred taxes and the effects of the toll charge on undistributed foreign earnings and profits, with the Company's measurement period open for future revisions. As such, the Company recorded a provisional tax expense in the amount of
$11,174,000
related to the revaluation of deferred taxes, and a provisional tax benefit in the amount of
$3,638,000
for the toll charge on the deemed repatriation on earnings and profits of U.S.-owned foreign subsidiaries, which generated foreign tax credits in excess of the tax expense recognized on the deemed repatriation. The Company is still evaluating various provisions included in the Tax Act and has therefore not provided a final estimate. These provisions include, but are not limited to, the global intangible low-taxed income (GILTI) provisions, the foreign derived intangible income (FDII) provisions, and the changes to the deductibility of interest. These
provisions will be effective for the Company beginning on January 1, 2018, and may materially impact the Company’s effective tax rate in future years.
Significant components of the Company’s deferred tax assets and liabilities as of
December 31, 2017
and
2016
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
2017
|
|
2016
|
Deferred tax assets:
|
|
|
|
Reserves and allowances not currently deductible for tax purposes
|
$
|
12,783
|
|
|
$
|
15,506
|
|
Basis difference related to fixed assets
|
5,946
|
|
|
9,697
|
|
Compensation and benefits
|
7,807
|
|
|
9,273
|
|
Basis difference for inventory valuation
|
1,612
|
|
|
2,100
|
|
Compensatory stock options and rights
|
3,869
|
|
|
5,715
|
|
Deferred revenue and other
|
175
|
|
|
226
|
|
Operating loss carryforwards
|
21,799
|
|
|
75,110
|
|
Tax credit carryforwards
|
62,668
|
|
|
32,730
|
|
Basis difference related to intangible assets with a definite life
|
7,061
|
|
|
13,993
|
|
Other
|
634
|
|
|
389
|
|
Total deferred tax assets
|
124,354
|
|
|
164,739
|
|
Valuation allowance for deferred tax assets
|
(11,114
|
)
|
|
(16,515
|
)
|
Deferred tax assets, net of valuation allowance
|
$
|
113,240
|
|
|
$
|
148,224
|
|
Deferred tax liabilities:
|
|
|
|
Prepaid expenses
|
(773
|
)
|
|
(1,082
|
)
|
Basis difference related to intangible assets with an indefinite life
|
(22,891
|
)
|
|
(34,031
|
)
|
Total deferred tax liabilities
|
(23,664
|
)
|
|
(35,113
|
)
|
Net deferred tax assets
|
$
|
89,576
|
|
|
$
|
113,111
|
|
Net deferred tax assets (liabilities) are shown on the accompanying consolidated balance sheets as follows:
|
|
|
|
Non-current deferred tax assets
|
$
|
91,398
|
|
|
$
|
114,707
|
|
Non-current deferred tax liabilities
|
(1,822
|
)
|
|
(1,596
|
)
|
Net deferred tax assets
|
$
|
89,576
|
|
|
$
|
113,111
|
|
The net change in net deferred taxes in 2017 of
$23,535,000
is comprised of the utilization of net operating losses through profitable operations and the revaluation of the deferred tax assets as a result of the Tax Act. Pursuant to the Tax Act, the Company revalued its gross deferred tax assets from 35% to 21% consistent with the corporate tax rate effective January 1, 2018. The provisional net tax impact of this revaluation was a reduction in net deferred tax assets of
$11,174,000
.
Deferred tax assets and liabilities result from temporary differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that are anticipated to be in effect at the time the differences are expected to reverse. The realization of the deferred tax assets, including loss and credit carry forwards, is subject to the Company generating sufficient taxable income during the periods in which the temporary differences become realizable. In accordance with the applicable accounting rules, the Company maintains a valuation allowance for a deferred tax asset when it is deemed to be more likely than not that some or all of the deferred tax assets will not be realized. In evaluating whether a valuation allowance is required under such rules, the Company considers all available positive and negative evidence, including prior operating results, the nature and reason for any losses, its forecast of future taxable income, and the dates on which any deferred tax assets are expected to expire. These assumptions require a significant amount of judgment, including estimates of future taxable income. These estimates are based on the Company’s best judgment at the time made based on current and projected circumstances and conditions.
In 2011, the Company established a valuation allowance against its U.S. deferred tax assets. During the fourth quarter of 2016, the Company evaluated all available positive and negative evidence, including the Company's improved profitability in 2015 and 2016, combined with future projections of profitability. As a result, the Company determined that the majority of its U.S.
deferred tax assets were more likely than not to be realized and reversed a significant portion of the valuation allowance against those deferred tax assets accordingly. The remaining valuation allowance on the Company's U.S. deferred tax assets as of December 31, 2017 and 2016 relate primarily to state net operating loss carryforwards and credits the Company estimates it may not be able to utilize in future periods. With respect to non-U.S. entities, there continues to be sufficient positive evidence to conclude that realization of its deferred tax assets is more likely than not under applicable accounting rules, and no significant allowances have been established.
At
December 31, 2017
, the Company had federal and state income tax credit carryforwards of
$56,285,000
and
$15,499,000
, respectively, which will expire at various dates beginning in
2021
. Such credit carryforwards expire as follows (in thousands):
|
|
|
|
|
|
|
U.S. foreign tax credit
|
$
|
46,639
|
|
|
2021 - 2037
|
U.S. research tax credit
|
$
|
9,623
|
|
|
2031 - 2037
|
U.S. business tax credits
|
$
|
23
|
|
|
2031 - 2037
|
State investment tax credits
|
$
|
858
|
|
|
Do not expire
|
State research tax credits
|
$
|
14,641
|
|
|
Do not expire
|
The Company has recorded a deferred tax asset reflecting the benefit of operating loss carryforwards. The net operating losses expire as follows (in thousands):
|
|
|
|
|
|
|
U.S. loss carryforwards
|
$
|
63,493
|
|
|
2032 - 2035
|
State loss carryforwards
|
$
|
124,466
|
|
|
2018 - 2037
|
The Company’s ability to utilize the losses and credits to offset future taxable income may be deferred or limited significantly if the Company were to experience an “ownership change” as defined in section 382 of the Internal Revenue Code of 1986, as amended (the “Code”). In general, an ownership change will occur if there is a cumulative change in ownership of the Company’s stock by “5-percent shareholders” (as defined in the Code) that exceeds 50 percentage points over a rolling three-year period. The Company determined that no ownership change has occurred for purposes of Section 382 for the period ended
December 31, 2017
.
A reconciliation of the effective tax rate on income or loss and the statutory tax rate is as follows:
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
Statutory U.S. tax rate
|
35.0
|
%
|
|
35.0
|
%
|
|
35.0
|
%
|
State income taxes, net of U.S. tax benefit
|
2.6
|
%
|
|
3.1
|
%
|
|
3.5
|
%
|
Federal and State tax credits, net of U.S. tax benefit
|
(4.1
|
)%
|
|
(5.0
|
)%
|
|
(11.5
|
)%
|
Foreign income taxed at other than U.S. statutory rate
|
(0.2
|
)%
|
|
1.8
|
%
|
|
(2.4
|
)%
|
Effect of foreign rate changes
|
0.2
|
%
|
|
0.5
|
%
|
|
0.9
|
%
|
Foreign tax credit
|
(1.3
|
)%
|
|
(11.3
|
)%
|
|
(12.0
|
)%
|
Basis differences of intangibles with an indefinite life
|
0.1
|
%
|
|
0.1
|
%
|
|
0.1
|
%
|
Change in deferred tax valuation allowance
|
(1.9
|
)%
|
|
(262.4
|
)%
|
|
0.3
|
%
|
Accrual for interest and income taxes related to uncertain tax positions
|
2.2
|
%
|
|
2.9
|
%
|
|
(0.3
|
)%
|
Income (loss) from flowthrough entities
|
1.0
|
%
|
|
(0.2
|
)%
|
|
(2.0
|
)%
|
Meals and entertainment
|
1.1
|
%
|
|
1.5
|
%
|
|
3.4
|
%
|
Group loss relief
|
(0.6
|
)%
|
|
(1.6
|
)%
|
|
(3.7
|
)%
|
Stock option compensation
|
(2.0
|
)%
|
|
0.2
|
%
|
|
(1.9
|
)%
|
Foreign dividends and earnings inclusion
|
0.7
|
%
|
|
9.9
|
%
|
|
7.1
|
%
|
Foreign tax withholding
|
0.9
|
%
|
|
0.6
|
%
|
|
1.4
|
%
|
Executive compensation limitation
|
0.5
|
%
|
|
0.7
|
%
|
|
4.3
|
%
|
Intra-entity asset transfers
|
(6.3
|
)%
|
|
—
|
%
|
|
—
|
%
|
Enactment of the Tax Cuts and Jobs Act
|
11.1
|
%
|
|
—
|
%
|
|
—
|
%
|
Other
|
(0.2
|
)%
|
|
(2.8
|
)%
|
|
5.2
|
%
|
Effective tax rate
|
38.8
|
%
|
|
(227.0
|
)%
|
|
27.4
|
%
|
A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
Balance at January 1
|
$
|
8,256
|
|
|
$
|
7,090
|
|
|
$
|
6,559
|
|
Additions based on tax positions related to the current year
|
1,061
|
|
|
969
|
|
|
1,120
|
|
Additions for tax positions of prior years
|
233
|
|
|
542
|
|
|
132
|
|
Reductions for tax positions of prior years
|
(192
|
)
|
|
(80
|
)
|
|
(255
|
)
|
Settlement of tax audits
|
(33
|
)
|
|
—
|
|
|
—
|
|
Reductions due to lapsed statute of limitations
|
(25
|
)
|
|
(265
|
)
|
|
(466
|
)
|
Balance at December 31
|
$
|
9,300
|
|
|
$
|
8,256
|
|
|
$
|
7,090
|
|
As of
December 31, 2017
, the gross liability for income taxes associated with uncertain tax benefits was
$9,300,000
. This liability could be reduced by
$1,360,000
of offsetting tax benefits associated with the correlative effects of potential transfer pricing adjustments, which was recorded as a long-term income tax receivable, as well as
$6,317,000
of deferred taxes. The net amount of
$1,623,000
, if recognized, would affect the Company’s financial statements and favorably affect the Company’s effective income tax rate.
The Company does not expect changes to the unrecognized tax benefits in the next 12 months to have a material impact on its results of operations or its financial position.
The Company recognizes interest and/or penalties related to income tax matters in income tax expense. The Company recognized a tax expense of approximately
$301,000
and
$258,000
for the years ended
December 31, 2017
and
2016
, respectively, and tax benefits of approximately
$2,000
for the year ended December 31, 2015, related to interest and penalties in the provision for income taxes. As of
December 31, 2017
and
2016
, the gross amount of accrued interest and penalties included in income taxes payable in the accompanying consolidated balance sheets was
$1,618,000
and
$1,317,000
, respectively.
The Company or one of its subsidiaries files income tax returns in the U.S. federal jurisdiction and various states and foreign jurisdictions. The Company is generally no longer subject to income tax examinations by tax authorities in its major jurisdictions as follows:
|
|
|
Major Tax Jurisdiction
|
Years No Longer Subject to Audit
|
U.S. federal
|
2010 and prior
|
California (U.S.)
|
2008 and prior
|
Canada
|
2009 and prior
|
Japan
|
2010 and prior
|
South Korea
|
2011 and prior
|
United Kingdom
|
2013 and prior
|
As of
December 31, 2017
, the Company had
$118,700,000
of undistributed foreign earnings and profits. Pursuant to the Tax Act, the Company’s undistributed foreign earnings and profits were deemed repatriated as of December 31, 2017. As a result, the Company utilized
$72,800,000
of net operating losses, which decreased deferred tax assets by approximately
$25,500,000
and generated foreign tax credits of
$29,100,000
, which increased deferred tax assets by
$29,100,000
and resulted in a net tax benefit of
$3,600,000
or a
5.2%
benefit to the tax rate. The Company has not provided deferred tax liabilities for foreign withholding taxes and certain state income taxes on the undistributed earnings and profits from certain non-U.S. subsidiaries that will be permanently reinvested outside the United States.
Upon the distribution of foreign earnings and profits, certain foreign countries impose withholding taxes, subject to certain limitations, for use as credits against the Company’s U.S. tax liability, if any. If the foreign earnings and profits were distributed, the Company would need to accrue an additional income tax liability. However, the Company may also be allowed a credit against substantially all the Company’s U.S. tax liability for the taxes paid in foreign jurisdictions. The Company expects the net impact on the Company’s U.S. tax liability to be insignificant.
Note 11. Commitments & Contingencies
Legal Matters
The Company is subject to routine legal claims, proceedings and investigations incident to its business activities, including claims, proceedings, and investigations relating to commercial disputes and employment matters. The Company also receives from time to time information claiming that products sold by the Company infringe or may infringe patent, trademark or other intellectual property rights of third parties. One or more such claims of potential infringement could lead to litigation, the need to obtain licenses, the need to alter a product to avoid infringement, a settlement or judgment or some other action or material loss by the Company, which also could adversely affect the Company’s overall ability to protect its product designs and ultimately limit its future success in the marketplace. In addition, the Company is occasionally subject to non-routine claims, proceedings or investigations.
The Company regularly assesses such matters to determine the degree of probability that the Company will incur a material loss as a result of such matters as well as the range of possible loss. An estimated loss contingency is accrued in the Company’s financial statements if it is probable the Company will incur a loss and the amount of the loss can be reasonably estimated. The Company reviews all claims, proceedings and investigations at least quarterly and establishes or adjusts any accruals for such matters to reflect the impact of negotiations, settlements, advice of legal counsel and other information and events pertaining to a particular matter. All legal costs associated with such matters are expensed as incurred.
Historically, the claims, proceedings and investigations brought against the Company, individually and in the aggregate, have not had a material adverse effect on the consolidated results of operations, cash flows or financial position of the Company. The Company believes that it has valid legal defenses to the matters currently pending against the Company. These matters are inherently unpredictable and the resolutions of these matters are subject to many uncertainties and the outcomes are not predictable with assurance. Consequently, management is unable to estimate the ultimate aggregate amount of monetary loss, amounts covered by insurance or the financial impact that will result from such matters. In addition, the Company cannot assure that it will be able to successfully defend itself in those matters or that any amounts accrued are sufficient. The Company does not believe that the matters currently pending against the Company will have a material adverse effect on the Company's consolidated business, financial condition, cash flows or results of operations on an annual basis.
Lease Commitments
The Company leases certain warehouse, distribution and office facilities, vehicles and office equipment under operating leases, and certain office equipment under capital leases. Lease terms range from
one
to
ten years
expiring at various dates through December 2025, with options to renew operating leases at varying terms. Commitments for minimum lease payments under non-cancelable operating and capital leases as of
December 31, 2017
are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
Operating Leases
|
|
Capital Leases
|
2018
|
$
|
8,538
|
|
|
$
|
230
|
|
2019
|
8,437
|
|
|
71
|
|
2020
|
7,409
|
|
|
14
|
|
2021
|
6,458
|
|
|
7
|
|
2022
|
6,220
|
|
|
4
|
|
Thereafter
|
17,206
|
|
|
—
|
|
|
$
|
54,268
|
|
|
$
|
326
|
|
Rent expense for the Company’s operating lease commitments for the years ended
December 31, 2017
,
2016
and
2015
was
$16,382,000
,
$13,516,000
and
$13,245,000
, respectively. At
December 31, 2017
, the minimum rental payments under capital leases totaled
$326,000
. Minimum rental payments under operating leases with initial or remaining terms of one year or more totaled
$54,268,000
, net of sublease receipts of
$690,000
at
December 31, 2017
.
Unconditional Purchase Obligations
During the normal course of its business, the Company enters into agreements to purchase goods and services, including purchase commitments for production materials, endorsement agreements with professional golfers and other endorsers, employment and consulting agreements, and intellectual property licensing agreements pursuant to which the Company is required to pay royalty fees. It is not possible to determine the amounts the Company will ultimately be required to pay under these agreements
as they are subject to many variables including performance-based bonuses, severance arrangements, the Company’s sales levels, and reductions in payment obligations if designated minimum performance criteria are not achieved. As of
December 31, 2017
, the Company has entered into many of these contractual agreements with terms ranging from
one
to
five years
. The aggregate minimum obligations that the Company is required to pay under these agreements is
$72,459,000
over the next five years. In addition, the Company also enters into unconditional purchase obligations with various vendors and suppliers of goods and services in the normal course of operations through purchase orders or other documentation or that are undocumented except for an invoice. Such unconditional purchase obligations are generally outstanding for periods less than a year and are settled by cash payments upon delivery of goods and services and are not reflected in this total. Future purchase commitments as of
December 31, 2017
, are as follows (in thousands):
|
|
|
|
|
2018
|
$
|
39,338
|
|
2019
|
18,841
|
|
2020
|
8,519
|
|
2021
|
4,093
|
|
2022
|
1,668
|
|
|
$
|
72,459
|
|
Other Contingent Contractual Obligations
During its normal course of business, the Company has made certain indemnities, commitments and guarantees under which it may be required to make payments in relation to certain transactions. These include (i) intellectual property indemnities to the Company’s customers and licensees in connection with the use, sale and/or license of Company product or trademarks, (ii) indemnities to various lessors in connection with facility leases for certain claims arising from such facilities or leases, (iii) indemnities to vendors and service providers pertaining to the goods and services provided to the Company or based on the negligence or willful misconduct of the Company and (iv) indemnities involving the accuracy of representations and warranties in certain contracts. In addition, the Company has consulting agreements that provide for payment of nominal fees upon the issuance of patents and/or the commercialization of research results. The Company has also issued guarantees in the form of standby letters of credit of
$887,000
as of
December 31, 2017
.
The duration of these indemnities, commitments and guarantees varies, and in certain cases, may be indefinite. The majority of these indemnities, commitments and guarantees do not provide for any limitation on the maximum amount of future payments the Company could be obligated to make. Historically, costs incurred to settle claims related to indemnities have not been material to the Company’s financial position, results of operations or cash flows. In addition, the Company believes the likelihood is remote that payments under the commitments and guarantees described above will have a material effect on the Company’s financial condition. The fair value of indemnities, commitments and guarantees that the Company issued during and as of the year ended
December 31, 2017
was not material to the Company’s financial position, results of operations or cash flows.
Employment Contracts
In addition, the Company has made contractual commitments to each of its officers and certain other employees providing for severance payments, including salary continuation, upon the termination of employment by the Company without substantial cause or by the officer for good reason or non-renewal. In addition, in order to assure that the officers would continue to provide independent leadership consistent with the Company’s best interest, the contracts also generally provide for certain protections in the event of a change in control of the Company. These protections include the payment of certain severance benefits, such as salary continuation, upon the termination of employment following a change in control.
Note 12. Capital Stock
Common Stock and Preferred Stock
As of
December 31, 2017
, the Company has an authorized capital of
243,000,000
shares,
$0.01
par value, of which
240,000,000
shares are designated common stock, and
3,000,000
shares are designated preferred stock. Of the preferred stock,
240,000
shares are designated Series A Junior Participating Preferred Stock and the remaining shares of preferred stock are undesignated as to series, rights, preferences, privileges or restrictions.
The holders of common stock are entitled to one vote for each share of common stock on all matters submitted to a vote of the Company’s shareholders.
Although to date no shares of Series A Junior Participating preferred stock have been issued, if such
shares were issued,
each share of Series A Junior Participating Preferred Stock would entitle the holder thereof to 1,000 votes on all matters submitted to a vote of the shareholders of the Company
. The holders of Series A Junior Participating Preferred Stock and the holders of common stock shall generally vote together as one class on all matters submitted to a vote of the Company’s shareholders. Shareholders entitled to vote for the election of directors are entitled to vote cumulatively for one or more nominees.
Treasury Stock and Stock Repurchases
In August 2014, the Company's Board of Directors authorized a
$50,000,000
share repurchase program under which the Company is authorized to repurchase shares of its common stock in the open market or in private transactions, subject to the Company’s assessment of market conditions and buying opportunities. The repurchases are made consistent with the terms of the Company's credit facility which defines the amount of stock that can be repurchased. The repurchase program will remain in effect until completed or until terminated by the Board of Directors.
During
2017
, the Company repurchased approximately
1,536,000
shares of its common stock under the 2014 repurchase program at an average cost per share of
$10.82
, for a total cost of
$16,617,000
. Included in these amounts are
$6,617,000
of shares the Company withheld to satisfy the Company's tax withholding obligations in connection with the vesting and settlement of employee restricted stock unit awards. The Company’s repurchases of shares of common stock are recorded at cost and result in a reduction of shareholders’ equity. As of
December 31, 2017
, the total amount remaining under the repurchase authorization was
$25,266,000
.
Note 13. Share-Based Employee Compensation
The Company accounts for its share-based compensation arrangements in accordance with ASC Topic 718, which requires the measurement and recognition of compensation expense for all share-based payment awards to employees and directors based on estimated fair values. ASC Topic 718 further requires a reduction in share-based compensation expense by an estimated forfeiture rate. The forfeiture rate used by the Company is based on historical forfeiture trends. If actual forfeiture rates are not consistent with the Company’s estimates, the Company may be required to increase or decrease compensation expenses in future periods.
On January 1, 2017 the Company adopted ASU 2016-09. As a result, all tax effects related to employee share based compensation are reflected as a component of continuing operations. The previous “APIC Pool” method under ASC Topic 718 is no longer applicable to the Company. For further discussion see Note 2.
Stock Plans
As of
December 31, 2017
, the Company had
two
shareholder approved stock plans under which shares were available for equity-based awards: the Callaway Golf Company Amended and Restated 2004 Incentive Plan (the "2004 Incentive Plan") and the 2013 Non-Employee Directors Stock Incentive Plan (the "2013 Directors Plan").
The 2004 Incentive Plan permits the granting of stock options, stock appreciation rights, restricted stock awards, restricted stock units, performance share units and other equity-based awards to the Company’s officers, employees, consultants and certain other non-employees who provide services to the Company. All grants under the 2004 Incentive Plan are discretionary, although no participant may receive awards in any one year in excess of
2,000,000
shares. The maximum number of shares issuable over the term of the 2004 Incentive Plan is
33,000,000
.
The 2013 Directors Plan permits the granting of stock options, restricted stock awards and restricted stock units to eligible directors serving on the Company's Board of Directors. The Directors may receive a one-time grant upon their initial appointment to the Board and thereafter an annual grant upon being re-elected at each annual meeting of shareholders, not to exceed
50,000
shares within any calendar year. The maximum number of shares issuable over the term of the 2013 Directors Plan is
1,000,000
.
The following table presents shares authorized, available for future grant and outstanding under each of the Company’s plans as of
December 31, 2017
:
|
|
|
|
|
|
|
|
|
|
|
Authorized
|
|
Available
|
|
Outstanding
(1)
|
|
(In thousands)
|
2004 Incentive Plan
|
33,000
|
|
|
10,875
|
|
|
3,635
|
|
2013 Directors Plan
|
1,000
|
|
|
747
|
|
|
60
|
|
Total
|
34,000
|
|
|
11,622
|
|
|
3,695
|
|
|
|
(1)
|
Includes
6,000
shares of accrued incremental dividend equivalent rights on outstanding shares underlying restricted stock units granted under the 2004 Incentive Plan and 2013 Directors Plan.
|
Stock Options
All stock option grants made under the 2004 Incentive Plan are made at exercise prices no less than the Company’s closing stock price on the date of grant. Outstanding stock options generally vest over a
three
-year period from the grant date and generally expire up to
10
years after the grant date. The Company recorded
$34,000
,
$146,000
and
$1,396,000
of compensation expense relating to outstanding stock options for the years ended
December 31, 2017
,
2016
and
2015
, respectively.
The Company records compensation expense for employee stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model. The model uses various assumptions, including a risk-free interest rate, the expected term of the options, the expected stock price volatility, and the expected dividend yield. Compensation expense for employee stock options is recognized over the vesting term and is reduced by an estimate for forfeitures, which is based on the Company’s historical forfeitures of unvested options and awards. The Company did not grant stock options during the years ended
December 31, 2017
,
2016
and
2015
. For the years ended
December 31, 2017
,
2016
and
2015
, the weighted average estimated forfeiture rate used was
1.7%
,
3.7%
, and
6.2%
, respectively.
The Company uses forecasted dividends to estimate the expected dividend yield. The expected volatility is based on the historical volatility of the Company’s stock. The risk-free interest rate is based on the U.S. Treasury yield curve at the date of grant with maturity dates approximately equal to the expected term of the options at the date of the grant. The expected life of the Company’s options is based on evaluations of historical employee exercise behavior, forfeitures, cancellations and other factors. The valuation model applied in this calculation utilizes highly subjective assumptions that could potentially change over time. Changes in the subjective input assumptions can materially affect the fair value estimates of an option. Furthermore, the estimated fair value of an option does not necessarily represent the value that will ultimately be realized by the employee holding the option.
The following table summarizes the Company’s stock option activities for the year ended
December 31, 2017
(in thousands, except price per share and contractual term):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options
|
Number of
Shares
|
|
Weighted-
Average
Exercise Price
Per Share
|
|
Weighted-
Average
Remaining
Contractual
Term
|
|
Aggregate
Intrinsic
Value
|
Outstanding at January 1, 2017
|
1,783
|
|
|
$
|
7.92
|
|
|
|
|
|
Granted
|
—
|
|
|
$
|
—
|
|
|
|
|
|
Exercised
|
(681
|
)
|
|
$
|
7.87
|
|
|
|
|
|
Forfeited
|
—
|
|
|
$
|
—
|
|
|
|
|
|
Expired
|
(122
|
)
|
|
$
|
14.37
|
|
|
|
|
|
Outstanding at December 31, 2017
|
980
|
|
|
$
|
7.15
|
|
|
4.44
|
|
$
|
6,702
|
|
Vested and expected to vest in the future at December 31, 2017
|
980
|
|
|
$
|
7.15
|
|
|
4.44
|
|
$
|
6,701
|
|
Exercisable at December 31, 2017
|
968
|
|
|
$
|
7.15
|
|
|
4.43
|
|
$
|
6,619
|
|
At
December 31, 2017
, there was
$14,000
of total unrecognized compensation expense related to options granted to employees under the Company’s share-based payment plans. That cost is expected to be recognized over a weighted-average period of
0.4 years
. The amount of unrecognized compensation expense noted above does not necessarily represent the amount that will ultimately be realized by the Company in its consolidated statement of operations.
The total intrinsic value for options exercised during the years ended
December 31, 2017
,
2016
and
2015
was
$3,546,000
,
$1,005,000
and
$2,151,000
, respectively. Cash received from the exercise of stock options for the years ended
December 31, 2017
,
2016
and
2015
was
$5,362,000
,
$2,637,000
and
$6,565,000
, respectively.
Restricted Stock Units
Restricted stock units awarded under the 2004 Incentive Plan and the 2013 Directors Plan are recorded at the Company’s closing stock price on the date of grant. Restricted stock units generally vest over a
one
- to
three
-year period. At
December 31, 2017
,
2016
and
2015
, the weighted average grant-date fair value of restricted stock units granted was
$10.94
,
$9.36
and
$8.33
, respectively. The Company recorded
$5,537,000
,
$4,283,000
and
$3,539,000
of compensation expense related to restricted stock units in
2017
,
2016
and
2015
, respectively.
The table below is a roll-forward of the activity for restricted stock units during the 12 months ended
December 31, 2017
(in thousands, except fair value amounts):
|
|
|
|
|
|
|
|
Restricted Stock Units
|
Units
|
|
Weighted-
Average
Grant-Date
Fair Value
|
Nonvested at January 1, 2017
|
1,419
|
|
|
$
|
8.81
|
|
Granted
|
680
|
|
|
10.94
|
|
Vested
|
(797
|
)
|
|
8.54
|
|
Forfeited
|
(26
|
)
|
|
9.47
|
|
Nonvested at December 31, 2017
1
|
1,276
|
|
|
$
|
10.09
|
|
|
|
(1)
|
Excludes
6,000
shares of accrued incremental dividend equivalent rights on outstanding shares underlying restricted stock units granted under the 2004 Incentive Plan and 2013 Directors Plan.
|
At
December 31, 2017
, there was
$8,692,000
of total unrecognized compensation expense related to nonvested restricted stock units granted to employees under the Company’s share-based payment plans. That cost is expected to be recognized over a weighted-average period of
2.4 years
.
Performance Share Units
Performance share units granted under the 2004 Incentive Plan are stock-based awards in which the number of shares ultimately received depends on the Company's performance against specified metrics over a
one
- to
three
-year performance period from the date of grant. These performance metrics are established by the Company at the beginning of the performance period. At the end of the performance period, the number of shares of stock that could be issued is fixed based upon the degree of achievement of the performance goals. The number of shares that could be issued can range from
0%
to
200%
of the participant's target award. Performance share units are initially valued at the Company's closing stock price on the date of grant. Stock compensation expense, net of estimated forfeitures, is recognized on a straight-line basis over the vesting period. The expense recognized over the vesting period is adjusted up or down based on the anticipated performance level during the performance period. If the performance metrics are not probable of achievement during the performance period, compensation expense would be reversed. The awards are forfeited if the threshold performance metrics are not achieved as of the end of the performance period. The performance share units cliff-vest in full
three
years from the date of grant.
The Company granted
462,000
,
420,000
and
510,000
performance share units during the years ended
December 31, 2017
,
2016
and
2015
, respectively,
at a weighted average grant-date fair value of
$10.68
,
$8.61
and
$7.96
per share, respectively. The awards granted in 2017 and 2016 are subject to a
three
-year performance period provided that (i) if certain first year performance goals are achieved, the participant could earn up to
50%
of the three-year target award shares, subject to continued service through the vesting date, and (ii) if certain cumulative first and second year performance goals are achieved, the participant could earn up to an aggregate of
80%
of the three-year target award shares (which includes any shares earned during the first year), subject to continued service through the vesting date. Based on the Company’s performance, participants earned a minimum of
50%
of the target award shares granted in 2017 and
80%
of the target award shares granted in 2016, subject to continued service through the vesting dates. The awards granted in 2015 were subject to a
one
-year performance period, subject to continued service through the vesting date. Based on the Company's performance in 2015 the participants earned
130.2%
of the target award.
During the years ended
December 31, 2017
, 2016 and 2015, the Company recognized total compensation expense, net of estimated forfeitures, of
$7,075,000
,
$4,536,000
and
$2,607,000
, respectively, for performance share units. At
December 31, 2017
, the unamortized compensation expense related to these awards was
$9,083,000
, which is expected to be recognized over a weighted-average period of
1.2
years.
The table below is a roll-forward of the activity for performance share units during the 12 months ended
December 31, 2017
(in thousands, except fair value amounts):
|
|
|
|
|
|
|
|
Performance Share Units
|
Units
|
|
Weighted-
Average
Grant-Date
Fair Value
|
Nonvested at January 1, 2017
1
|
1,579
|
|
|
$
|
8.24
|
|
Granted
|
462
|
|
|
10.68
|
|
Vested
|
(566
|
)
|
|
8.30
|
|
Forfeited
|
(42
|
)
|
|
9.45
|
|
Nonvested at December 31, 2017
|
1,433
|
|
|
$
|
9.05
|
|
|
|
(1)
|
Nonvested performance share units as of January 1, 2017, are comprised of
1,306,000
shares at the target award rate adjusted for shares earned by participants at
130.2%
and
131.5%
for awards granted in 2015 and 2014, respectively.
|
Phantom Stock Units
Phantom stock units granted under the 2004 Incentive Plan are a form of share-based awards that are indexed to the Company’s stock and are settled in cash. Because phantom stock units are settled in cash, compensation expense recognized over the vesting period will vary based on changes in fair value. Fair value is remeasured at the end of each interim reporting period based on the closing price of the Company’s common stock. All of the previously granted phantom stock units were fully vested as of December 31, 2015.
There were
no
phantom stock units granted in the years ended
December 31, 2017
,
2016
or
2015
. The Company did not recognize expense related to phantom stock units during
December 31, 2017
or
2016
, and recognized
$390,000
of compensation expense related to previously granted phantom stock units for the year ended December 31,
2015
. All of the previously granted phantom stock units were fully vested and paid out as of June 30, 2015.
Stock Appreciation Rights
Cash settled stock appreciation rights ("SARs") granted under the 2004 Incentive Plan are valued using the Black-Scholes option-pricing model on the date of grant. SARs are subsequently remeasured at each interim reporting period based on a revised Black-Scholes value until they are exercised. SARs vest over a
three
-year period. As of December 31, 2016, the outstanding SARs were fully vested.
As of
December 31, 2017
the Company reversed
$32,000
in compensation expense related to these awards and recognized
$320,000
and
$3,288,000
in compensation expense related to these awards as of December 31, 2016 and 2015, respectively. At
December 31, 2017
and
2016
, the Company accrued compensation expense of
$0
and
$224,000
, respectively, which was included in accrued employee compensation and benefits in the accompanying consolidated balance sheets.
The table below is a roll-forward of the activity for SARs during the 12 months ended
December 31, 2017
(in thousands):
|
|
|
|
|
|
|
|
Stock Appreciation Rights
|
Units
|
|
Weighted-
Average
Exercise Price
Per Share
|
Nonvested and Outstanding at January 1, 2017
|
50
|
|
|
$
|
6.48
|
|
Granted
|
—
|
|
|
—
|
|
Exercised
|
(50
|
)
|
|
6.48
|
|
Forfeited
|
—
|
|
|
—
|
|
Outstanding at December 31, 2017
|
—
|
|
|
$
|
—
|
|
Share-Based Compensation Expense
The table below summarizes the amounts recognized in the financial statements for the years ended
December 31, 2017
,
2016
and
2015
for share-based compensation, including expense for stock options, restricted stock units, performance share units, phantom stock units and cash settled stock appreciation rights (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
2016
|
|
2015
|
Cost of sales
|
$
|
907
|
|
|
$
|
704
|
|
|
$
|
754
|
|
Operating expenses
|
11,708
|
|
|
8,581
|
|
|
10,466
|
|
Total cost of employee share-based compensation included in income before income tax
|
$
|
12,615
|
|
|
$
|
9,285
|
|
|
$
|
11,220
|
|
Note 14. Employee Benefit Plan
The Company has a voluntary deferred compensation plan under Section 401(k) of the Internal Revenue Code (the “401(k) Plan”) for all employees who satisfy the age and service requirements under the 401(k) Plan. Each participant may elect to contribute up to
75%
of annual compensation, up to the maximum permitted under federal law, and the Company is obligated to contribute annually an amount equal to
50%
of the participant’s contributions up to
6%
of their eligible annual compensation.
The portion of the participant’s account attributable to elective deferral contributions and rollover contributions are
100%
vested and nonforfeitable. Participants vest in employer contributions at a rate of
50%
per year, becoming fully vested after the completion of
two years
of service. In accordance with the provisions of the 401(k) Plan, the Company matched employee contributions in the amount of
$1,927,000
,
$1,842,000
and
$1,744,000
during
2017
,
2016
and
2015
, respectively.
Note 15. Fair Value of Financial Instruments
Certain of the Company’s financial assets and liabilities are measured at fair value on a recurring and nonrecurring basis. Fair value is defined as the price that would be received to sell an asset or the price paid to transfer a liability (the exit price) in the principal and most advantageous market for the asset or liability in an orderly transaction between market participants. Assets and liabilities carried at fair value are classified using the three-tier hierarchy (see
Note 2
).
The following table summarizes the valuation of the Company’s foreign currency forward contracts (see
Note 16
) that are measured at fair value on a recurring basis as of
December 31, 2017
and
2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair
Value
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
2017
|
|
|
|
|
|
|
|
Foreign currency forward contracts —asset position
|
$
|
179
|
|
|
$
|
—
|
|
|
$
|
179
|
|
|
$
|
—
|
|
Foreign currency forward contracts —liability position
|
(239
|
)
|
|
—
|
|
|
(239
|
)
|
|
—
|
|
|
$
|
(60
|
)
|
|
$
|
—
|
|
|
$
|
(60
|
)
|
|
$
|
—
|
|
2016
|
|
|
|
|
|
|
|
Foreign currency forward contracts —asset position
|
$
|
3,524
|
|
|
$
|
—
|
|
|
$
|
3,524
|
|
|
$
|
—
|
|
Foreign currency forward contracts —liability position
|
(85
|
)
|
|
—
|
|
|
(85
|
)
|
|
—
|
|
|
$
|
3,439
|
|
|
$
|
—
|
|
|
$
|
3,439
|
|
|
$
|
—
|
|
The fair value of the Company’s foreign currency forward contracts is based on observable inputs that are corroborated by market data. Observable inputs include broker quotes, daily market foreign currency rates and forward pricing curves. Remeasurement gains and losses on foreign currency forward contracts designated as cash flow hedges are recorded in other comprehensive income, and in other income (expense) for non-designated foreign currency forward contracts (see
Note 16
).
Disclosures about the Fair Value of Financial Instruments
The carrying values of cash and cash equivalents, trade accounts receivable and trade accounts payable at
December 31, 2017
and
2016
are categorized within Level 1 of the fair value hierarchy due to the short-term nature of these balances. The table below illustrates information about fair value relating to the Company’s financial assets and liabilities that are recognized in the accompanying consolidated balance sheets as of
December 31, 2017
and
2016
, as well as the fair value of contingent contracts that represent financial instruments (in thousands).
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2017
|
|
December 31, 2016
|
|
Carrying
Value
|
|
Fair Value
|
|
Carrying
Value
|
|
Fair Value
|
Primary Asset-Based Revolving Credit Facility
(2)
|
$
|
74,000
|
|
|
$
|
74,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Japan ABL Facility
(2)
|
$
|
13,755
|
|
|
$
|
13,755
|
|
|
$
|
11,966
|
|
|
$
|
11,966
|
|
Equipment Note
(3)
|
$
|
11,815
|
|
|
$
|
11,815
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Standby letters of credit
(4)
|
$
|
887
|
|
|
$
|
887
|
|
|
$
|
823
|
|
|
$
|
823
|
|
Money market funds
(5)
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
69,081
|
|
|
$
|
69,081
|
|
|
|
(1)
|
The carrying value of amounts outstanding under the Primary Asset-Based Revolving and the Japan ABL credit facilities approximate the fair value due to the short term nature of these obligations. The fair value of this debt is categorized within Level 2 of the fair value hierarchy. See
Note 4
for information on the Company's credit facilities, including certain risks and uncertainties related thereto.
|
|
|
(2)
|
In December 2017, the Company entered into the Equipment Note secured by certain equipment at the Company's golf ball manufacturing facility. As of
December 31, 2017
, the Company had
$11,815,000
outstanding under the Equipment Note. The fair value of this debt is categorized within Level 2 of the fair value hierarchy. See
Note 4
for further information.
|
|
|
(3)
|
The carrying value of the Company's standby letters of credit approximates the fair value as they represent the Company’s contingent obligation to perform in accordance with the underlying contracts. The fair value of this contingent obligation is categorized within Level 2 of the fair value hierarchy.
|
|
|
(4)
|
The carrying value of the money market funds approximates fair value as the funds are highly liquid and short-term in nature. The funds seek to maintain a stable net asset value of
$1.00
per share, and the market value per share of these funds are available in active markets. As such, they are categorized within Level 1 of the fair value hierarchy. The money market funds accrued dividends, which were reinvested and reflected in the carrying value as of December 31, 2016. There were no money market funds outstanding as of December 30, 2017.
|
Nonrecurring Fair Value Measurements
The Company measures certain assets at fair value on a nonrecurring basis at least annually or when certain indicators are present. These assets include long-lived assets, goodwill and non-amortizing intangible assets that are written down to fair value when they are held for sale or determined to be impaired. In each of 2017,
2016
, and
2015
, the Company did not have any significant assets or liabilities that were measured at fair value on a nonrecurring basis in periods subsequent to initial recognition.
Note 16. Derivatives and Hedging
In the normal course of business, the Company is exposed to gains and losses resulting from fluctuations in foreign currency exchange rates relating to transactions of its international subsidiaries. As part of its strategy to manage the level of exposure to the risk of fluctuations in foreign currency exchange rates, the Company uses designated cash flow hedges and non-designated hedges in the form of foreign currency forward contracts to mitigate the impact of foreign currency translation on transactions that are denominated primarily in Japanese Yen, British Pounds, Euros, Canadian Dollars, Australian Dollars and Korean Won.
The Company accounts for its foreign currency forward contracts in accordance with ASC Topic 815, "Derivatives and Hedging" ("ASC Topic 815"). ASC Topic 815 requires the recognition of all derivative instruments as either assets or liabilities on the balance sheet, the measurement of those instruments at fair value and the recognition of changes in the fair value of derivatives in earnings in the period of change, unless the derivative qualifies as a designated cash flow hedge that offsets certain exposures. Certain criteria must be satisfied in order for derivative financial instruments to be classified and accounted for as a cash flow hedge. Gains and losses from the remeasurement of qualifying cash flow hedges are recorded as a component of other comprehensive income and released into earnings as a component of cost of goods sold or net sales during the period in which the hedged transaction
takes place. Gains and losses on the ineffective portion of hedges (hedges that do not meet accounting requirements due to ineffectiveness) and derivatives that are not elected for hedge accounting treatment are immediately recorded in earnings as a component of other income (expense).
Foreign currency forward contracts are used only to meet the Company’s objectives of minimizing variability in the Company’s operating results arising from foreign exchange rate movements. The Company does not enter into foreign currency forward contracts for speculative purposes. The Company utilizes counterparties for its derivative instruments that it believes are credit-worthy at the time the transactions are entered into and the Company closely monitors the credit ratings of these counterparties.
The following table summarizes the fair value of the Company's foreign currency forward contracts as well as the location of the asset and/or liability on the consolidated balance sheets at
December 31, 2017
and
2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset Derivatives
|
|
December 31, 2017
|
|
December 31, 2016
|
|
Balance Sheet Location
|
|
Fair Value
|
|
Balance Sheet Location
|
|
Fair Value
|
Derivatives designated as cash flow hedging instruments:
|
|
|
|
|
|
|
|
Foreign currency forward contracts
|
Other current assets
|
|
$
|
168
|
|
|
Other current assets
|
|
$
|
2,660
|
|
|
|
|
|
|
|
|
|
Derivatives not designated as hedging instruments:
|
|
|
|
|
|
|
|
Foreign currency forward contracts
|
Other current assets
|
|
$
|
11
|
|
|
Other current assets
|
|
$
|
864
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liability Derivatives
|
|
December 31, 2017
|
|
December 31, 2016
|
|
Balance Sheet Location
|
|
Fair Value
|
|
Balance Sheet Location
|
|
Fair Value
|
Derivatives designated as cash flow hedging instruments:
|
|
|
|
|
|
|
|
Foreign currency forward contracts
|
Accounts payable and
accrued expenses
|
|
$
|
194
|
|
|
Accounts payable and
accrued expenses
|
|
$
|
28
|
|
|
|
|
|
|
|
|
|
Derivatives not designated as hedging instruments:
|
|
|
|
|
|
|
|
Foreign currency forward contracts
|
Accounts payable and
accrued expenses
|
|
$
|
45
|
|
|
Accounts payable and
accrued expenses
|
|
$
|
57
|
|
The Company's foreign currency forward contracts are subject to a master netting agreement with each respective counterparty bank and are therefore net settled at their maturity date. Although the Company has the legal right of offset under the master netting agreements, the Company has elected not to present these contracts on a net settlement amount basis, and therefore present these contracts on a gross basis on the accompanying consolidated balance sheets at
December 31, 2017
and
2016
.
Cash Flow Hedging Instruments
The Company uses foreign currency forward contracts designated as qualifying cash flow hedging instruments to help mitigate the Company's foreign currency exposure on intercompany sales of inventory to its foreign subsidiaries. These contracts generally mature within
12
to
15
months from their inception. At
December 31, 2017
and
2016
, the notional amounts of the Company's foreign currency forward contracts designated as cash flow hedge instruments were approximately
$14,210,000
and $
55,938,000
, respectively. The reporting of gains and losses on these cash flow hedging instruments depends on whether the gains or losses are effective at offsetting changes in the cash flows of the underlying hedged items. The Company uses the critical terms method to measure the effectiveness of the foreign currency forward contracts and evaluates the effectiveness on a quarterly basis. The effective portion of the gains and losses on the hedging instruments are recorded in other comprehensive income until recognized in earnings during the period that the hedged transactions take place. Any ineffective portion of the gains and losses from the hedging instruments is recognized in earnings immediately. The Company would discontinue hedge accounting prospectively (i) if it is determined that the derivative is no longer effective in offsetting changes in the cash flows of a hedged item, (ii) when the derivative expires or is sold, terminated, or exercised, (iii) if it becomes probable that the forecasted transaction being hedged by the derivative will not occur, (iv) if a hedged firm commitment no longer meets the definition of a firm commitment, or (v) if it is determined that designation of the derivative as a hedge instrument is no longer appropriate. The Company estimates the fair value of its foreign currency forward contracts based on pricing models using current market rates. These contracts are classified under Level 2 of the fair value hierarchy (see
Note 15
).
As of
December 31, 2017
, the Company recorded a net loss of
$2,679,000
in other comprehensive income (loss) related to its hedging activities. Of this amount, for the year ended
December 31, 2017
, net losses of
$187,000
were relieved from other comprehensive income and recognized in cost of goods sold for the underlying intercompany sales that were recognized. There were
no
ineffective gains or losses recognized during
2017
. During 2015, the Company recognized
$1,149,000
in other income (expense) as a result of hedge ineffectiveness, of which
$576,000
was reclassified from other comprehensive income for hedges that no longer met the accounting requirements. Gains on forward points of
$287,000
were recognized as incurred. Based on the current valuation, the Company expects to reclassify net losses of
$20,000
from accumulated other comprehensive income (loss) into net earnings during the next 12 months. See
Note 2
for a rollforward of accumulated other comprehensive income.
The following tables summarize the net effect of all cash flow hedges on the consolidated financial statements for the year ended
December 31, 2017
and
2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Gain (Loss) Recognized in Other Comprehensive Income
(Effective Portion)
|
|
|
Year Ended December 31,
|
Derivatives designated as cash flow hedging instruments
|
|
2017
|
|
2016
|
|
2015
|
Foreign currency forward contracts
|
|
$
|
(2,679
|
)
|
|
$
|
(538
|
)
|
|
$
|
2,316
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Gain (Loss) Reclassified from Other Comprehensive Income into Earnings
(Effective Portion)
|
|
|
Year Ended December 31,
|
Derivatives designated as cash flow hedging instruments
|
|
2017
|
|
2016
|
|
2015
|
Foreign currency forward contracts
|
|
$
|
(187
|
)
|
|
$
|
(2,514
|
)
|
|
$
|
1,791
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Gain Recognized in Other Income (Expense)
(Ineffective Portion)
|
|
|
Year Ended December 31,
|
Derivatives designated as cash flow hedging instruments
|
|
2017
|
|
2016
|
|
2015
|
Foreign currency forward contracts
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
1,149
|
|
Foreign Currency Forward Contracts Not Designated as Hedging Instruments
The Company uses foreign currency forward contracts that are not designated as qualified hedging instruments to mitigate certain balance sheet exposures (payables and receivables denominated in foreign currencies), as well as gains and losses resulting from the translation of the operating results of the Company’s international subsidiaries into U.S. dollars for financial reporting purposes. These contracts generally mature within
12 months
from their inception. At
December 31, 2017
,
2016
and
2015
, the notional amounts of the Company’s foreign currency forward contracts used to mitigate the exposures discussed above were approximately
$4,821,000
,
$14,821,000
and
$43,098,000
, respectively. The decrease in foreign currency forward contracts reflects the general timing of when the Company enters into these contracts. The Company estimates the fair values of foreign currency forward contracts based on pricing models using current market rates, and records all derivatives on the balance sheet at fair value with changes in fair value recorded in the statement of operations. The foreign currency contracts are classified under Level 2 of the fair value hierarchy (see
Note 15
).
The following table summarizes the location of gains and losses on the consolidated statements of operations that were recognized during the years ended
December 31, 2017
,
2016
and
2015
, respectively, in addition to the derivative contract type (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount of Gain (Loss) Recognized in Income on Derivative Instruments
|
Derivatives not designated as hedging instruments
|
Location of gain (loss) recognized in
income on derivative instruments
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
Foreign currency forward contracts
|
Other income (expense), net
|
|
$
|
(7,985
|
)
|
|
$
|
(6,563
|
)
|
|
$
|
1,322
|
|
In addition, during the year ended
December 31, 2017
and
2016
, the Company recognized net foreign currency gains of
$808,000
and
$226,000
related to transactions with foreign subsidiaries, respectively. During the year ended December 31, 2015, the Company recognized net foreign currency losses of
$1,611,000
, respectively, related to transactions with foreign subsidiaries.
Note 17. Segment Information
The Company has
three
operating segments, namely Golf Clubs, Golf Balls and Gear, Accessories and Other as of December 31, 2017. Prior to 2017, the Company's operating segments consisted of Golf Clubs and Golf Balls. Due to the recent growth in the accessories and other product category within Golf Clubs from the formation of the apparel joint venture in Japan as well as the Company's acquisition of OGIO in January 2017, the Company reassessed its operating segments during the first quarter of 2017, consistent with the way management reviews its business operations on an ongoing basis. As a result, and based on the Company's assessment, as of January 1, 2017, the Company added a third operating segment, Gear, Accessories and Other, which includes soft goods products and licensing revenues that were formerly in the accessories and other product category within Golf Clubs. Soft goods products include golf apparel and footwear, golf bags, golf gloves, travel gear, headwear and other golf-related accessories, retail apparel sales from the Company's joint venture in Japan, and OGIO branded products as of January 2017. Licensing revenues include royalties from licensing of the Company’s trademarks and service marks for various soft goods. TravisMathew branded products are also included in this operating segment as of August 2017. Subsequent to this change, the Golf Clubs operating segment consists of Callaway Golf woods, hybrids, irons and wedges, Odyssey putters, including Toulon Design putters by Odyssey, packaged sets and sales of pre-owned golf clubs. At the product category level, sales of packaged sets are included within irons, and sales of pre-owned golf clubs are included in the respective woods, irons and putters product categories. The Golf Balls segment continues to consist of Callaway Golf and Strata golf balls that are designed, manufactured and sold by the Company. As a result of these changes, prior period amounts have been reclassified in order to make prior periods comparable to 2017.
The Company's operating segments are organized on the basis of products. There are no significant intersegment transactions.
The table below contains information utilized by management to evaluate its operating segments.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
(1)
|
|
2015
(1)
|
|
(In thousands)
|
Net sales:
|
|
|
|
|
|
Golf Clubs
|
$
|
643,096
|
|
|
$
|
582,381
|
|
|
$
|
581,450
|
|
Golf Balls
|
162,546
|
|
|
152,261
|
|
|
143,173
|
|
Gear, Accessories and Other
|
243,094
|
|
|
136,550
|
|
|
119,171
|
|
|
$
|
1,048,736
|
|
|
$
|
871,192
|
|
|
$
|
843,794
|
|
Income (loss) before income tax:
|
|
|
|
|
|
Golf Clubs
|
$
|
77,018
|
|
|
$
|
48,489
|
|
|
$
|
32,630
|
|
Golf Balls
|
26,854
|
|
|
23,953
|
|
|
18,956
|
|
Gear, Accessories and Other
|
30,631
|
|
|
18,223
|
|
|
19,137
|
|
Reconciling items
(2)
|
(66,448
|
)
|
|
(32,272
|
)
|
|
(50,660
|
)
|
|
$
|
68,055
|
|
|
$
|
58,393
|
|
|
$
|
20,063
|
|
Identifiable assets:
(3)
|
|
|
|
|
|
Golf Clubs
|
$
|
321,265
|
|
|
$
|
276,654
|
|
|
$
|
295,659
|
|
Golf Balls
|
57,120
|
|
|
45,758
|
|
|
47,884
|
|
Gear, Accessories and Other
|
236,515
|
|
|
35,788
|
|
|
36,429
|
|
Reconciling items
(3)
|
376,257
|
|
|
443,082
|
|
|
251,252
|
|
|
$
|
991,157
|
|
|
$
|
801,282
|
|
|
$
|
631,224
|
|
Additions to long-lived assets:
(4)
|
|
|
|
|
|
Golf Clubs
|
$
|
11,396
|
|
|
$
|
6,163
|
|
|
$
|
6,774
|
|
Golf Balls
|
12,178
|
|
|
6,585
|
|
|
7,238
|
|
Gear, Accessories and Other
|
3,790
|
|
|
2,050
|
|
|
2,253
|
|
|
$
|
27,364
|
|
|
$
|
14,798
|
|
|
$
|
16,265
|
|
Goodwill:
|
|
|
|
|
|
Golf Clubs
|
$
|
26,904
|
|
|
$
|
25,593
|
|
|
$
|
26,500
|
|
Golf Balls
|
—
|
|
|
—
|
|
|
—
|
|
Gear, Accessories and Other
(5)
|
29,525
|
|
|
—
|
|
|
—
|
|
|
$
|
56,429
|
|
|
$
|
25,593
|
|
|
$
|
26,500
|
|
Depreciation and amortization:
|
|
|
|
|
|
Golf Clubs
|
$
|
8,769
|
|
|
$
|
8,509
|
|
|
$
|
8,907
|
|
Golf Balls
|
4,496
|
|
|
4,355
|
|
|
4,566
|
|
Gear, Accessories and Other
|
4,340
|
|
|
3,722
|
|
|
3,906
|
|
|
$
|
17,605
|
|
|
$
|
16,586
|
|
|
$
|
17,379
|
|
|
|
(1)
|
Prior period amounts have been reclassified to conform to the current year presentation as the result of the change in operating segments as of January 1, 2017.
|
|
|
(2)
|
Reconciling items represent the deduction of corporate general and administration expenses and other income (expenses), which are not utilized by management in determining segment profitability. The
$34,176,000
increase in reconciling items in
2017
compared to
2016
was primarily due
$11,264,000
in one-time transaction and transitional costs associated with the acquisitions of OGIO in January 2017 and TravisMathew in August 2017, a
$17,662,000
gain recognized in the second quarter of 2016 in connection with the sale of approximately
10.0%
of the Company's investment in Topgolf (see Note 7), combined with increases of
$2,286,000
in corporate stock compensation expense and
$2,164,000
in interest expense, partially offset by a
$4,189,000
increase in foreign currency exchange losses.
|
|
|
(3)
|
Identifiable assets are comprised of net inventory, certain property, plant and equipment, intangible assets and goodwill. Reconciling items represent unallocated corporate assets not segregated between the
three
segments including cash and cash equivalents, net accounts receivable, and deferred tax assets. The
$66,825,000
decrease in reconciling items in 2017 compared to 2016 was primarily due Topgolf investment. The
$191,830,000
increase in reconciling items in 2016 compared to 2015
|
was primarily due to a benefit of
$156,600,000
related to the reversal of the Company's valuation allowance on its U.S. deferred tax assets. This reversal was partially offset by the recognition of
$15,974,000
in income taxes payable on the Company's U.S. business (see
Note 10
).
|
|
(4)
|
Additions to long-lived assets are comprised of purchases of property, plant and equipment.
|
|
|
(5)
|
The
$30,836,000
increase in goodwill in 2017 compared to 2016 was primarily as a result of the acquisitions of OGIO and TravisMathew in 2017.
|
The Company’s net sales by product category are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
2017
|
|
2016
|
|
2015
|
|
(In thousands)
|
Net sales:
|
|
|
|
|
|
Woods
|
$
|
307,865
|
|
|
$
|
216,094
|
|
|
$
|
222,193
|
|
Irons
|
250,636
|
|
|
278,562
|
|
|
205,522
|
|
Putters
|
84,595
|
|
|
87,725
|
|
|
86,293
|
|
Golf Balls
|
162,546
|
|
|
152,261
|
|
|
143,145
|
|
Accessories and Other
|
243,094
|
|
|
136,550
|
|
|
186,641
|
|
|
$
|
1,048,736
|
|
|
$
|
871,192
|
|
|
$
|
843,794
|
|
The Company markets its products in the United States and internationally, with its principal international markets being Japan and Europe. The tables below contain information about the geographical areas in which the Company operates. Revenues are attributed to the location to which the product was shipped. Long-lived assets are based on location of domicile.
|
|
|
|
|
|
|
|
|
|
Sales
|
|
Long-Lived
Assets
(1)
|
|
(In thousands)
|
2017
|
|
|
|
United States
|
$
|
566,365
|
|
|
$
|
403,493
|
|
Europe
|
139,515
|
|
|
7,681
|
|
Japan
|
199,331
|
|
|
7,635
|
|
Rest of Asia
|
76,540
|
|
|
3,717
|
|
Other foreign countries
|
66,985
|
|
|
11,248
|
|
|
$
|
1,048,736
|
|
|
$
|
433,774
|
|
2016
|
|
|
|
United States
|
$
|
447,613
|
|
|
$
|
199,617
|
|
Europe
|
122,805
|
|
|
7,260
|
|
Japan
|
170,760
|
|
|
6,201
|
|
Rest of Asia
|
67,099
|
|
|
2,668
|
|
Other foreign countries
|
62,915
|
|
|
10,405
|
|
|
$
|
871,192
|
|
|
$
|
226,151
|
|
2015
|
|
|
|
United States
|
$
|
446,474
|
|
|
$
|
205,952
|
|
Europe
|
125,116
|
|
|
8,414
|
|
Japan
|
138,031
|
|
|
4,445
|
|
Rest of Asia
|
70,315
|
|
|
2,868
|
|
Other foreign countries
|
63,858
|
|
|
11,096
|
|
|
$
|
843,794
|
|
|
$
|
232,775
|
|
|
|
(1)
|
Long-lived assets include all non-current assets of the Company except deferred tax assets.
|
Note 18. Transactions with Related Parties
The Callaway Golf Company Foundation (the “Foundation”) oversees and administers charitable giving and makes grants to selected organizations. Officers of the Company also serve as directors of the Foundation and the Company’s employees provide accounting and administrative services for the Foundation. During
2017
,
2016
and
2015
, the Company recognized charitable contribution expense of
$750,000
,
$750,000
, and
$1,000,000
for the Foundation, respectively.
Note 19. Summarized Quarterly Data
(Unaudited)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fiscal Year 2017 Quarters
|
|
1st
|
|
2nd
|
|
3rd
|
|
4th
|
|
Total
(2)
|
|
(In thousands, except per share data)
|
Net sales
|
$
|
308,927
|
|
|
$
|
304,548
|
|
|
$
|
243,604
|
|
|
$
|
191,657
|
|
|
$
|
1,048,736
|
|
Gross profit
|
$
|
147,715
|
|
|
$
|
148,165
|
|
|
$
|
104,902
|
|
|
$
|
79,666
|
|
|
$
|
480,448
|
|
Net income (loss)
|
$
|
25,880
|
|
|
$
|
31,474
|
|
|
$
|
3,089
|
|
|
$
|
(18,776
|
)
|
|
$
|
41,667
|
|
Less: Net income attributable to non-controlling interests
|
$
|
191
|
|
|
$
|
31
|
|
|
$
|
29
|
|
|
$
|
610
|
|
|
$
|
861
|
|
Net income (loss) attributable to Callaway Golf Company
|
$
|
25,689
|
|
|
$
|
31,443
|
|
|
$
|
3,060
|
|
|
$
|
(19,386
|
)
|
|
$
|
40,806
|
|
Earnings (loss) per common share
(1)
|
|
|
|
|
|
|
|
|
|
Basic
|
$
|
0.27
|
|
|
$
|
0.33
|
|
|
$
|
0.03
|
|
|
$
|
(0.20
|
)
|
|
$
|
0.43
|
|
Diluted
|
$
|
0.27
|
|
|
$
|
0.33
|
|
|
$
|
0.03
|
|
|
$
|
(0.20
|
)
|
|
$
|
0.42
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fiscal Year 2016 Quarters
|
|
1st
|
|
2nd
|
|
3rd
|
|
4th
(2)
|
|
Total
(2)
|
|
(In thousands, except per share data)
|
Net sales
|
$
|
274,053
|
|
|
$
|
245,594
|
|
|
$
|
187,850
|
|
|
$
|
163,695
|
|
|
$
|
871,192
|
|
Gross profit
|
$
|
132,392
|
|
|
$
|
110,633
|
|
|
$
|
78,875
|
|
|
$
|
63,111
|
|
|
$
|
385,011
|
|
Net income (loss)
|
$
|
38,390
|
|
|
$
|
34,105
|
|
|
$
|
(5,739
|
)
|
|
$
|
124,198
|
|
|
$
|
190,954
|
|
Less: Net income attributable to non-controlling interests
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
127
|
|
|
$
|
927
|
|
|
$
|
1,054
|
|
Net income (loss) attributable to Callaway Golf Company
|
$
|
38,390
|
|
|
$
|
34,105
|
|
|
$
|
(5,866
|
)
|
|
$
|
123,271
|
|
|
$
|
189,900
|
|
Earnings (loss) per common share
(1)
|
|
|
|
|
|
|
|
|
|
Basic
|
$
|
0.41
|
|
|
$
|
0.36
|
|
|
$
|
(0.06
|
)
|
|
$
|
1.31
|
|
|
$
|
2.02
|
|
Diluted
|
$
|
0.40
|
|
|
$
|
0.36
|
|
|
$
|
(0.06
|
)
|
|
$
|
1.28
|
|
|
$
|
1.98
|
|
|
|
(1)
|
Earnings per share is computed individually for each of the quarters presented; therefore, the sum of the quarterly earnings per share may not necessarily equal the total for the year.
|
|
|
(2)
|
During the fourth quarter of 2016, the Company reversed a significant portion of the valuation allowance on its U.S. deferred tax assets. This resulted in a favorable impact to net income of
$156,600,000
(
$1.63
per share), partially offset by
$15,974,000
(
$0.16
per share) in income taxes that were retroactive for all of 2016 on the Company's U.S. business (see
Note 10
). In addition, net income for 2016 includes a
$17,662,000
(
$0.18
per share) pre-tax gain from the sale of approximately
10.0%
of the Company's investment in Topgolf (see
Note 7
).
|