Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

NOTE REGARDING AMOUNTS AND FISCAL YEAR REFERENCES

In this annual report, all amounts related to United States dollars and foreign currency and to the number of Nordson Corporation’s common shares, except for per share earnings and dividend amounts, are expressed in thousands. Unless the context otherwise indicates, all references to “we,” “us,” “our,” or the “Company” mean Nordson Corporation.

Unless otherwise noted, all references to years relate to our fiscal year ending October 31.

Critical Accounting Policies and Estimates

Our Consolidated Financial Statements and accompanying notes have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates, judgments and assumptions that affect reported amounts of assets, liabilities, revenues and expenses. On an ongoing basis, we evaluate the accounting policies and estimates that are used to prepare financial statements. We base our estimates on historical experience and assumptions believed to be reasonable under current facts and circumstances. Actual amounts and results could differ from these estimates used by management.

Certain accounting policies that require significant management estimates and are deemed critical to our results of operations or financial position are discussed below. On a regular basis, critical accounting policies are reviewed with the Audit Committee of the board of directors.

Revenue recognition – A contract exists when it has approval and commitment from both parties, the rights of the parties are identified, payment terms are identified, the contract has commercial substance and collectability of the consideration is probable. Revenue is recognized when performance obligations under the terms of the contract with a customer are satisfied. Generally, our revenue results from short-term, fixed-price contracts and is recognized as of a point in time when the product is shipped or at a later point when the control of the product transfers to the customer. Refer to Note 1 to the Consolidated Financial Statements for further discussion around the Company's revenue recognition policy.

Business combinations – The acquisitions of our businesses are accounted for under the acquisition method of accounting. The amounts assigned to the identifiable assets acquired and liabilities assumed in connection with acquisitions are based on estimated fair values as of the date of the acquisition, with the remainder, if any, recorded as goodwill. The fair values are determined by management, taking into consideration information supplied by the management of the acquired entities, and other relevant information. Such information typically includes valuations obtained from independent appraisal experts, which management reviews and considers in its estimates of fair values. The valuations are generally based upon future cash flow projections for the acquired assets, discounted to present value. The determination of fair values requires significant judgment by management, particularly with respect to the value of identifiable intangible assets. This judgment could result in either a higher or lower value assigned to amortizable or depreciable assets. The impact could result in either higher or lower amortization and/or depreciation expense.

Goodwill – Goodwill is the excess of purchase price over the fair value of tangible and identifiable intangible net assets acquired in various business combinations. Goodwill is not amortized but is tested for impairment annually at the reporting unit level, or more often if indications of impairment exist. Our reporting units are the Adhesive Dispensing Systems segment, the Industrial Coating Systems segment and one level below the Advanced Technology Systems segment.

We test goodwill in accordance with Accounting Standards Codification (ASC) 350. Goodwill impairment charge is recorded for the amount by which the carrying value of the reporting unit exceeds the fair value of the reporting unit, as calculated in the quantitative analysis described below. We did not record any goodwill impairment charges in 2019. We use an independent valuation specialist to assist with refining our assumptions and methods used to determine fair values using these methods. To test for goodwill impairment, we estimate the fair value of each of our reporting units using a combination of the Income Approach and the Market Approach.

The discounted cash flow method (Income Approach) uses assumptions for revenue growth, operating margin, and working capital turnover that are based on management’s strategic plans tempered by performance trends and reasonable expectations about those trends. Terminal value calculations employ a published formula known as the Gordon Growth Model Method that essentially captures the present value of perpetual cash flows beyond the last projected period assuming a constant Weighted Average Cost of Capital (WACC) methodology and growth rate. For each reporting unit, a sensitivity analysis is performed to vary the discount and terminal growth rates in order to provide a range of reasonableness for detecting impairment. Discount rates are developed using a WACC methodology. The WACC represents the blended average required rate of return for equity and debt capital based on observed market return data and company specific risk factors. For 2019, the discount rates used ranged from 9 percent to 12 percent depending upon the reporting unit's size, end market volatility, and projection risk.

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In the application of the guideline public company method (Market Approach), fair value is determined using transactional evidence for similar publicly traded equity. The comparable company guideline group is determined based on relative similarities to each reporting unit since exact correlations are not available. An indication of fair value for each reporting unit is based on the placement of each reporting unit within a range of multiples determined for its comparable guideline company group. Valuation multiples are derived by dividing latest twelve-month performance for revenues and EBITDA into total invested capital, which is the sum of traded equity plus interest bearing debt less cash. These multiples are applied against the revenue and EBITDA of each reporting unit. While the implied indications of fair value using the guideline public company method yield meaningful results, the discounted cash flow method of the income approach includes management’s thoughtful projections and insights as to what the reporting units will accomplish in the near future. Accordingly, the reasonable, implied fair value of each reporting unit is a blend based on the consideration of both the Income and Market approaches.

In 2019, 2018, and 2017, the results of our annual impairment tests indicated no impairment.

The excess of fair value (FV) over carrying value (CV) was compared to the carrying value for each reporting unit. Based on the results shown in the table below and based on our measurement date of August 1, 2019, our conclusion is that no goodwill was impaired in 2019. Potential events or circumstances, such as a sustained downturn in global economies, could have a negative effect on estimated fair values.

		WACC			Excess of FV over CV			Goodwill
Adhesive Dispensing Systems Segment		9.0%			564%			$	386,713
Industrial Coating Systems Segment		10.5%			550%			$	24,058
Advanced Technology Systems Segment - Electronics Systems		10.0%			295%			$	27,581
Advanced Technology Systems Segment - Fluid Management		10.0%			127%			$	1,098,006
Advanced Technology Systems Segment - Test & Inspection		12.0%			178%			$	77,118

Pension plans and postretirement medical plans - The measurement of liabilities related to our pension plans and postretirement medical plans is based on management’s assumptions related to future factors, including interest rates, return on pension plan assets, compensation increases, mortality and turnover assumptions, and health care cost trend rates.

The weighted-average discount rate used to determine the present value of our domestic pension plan obligations was 3.25 percent at October 31, 2019 and 4.53 percent at October 31, 2018. The weighted-average discount rate used to determine the present value of our various international pension plan obligations was 1.26 percent at October 31, 2019, compared to 2.14 percent at October 31, 2018. The discount rates used for all plans were determined by using quality fixed income investments with a duration period approximately equal to the period over which pension obligations are expected to be settled.

In determining the expected return on plan assets, we consider both historical performance and an estimate of future long-term rates of return on assets similar to those in our plans. We consult with and consider the opinions of financial and actuarial experts in developing appropriate return assumptions. The expected rate of return (long-term investment rate) on domestic pension assets used to determine net benefit costs was 6.00 percent in both 2019 and 2018. The average expected rate of return on international pension assets used to determine net benefit costs was 3.96 percent in 2019 and 3.91 percent in 2018.

The assumed rate of compensation increases used to determine the present value of our domestic pension plan obligations was 4.00 percent at October 31, 2019, compared to 3.90 percent at October 31, 2018. The assumed rate of compensation increases used to determine the present value of our international pension plan obligations was 3.12 percent at both October 31, 2019, and October 31, 2018.

Annual expense amounts are determined based on the discount rate used at the end of the prior year. Differences between actual and assumed investment returns on pension plan assets result in actuarial gains or losses that are amortized into expense over a period of years.

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Economic assumptions have a significant effect on the amounts reported. The effect of a one percent change in the discount rate, expected return on assets and compensation increase is shown in the table below. Bracketed numbers represent decreases in expense and obligation amounts.

		United States								International
		1% Point Increase				1% Point Decrease				1% Point Increase				1% Point Decrease
Discount rate:
Effect on total net periodic pension cost in 2019		$	(5,413	)		$	7,862			$	(1,184	)		$	1,333
Effect on pension obligation as of October 31, 2019		$	(74,804	)		$	94,969			$	(13,823	)		$	16,523
Expected return on assets:
Effect on total net periodic pension cost in 2019		$	(3,890	)		$	3,890			$	(407	)		$	407
Compensation increase:
Effect on total net periodic pension cost in 2019		$	4,625			$	(4,046	)		$	522			$	(461	)
Effect on pension obligation as of October 31, 2019		$	28,775			$	(25,955	)		$	3,186			$	(2,955	)

With respect to the domestic postretirement medical plan, the discount rate used to value the benefit obligation was 3.27 percent at October 31, 2019 and 4.56 percent at October 31, 2018. The annual rate of increase in the per capita cost of covered benefits (the health care cost trend rate) is assumed to be 3.62 percent in 2020, decreasing gradually to 3.24 percent in 2026.

For the international postretirement plan, the discount rate used to value the benefit obligation was 3.03 percent at October 31, 2019 and 3.88 percent at October 31, 2018. The annual rate of increase in the per capita cost of covered benefits (the health care cost trend rate) is assumed to be 4.00 percent in 2020 to 4.05 percent in 2040.

The discount rate and the health care cost trend rate assumptions have a significant effect on the amounts reported. For example, a one-percentage point change in the discount rate and the assumed health care cost trend rate would have the following effects. Bracketed numbers represent decreases in expense and obligation amounts.

		United States								International
		1% Point Increase				1% Point Decrease				1% Point Increase				1% Point Decrease
Discount rate:
Effect on total net postretirement benefit cost components in 2019		$	(535	)		$	681			$	(3	)		$	3
Effect on postretirement obligation as of October 31, 2019		$	(12,237	)		$	15,551			$	(87	)		$	116
Health care trend rate:
Effect on total net postretirement benefit cost components in 2019		$	494			$	(400	)		$	9			$	(7	)
Effect on postretirement obligation as of October 31, 2019		$	11,984			$	(9,800	)		$	108			$	(84	)

Employees hired after January 1, 2002, are not eligible to participate in the domestic postretirement medical plan.

Pension and postretirement expenses in 2020 are expected to be approximately $9,900 higher than 2019.

Income taxes – Income taxes are estimated based on income for financial reporting purposes. Deferred income taxes reflect the net tax effect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and certain changes in valuation allowances. We provide valuation allowances against deferred tax assets if, based on available evidence, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

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Management believes the valuation allowances are adequate after considering future taxable income, allowable carryforward periods and ongoing prudent and feasible tax planning strategies. In the event we were to determine that we would be able to realize the deferred tax assets in the future in excess of the net recorded amount (including the valuation allowance), an adjustment to the valuation allowance would increase income in the period such determination was made. Conversely, should we determine that we would not be able to realize all or part of the net deferred tax asset in the future, an adjustment to the valuation allowance would be expensed in the period such determination was made.

Further, at each interim reporting period, we estimate an effective income tax rate that is expected to be applicable for the full year. Significant judgment is involved regarding the application of global income tax laws and regulations and when projecting the jurisdictional mix of income. Additionally, interpretation of tax laws, court decisions or other guidance provided by taxing authorities influences our estimate of the effective income tax rates. As a result, our actual effective income tax rates and related income tax liabilities may differ materially from our estimated effective tax rates and related income tax liabilities. Any resulting differences are recorded in the period they become known.

2019 compared to 2018

Sales – Worldwide sales for 2019 were $2,194,226, a decrease of 2.7 percent from 2018 sales of $2,254,668. Sales volume decreased 0.7 percent and unfavorable currency translation effects decreased sales by 2.0 percent. The volume decrease consisted of 1.1 percent organic decline and 0.4 percent growth from acquisitions.

We had one acquisition during 2019, Optical Control GmbH & Co. KG (“Optical”), which is included within the Advanced Technology Systems segment. As used throughout this Form 10-K, geographic regions include the Americas (Canada, Mexico and Central and South America), Asia Pacific (excluding Japan), Europe, Japan, and the United States.

Sales of the Adhesive Dispensing Systems segment were $950,917 in 2019, a decrease of $4,275, or 0.4 percent, from 2018 sales of $955,192. The decrease was the result of unfavorable currency effects that decreased sales by 2.8 percent, offset by a sales volume increase of 2.4 percent. Within this segment, sales volume increased in all geographic regions with the exception of Europe. Growth in product lines serving packaging, product assembly, and polymer processing end markets was offset by softness in product lines serving nonwoven end markets.

Sales of the Advanced Technology Systems segment were $985,850 in 2019, a decrease of $53,516, or 5.1 percent, from 2018 sales of $1,039,366. The decrease was the result of a sales volume decrease of 3.7 percent and unfavorable currency effects that decreased sales by 1.4 percent. The sales volume decrease consisted of 4.6 percent from organic volume offset by a 0.9 percent increase from the first-year effect of acquisitions. Within this segment, sales volume, inclusive of acquisitions, increased in the United States and Americas geographic regions, and was offset by softness in all other regions. Growth in our fluid management product lines serving medical end markets was offset by lower demand in our dispensing product lines serving electronics end markets.

Sales of the Industrial Coating Systems segment were $257,459 in 2019, a decrease of $2,651, or 1.0 percent, from 2018 sales of $260,110. The decrease was the result of unfavorable currency effects that decreased sales by 1.5 percent, offset by a sales volume increase of 0.5 percent. Within this segment, sales volume increased in the United States, Americas and Japan regions, and was offset by softness in the Europe and Asia Pacific regions. Growth in cold materials product lines serving automotive end markets was offset by softness in the liquid and container product lines serving industrial end markets.

Sales outside the United States accounted for 65.4 percent of total sales in 2019, as compared to 68.0 percent in 2018. On a geographic basis, sales in the United States were $758,383, an increase of 5.2 percent from 2018. The increase in sales volume consisted of 4.9 percent from organic volume and 0.3 percent from acquisitions. In the Americas region, sales were $167,661, an increase of 5.6 percent over 2018, with volume increasing 7.4 percent partially offset by unfavorable currency effects of 1.8 percent. The increase in sales volume consisted of 7.2 percent from organic volume and 0.2 percent from acquisitions. Sales in Europe were $571,596, a decrease of 8.1 percent from 2018, with volume decreasing 3.3 percent and unfavorable currency effects of 4.8 percent. The decrease in sales volume consisted of 3.8 percent from organic volume offset by a 0.5 percent increase from acquisitions. Sales in Japan were $126,756, a decrease of 21.6 percent from 2018, with volume decreasing 22.2 percent offset by favorable currency effects of 0.6 percent. The decrease in sales volume consisted of 22.9 percent from organic volume offset by a 0.7 percent increase from acquisitions. Sales in the Asia Pacific region were $569,830, a decrease of 3.6 percent from 2018, with volume decreasing 1.3 percent and unfavorable currency effects of 2.3 percent. The decrease in sales volume consisted of lower organic volume of 1.9 percent, offset by a 0.6 percent increase from acquisitions.

It is estimated that the effect of pricing on 2019 total sales was not material relative to 2018.

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Operating profit – Cost of sales were $1,002,123 in 2019, down 1.6 percent from $1,018,340 in 2018. Gross profit, expressed as a percentage of sales, decreased to 54.3 percent in 2019 from 54.8 percent in 2018. Of the 0.5 percentage point decrease in gross margin, unfavorable currency translation effects contributed 0.4 percentage points and unfavorable product mix contributed 0.1 percentage points.

Selling and administrative expenses were $708,990 in 2019, compared to $733,749 in 2018. The 3.4 percent decrease includes 1.6 percentage points due to lower base business costs and 1.8 percentage points due to unfavorable currency translation effects.

Selling and administrative expenses as a percentage of sales decreased to 32.3 percent in 2019 from 32.5 percent in 2018. The 0.2 percentage point improvement is due to lower base business costs.

Operating capacity for each of our segments can support fluctuations in order activity without significant changes in operating costs. Also, currency translation affects reported operating margins. Operating margins for each segment were unfavorably impacted by a stronger dollar primarily against the Euro and British Pound during 2019 as compared to 2018.

Operating profit as a percentage of sales decreased to 22.0 percent in 2019 compared to 22.3 percent in 2018. Of the 0.3 percentage point decline in operating margin, unfavorable leverage of our selling and administrative expenses contributed 1.2 percentage points, and unfavorable foreign currency translation effects contributed 0.4 percentage points. This decline was offset by 1.2 percentage points due to the first-year effect of acquisitions and 0.1 percentage points due to lower severance costs.

For the Adhesive Dispensing Systems segment, operating profit as a percentage of sales increased to 28.9 percent in 2019 compared to 27.5 percent in 2018. Of the 1.4 percentage point improvement in operating margin, favorable product mix contributed 1.5 percentage points, lower severance and restructuring contributed 0.4 percentage points and favorable leverage of our selling and administrative expense contributed 0.1 percentage points. These improvements were offset by 0.6 percentage points related to unfavorable foreign currency translation effects.

For the Advanced Technology Systems segment, operating profit as a percentage of sales decreased to 20.9 percent in 2019 compared to 23.6 percent in 2018. Of the 2.7 percentage point decline in operating margin, unfavorable product mix contributed 2.8 percentage points, unfavorable foreign currency translation effects contributed 0.4 percentage points and higher severance and restructuring expenses contributed 0.1 percentage points. This decline was partially offset by 0.6 percentage points due to favorable leverage of our selling and administrative expenses.

For the Industrial Coating Systems segment, operating profit as a percentage of sales increased to 20.9 percent in 2019 compared to 20.2 percent in 2018. Of the 0.7 percentage point improvement in operating margin, 2.1 percentage points were due to favorable leverage of our selling and administrative expenses, offset by 1.1 percentage points related to unfavorable product mix and 0.3 percentage points related to unfavorable foreign currency translation effects.

Interest and other income (expense) - Interest expense in 2019 was $47,145, a decrease of $2,432, or 4.9 percent, from 2018. The decrease was due to lower average debt levels than the prior year. Other expense in 2019 was $6,708 compared to other expense of $5,868 in 2018. Included in the current year’s other expense were pension costs related to the adoption of a new accounting standard of $7,136. Included in the prior year’s other expense were pension costs related to the adoption of a new accounting standard, as noted above, of $8,022, foreign currency gains of $1,133 and a non-recurring gain of $2,512.

Income taxes – Income tax expense in 2019 was $94,013, or 21.8 percent of pre-tax income, as compared to $71,144, or 15.9 percent of pre-tax income in 2018.

On December 22, 2017 the U.S. Tax Cuts and Jobs Act ("the Act") was enacted. It reduces the U.S. federal corporate income tax rate from 35 percent to 21 percent. We have an October 31 fiscal year end, therefore the lower corporate income tax rate was phased in, resulting in a U.S. statutory federal rate of 23.34 percent for our fiscal year ended October 31, 2018, and 21.00 percent for subsequent fiscal years. The statutory tax rate of 21.00percent was applied to earnings in the current year.

Our income tax provision for 2018 included a provisional tax benefit of $49,082 to reflect the revaluation of our tax assets and liabilities at the reduced corporate tax rate. We also recorded a provisional tax expense of $27,618 to reflect the transition tax on previously deferred foreign earnings. The net tax effect of these discrete items resulted in a decrease of $21,464 in income tax expense for 2018.

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Subsequent to the enactment of the Act, the SEC staff issued SAB 118, which provided a measurement period of up to one year after the enactment date for companies to finalize the recognition of the income tax effects of the Act. As of January 31, 2019, our provisional accounting for the effects of the Act was complete. As a result, during 2019, and within the one year measurement period provided by SAB 118, we recorded tax expense of $4,866 to the provisional amounts recognized in 2018 due to changes in interpretations and assumptions and the finalizations of estimates. We are paying the transition tax in installments over the eight-year period allowable under the Act. The remaining transition tax is included in other long-term liabilities in the Consolidated Balance Sheet at October 31, 2019 and 2018.

Other provisions of the U.S. Tax Act became effective for us in 2019. The Foreign-Derived Intangible Income provision generates a deduction against our U.S. taxable income for U.S. earnings derived offshore that utilize intangibles held in the U.S. Conversely, the Global Intangible Low-Taxed Income (“GILTI”) provision requires us to subject to U.S. taxation a portion of our foreign subsidiary earnings that exceed an allowable return. We elected to treat any GILTI inclusion as a period expense in the year incurred.

Net income – Net income was $337,091, or $5.79 per diluted share, in 2019, compared to net income of $377,375, or $6.40 per diluted share, in 2018. This represents a 10.7 percent decrease in net income and a 9.5 percent decrease in diluted earnings per share.

2018 compared to 2017

Sales – Worldwide sales for 2018 were $2,254,668, an increase of 9.1 percent from 2017 sales of $2,066,982. Sales volume increased 7.1 percent and favorable currency translation effects increased sales by 2.0 percent. The volume increase consisted of 2.5 percent from organic growth and 4.6 percent from acquisitions. We had two acquisitions during 2018, Sonoscan, Inc. (“Sonoscan”), and Cladach Nua Teoranta (“Clada”), which are both included within the Advanced Technology Systems segment. We had four acquisitions during 2017, ACE Production Technologies, Inc. (“ACE”), Plas-Pak Industries, Inc. (“Plas-Pak), InterSelect GmbH (“InterSelect”), and Vention Medical’s Advanced Technologies business (“Vention”), which are also included within the Advanced Technology Systems segment.

Sales of the Adhesive Dispensing Systems segment were $955,192 in 2018, an increase of $39,173, or 4.3 percent, from 2017 sales of $916,019. The increase was the result of a sales volume increase of 1.5 percent and favorable currency effects that increased sales by 2.8 percent. Within this segment, sales volume increased in all geographic regions with the exception of the United States. Growth in packaging and product assembly product lines was offset by softness in product lines serving polymer processing end markets.

Sales of the Advanced Technology Systems segment were $1,039,366 in 2018, an increase of $141,743 or 15.8 percent, from 2017 sales of $897,623. The increase was the result of a sales volume increase of 14.5 percent and favorable currency effects that increased sales by 1.3 percent. The sales volume increase consisted of 3.8 percent from organic volume and 10.7 percent from the first-year effect of acquisitions. Within this segment, sales volume, inclusive of acquisitions, increased in all geographic regions with the exception of the Asia Pacific region. Organic volume was driven by demand in our fluid management product lines serving industrial and medical end markets.

Sales of the Industrial Coating Systems segment were $260,110 in 2018, an increase of $6,770, or 2.7 percent, from 2017 sales of $253,340. The increase was the result of a sales volume increase of 1.1 percent and favorable currency effects that increased sales by 1.6 percent. Within this segment, sales volume increased in Europe, Japan and the Asia Pacific regions. Growth in powder, liquid and container product lines serving industrial end markets was offset by softness in cold materials product lines serving automotive end markets.

Sales outside the United States accounted for 68.0 percent of our sales in 2018, as compared to 68.7 percent in 2017. On a geographic basis, sales in the United States were $720,832, an increase of 11.3 percent from 2017. The increase in sales volume consisted of 1.9 percent from organic volume and 9.4 percent from acquisitions. In the Americas region, sales were $158,837, an increase of 8.0 percent from 2017, with volume increasing 8.8 percent partially offset by unfavorable currency effects of 0.8 percent. The increase in sales volume consisted of 3.5 percent from organic volume and 5.3 percent from acquisitions. Sales in Europe were $622,108, an increase of 17.2 percent from 2017, with volume increasing 11.4 percent and favorable currency effects of 5.8 percent. The increase in sales volume consisted of 9.2 percent from organic volume and 2.2 percent from acquisitions. Sales in Japan were $161,771, an increase of 9.9 percent from 2017, with volume increasing 8.6 percent and favorable currency effects of 1.3 percent. The increase in sales volume consisted of 7.0 percent from organic volume and 1.6 percent from acquisitions. Sales in the Asia Pacific region were $591,120, a decrease of 0.5 percent from 2017, with volume decreasing 2.2 percent partially offset by favorable currency effects of 1.7 percent. The decrease in sales volume consisted of lower organic volume of 4.4 percent, offset by 2.2 percent growth from acquisitions.

It is estimated that the effect of pricing on 2018 total sales was not material relative to 2017.

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Operating profit – Cost of sales were $1,018,340 in 2018, up 9.8 percent from $927,692 in 2017. Gross profit, expressed as a percentage of sales, decreased to 54.8 percent in 2018 from 55.1 percent in 2017. Of the 0.3 percentage point decrease in gross margin, unfavorable product mix contributed 0.7 percentage points offset by 0.4 percentage points due to favorable currency translation effects.

Selling and administrative expenses were $733,749 in 2018, compared to $672,888 in 2017. The 9.0 percent increase includes 9.4 percent primarily in support of higher sales growth and 1.8 percent due to unfavorable currency translation effects, offset by 2.2 percent due to lower acquisition transaction costs in 2018.

Selling and administrative expenses as a percentage of sales decreased to 32.5 percent in 2018 from 32.6 percent in 2017. Of the 0.1 percentage point improvement, 0.7 percentage points is due to lower acquisition transaction costs, offset by 0.6 percentage points due to higher base business costs.

Operating capacity for each of our segments can support fluctuations in order activity without significant changes in operating costs. Also, currency translation affects reported operating margins. Operating margins for each segment were favorably impacted by a weaker dollar primarily against the Euro during 2018 as compared to 2017.

Operating profit as a percentage of sales decreased to 22.3 percent in 2018 compared to 22.6 percent in 2017. Of the 0.3 percentage point decline in operating margin, unfavorable leverage of our selling and administrative expenses contributed 1.1 percentage points, higher severance and restructuring expenses contributed 0.2 percentage points and unfavorable product mix contributed 0.5 percentage points. This decline was offset by 0.3 percentage points due to the first-year effect of acquisitions, 0.7 percentage points due to lower acquisition transaction costs and 0.5 percentage points due to favorable foreign currency translation effects.

For the Adhesive Dispensing Systems segment, operating profit as a percentage of sales decreased to 27.5 percent in 2018 compared to 28.0 percent in 2017. Of the 0.5 percentage point decline in operating margin, dilution in gross margin of 0.8 percentage points was due to the consolidation of certain facilities in the U.S. and higher severance and restructuring expenses contributed 0.3 percentage points, offset by favorable foreign currency translation effects of 0.6 percentage points.

For the Advanced Technology Systems segment, operating profit as a percentage of sales decreased to 23.6 percent in 2018 compared to 25.6 percent in 2017. Of the 2.0 percentage point decline in operating margin, unfavorable product mix contributed 1.2 percentage points, incremental amortization expense contributed 1.1 percentage points, and higher severance and restructuring expenses contributed 0.1 percentage points. This decline was partially offset by 0.4 percentage points due to favorable foreign currency translation effects.

For the Industrial Coating Systems segment, operating profit as a percentage of sales increased to 20.2 percent in 2018 compared to 18.0 percent in 2017. Of the 2.2 percentage point improvement in operating margin, 1.9 percentage points related to favorable product mix and 0.4 percentage points related to favorable foreign currency translation effects. This improvement was partially offset by 0.1 percentage points due to unfavorable leverage of our selling and administrative expenses.

Interest and other income (expense) - Interest expense in 2018 was $49,576, an increase of $12,975, or 35.4 percent, from 2017. The increase was due to higher average borrowing levels between periods. Other expense in 2018 was $5,868 compared to other expense of $10,634 in 2017. Included in other expense for 2018 were pension costs related to the adoption of a new accounting standard of $8,022, foreign currency gains of $1,133 and a non-recurring gain of $2,512. Included in other expense for 2017 were pension costs related to the adoption of a new accounting standard, as noted above, of $8,670 and foreign currency losses of $686.

Income taxes – Income tax expense in 2018 was $71,144, or 15.9 percent of pre-tax income, as compared to $124,489, or 29.6 percent of pre-tax income in 2017.

On December 22, 2017, the U.S. Tax Cuts and Jobs Act ("the Act") was enacted. It reduced the U.S. federal corporate income tax rate from 35 percent to 21 percent. We have an October 31 fiscal year end, therefore the lower corporate income tax rate will be phased in, resulting in a U.S. statutory federal rate of 23.34 percent for our fiscal year ended October 31, 2018, and 21.00 percent for subsequent fiscal years. The statutory tax rate of 23.34 percent was applied to earnings in 2018.

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The Act requires us to revalue our existing U.S. deferred tax balance to reflect the lower statutory tax rate and pay a one-time transition tax on earnings of certain foreign subsidiaries that were previously deferred from U.S. taxes. As a result, during 2018, we recorded a provisional tax benefit of $49,082 to reflect the revaluation of our tax assets and liabilities at the reduced corporate tax rate. We also recorded a provisional tax expense of $27,618 to reflect the transition tax on previously deferred foreign earnings. The net tax effect of these discrete items resulted in a decrease of $21,464 in income tax expense for 2018. We intend to pay the transition tax in installments over the eight-year period allowable under the Act. The transition tax is primarily included in other long-term liabilities in the Consolidated Balance Sheet at October 31, 2018. Incremental adjustments have been made to these estimates during the three months ended October 31, 2018 based on availability of additional information. The amounts recorded are considered a provisional estimate under the U.S. Securities and Exchange Commission Staff Accounting Bulletin No. 118. The provisional calculations may change after various components of the computation are finalized. Furthermore, we are still analyzing certain aspects of the Act and related interpretive guidance and refining our calculations, which could potentially affect the measurement of these balances or give rise to new or additional deferred tax amounts. Certain provisions of the Act will impact the Company starting in 2019. These provisions include, but are not limited to, the creation of the base erosion anti-abuse tax, a general limitation of U.S. federal income taxes on dividends from foreign subsidiaries, a new provision designed to tax global intangible low-taxed income and the repeal of the domestic production activities deduction. We continue to evaluate the future impacts of these provisions and, as of October 31, 2018, have not recorded any impact of any of these future provisions.

In March 2016, the FASB issued a new standard which simplifies the accounting for share-based payment transactions, which we adopted in the first quarter of 2018. This guidance requires that excess tax benefits and tax deficiencies be recognized as income tax expense or benefit in the Consolidated Statements of Income rather than as additional paid-in capital. Our income tax provision for 2018 also includes a favorable adjustment to unrecognized tax benefits of $1,120 related to the lapse of the statute of limitations.

Our income tax provision for 2017 includes a discrete tax expense of $1,070 related to nondeductible acquisition costs.

Net income – Net income was $377,375, or $6.40 per diluted share, in 2018, compared to net income of $295,802, or $5.08 per diluted share, in 2017. This represents a 27.6 percent increase in net income and a 26.0 percent increase in diluted earnings per share.

Liquidity and Capital Resources

Cash and cash equivalents increased $55,486 in 2019. Cash provided by operating activities was $382,893 in 2019, compared to $504,638 in 2018. The primary sources were net income adjusted for non-cash income and expenses (consisting of depreciation and amortization, non-cash stock compensation, provision for losses on receivables, deferred income taxes, other non-cash expense, and loss on sale of property, plant and equipment), which was $466,941 in 2019, compared to $476,757 in 2018. The decrease in cash provided by operating activities was primarily due to lower net income and the change in operating assets and liabilities, which used $84,048 of cash in 2019, compared to $27,881 provided in 2018.

Cash used in investing activities was $76,289 in 2019, compared to $139,918 in 2018. In the current year, cash of $12,486 was used for the Optical acquisition compared to $50,856 used in the prior year for the Clada and Sonoscan acquisitions. Capital expenditures were $64,244 in 2019 compared to $89,790 in 2018. Capital expenditures were higher in the prior year due to the purchase of a new production and development manufacturing facility in China for product lines within our Adhesives Dispensing Systems segment.

Cash used in financing activities was $251,074 in 2019, compared to cash of $353,690 used in 2018. Net repayment of long-term debt and short-term borrowings used $67,838 of cash in 2019, compared to $268,887 used in 2018. In 2019, cash of $120,510 was used for the purchase of treasury shares, up from $24,012 in 2018. Dividend payments were $82,145 in 2019, up from $72,443 in 2018 due to an increase in the annual dividend to $1.43 per share from $1.25 per share. Issuance of common shares related to employee benefit plans generated $26,020 of cash in 2019, up from $18,811 in 2018.

The following is a summary of significant changes by balance sheet caption from October 31, 2018 to October 31, 2019. Receivables increased $39,342 primarily due to higher sales volume activity in the fourth quarter. Current maturities of long-term debt increased $140,004 primarily due to a $125,000 reclass of our notes issued under our agreement with New York Life and a $15,000 reclass of our Private Placement Notes. Long-term debt decreased $209,953 primarily due to the reclasses to current maturities noted above, payments on our Term Loan Agreement with PNC Bank, revolving credit facility and private shelf facility of $180,800, offset by $111,300 of borrowings on the Euro loan.

In December 2014, the board of directors authorized a $300,000 common share repurchase program. In August 2015, the board of directors authorized the repurchase of up to an additional $200,000 of the Company’s common shares. In August 2018, the board of directors authorized the repurchase of an additional $500,000 of the Company’s common shares, bringing the aggregate total of common shares authorized for repurchase to $1,000,000. Approximately $485,242 of the total $1,000,000 authorized remained available for share repurchases at October 31, 2019. Uses for repurchased shares include the funding of benefit programs including stock options and restricted stock. Shares purchased are treated as treasury shares until used for such purposes. The repurchase program is being funded using cash from operations and proceeds from borrowings under our credit facilities.

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As of October 31, 2019, approximately 94 percent of our consolidated cash and cash equivalents were held at various foreign subsidiaries. Deferred income taxes are not provided on undistributed earnings of international subsidiaries that are intended to be permanently invested in those operations. These undistributed earnings represent the post-income tax earnings under U.S. GAAP not adjusted for previously taxed income which aggregated approximately $1,101,736 and $1,088,183 at October 31, 2019 and 2018, respectively. Should these earnings be distributed, applicable foreign tax credits, distributions of previously taxed income, and utilization of other attributes would substantially offset taxes due upon the distribution. It is not practical to estimate the amount of additional taxes that might be payable on such undistributed earnings.

Contractual Obligations

The following table summarizes contractual obligations as of October 31, 2019:

		Payments Due by Period
						Less than				1-3				4-5				After 5
		Total				1 Year				Years				Years				Years
Debt (1)		$	1,248,383			$	168,738			$	397,197			$	446,597			$	235,851
Interest payments on long-term debt (1)			110,254				21,849				37,694				27,786				22,925
Capital lease obligations (2)			16,571				5,685				5,725				1,599				3,562
Operating leases (2)			140,148				20,194				33,817				25,465				60,672
Contributions related to pension and postretirement benefits (3)			43,900				43,900				—				—				—
Purchase obligations (4)			81,240				78,443				2,797				—				—
Total obligations		$	1,640,496			$	338,809			$	477,230			$	501,447			$	323,010

(1)

In April 2019, we amended, restated and extended the term of our existing $605,000 term loan facility with a group of banks. The unsecured Term Loan Agreement provides for the following three tranches: $100,000 due in March 2020, $200,000 due in September 2022, and $305,000 due in March 2024. The weighted average interest rate for borrowings under this agreement was 2.52 percent at October 31, 2019. For the portion that is due in March 2024, $100,000 of this tranche was paid down in 2019. We were in compliance with all covenants at October 31, 2019.

In April 2019, we entered into a $850,000 unsecured, multicurrency credit facility with a group of banks, which amended, restated and extended our existing syndicated revolving credit agreement that was scheduled to expire in February 2020. This facility has a five-year term expiring April 2024, and includes a $75,000 subfacility for swing-line loans. At October 31, 2019, we had no balances outstanding under this facility, compared to $52,200 outstanding at October 31, 2018. We were in compliance with all covenants at October 31, 2019, and the amount we could borrow under the facility would not have been limited by any debt covenants.

In October 2018, we entered into a €150,000 unsecured Term Loan Agreement with Bank of America Merrill Lynch International Limited. The interest rate is variable based on the EUR LIBOR rate. The weighted average interest rate at October 31, 2019 was 1.00 percent. The balance outstanding at October 31, 2019 and October 31, 2018 was €115,000 ($128,219) and €15,000 ($16,967), respectively. We were in compliance with all covenants at October 31, 2019.

In June 2018, we entered into a Note Purchase Agreement with a group of insurance companies under which we sold $350,000 of unsecured Senior Notes to the insurance companies and their affiliates. The notes mature in June 2023 through June 2030 and bear interest at fixed rates between 3.71 percent and 4.17 percent. We used the proceeds from the sale of the notes to repay approximately $315,000 of the outstanding balance under our existing syndicated revolving credit facility at that time, and the remainder for general corporate purposes. We were in compliance with all covenants at October 31, 2019.

We entered into a $150,000 three-year Note Purchase and Private Shelf agreement with New York Life Investment Management LLC in 2011. In 2015, the amount of the facility was increased to $180,000, and in 2016 it was increased to $200,000. Senior Notes issued under the agreement can have a maturity of up to 12 years, with an average life of up to 10 years, and are unsecured. At October 31, 2019 and October 31, 2018, there was $30,556 and $36,111, respectively, outstanding under this facility. Existing notes mature between January 2020 and September 2020. The interest rate on each borrowing is fixed. At October 31, 2019, the amounts outstanding under this facility bear interest at fixed rates between 2.21 percent and 2.56 percent. We were in compliance with all covenants at October 31, 2019, and the amount we could borrow would not have been limited by any debt covenants.

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In 2012, we entered into a Note Purchase Agreement with a group of insurance companies under which we sold $200,000 of unsecured Senior Notes. At October 31, 2019 and October 31, 2018, $140,800 and $156,700, respectively, was outstanding under this agreement. Existing notes mature between July 2020 and July 2025 and bear interest at fixed rates between 2.62 percent and 3.13 percent. We were in compliance with all covenants at October 31, 2019.

In July 2015, we entered into a Note Purchase Agreement under which $100,000 of unsecured Senior Notes were purchased primarily by a group of insurance companies. At October 31, 2019 and October 31, 2018, $92,857 and $100,000, respectively, was outstanding under this agreement. Existing notes mature between July 2020 and July 2027 and bear interest at fixed rates of 2.89 percent and 3.19 percent. We were in compliance with all covenants at October 31, 2019.

Refer to Note 9 to the Consolidated Financial Statements for further discussion.

(2)	Refer to Note 10 to the Consolidated Financial Statements for further discussion.

(3)	Pension and postretirement plan funding amounts after 2020 will be determined based on the future funded status of the plans and therefore cannot be estimated at this time. Refer to Note 6 to the Consolidated Financial Statements for further discussion.

(4)	Purchase obligations primarily represent commitments for materials used in our manufacturing processes that are not recorded in our Consolidated Balance Sheet.

We believe that the combination of present capital resources, cash from operations and unused financing sources are more than adequate to meet cash requirements for 2020. There are no significant restrictions limiting the transfer of funds from international subsidiaries to the parent company.

Outlook

Our operating performance, balance sheet position, and financial ratios for 2019 remained strong, although uncertainties persist in global financial markets and the general economic environment. Going forward, we are well-positioned to manage our liquidity needs that arise from working capital requirements, capital expenditures, and contributions related to pension and postretirement obligations as well as principal and interest payments on our outstanding debt. Primary sources of capital to meet these needs, as well as other opportunistic investments, are a combination of cash provided by operations and borrowings under our loan agreements. In 2019, cash from operations was 17 percent of revenue. With respect to borrowings, as of October 31, 2019, we had full available capacity under our five-year term, $850,000 unsecured, multicurrency credit facility. This credit facility expires in February 2024.

Respective to all of these loans are two primary covenants: the leverage ratio that generally restricts indebtedness (net of cash) to a maximum 3.75 times consolidated four-quarter trailing EBITDA and the interest coverage ratio that requires four-quarter trailing EBITDA to be a minimum of 2.5 times consolidated trailing four-quarter interest expense. (Debt, EBITDA, and Interest Expense are as defined in the respective credit agreements.)

We are optimistic about our longer-term growth opportunities in the diverse consumer non-durable, industrial, medical, electronics, consumer durable and automotive end markets we serve. We also support our customers with parts and consumables, so a significant percentage of our revenue is recurring. For 2020, organic sales are expected to increase 1 to 3 percent compared to the prior year, offset by an unfavorable currency effect of less than 1 percent, based on the current exchange rate environment as compared to the prior year. Based on this 2020 sales outlook, we are forecasting earnings per share growth of 2 percent to 6 percent compared to the prior year

We move forward with caution given the potential for a lower-growth macroeconomic environment, continued trade negotiations and the marketplace effects of political instability in certain areas of the world. Though the status of the global economy remains unclear, our growth potential has been demonstrated over time through our ability to build and enhance our core businesses by entering emerging markets, pursuing market adjacencies and driving growth initiatives. We drive value for our customers through our application expertise, differentiated technology, and direct sales and service support. Our priorities also are focused on operational efficiencies by employing continuous improvement methodologies in our business processes. We expect our efforts will continue to provide more than sufficient cash from operations to meet our liquidity needs, pay dividends to common shareholders and enable us to invest in the development of new applications and markets for our technologies. We intend to focus capital expenditures in 2020 on continued investments in our information systems and projects that improve both the capacity and efficiency of manufacturing and distribution operations. Cash from operations has been 16 to 22 percent of revenues over the past five years, which when combined with our available borrowing capacity and ready access to capital markets, is more than adequate to fund our liquidity needs over the next year.

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With respect to contractual spending, the table above presents our financial obligations as $1,640,496, of which $338,809 is payable in 2020. In December 2014, the board of directors authorized a $300,000 common share repurchase program. In August 2015, the board of directors authorized the repurchase of up to an additional $200,000 of the Company’s common shares. In August 2018, the board of directors authorized the repurchase of an additional $500,000 of the Company’s common shares, bringing the aggregate total of common shares authorized for repurchase to $1,000,000. Approximately $485,242 of the total $1,000,000 authorized remained available for share repurchases at October 31, 2019. The repurchase program is funded using cash from operations and proceeds from borrowings under our credit facilities. Timing and actual number of shares subject to repurchase are contingent on a number of factors including the level of cash generated from operations, cash requirements for acquisitions, repayment of debt and our share price.

New Accounting Standards

Refer to Note 2 for further discussion of recently issued accounting standards.

Effects of Foreign Currency

The impact of changes in foreign currency exchange rates on sales and operating results cannot be precisely measured due to fluctuating selling prices, sales volume, product mix and cost structures in each country where we operate. As a general rule, a weakening of the United States dollar relative to foreign currencies has a favorable effect on sales and net income, while a strengthening of the dollar has a detrimental effect.

In 2019, as compared with 2018, the United States dollar was generally stronger against foreign currencies. If 2018 exchange rates had been in effect during 2019, sales would have been approximately $45,600 higher and third party costs would have been approximately $23,500 higher. In 2018, as compared with 2017, the United States dollar was generally weaker against foreign currencies. If 2017 exchange rates had been in effect during 2018, sales would have been approximately $41,800 lower and third-party costs would have been approximately $21,700 higher. These effects on reported sales do not include the impact of local price adjustments made in response to changes in currency exchange rates.

Inflation

Inflation affects profit margins as the ability to pass cost increases on to customers is restricted by the need for competitive pricing. Although inflation has been modest in recent years and has had no material effect on the years covered by the financial statements included in this report, we continue to seek ways to minimize the impact of inflation through focused efforts to increase productivity.

Trends

The Five-Year Summary in Item 6 documents our historical financial trends. Over this period, the world’s economic conditions fluctuated significantly. Our solid performance is attributed to our participation in diverse geographic and industrial markets and our long-term commitment to develop and provide quality products and worldwide service to meet our customers’ changing needs.

Safe Harbor Statements Under the Private Securities Litigation Reform Act of 1995

This Form 10-K, particularly “Management’s Discussion and Analysis,” contains forward-looking statements within the meaning of the Securities Act of 1933, as amended, the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995. Such statements relate to, among other things, income, earnings, cash flows, changes in operations, operating improvements, businesses in which we operate and the United States and global economies. Statements in this 10-K that are not historical are hereby identified as “forward-looking statements” and may be indicated by words or phrases such as “anticipates,” “supports,” “plans,” “projects,” “expects,” “believes,” “should,” “would,” “could,” “hope,” “forecast,” “management is of the opinion,” use of the future tense and similar words or phrases.

In light of these risks and uncertainties, actual events and results may vary significantly from those included in or contemplated or implied by such statements. Readers are cautioned not to place undue reliance on such forward-looking statements. These forward-looking statements speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. Factors that could cause our actual results to differ materially from the expected results are discussed in Item 1A, Risk Factors.

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