Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Cummins Inc. and its consolidated subsidiaries are hereinafter sometimes referred to as “Cummins,” “we,” “our” or “us.”

CAUTIONARY STATEMENTS REGARDING FORWARD-LOOKING INFORMATION

Certain parts of this quarterly report contain forward-looking statements intended to qualify for the safe harbors from liability established by the Private Securities Litigation Reform Act of 1995. Forward-looking statements include those that are based on current expectations, estimates and projections about the industries in which we operate and management’s beliefs and assumptions. Forward-looking statements are generally accompanied by words such as "anticipates," "expects," "forecasts," "intends," "plans," "believes," "seeks," "estimates," "could," "should," "may" or words of similar meaning. These statements are not guarantees of future performance and involve certain risks, uncertainties and assumptions, which we refer to as "future factors," which are difficult to predict. Therefore, actual outcomes and results may differ materially from what is expressed or forecasted in such forward-looking statements. Some future factors that could cause our results to differ materially from the results discussed in such forward-looking statements are discussed below and shareholders, potential investors and other readers are urged to consider these future factors carefully in evaluating forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date hereof. Future factors that could affect the outcome of forward-looking statements include the following:

GOVERNMENT REGULATION

  • any adverse results of our internal review into our emissions certification process and compliance with emission standards;

  • increased scrutiny from regulatory agencies, as well as unpredictability in the adoption, implementation and enforcement of emission standards around the world;

  • changes in international, national and regional trade laws, regulations and policies;

  • changes in taxation;

  • global legal and ethical compliance costs and risks;

  • evolving environmental and climate change legislation and regulatory initiatives;

  • future bans or limitations on the use of diesel-powered products;

BUSINESS CONDITIONS / DISRUPTIONS

  • failure to successfully integrate and / or failure to fully realize all of the anticipated benefits of the acquisition of Meritor, Inc. (Meritor);

  • raw material, transportation and labor price fluctuations and supply shortages;

  • any adverse effects of the conflict between Russia and Ukraine and the global response (including government bans or restrictions on doing business in Russia);

  • aligning our capacity and production with our demand;

  • the actions of, and income from, joint ventures and other investees that we do not directly control;

  • large truck manufacturers' and original equipment manufacturers' customers discontinuing outsourcing their engine supply needs or experiencing financial distress, or change in control;

PRODUCTS AND TECHNOLOGY

  • product recalls;

  • variability in material and commodity costs;

  • the development of new technologies that reduce demand for our current products and services;

  • lower than expected acceptance of new or existing products or services;

  • product liability claims;

  • our sales mix of products;

GENERAL

  • uncertainties and risks related to timing and potential value to both Atmus Filtration Technologies Inc. (Atmus) and Cummins of the planned separation of Atmus, including business, industry and market risks, as well as the risks involving the anticipated favorable tax treatment if there is a significant delay in the completion of the envisioned separation;

  • our plan to reposition our portfolio of product offerings through exploration of strategic acquisitions and divestitures and related uncertainties of entering such transactions;

  • increasing interest rates;

  • challenging markets for talent and ability to attract, develop and retain key personnel;

  • climate change, global warming, more stringent climate change regulations, accords, mitigation efforts, greenhouse gas regulations or other legislation designed to address climate change;

  • exposure to potential security breaches or other disruptions to our information technology environment and data security;

  • political, economic and other risks from operations in numerous countries including political, economic and social uncertainty and the evolving globalization of our business;

  • competitor activity;

  • increasing competition, including increased global competition among our customers in emerging markets;

  • failure to meet environmental, social and governance (ESG) expectations or standards, or achieve our ESG goals;

  • labor relations or work stoppages;

  • foreign currency exchange rate changes;

  • the performance of our pension plan assets and volatility of discount rates;

  • the price and availability of energy;

  • continued availability of financing, financial instruments and financial resources in the amounts, at the times and on the terms required to support our future business; and

  • other risk factors described in Part II, Item 1A in this quarterly report and our 2022 Form 10-K, Part I, Item 1A, both under the caption "Risk Factors."

Shareholders, potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements. The forward-looking statements made herein are made only as of the date of this quarterly report and we undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise.

ORGANIZATION OF INFORMATION

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) was prepared to provide the reader with a view and perspective of our business through the eyes of management and should be read in conjunction with our Management's Discussion and Analysis of Financial Condition and Results of Operations section of our 2022 Form 10-K. Our MD&A is presented in the following sections:

  • EXECUTIVE SUMMARY AND FINANCIAL HIGHLIGHTS

  • RESULTS OF OPERATIONS

  • OPERATING SEGMENT RESULTS

  • OUTLOOK

  • LIQUIDITY AND CAPITAL RESOURCES

  • APPLICATION OF CRITICAL ACCOUNTING ESTIMATES

  • RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS

EXECUTIVE SUMMARY AND FINANCIAL HIGHLIGHTS

Overview

We are a global power leader that designs, manufactures, distributes and services diesel, natural gas, electric and hybrid powertrains and powertrain-related components including filtration, aftertreatment, turbochargers, fuel systems, controls systems, air handling systems, automated transmissions, axles, drivelines, brakes, suspension systems, electric power generation systems, batteries, electrified power systems, electric powertrains, hydrogen production and fuel cell products. We sell our products to original equipment manufacturers (OEMs), distributors, dealers and other customers worldwide. We have long-standing relationships with many of the leading manufacturers in the markets we serve, including PACCAR Inc, Traton Group, Daimler Trucks North America and Stellantis N.V. We serve our customers through a service network of approximately 460 wholly-owned, joint venture and independent distributor locations and more than 10,000 Cummins certified dealer locations in approximately 190 countries and territories.

As previously announced, beginning in the first quarter of 2023, we realigned certain businesses and regions within our reportable segments to be consistent with how our segment managers monitor the performance of our segments. We reorganized the businesses within our Components segment to carve out the electronics business into the newly formed software and electronics business and combined the turbo technologies and fuel systems businesses into the newly formed engine components business. On May 26, 2023, we changed the name of our Components' filtration business to Atmus with the initial public offering (IPO). Our Components segment now consists of the following businesses: axles and brakes, emission solutions, engine components, Atmus, automated transmissions and software and electronics. In the first quarter of 2023, as a result of the indefinite suspension of operations in Russia, we reorganized the regional management structure of our Distribution segment and moved all Commonwealth of Independent States (CIS) sales into the Europe and Africa and Middle East regions. The Russian portion of prior period CIS sales moved to the Europe region. In March 2023, we rebranded our New Power segment as "Accelera" to better represent our commitment to zero-emission technologies. In addition, we moved our NPROXX joint venture from the Accelera segment to the Engine segment, which adjusted both the equity, royalty and interest income from investees and segment EBITDA (defined as earnings or losses before interest expense, income taxes, depreciation and amortization and noncontrolling interests) line items for the current and prior year. We started to report results for the changes within our operating segments effective January 1, 2023, and reflected these changes in the historical periods presented. See NOTE 15, "FORMATION OF ATMUS AND IPO," to our Condensed Consolidated Financial Statements for additional information about the Atmus IPO.

Our reportable operating segments consist of Components, Engine, Distribution, Power Systems and Accelera. This reporting structure is organized according to the products and markets each segment serves. The Components segment sells filtration products, aftertreatment systems, turbochargers, electronics, fuel systems, automated transmissions, axles, drivelines, brakes and suspension systems. The Engine segment produces engines (15 liters and smaller) and associated parts for sale to customers in on-highway and various off-highway markets. Our engines are used in trucks of all sizes, buses and recreational vehicles, as well as in various industrial applications, including construction, agriculture, power generation systems and other off-highway applications. The Distribution segment includes wholly-owned and partially-owned distributorships engaged in wholesaling engines, generator sets and service parts, as well as performing service and repair activities on our products and maintaining relationships with various OEMs throughout the world. The Power Systems segment is an integrated power provider, which designs, manufactures and sells engines (16 liters and larger) for industrial applications (including mining, oil and gas, marine and rail), standby and prime power generator sets, alternators and other power components. The Accelera segment designs, manufactures, sells and supports hydrogen production solutions as well as electrified power systems with innovative components and subsystems, including battery, fuel cell and electric

powertrain technologies. The Accelera segment is currently in the early stages of commercializing these technologies with efforts primarily focused on the development of our electrolyzers for hydrogen production and electrified power systems and related components and subsystems. We continue to serve all our markets as they adopt electrification and alternative power technologies, meeting the needs of our OEM partners and end customers.

Our financial performance depends, in large part, on varying conditions in the markets we serve, particularly the on-highway, construction and general industrial markets. Demand in these markets tends to fluctuate in response to overall economic conditions. Our sales may also be impacted by OEM inventory levels, production schedules, stoppages and supply chain challenges. Economic downturns in markets we serve generally result in reduced sales of our products and can result in price reductions in certain products and/or markets. As a worldwide business, our operations are also affected by geopolitical risks (such as the conflict between Russia and Ukraine), currency fluctuations, political and economic uncertainty, public health crises (epidemics or pandemics) and regulatory matters, including adoption and enforcement of environmental and emission standards, in the countries we serve. As part of our growth strategy, we invest in businesses in certain countries that carry higher levels of these risks such as China, Brazil, India, Mexico and countries in the Middle East and Africa. At the same time, our geographic diversity and broad product and service offerings have helped limit the impact from a drop in demand in any one industry, region, the economy of any single country or customer on our consolidated results.

Supply Chain Disruptions

We continue to experience supply chain disruptions, increased price levels and related financial impacts reflected as increased cost of sales and inventory holdings. Our industry continues to be unfavorably impacted by supply chain constraints leading to shortages and price increases across multiple component categories and limiting our collective ability to meet end-user demand. Our customers are also experiencing supply chain issues. The Board of Directors (the Board) continues to monitor and evaluate all of these factors and the related impacts on our business and operations, and we are diligently working to minimize the supply chain impacts to our business and to our customers.

2023 Second Quarter and Year-to-Date Results

A summary of our results is as follows:

Three months endedSix months ended
June 30,June 30,
In millions, except per share amounts2023202220232022
Net sales$8,638$6,586$17,091$12,971
Net income attributable to Cummins Inc.7207021,5101,120
Earnings per common share attributable to Cummins Inc.
Basic$5.08$4.97$10.66$7.90
Diluted5.054.9410.607.86

Worldwide revenues increased 31 percent in the three months ended June 30, 2023, compared to the same period in 2022, due to axles and brakes sales in the Components segment of $1.2 billion from the Meritor acquisition and higher demand in all operating segments and all geographic regions. Net sales in the U.S. and Canada improved 31 percent, primarily due to incremental sales of axles and brakes, increased demand in all Distribution product lines and stronger demand in heavy-duty and medium-duty truck markets, which positively impacted all Components businesses. International demand (excludes the U.S. and Canada) improved 32 percent, with higher sales in all other geographic regions. The increase in international sales was principally due to incremental sales of axles and brakes in Western Europe, Latin America and Asia Pacific and higher demand for power generation equipment. Unfavorable foreign currency fluctuations impacted international sales by 3 percent (primarily the Chinese renminbi, Indian rupee and Euro).

Worldwide revenues increased 32 percent in the six months ended June 30, 2023, compared to the same period in 2022, due to axles and brakes sales in the Components segment of $2.5 billion from the Meritor acquisition and higher demand in all operating segments and all geographic regions, partially offset by the decrease in Russian sales due to the indefinite suspension of our Russian operations in March 2022. Net sales in the U.S. and Canada improved 35 percent, primarily due to incremental sales of axles and brakes, increased demand in all Distribution product lines and stronger demand in heavy-duty and medium-duty truck markets, which positively impacted all Components businesses. International demand (excludes the U.S. and Canada) improved by 27 percent, with lower sales in Russia more than offset by higher sales in all other geographic regions. The increase in international sales was principally due to incremental sales of axles and brakes in Western Europe, Latin America, India and Asia Pacific. Unfavorable foreign currency fluctuations impacted international sales by 4 percent (primarily the Chinese renminbi, Indian rupee, Australian dollar, British pound and Euro).

The following tables contain sales and EBITDA by operating segment, including adjusted prior year balances for the NPROXX changes noted above, for the three and six months ended June 30, 2023 and 2022. See NOTE 17, "OPERATING SEGMENTS," to the Condensed Consolidated Financial Statements for additional information and a reconciliation of our segment information to the corresponding amounts in our Condensed Consolidated Statements of Net Income.

Three months ended June 30,
Operating Segments20232022Percent change
PercentPercent2023 vs. 2022
In millionsSalesof TotalEBITDASalesof TotalEBITDASalesEBITDA
Components$3,42540%$486$1,95030%$35276%38%
Engine2,98834%4252,77542%4218%1%
Distribution2,59530%2992,25334%29715%1%
Power Systems1,45717%2011,20318%12821%57%
Accelera851%(114)421%(79)NM(44)%
Intersegment eliminations(1,912)(22)%7(1,637)(25)%(64)17%NM
Total$8,638100%$1,304(1)$6,586100%$1,055(2)31%24%
"NM" - not meaningful information
(1) EBITDA includes $23 million of costs associated with the IPO and separation of Atmus. See NOTE 15, "FORMATION OF ATMUS AND IPO," to our Condensed Consolidated Financial Statements for additional information.
(2) EBITDA includes $47 million of recoveries associated with the suspension of our Russian operations and $29 million of costs associated with the planned separation of our Atmus business. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Net income attributable to Cummins Inc. was $720 million, or $5.05 per diluted share, on sales of $8.6 billion for the three months ended June 30, 2023, versus the comparable prior year period net income attributable to Cummins Inc. of $702 million, or $4.94 per diluted share, on sales of $6.6 billion. The increases in net income attributable to Cummins Inc. and earnings per diluted share were driven by higher net sales and improved gross margins, partially offset by increased compensation costs, higher interest expense related to increased floating interest rates and new borrowings, the absence of recoveries associated with the suspension of our Russian operations and increased intangible asset amortization resulting from our acquisitions. The increase in gross margin was primarily due to higher volumes (including sales of axles and brakes from the Meritor acquisition) and favorable pricing, partially offset by higher compensation expenses.

Six months ended June 30,
Operating Segments20232022Percent change
PercentPercent2023 vs. 2022
In millionsSalesof TotalEBITDASalesof TotalEBITDASalesEBITDA
Components$6,98241%$993$3,93830%$67277%48%
Engine5,97435%8825,52843%8118%9%
Distribution5,00129%6344,37034%40714%56%
Power Systems2,80016%4202,36318%21818%93%
Accelera1701%(208)731%(144)NM(44)%
Intersegment eliminations(3,836)(22)%(56)(3,301)(26)%(154)16%(64)%
Total$17,091100%$2,665(1)$12,971100%$1,810(2)32%47%
"NM" - not meaningful information
(1) EBITDA includes $41 million of costs associated with the IPO and separation of Atmus. See NOTE 15, "FORMATION OF ATMUS AND IPO," to our Condensed Consolidated Financial Statements for additional information.
(2) EBITDA includes $111 million of costs associated with the indefinite suspension of our Russian operations and $46 million of costs associated with the planned separation of Atmus. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Net income attributable to Cummins Inc. was $1.5 billion, or $10.60 per diluted share, on sales of $17.1 billion for the six months ended June 30, 2023, versus the comparable prior year period net income attributable to Cummins Inc. of $1.1 billion, or $7.86 per diluted share, on sales of $13.0 billion. The increases in net income attributable to Cummins Inc. and earnings per diluted share were driven by higher net sales, improved gross margins and the absence of costs associated with the suspension of our Russian operations, partially offset by increased compensation expenses, increased interest expense related to increased floating interest rates and new borrowings, increased intangible asset amortization resulting from our acquisitions and higher consulting expenses. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information. The increase in gross margin was primarily due to higher volumes (including sales of axles and brakes from the Meritor acquisition) and favorable pricing, partially offset by higher compensation expenses.

We generated $978 million of cash from operations for the six months ended June 30, 2023, compared to $763 million for the comparable period in 2022. See the section titled "Cash Flows" in the "LIQUIDITY AND CAPITAL RESOURCES" section for a discussion of items impacting cash flows.

Our debt to capital ratio (total capital defined as debt plus equity) at June 30, 2023, was 40.4 percent, compared to 44.1 percent at December 31, 2022. The decrease was primarily due to the increased equity balance from strong earnings since December 31, 2022. At June 30, 2023, we had $2.3 billion in cash and marketable securities on hand and access to our $4.0 billion credit facilities, if necessary, to meet acquisition, working capital, investment and funding needs.

In July 2023, the Board authorized an increase to our quarterly dividend of approximately 7 percent from $1.57 per share to $1.68 per share.

On June 29, 2023, a share purchase agreement was executed with the minority shareholders of Hydrogenics Corporation (Hydrogenics) whereby we agreed to pay the minority shareholders $335 million for their 19 percent ownership, including the settlement of shareholder loans of $48 million. As part of the share purchase agreement, Hydrogenics entered into three non-interest-bearing promissory notes with $175 million paid on July 31, 2023, and the remaining $160 million due in three installments through 2025. See NOTE 16, "ACQUISITIONS," to the Condensed Consolidated Financial Statements for additional information.

On June 5, 2023, we entered into an amended and restated 364-day credit agreement that allows us to borrow up to $2.0 billion of unsecured funds at any time prior to June 3, 2024. This credit agreement amended and restated the prior $1.5 billion 364-day credit facility that was scheduled to mature on August 16, 2023. In connection with the 364-day credit agreement, effective June 5, 2023, we terminated our $500 million incremental 364-day credit agreement dated August 17, 2022.

On May 23, 2023, in connection with the Atmus IPO, Cummins issued approximately $350 million of commercial paper with certain lenders. On May 26, 2023, Atmus shares began trading on the New York Stock Exchange under the symbol "ATMU." The IPO was completed on May 30, 2023, whereby Cummins exchanged 19.5 percent (approximately 16 million shares) of its ownership in Atmus, at $19.50 per share, to retire $299 million of the commercial paper as proceeds from the offering through a non-cash transaction. As we still own 80.5 percent of Atmus shares, it remains included in our Condensed Consolidated Financial Statements. See NOTE 15, "FORMATION OF ATMUS AND IPO," to the Condensed Consolidated Financial Statements for additional information.

In May 2023, we agreed to purchase from the Forvia Group, Faurecia's U.S. and Europe commercial vehicle exhaust business for approximately €142 million, subject to final working capital and other adjustments. The transaction is expected to close in the fourth quarter.

On April 3, 2023, we purchased all of the equity ownership interest of Teksid Hierro de Mexico, S.A. de C.V. (Teksid MX) and Teksid, Inc. from Stellantis N.V. for approximately $150 million, subject to certain adjustments set forth in the agreement. See NOTE 16, "ACQUISITIONS," to the Condensed Consolidated Financial Statements for additional information.

In the first six months of 2023, our U.K. pension trusts' loss was 4.3 percent, while the investment gain on our U.S. pension trusts was 3.3 percent, excluding the Meritor plan as their return was not available at the time of filing. We anticipate making additional defined benefit pension contributions during the remainder of 2023 of $20 million for our U.S. and U.K. qualified and non-qualified pension plans. We expect our 2023 annual net periodic pension cost to be near zero**.**

As of the date of this filing, our credit ratings and outlooks from the credit rating agencies remain unchanged.

RESULTS OF OPERATIONS

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions, except per share amounts20232022AmountPercent20232022AmountPercent
NET SALES$8,638$6,586$2,05231%$17,091$12,971$4,12032%
Cost of sales6,4904,860(1,630)(34)%12,9149,713(3,201)(33)%
GROSS MARGIN2,1481,72642224%4,1773,25891928%
OPERATING EXPENSES AND INCOME
Selling, general and administrative expenses873622(251)(40)%1,6261,237(389)(31)%
Research, development and engineering expenses384299(85)(28)%734597(137)(23)%
Equity, royalty and interest income from investees133953840%2521916132%
Other operating expense, net273(24)NM461146860%
OPERATING INCOME99789710011%2,0231,50152235%
Interest expense9934(65)NM18651(135)NM
Other income (expense), net51(8)59NM141(17)158NM
INCOME BEFORE INCOME TAXES9498559411%1,9781,43354538%
Income tax expense212148(64)(43)%435303(132)(44)%
CONSOLIDATED NET INCOME737707304%1,5431,13041337%
Less: Net income attributable to noncontrolling interests175(12)NM3310(23)NM
NET INCOME ATTRIBUTABLE TO CUMMINS INC.$720$702$183%$1,510$1,120$39035%
Diluted Earnings Per Common Share Attributable to Cummins Inc.$5.05$4.94$0.112%$10.60$7.86$2.7435%
"NM" - not meaningful information
Three months endedFavorable/ (Unfavorable)Six months endedFavorable/ (Unfavorable)
June 30,June 30,
Percent of sales20232022Percentage Points20232022Percentage Points
Gross margin24.9%26.2%(1.3)24.4%25.1%(0.7)
Selling, general and administrative expenses10.1%9.4%(0.7)9.5%9.5%—
Research, development and engineering expenses4.4%4.5%0.14.3%4.6%0.3

Net Sales

Net sales for the three months ended June 30, 2023, increased by $2.1 billion versus the comparable period in 2022. The primary drivers were as follows:

  • Components segment sales increased 76 percent largely due to axles and brakes sales from the Meritor acquisition.

  • Distribution segment sales increased 15 percent due to higher demand across all product lines, especially in North America.

  • Power Systems segment sales increased 21 percent primarily due to higher demand in power generation markets.

  • Engine segment sales increased 8 percent principally due to strong heavy-duty and medium-duty truck demand in North America.

These increases were partially offset by unfavorable foreign currency fluctuations of 1 percent of total sales, primarily in the Chinese renminbi, Indian rupee and Australian dollar.

Net sales for the six months ended June 30, 2023, increased $4.1 billion versus the comparable period in 2022. The primary drivers were as follows:

  • Components segment sales increased 77 percent largely due to axles and brakes sales from the Meritor acquisition.

  • Distribution segment sales increased 14 percent principally due to higher demand across all product lines, especially in North America.

  • Engine segment sales increased 8 percent due to strong heavy-duty and medium-duty truck demand (including higher aftermarket sales) in North America.

  • Power Systems segment sales increased 18 percent primarily due to higher demand in power generation markets.

These increases were partially offset by unfavorable foreign currency fluctuations of 2 percent of total sales, primarily in the Chinese renminbi, Indian rupee, Australian dollar, British pound and Euro.

Sales to international markets (excluding the U.S. and Canada), based on location of customers, for the three and six months ended June 30, 2023, were 39 percent and 39 percent of total net sales compared with 39 percent and 40 percent of total net sales for the comparable periods in 2022. A more detailed discussion of sales by segment is presented in the “OPERATING SEGMENT RESULTS” section.

Cost of Sales

The types of expenses included in cost of sales are the following: parts and material consumption, including direct and indirect materials; compensation and related expenses including variable compensation, salaries and fringe benefits; depreciation on production equipment and facilities and amortization of technology intangibles; estimated costs of warranty programs and campaigns; production utilities; production-related purchasing; warehousing, including receiving and inspection; freight costs; engineering support costs; repairs and maintenance; production and warehousing facility property insurance; rent for production facilities; charges for the write-downs of inventories in Russia and other production overhead.

Gross Margin

Gross margin increased $422 million for the three months ended June 30, 2023 and decreased 1.3 points as a percentage of net sales versus the comparable period in 2022. The increase in gross margin was primarily due to higher volumes (including sales of axles and brakes from the Meritor acquisition) and favorable pricing, partially offset by higher compensation expenses. Compensation and related expenses include variable compensation, salaries and fringe benefits. The 1.3 percentage point decrease in gross margin as a percentage of sales was principally due to the addition of Meritor activity, which has a lower gross margin percentage than our legacy business, and the absence of inventory recoveries associated with the suspension of our Russian operations.

Gross margin increased $919 million for the six months ended June 30, 2023 and decreased 0.7 points as a percentage of sales versus the comparable period in 2022. The increase in gross margin was primarily due to higher volumes (including sales of axles and brakes from the Meritor acquisition) and favorable pricing, partially offset by higher compensation expenses. The 0.7 percentage point decrease in gross margin as a percentage of sales was principally due to the addition of Meritor activity, which has a lower gross margin percentage than our legacy business.

The provision for base warranties issued as a percent of sales for the three and six months ended June 30, 2023, was 1.8 percent and 1.8 percent, respectively, compared to 2.2 percent and 2.1 percent for the comparable periods in 2022.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased $251 million for the three months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher compensation expenses and higher consulting expenses. Compensation and related expenses include variable compensation, salaries and fringe benefits. Overall, selling, general and administrative expenses as a percentage of net sales increased to 10.1 percent in the three months ended June 30, 2023, from 9.4 percent in the comparable period in 2022, as selling, general and administrative expenses increased at a faster rate than net sales.

Selling, general and administrative expenses increased $389 million for the six months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher compensation expenses and higher consulting expenses. Overall, selling, general and administrative expenses, as a percentage of sales, remained flat at 9.5 percent.

Research, Development and Engineering Expenses

Research, development and engineering expenses increased $85 million for the three months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher compensation expenses, higher consulting expenses and lower expense recovery. Compensation and related expenses include variable compensation, salaries and fringe benefits. Overall, research, development and engineering expenses as a percentage of net sales decreased to 4.4 percent in the three months ended June 30, 2023, from 4.5 percent in the comparable period in 2022, as research, development and engineering expenses increased at a slower rate than net sales.

Research, development and engineering expenses increased $137 million for the six months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher compensation costs, lower expense recovery and higher consulting expenses. Overall, research, development and engineering expenses as a percentage of sales decreased to 4.3 percent in the six months ended June 30, 2023, from 4.6 percent in the comparable period in 2022, as research, development and engineering expenses increased at a slower rate than net sales.

Research activities continue to focus on development of new products to meet future emission standards around the world, improvements in fuel economy performance of diesel and natural gas-powered engines and related components as well as development activities around battery electric, fuel cell electric, hydrogen engine and hydrogen production solutions.

Equity, Royalty and Interest Income from Investees

Equity, royalty and interest income from investees increased $38 million for the three months ended June 30, 2023, versus the comparable period in 2022, primarily due higher earnings at Dongfeng Cummins Engine Co., Ltd., joint venture earnings from the Meritor acquisition and higher royalty and interest income from investees.

Equity, royalty and interest income from investees increased $61 million for the six months ended June 30, 2023, versus the comparable period in 2022, mainly due to the absence of the $28 million impairment of our Russian joint venture with KAMAZ and joint venture earnings from the Meritor acquisition. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Other Operating Expense, Net

Other operating (expense) income, net was as follows:

Three months endedSix months ended
June 30,June 30,
In millions2023202220232022
Amortization of intangible assets$(34)$(9)$(66)$(14)
Loss on write-off of assets(1)(3)(2)(8)
Royalty income, net103115
Russian suspension recoveries (cost)(1)—7—(61)
Asset impairments and other charges———(36)
Other, net(2)(1)11—
Total other operating expense, net$(27)$(3)$(46)$(114)
(1) See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Interest Expense

Interest expense was $99 million and $186 million for the three and six months ended June 30, 2023, versus $34 million and $51 million for the comparable periods in 2022. Interest expense increased $65 million and $135 million primarily due to the overall increase in floating interest rates, higher short-term borrowings (including commercial paper) and new term loan borrowings.

Other Income (Expense), Net

Other income (expense), net was as follows:

Three months endedSix months ended
June 30,June 30,
In millions2023202220232022
Non-service pension and OPEB income$31$32$62$65
Interest income2574315
Gain (loss) on marketable securities, net3(5)8(9)
Gain (loss) on corporate owned life insurance1(48)20(85)
Foreign currency (loss) gain, net(11)(1)1(13)
Other, net27710
Total other income (expense), net$51$(8)$141$(17)

Income Tax Expense

Our effective tax rate for 2023 is expected to approximate 22.0 percent, excluding any discrete items that may arise.

Our effective tax rates for the three and six months ended June 30, 2023, were 22.3 percent and 22.0 percent, respectively. Our effective tax rates for the three and six months ended June 30, 2022, were 17.3 percent and 21.1 percent, respectively.

The three months ended June 30, 2023, contained net unfavorable discrete tax items of $3 million.

The six months ended June 30, 2023, contained net discrete tax amounts of zero, as the result of offsetting amounts for the first two quarters, primarily due to share-based compensation tax benefits and other discrete items.

The three months ended June 30, 2022, contained favorable discrete items of $36 million, primarily due to $36 million of favorable changes in tax reserves, $10 million of favorable changes associated with the indefinite suspension in our Russian operations and $8 million of net favorable other discrete tax items, partially offset by $18 million of unfavorable tax costs associated with internal restructuring ahead of the planned separation of Atmus.

The six months ended June 30, 2022, contained favorable net discrete tax items of $5 million, primarily due to $27 million of favorable changes in tax reserves and $4 million of net favorable other discrete tax items, partially offset by $18 million of unfavorable tax costs associated with internal restructuring ahead of the planned separation of Atmus and $8 million of unfavorable changes associated with the indefinite suspension in our Russian operations.

Noncontrolling Interests

Noncontrolling interests eliminate the income or loss attributable to non-Cummins ownership interests in our consolidated entities. Noncontrolling interests in income of consolidated subsidiaries for the three and six months ended June 30, 2023, increased $12 million and $23 million versus the comparable periods in 2022 primarily due to higher earnings at Cummins India Limited and Eaton Cummins Joint Venture.

Comprehensive Income - Foreign Currency Translation Adjustment

The foreign currency translation adjustment was a net loss of $110 million and $28 million, respectively, for the three and six months ended June 30, 2023, compared to a net loss of $245 million and $241 million, respectively, for the three and six months ended June 30, 2022, driven by the following:

Three months ended
June 30,
20232022
In millionsTranslation adjustmentPrimary currency driver vs. U.S. dollarTranslation adjustmentPrimary currency driver vs. U.S. dollar
Wholly-owned subsidiaries$(72)Chinese renminbi, partially offset by Brazilian real and British pound$(175)Chinese renminbi, Indian rupee
Equity method investments(36)Chinese renminbi(55)Chinese renminbi
Consolidated subsidiaries with a noncontrolling interest(2)Chinese renminbi(15)Indian rupee
Total$(110)$(245)
Six months ended
June 30,
20232022
In millionsTranslation adjustmentPrimary currency driver vs. U.S. dollarTranslation adjustmentPrimary currency driver vs. U.S. dollar
Wholly-owned subsidiaries$1Chinese renminbi, partially offset by Brazilian real, British pound and Euro$(159)Chinese renminbi, Indian rupee
Equity method investments(30)Chinese renminbi, partially offset by Brazilian real(59)Chinese renminbi
Consolidated subsidiaries with a noncontrolling interest1Indian rupee, partially offset by Chinese renminbi(23)Indian rupee
Total$(28)$(241)

OPERATING SEGMENT RESULTS

As previously announced, beginning in the first quarter of 2023, we realigned certain businesses and regions within our reportable segments to be consistent with how our segment managers monitor the performance of our segments. We reorganized the businesses within our Components segment to carve out the electronics business into the newly formed software and electronics business and combined the turbo technologies and fuel systems businesses into the newly formed engine components business. On May 26, 2023, we changed the name of our Components' filtration business to Atmus with the IPO. Our Components segment now consists of the following businesses: axles and brakes, emission solutions, engine components, Atmus, automated transmissions and software and electronics. In the first quarter of 2023, as a result of the indefinite suspension of operations in Russia, we reorganized the regional management structure of our Distribution segment and moved all Commonwealth of Independent States (CIS) sales into the Europe and Africa and Middle East regions. The Russian portion of prior period CIS sales moved to the Europe region. In March 2023, we rebranded our New Power segment as "Accelera" to better represent our commitment to zero-emission technologies. In addition, we moved our NPROXX joint venture from the Accelera segment to the Engine segment, which adjusted both the equity, royalty and interest income from investees and segment EBITDA line items for the current and prior year. We started to report results for the changes within our operating segments effective January 1, 2023, and reflected these changes in the historical periods presented. See NOTE 15, "FORMATION OF ATMUS AND IPO," to our Condensed Consolidated Financial Statements for additional information about the Atmus IPO.

Our reportable operating segments consist of the Components, Engine, Distribution, Power Systems and Accelera segments. This reporting structure is organized according to the products and markets each segment serves. We use segment EBITDA as the basis for the Chief Operating Decision Maker to evaluate the performance of each of our reportable operating segments. We believe EBITDA is a useful measure of our operating performance as it assists investors and debt holders in comparing our performance on a consistent basis without regard to financing methods, capital structure, income taxes or depreciation and amortization methods, which can vary significantly depending upon many factors. Segment amounts exclude certain expenses not specifically identifiable to segments. See NOTE 17, "OPERATING SEGMENTS," to the Condensed Consolidated Financial Statements for additional information and a reconciliation of our segment information to the corresponding amounts in our Condensed Consolidated Statements of Net Income.

Following is a discussion of results for each of our operating segments.

Components Segment Results

Financial data for the Components segment was as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
External sales$2,924$1,477$1,44798%$5,967$2,994$2,97399%
Intersegment sales501473286%1,015944718%
Total sales3,4251,9501,47576%6,9823,9383,04477%
Research, development and engineering expenses10373(30)(41)%194149(45)(30)%
Equity, royalty and interest income from investees24915NM4537822%
Interest income725NM13310NM
Russian suspension (recoveries) costs (1)—(2)(2)(100)%—44100%
Segment EBITDA486(2)35213438%993(3)67232148%
Percentage PointsPercentage Points
Segment EBITDA as a percentage of total sales14.2%18.1%(3.9)14.2%17.1%(2.9)
"NM" - not meaningful information
(1) See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.
(2) Includes $18 million of costs associated with the IPO and separation of Atmus.
(3) Includes $30 million of costs associated with the IPO and separation of Atmus.

As noted above, the descriptions of the two new businesses are as follows:

  • Engine components - We design, manufacture and market turbocharger, valvetrain and fuel system technologies for light-duty, mid-range, heavy-duty and high-horsepower markets across North America, Europe, China and India.

  • Software and electronics - We develop, supply and remanufacture control units, specialty sensors, power electronics, actuators and software for on-highway, off-highway and power generation applications. We primarily serve markets in the Americas, China, India and Europe.

Sales for our Components segment by business, including adjusted prior year balances for the changes noted above, were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
Axles and brakes$1,249$—$1,249NM$2,521$—$2,521NM
Emission solutions96486310112%2,0201,77324714%
Engine components5575035411%1,1381,00513313%
Atmus417391267%834773618%
Automated transmissions1791433625%3582778129%
Software and electronics5950918%11111011%
Total sales$3,425$1,950$1,47576%$6,982$3,938$3,04477%
"NM" - not meaningful information

Sales

Components segment sales for the three months ended June 30, 2023, increased $1.5 billion versus the comparable period in 2022. The following were the primary drivers by business:

  • Axles and brakes sales added $1.2 billion in sales due to the Meritor acquisition.

  • Emission solutions sales increased $101 million primarily due to stronger demand in China and North America.

  • Engine components sales increased $54 million largely due to higher demand in China.

Components segment sales for the six months ended June 30, 2023, increased $3.0 billion versus the comparable period in 2022. The following were the primary drivers by business:

  • Axles and brakes sales added $2.5 billion in sales due to the Meritor acquisition.

  • Emission solutions sales increased $247 million principally due to stronger demand in North America and China.

  • Engine components sales increased $133 million mainly due to higher demand in China and North America.

Segment EBITDA

Components segment EBITDA for the three months ended June 30, 2023, increased $134 million versus the comparable period in 2022, mainly due to higher volumes (including sales of axles and brakes from the Meritor acquisition), improved pricing and favorable mix, partially offset by higher compensation expenses.

Components segment EBITDA for the six months ended June 30, 2023, increased $321 million versus the comparable period in 2022, primarily due to higher volumes (including sales of axles and brakes from the Meritor acquisition) and favorable pricing, partially offset by higher compensation expenses.

Engine Segment Results

Financial data for the Engine segment was as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
External sales$2,263$2,092$1718%$4,515$4,141$3749%
Intersegment sales725683426%1,4591,387725%
Total sales2,9882,7752138%5,9745,5284468%
Research, development and engineering expenses148116(32)(28)%282225(57)(25)%
Equity, royalty and interest income from investees71581322%136100(1)3636%
Interest income716NM1055100%
Russian suspension costs—11100%—33(2)33100%
Segment EBITDA42542141%882811719%
Percentage PointsPercentage Points
Segment EBITDA as a percentage of total sales14.2%15.2%(1.0)14.8%14.7%0.1
"NM" - not meaningful information
(1) Includes a $28 million impairment of our joint venture with KAMAZ and $3 million of royalty charges as part of our costs associated with the indefinite suspension of our Russian operations. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.
(2) Includes $31 million of Russian suspension costs reflected in the equity, royalty and interest income from investees line above. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Sales for our Engine segment by market were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
Heavy-duty truck$1,117$1,001$11612%$2,231$1,909$32217%
Medium-duty truck and bus942875678%1,8451,7231227%
Light-duty automotive445456(11)(2)%884954(70)(7)%
Total on-highway2,5042,3321727%4,9604,5863748%
Off-highway484443419%1,014942728%
Total sales$2,988$2,775$2138%$5,974$5,528$4468%
Percentage PointsPercentage Points
On-highway sales as percentage of total sales84%84%—83%83%—

Unit shipments by engine classification (including unit shipments to Power Systems and off-highway engine units included in their respective classification) were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
20232022AmountPercent20232022AmountPercent
Heavy-duty36,40030,9005,50018%71,10059,50011,60019%
Medium-duty76,00068,8007,20010%154,900141,40013,50010%
Light-duty53,60060,400(6,800)(11)%108,600126,900(18,300)(14)%
Total unit shipments166,000160,1005,9004%334,600327,8006,8002%

Sales

Engine segment sales for the three months ended June 30, 2023, increased $213 million versus the comparable period in 2022. The following were the primary drivers by market:

  • Heavy-duty truck sales increased $116 million principally due to stronger demand in North America and China.

  • Medium-duty truck and bus sales increased $67 million mainly due to higher demand, especially in North America with shipments up 18 percent.

Engine segment sales for the six months ended June 30, 2023, increased $446 million versus the comparable period in 2022. The following were the primary drivers by market:

  • Heavy-duty truck sales increased $322 million principally due to higher demand (including higher aftermarket sales), especially in North America with shipments up 18 percent.

  • Medium-duty truck and bus sales increased $122 million mainly due to higher demand (including higher aftermarket sales) especially in North America.

These increases were partially offset by decreased light-duty automotive sales of $70 million primarily due to our indefinite suspension of operations in Russia.

Segment EBITDA

Engine segment EBITDA for the three months ended June 30, 2023, increased $4 million versus the comparable period in 2022, primarily due to favorable pricing, partially offset by higher compensation expenses and increased material costs.

Engine segment EBITDA for the six months ended June 30, 2023, increased $71 million versus the comparable period in 2022, mainly due to favorable pricing, partially offset by higher compensation expenses.

Distribution Segment Results

Financial data for the Distribution segment was as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
External sales$2,576$2,247$32915%$4,975$4,358$61714%
Intersegment sales19613NM261214NM
Total sales2,5952,25334215%5,0014,37063114%
Research, development and engineering expenses1513(2)(15)%2926(3)(12)%
Equity, royalty and interest income from investees2421314%48371130%
Interest income835NM15510NM
Russian suspension (recoveries) costs (1)—(45)(45)(100)%—5555100%
Segment EBITDA29929721%63440722756%
Percentage PointsPercentage Points
Segment EBITDA as a percentage of total sales11.5%13.2%(1.7)12.7%9.3%3.4
"NM" - not meaningful information
(1) See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Sales for our Distribution segment by region, including adjusted prior year balances for the changes noted above, were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
North America$1,797$1,494$30320%$3,492$2,861$63122%
Asia Pacific2662422410%506488184%
Europe213248(35)(14)%408529(121)(23)%
China113991414%2151823318%
Africa and Middle East80611931%1421113128%
India65531223%1241022222%
Latin America615659%114971718%
Total sales$2,595$2,253$34215%$5,001$4,370$63114%

Sales for our Distribution segment by product line were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
Parts$1,019$990$293%$2,076$1,914$1628%
Power generation61444117339%1,10684226431%
Engines53142910224%98787011713%
Service4313933810%8327448812%
Total sales$2,595$2,253$34215%$5,001$4,370$63114%

Sales

Distribution segment sales for the three months ended June 30, 2023, increased $342 million versus the comparable period in 2022. The primary driver was an increase in North American sales of $303 million due to higher demand in all product lines (mainly power generation and aftermarket products). The increase was partially offset by unfavorable foreign currency fluctuations, primarily in the Australian dollar, Canadian dollar, South African rand and Chinese renminbi.

Distribution segment sales for the six months ended June 30, 2023, increased $631 million versus the comparable period in 2022. The primary driver was an increase in North American sales of $631 million due to higher demand in all product lines.

The increase was partially offset by the following:

  • European sales decreased $121 million as a result of our indefinite suspension of operations in Russia.

  • Unfavorable foreign currency fluctuations, primarily in the Australian dollar, Canadian dollar, Chinese renminbi, Indian rupee and South African rand.

Segment EBITDA

Distribution segment EBITDA for the three months ended June 30, 2023, increased $2 million versus the comparable period in 2022, primarily due to increased volumes and favorable mix, partially offset by higher compensation expenses and the absence of recoveries associated with the suspension of our Russian operations. See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Distribution segment EBITDA for the six months ended June 30, 2023, increased $227 million versus the comparable period in 2022, primarily due to increased volumes, favorable mix and improved pricing, partially offset by higher compensation expenses.

Power Systems Segment Results

Financial data for the Power Systems segment was as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
External sales$794$734$608%$1,473$1,417$564%
Intersegment sales66346919441%1,32794638140%
Total sales1,4571,20325421%2,8002,36343718%
Research, development and engineering expenses6658(8)(14)%129122(7)(6)%
Equity, royalty and interest income from investees1810880%31211048%
Interest income211100%422100%
Russian suspension (recoveries) costs (1)—(1)(1)(100)%—1919100%
Segment EBITDA2011287357%42021820293%
Percentage PointsPercentage Points
Segment EBITDA as a percentage of total sales13.8%10.6%3.215.0%9.2%5.8
(1) See NOTE 14, "RUSSIAN OPERATIONS," to our Condensed Consolidated Financial Statements for additional information.

Sales for our Power Systems segment by product line were as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
Power generation$854$657$19730%$1,624$1,321$30323%
Industrial468428409%92382110212%
Generator technologies1351181714%2532213214%
Total sales$1,457$1,203$25421%$2,800$2,363$43718%

Sales

Power Systems segment sales for the three months ended June 30, 2023, increased $254 million versus the comparable period in 2022. The primary driver was an increase in power generation sales of $197 million mainly due to higher demand in North America, India, Asia Pacific, Western Europe and Mexico. The increase was partially offset by unfavorable foreign currency fluctuations, primarily in the Indian rupee and Chinese renminbi.

Power Systems segment sales for the six months ended June 30, 2023, increased $437 million versus the comparable period in 2022. The following were the primary drivers by product line:

  • Power generation sales increased $303 million mainly due to higher demand in North America, India and Asia Pacific.

  • Industrial sales increased $102 million principally due to improved demand in oil and gas market in North America and global mining markets.

These increases were partially offset by unfavorable foreign currency fluctuations, primarily in the Indian rupee and Chinese renminbi.

Segment EBITDA

Power Systems segment EBITDA for the three months ended June 30, 2023, increased $73 million versus the comparable period in 2022, mainly due to increased volumes and favorable pricing, partially offset by higher compensation expenses and severance costs.

Power Systems segment EBITDA for the six months ended June 30, 2023, increased $202 million versus the comparable period in 2022, primarily due to favorable pricing and increased volumes, partially offset by higher compensation expenses and severance costs.

Accelera Segment Results

Financial data for the Accelera segment was as follows:

Three months endedFavorable/Six months endedFavorable/
June 30,(Unfavorable)June 30,(Unfavorable)
In millions20232022AmountPercent20232022AmountPercent
External sales$81$36$45NM$161$61$100NM
Intersegment sales46(2)(33)%912(3)(25)%
Total sales854243NM1707397NM
Research, development and engineering expenses5239(13)(33)%10075(25)(33)%
Equity, royalty and interest loss from investees(4)(3)(1)(33)%(8)(4)(4)(100)%
Interest income1—1NM1—1NM
Segment EBITDA(114)(79)(35)(44)%(208)(144)(64)(44)%
"NM" - not meaningful information

Accelera segment sales for the three months ended June 30, 2023, increased $43 million versus the comparable period in 2022 principally due to incremental sales of central drive systems, e-axles and accessory systems since the acquisitions of Siemens' Commercial Vehicles Propulsion business and Meritor's electric powertrain business.

Accelera segment sales for the six months ended June 30, 2023, increased $97 million versus the comparable period in 2022 principally due to incremental sales of central drive systems, e-axles and accessory systems since the acquisitions of Siemens' Commercial Vehicles Propulsion business and Meritor's electric powertrain business, as well as improved electrified components and fuel cell sales.

OUTLOOK

Supply Chain Disruptions

We continue to experience supply chain disruptions, increased price levels and related financial impacts reflected as increased cost of sales and inventory holdings. Our industry continues to be unfavorably impacted by supply chain constraints leading to shortages and price increases across multiple component categories and limiting our collective ability to meet end-user demand. Our customers are also experiencing supply chain issues. The Board continues to monitor and evaluate all of these factors and the related impacts on our business and operations and we are diligently working to minimize the supply chain impacts to our business and to our customers.

Business Outlook

Our outlook reflects the following positive trends and challenges to our business that could impact our revenue and earnings potential for the remainder of 2023.

Positive Trends

  • We expect demand for pick-up, medium-duty and heavy-duty trucks in North America to remain strong.

  • We believe market demand for trucks in India will continue to be strong.

  • We expect demand within our Power Systems business to remain strong, including the power generation, mining, oil and gas and marine markets.

  • We anticipate demand in our aftermarket business will continue to be robust, driven primarily by truck utilization in North America and continued strong demand in our Power Systems business.

  • We expect demand for trucks in China to improve from the low demand levels in 2022.

Challenges

  • Continued increases in material and labor costs, as well as other inflationary pressures, could negatively impact earnings.

  • Our industry's sales continue to be unfavorably impacted by supply chain constraints leading to shortages across multiple components categories and limiting our collective ability to meet end-user demand. Our customers are also experiencing other supply chain issues limiting full production capabilities.

  • The completion of the Meritor, Inc. acquisition in 2022 impacted our liquidity and resulted in incremental interest expense for debt utilized in funding the transaction and increased amortization of intangible assets, which will negatively impact net income.

  • Increasing interest rates could increase borrowing costs and negatively impact net income.

  • We expect the ongoing separation of Atmus, our filtration business, into a stand-alone company, will continue to result in incremental expenses.

LIQUIDITY AND CAPITAL RESOURCES

Key Working Capital and Balance Sheet Data

We fund our working capital with cash from operations and short-term borrowings, including commercial paper, when necessary. Various assets and liabilities, including short-term debt, can fluctuate significantly from month to month depending on short-term liquidity needs. As a result, working capital is a prime focus of management's attention. Working capital and balance sheet measures are provided in the following table:

Dollars in millionsJune 30, 2023December 31, 2022
Working capital (1)$4,365$3,030
Current ratio1.401.27
Accounts and notes receivable, net$5,863$5,202
Days' sales in receivables5960
Inventories$6,026$5,603
Inventory turnover4.34.2
Accounts payable (principally trade)$4,308$4,252
Days' payable outstanding6060
Total debt$7,700$7,855
Total debt as a percent of total capital40.4%44.1%
(1) Working capital includes cash and cash equivalents.

Cash Flows

Cash and cash equivalents were impacted as follows:

Six months ended
June 30,
In millions20232022Change
Net cash provided by operating activities$978$763$215
Net cash used in investing activities(606)(576)(30)
Net cash used in financing activities(603)(391)(212)
Effect of exchange rate changes on cash and cash equivalents(68)74(142)
Net decrease in cash and cash equivalents$(299)$(130)$(169)

Net cash provided by operating activities increased $215 million for the six months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher net income of $413 million, partially offset by higher working capital requirement of $179 million and the absence of Russian suspension costs, net of recoveries, in 2023 of $111 million. The higher working capital requirements resulted in a cash outflow of $849 million compared to a cash outflow of $670 million in the comparable period of 2022, mainly due to unfavorable changes in accounts and notes receivable and accounts payable, partially offset by increased accrued expenses (from higher variable compensation accruals in 2023 and higher variable compensation payments in the first quarter of 2022 for the previous year).

Net cash used in investing activities increased $30 million for the six months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher capital expenditures of $163 million, partially offset by lower acquisition of businesses, net of cash acquired of $111 million.

Net cash used in financing activities increased $212 million for the six months ended June 30, 2023, versus the comparable period in 2022, primarily due to higher net payments of commercial paper of $1.1 billion and higher payments on borrowings and finance lease obligations of $157 million (largely related to term loan payments), partially offset by higher proceeds from borrowings of $681 million (including $650 million of Atmus debt) and the absence of repurchases of common stock of $347 million.

The effect of exchange rate changes on cash and cash equivalents for the six months ended June 30, 2023, versus the comparable period in 2022, changed $142 million primarily due to unfavorable fluctuations in the British pound, partially offset by the Chinese renminbi.

Sources of Liquidity

We generate significant ongoing cash flow. Cash provided by operations is our principal source of liquidity with $978 million generated in the six months ended June 30, 2023. Our sources of liquidity include:

June 30, 2023
In millionsTotalU.S.InternationalPrimary location of international balances
Cash and cash equivalents$1,802$805$997Singapore, China, Belgium, Australia, Canada, Mexico
Marketable securities (1)51290422India
Total$2,314$895$1,419
Available credit capacity
Revolving credit facilities (2)$2,383
Atmus revolving credit facility (3)$350
International and other uncommitted domestic credit facilities$221
(1) The majority of marketable securities could be liquidated into cash within a few days.
(2) The five-year credit facility for $2.0 billion and the 364-day credit facility for $2.0 billion, maturing August 2026 and June 2024, respectively, are maintained primarily to provide backup liquidity for our commercial paper borrowings and general corporate purposes. At June 30, 2023, we had $1.6 billion of commercial paper outstanding, which effectively reduced our available capacity under our revolving credit facilities to $2.4 billion.
(3) In February 2023, Atmus entered into a $400 million revolving credit facility. At June 30, 2023, they had $50 million of outstanding borrowings, which effectively reduced the available capacity under the revolving credit facility to $350 million.

Cash, Cash Equivalents and Marketable Securities

A significant portion of our cash flow is generated outside the U.S. We manage our worldwide cash requirements considering available funds among the many subsidiaries through which we conduct our business and the cost effectiveness with which those funds can be accessed. As a result, we do not anticipate any local liquidity restrictions to preclude us from funding our operating needs with local resources.

If we distribute our foreign cash balances to the U.S. or to other foreign subsidiaries, we could be required to accrue and pay withholding taxes, for example, if we repatriated cash from certain foreign subsidiaries whose earnings we asserted are completely or partially permanently reinvested. Foreign earnings for which we assert permanent reinvestment outside the U.S. consist primarily of earnings of our China, India, Canada (including underlying subsidiaries) and Netherlands domiciled subsidiaries. At present, we do not foresee a need to repatriate any earnings for which we assert permanent reinvestment. However, to help fund cash needs of the U.S. or other international subsidiaries as they arise, we repatriate available cash from certain foreign subsidiaries whose earnings are not permanently reinvested when it is cost effective to do so.

Divestiture of Atmus

On May 23, 2023, in connection with the Atmus IPO, Cummins issued approximately $350 million of commercial paper with certain lenders. On May 26, 2023, Atmus shares began trading on the New York Stock Exchange under the symbol "ATMU." The IPO was completed on May 30, 2023, whereby Cummins exchanged 19.5 percent (approximately 16 million shares) of its ownership in Atmus, at $19.50 per share, to retire $299 million of the commercial paper as proceeds from the offering through a non-cash transaction. In exchange for the filtration business, Atmus also transferred to Cummins consideration of approximately $650 million. The commercial paper issued and retired through the IPO proceeds, coupled with the $650 million received, is intended to be used for the retirement of our historical debt, dividends and share repurchases. See NOTE 15, "FORMATION OF ATMUS AND IPO," to the Condensed Consolidated Financial Statements for additional information.

Debt Facilities and Other Sources of Liquidity

On June 5, 2023, we entered into an amended and restated 364-day credit agreement that allows us to borrow up to $2.0 billion of unsecured funds at any time prior to June 3, 2024. This credit agreement amended and restated the prior $1.5 billion 364-day credit facility that matured on August 16, 2023. In connection with the 364-day credit agreement, effective June 5, 2023, we terminated our $500 million incremental 364-day credit agreement dated August 17, 2022.

We have access to committed credit facilities totaling $4.0 billion, including our $2.0 billion 364-day facility that expires June 3, 2024, and our $2.0 billion five-year facility that expires on August 18, 2026. These revolving credit facilities are maintained primarily to provide backup liquidity for our commercial paper borrowings and general corporate purposes. We intend to maintain credit facilities at the current or higher aggregate amounts by renewing or replacing these facilities at or before expiration. There were no outstanding borrowings under these facilities at June 30, 2023.

We can issue up to $4.0 billion of unsecured, short-term promissory notes (commercial paper) pursuant to the Board authorized commercial paper programs. These programs facilitate the private placement of unsecured short-term debt through third-party brokers. We intend to use the net proceeds from the commercial paper borrowings for acquisitions and general corporate purposes. The total combined borrowing capacity under the revolving credit facilities and commercial programs should not exceed $4.0 billion. At June 30, 2023, we had $1.6 billion of commercial paper outstanding, which effectively reduced our available capacity under our revolving credit facilities to $2.4 billion.

In 2021, we entered into a series of interest rate swaps to effectively convert our $500 million senior notes, due in 2025, from a fixed rate of 0.75 percent to a floating rate equal to the three-month LIBOR plus a spread. We also entered into a series of interest rate swaps to effectively convert $765 million of our $850 million senior notes, due in 2030, from a fixed rate of 1.50 percent to a floating rate equal to the three-month LIBOR plus a spread. The swaps were designated and are accounted for as fair value hedges. In March 2023, we settled a portion of our 2021 interest rate swaps with a notional amount of $100 million. The $7 million loss on settlement will be amortized over the remaining term of the related debt.

In 2019, we entered into $350 million of interest rate lock agreements, and in 2020 we entered into an additional $150 million of lock agreements to reduce the variability of the cash flows of the interest payments on a total of $500 million of fixed rate debt forecast to be issued in 2023 to replace our senior notes at maturity. In December 2022, we settled certain rate lock agreements with notional amounts totaling $150 million for $49 million. In February 2023, we settled certain rate lock agreements with notional amounts totaling $100 million for $34 million. The $83 million of gains on settlements will remain in other comprehensive income and will be amortized over the term of the anticipated new debt.

On February 15, 2023, certain of our subsidiaries entered into an amendment to the $1.0 billion credit agreement (Credit Agreement), consisting of a $400 million revolving credit facility and a $600 million term loan facility, in anticipation of the separation of our filtration business, which extended the date on which the Credit Agreement terminates from March 30, 2023 to June 30, 2023. On May 26, 2023, Atmus drew down the entire $600 million term loan facility and borrowed $50 million under the revolving credit facility for use as partial consideration for the filtration business. Borrowings under the Credit Agreement mature in September 2027 and bear interest at varying rates, depending on the type of loan and, in some cases, the rates of designated benchmarks and the applicable borrower’s election. Generally, U.S. dollar-denominated loans bear interest at adjusted term Secured Overnight Financing Rate (SOFR) (which includes a 0.10 percent credit spread adjustment to term SOFR) for the applicable interest period plus a rate ranging from 1.125 percent to 1.75 percent. The Credit Agreement contains customary events of default and financial and other covenants, including maintaining a net leverage ratio of 4.0 to 1.0 and a minimum interest coverage ratio of 3.0 to 1.0.

As a well-known seasoned issuer, we filed an automatic shelf registration of an undetermined amount of debt and equity with the Securities and Exchange Commission (SEC) on February 8, 2022. Under this shelf registration we may offer, from time to time, debt securities, common stock, preferred and preference stock, depositary shares, warrants, stock purchase contracts and stock purchase units.

On July 3, 2023, the Financial Conduct Authority published a statement confirming that the U.S. dollar LIBOR panel had ceased. The Alternative Reference Rates Committee identified SOFR as its preferred alternative rate for U.S. dollar LIBOR. SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasury securities, and is based on directly observable U.S. Treasury-backed repurchase transactions. We evaluated the potential impact of the replacement of the LIBOR benchmark interest rate including risk management, internal operational readiness and monitoring the Financial Accounting Standards Board standard-setting process to address financial reporting issues that might arise in connection with transition from LIBOR to a new benchmark rate. The change had no material impact due to our operational and system readiness coupled with relevant contractual fallback language. In anticipation of LIBOR's phase out, our revolving credit and term loan agreements incorporated the use of SOFR as a replacement for LIBOR. Our 5-year credit facility maturing August 18, 2026, as amended to date, also incorporates SOFR. Additionally, with respect to our $1.2 billion in LIBOR-based fixed to variable rate swaps maturing in 2025 and 2030, we reviewed and believe our adherence to the 2020 LIBOR fallback protocol allowed for a smooth transition to the designated replacement rate.

Supply Chain Financing

We currently have supply chain financing programs with financial intermediaries, which provide certain vendors the option to be paid by financial intermediaries earlier than the due date on the applicable invoice. When a vendor utilizes the program and receives an early payment from a financial intermediary, they take a discount on the invoice. We then pay the financial intermediary the face amount of the invoice on the original due date. The maximum amount that we could have outstanding under the program was $482 million. We do not reimburse vendors for any costs they incur for participation in the program, their participation is completely

voluntary and there are no assets pledged as security or other forms of guarantees provided for the committed payment to the finance provider or intermediary. As a result, all amounts owed to the financial intermediaries are presented as accounts payable in our Condensed Consolidated Balance Sheets. Amounts due to the financial intermediaries reflected in accounts payable at June 30, 2023, were $231 million.

Uses of Cash

Dividends

We paid dividends of $445 million during the six months ended June 30, 2023. In July 2023, the Board authorized an increase to our quarterly dividend of approximately 7 percent from $1.57 per share to $1.68 per share.

Capital Expenditures

Capital expenditures for the six months ended June 30, 2023, were $414 million versus $251 million in the comparable period in 2022. We continue to invest in new product lines and targeted capacity expansions. We plan to spend an estimated $1.2 billion to $1.3 billion in 2023 on capital expenditures with over 60 percent of these expenditures expected to be invested in North America.

Acquisitions

Acquisitions for the six months ended June 30, 2023, were as follows:

Entity Acquired (Dollars in millions)Date of AcquisitionAdditional Percent Interest AcquiredPayments to Former OwnersAcquisition Related Debt RetirementsTotal Purchase Consideration**(1)**
Hydrogenics Corporation (Hydrogenics)06/29/2319%$287$48$335
Teksid Hierro de Mexico, S.A. de C.V. (Teksid MX)04/03/23100%150—150
(1) The "Total Purchase Consideration" represents the total amount that will or is estimated to be paid to complete the acquisition. Hydrogenics entered into three non-interest-bearing promissory notes with $175 million paid on July 31, 2023, and the remaining $160 million due in three installments through 2025.

See NOTE 16, "ACQUISITIONS," to our Condensed Consolidated Financial Statements for additional information.

Current Maturities of Short and Long-Term Debt

We had $1.6 billion of commercial paper outstanding at June 30, 2023, that matures in less than one year. The maturity schedule of our existing long-term debt requires significant cash outflows in 2023 when our 3.65 percent senior notes are due and in 2025 when our term loan and 0.75 percent senior notes are due. Required annual long-term debt principal payments range from $9 million to $2.0 billion over the next five years (including the remainder of 2023). In 2023, we intend to have a greater emphasis on the repayment of debt to maintain our strong credit ratings. See NOTE 9, "DEBT," to the Condensed Consolidated Financial Statements for additional information.

Pensions

Our global pension plans, including our unfunded and non-qualified plans, were 120 percent funded at December 31, 2022. Our U.S. defined benefit plans (qualified and non-qualified), which represented approximately 69 percent of the worldwide pension obligation, were 121 percent funded, and our U.K. defined benefit plans were 119 percent funded at December 31, 2022. The funded status of our pension plans is dependent upon a variety of variables and assumptions including return on invested assets, market interest rates and levels of voluntary contributions to the plans. In the first six months of 2023, our U.K. pension trusts' loss was 4.3 percent, while the investment gain on our U.S. pension trusts was 3.3 percent, excluding the Meritor plan as their return was not available at the time of filing. We anticipate making additional defined benefit pension contributions during the remainder of 2023 of $20 million for our U.S. and U.K. qualified and non-qualified pension plans. These contributions may be made from trusts or company funds either to increase pension assets or to make direct benefit payments to plan participants. We expect our 2023 annual net periodic pension cost to be near zero.

Stock Repurchases

In December 2021, the Board authorized the acquisition of up to $2.0 billion of additional common stock upon completion of the $2.0 billion repurchase plan authorized in 2019. We did not make any repurchases of common stock in the first six months of 2023.

Credit Ratings

Our rating and outlook from each of the credit rating agencies as of the date of filing are shown in the table below:

Long-TermShort-Term
Credit Rating Agency (1)Senior Debt RatingDebt RatingOutlook
Standard and Poor’s Rating ServicesA+A1Stable
Moody’s Investors Service, Inc.A2P1Stable
(1) Credit ratings are not recommendations to buy, are subject to change, and each rating should be evaluated independently of any other rating. In addition, we undertake no obligation to update disclosures concerning our credit ratings, whether as a result of new information, future events or otherwise.

Management's Assessment of Liquidity

Our financial condition and liquidity remain strong. Our solid balance sheet and credit ratings enable us to have ready access to credit and the capital markets. We assess our liquidity in terms of our ability to generate adequate cash to fund our operating, investing and financing activities. We believe our access to capital markets, our existing cash and marketable securities, operating cash flow and revolving credit facilities provide us with the financial flexibility needed to fund repayment of debt obligations, dividend payments, acquisitions, targeted capital expenditures, common stock repurchases, projected pension obligations, working capital and equity injections for our subsidiaries through 2023 and beyond. We continue to generate significant cash from operations and maintain access to our revolving credit facilities and commercial paper programs as noted above.

APPLICATION OF CRITICAL ACCOUNTING ESTIMATES

A summary of our significant accounting policies is included in NOTE 1, “SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES,” of the Notes to the Consolidated Financial Statements of our 2022 Form 10-K, which discusses accounting policies that we have selected from acceptable alternatives.

Our Condensed Consolidated Financial Statements are prepared in accordance with generally accepted accounting principles that often require management to make judgments, estimates and assumptions regarding uncertainties that affect the reported amounts presented and disclosed in the financial statements. Management reviews these estimates and assumptions based on historical experience, changes in business conditions and other relevant factors they believe to be reasonable under the circumstances. In any given reporting period, our actual results may differ from the estimates and assumptions used in preparing our Condensed Consolidated Financial Statements.

Critical accounting estimates are defined as follows: the estimate requires management to make assumptions about matters that were highly uncertain at the time the estimate was made; different estimates reasonably could have been used; or if changes in the estimate are reasonably likely to occur from period to period and the change would have a material impact on our financial condition or results of operations. Our senior management has discussed the development and selection of our accounting policies, related accounting estimates and the disclosures set forth below with the Audit Committee of the Board. Our critical accounting estimates disclosed in the Form 10-K address estimating liabilities for warranty programs, fair value of intangible assets, assessing goodwill impairment, accounting for income taxes and pension benefits.

A discussion of our critical accounting estimates may be found in the “Management’s Discussion and Analysis” section of our 2022 Form 10-K under the caption “APPLICATION OF CRITICAL ACCOUNTING ESTIMATES.” Within the context of these critical accounting estimates, we are not currently aware of any reasonably likely events or circumstances that would result in different policies or estimates being reported in the first six months of 2023.

RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS

See Note 18, "RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS," in the Notes to Condensed Consolidated Financial Statements for additional information.

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