filings.toolsItem 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
66K characters. Original on sec.gov · Markdown
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Teledyne Technologies Incorporated (“Teledyne” or the “Company”) provides enabling technologies for industrial growth markets that require advanced technology and high reliability. These markets include aerospace and defense, factory automation, air and water quality environmental monitoring, electronics design and development, oceanographic research, deepwater oil and gas exploration and production, medical imaging and pharmaceutical research. Our products include digital imaging sensors, cameras and systems within the visible, infrared and X-ray spectra, monitoring and control instrumentation for marine and environmental applications, harsh environment interconnects, electronic test and measurement equipment, aircraft information management systems, and defense electronics and satellite communication subsystems. We also supply engineered systems for defense, space, environmental and energy applications. We differentiate ourselves from many of our direct competitors by having a customer and Company-sponsored applied research center that augments our product development expertise. We believe that technological capabilities and innovation and the ability to invest in the development of new and enhanced products are critical to obtaining and maintaining leadership in our markets and the industries in which we compete.
Strategy/Overview
Our strategy continues to emphasize growth in our core markets of digital imaging, instrumentation, aerospace and defense electronics and engineered systems. Our core markets are characterized by high barriers to entry and include specialized products and services not likely to be commoditized. We intend to strengthen and expand our core businesses with targeted acquisitions and through product development. We continue to focus on balanced and disciplined capital deployment among capital expenditures, acquisitions and product development. We aggressively pursue operational excellence to continually improve our margins and earnings by emphasizing cost containment and cost reductions in all aspects of our business. At Teledyne, operational excellence includes the rapid integration of the businesses we acquire. Using complementary technology across our businesses and internal research and development, we seek to create new products to grow our Company and expand our addressable markets. We continue to evaluate our businesses to ensure that they are aligned with our strategy.
In connection with this strategy, on May 14, 2021, Teledyne completed the acquisition of FLIR Systems, Inc. (“FLIR”), our largest acquisition to date, in a cash and stock transaction valued at approximately $8.1 billion, comprising of net cash payments of $3.7 billion, $3.9 billion of Teledyne shares issued to existing FLIR shareholders, and the assumption of FLIR debt of $0.5 billion. As a combined company, we uniquely provide a full spectrum of imaging technologies and products spanning X-ray through infrared and from components to complete imaging systems. We also provide a complete range of unmanned systems and imaging payload across all domains ranging from deep sea to deep space. FLIR is part of the Digital Imaging segment. The results of the FLIR acquisition have been included in Teledyne’s results since the date of the acquisition.
FLIR Acquisition and Debt Activities
FLIR stockholders received $28.00 per share in cash and 0.0718 shares of Teledyne common stock for each FLIR share. In the first quarter of 2021, Teledyne completed various financing activities related to the acquisition of FLIR. These activities included entering into a $4.5 billion short term stand-by bridge facility on January 4, 2021, as required by the definitive agreement, resulting in debt expense of $17.2 million. In addition, on March 17, 2021 Teledyne called $493.3 million of existing fixed rate senior notes and incurred debt extinguishment expenses of $13.4 million, which is included in interest and debt expense, net. On March 22, 2021, Teledyne completed all permanent financing for the acquisition of FLIR and terminated the $4.5 billion stand-by bridge facility. The permanent financing consists of $3.0 billion investment-grade bonds (the “Notes”), including $300.0 million aggregate principal amount of 0.65% Notes due 2023, $450.0 million aggregate principal amount of 0.95% Notes due 2024, $450.0 million aggregate principal amount of 1.60% Notes due 2026, $700.0 million aggregate principal amount of 2.25% Notes due 2028 and $1.1 billion aggregate principal amount of 2.75% Notes due 2031. Teledyne may redeem the $450.0 million of 0.95% Notes due 2024 at any time or from time to time, in whole or in part, at the Company’s option, from and after April 1, 2022, at a redemption price equal to 100% of the principal amount of the Notes redeemed. In addition, we guaranteed FLIR’s $500.0 million, 2.50% Fixed Rate Senior Notes due August 2030. Previously on March 4, 2021, Teledyne entered into a $1.0 billion Term Loan Credit Agreement (maturing May 2026) and an Amended and Restated Credit Agreement (maturing March 2026) with capacity of $1.15 billion. The terms of the $1.0 billion Term Loan Credit Agreement allow for prepayments, at the Company’s option, at any time or from time to time, in whole or in part without premium or penalty. Teledyne used the proceeds from the Notes together with the proceeds from the $1.0 billion Term Loan Credit Agreement and cash on hand to pay the cash portion of the consideration for the FLIR acquisition and refinance certain existing debt. In the third quarter of 2021, Teledyne repaid $300.0 million against the Term Loan Credit Agreement due March 2026.
At October 3, 2021, total debt was $4,441.7 million, compared with total debt of $778.5 million at January 3, 2021. The debt balance at October 3, 2021, includes the debt incurred to fund the cash portion of the consideration for the FLIR acquisition. At October 3, 2021, $751.1 million was available under the $1.150 billion credit facility, after reductions of $125.0 million in borrowings and $273.9 million in outstanding letters of credit. The outstanding letters of credit include a $253.6 million letter of credit to the Swedish Tax Authority (“STA”), related to a disputed 2018 tax reassessment issued to a FLIR subsidiary in Sweden.
COVID and Other Challenges
The safety and health of our employees is of utmost importance to Teledyne. Since the COVID-19 vaccination was made available to the public, Teledyne has encouraged voluntary vaccination efforts for its U.S. workforce by providing paid time off to receive the vaccine and, where possible, enlisting local healthcare providers to be onsite to administer the vaccine. Some of our businesses hold U.S. Government contracts subject to a new U.S. Executive Order mandating COVID vaccinations for government contractor employees at certain covered sites. We are taking steps to comply with this mandate at applicable workplaces.
As part of a continuing effort to reduce costs and improve operating performance, as well as to respond to the impact of COVID, beginning in 2020, the Company took actions to reduce headcount across various businesses, reducing our exposure to weak end markets, such as commercial aerospace.
While no company is immune to global economic challenges, Teledyne's business portfolio is well-balanced across end markets and geographies, and includes a high degree of businesses serving critical infrastructure sectors such as the defense industrial base, water and wastewater, and healthcare and public health. However, the continuing dynamic nature of this situation, including on the global supply chain and workforces, as well as inflationary trends, the Company may not fully estimate the impacts of COVID on its financial condition, results of operations or cash flows.
We have experienced supply chain challenges, including increased lead times, as well as cost inflation for parts and components, logistics and labor due to availability constraints and high demand. We expect the inflationary and supply chain constraint trends to continue throughout the remainder of 2021 and may continue thereafter.
2020 Acquisition of OakGate Technology, Inc.
On January 5, 2020, we acquired OakGate Technology, Inc. (“OakGate”) for $28.5 million in cash, net of cash acquired. Based in Loomis, California, OakGate provides software and hardware designed to test electronic data storage devices from development through manufacturing and end-use applications. OakGate is part of the Test and Measurement product line within the Instrumentation segment. Teledyne funded the acquisition with cash on hand. The results of the OakGate acquisition have been included in Teledyne’s results since the date of the acquisition.
Results of Operations
| Third Quarter | Nine Months | ||||||||||||||||||||||
| (in millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||
| Net sales | $ | 1,311.9 | $ | 749.0 | $ | 3,238.6 | $ | 2,276.9 | |||||||||||||||
| Costs and expenses | |||||||||||||||||||||||
| Cost of sales | 787.7 | 458.5 | 1,943.3 | 1,411.7 | |||||||||||||||||||
| Selling, general and administrative expenses (a) | 279.3 | 158.1 | 768.2 | 499.7 | |||||||||||||||||||
| Acquired intangible asset amortization (a) | 55.3 | 9.9 | 97.9 | 29.2 | |||||||||||||||||||
| Total costs and expenses | 1,122.3 | 626.5 | 2,809.4 | 1,940.6 | |||||||||||||||||||
| Operating income | 189.6 | 122.5 | 429.2 | 336.3 | |||||||||||||||||||
| Interest and debt expense, net | (23.8) | (4.1) | (80.7) | (11.9) | |||||||||||||||||||
| Non-service retirement benefit income | 2.8 | 3.2 | 8.4 | 8.9 | |||||||||||||||||||
| Other income (expense), net | (0.7) | (1.9) | 4.4 | (4.7) | |||||||||||||||||||
| Income before income taxes | 167.9 | 119.7 | 361.3 | 328.6 | |||||||||||||||||||
| Provision for income taxes | 33.8 | 25.8 | 77.8 | 58.8 | |||||||||||||||||||
| Net income | $ | 134.1 | $ | 93.9 | $ | 283.5 | $ | 269.8 | |||||||||||||||
(a) Acquired intangible asset amortization was previously included in selling, general and administrative expenses. Prior period amounts have been reclassified to conform to the current presentation.
| Third Quarter | % | Nine Months | % | ||||||||||||||||||||||||||||||||
| (dollars in millions) | 2021 | 2020 | Change | 2021 | 2020 | Change | |||||||||||||||||||||||||||||
| Net sales (a): | |||||||||||||||||||||||||||||||||||
| Digital Imaging (b) | $ | 760.6 | $ | 239.7 | 217.3 | % | $ | 1,603.4 | $ | 724.0 | 121.5 | % | |||||||||||||||||||||||
| Instrumentation | 287.1 | 263.5 | 9.0 | % | 864.7 | 811.7 | 6.5 | % | |||||||||||||||||||||||||||
| Aerospace and Defense Electronics | 161.8 | 144.8 | 11.7 | % | 465.4 | 444.2 | 4.8 | % | |||||||||||||||||||||||||||
| Engineered Systems | 102.4 | 101.0 | 1.4 | % | 305.1 | 297.0 | 2.7 | % | |||||||||||||||||||||||||||
| Total net sales | $ | 1,311.9 | $ | 749.0 | 75.2 | % | $ | 3,238.6 | $ | 2,276.9 | 42.2 | % | |||||||||||||||||||||||
| Operating income: | |||||||||||||||||||||||||||||||||||
| Digital Imaging (b) | $ | 94.9 | $ | 45.5 | 108.6 | % | $ | 231.5 | $ | 136.1 | 70.1 | % | |||||||||||||||||||||||
| Instrumentation | 63.0 | 50.7 | 24.3 | % | 187.0 | 150.0 | 24.7 | % | |||||||||||||||||||||||||||
| Aerospace and Defense Electronics | 35.9 | 26.7 | 34.5 | % | 92.6 | 57.6 | 60.8 | % | |||||||||||||||||||||||||||
| Engineered Systems | 11.5 | 12.5 | (8.0) | % | 37.4 | 34.7 | 7.8 | % | |||||||||||||||||||||||||||
| Corporate expense (c) | (15.7) | (12.9) | 21.7 | % | (119.3) | (42.1) | 183.4 | % | |||||||||||||||||||||||||||
| Total operating income | $ | 189.6 | $ | 122.5 | 54.8 | % | $ | 429.2 | $ | 336.3 | 27.6 | % | |||||||||||||||||||||||
| (a) Net sales excludes inter-segment sales of $5.4 million and $14.7 million for the third quarter and first nine months of 2021, respectively, and $5.6 million and $18.0 million for the third quarter and nine months of 2020, respectively. | |||||||||||||||||||||||||||||||||||
| (b) On May 14, 2021, the Company completed the acquisition of FLIR, and the 2021 financial results of FLIR have been included since the date of the acquisition. The third quarter and first nine months of 2021 include $473.6 million and $775.0 million, respectively in incremental net sales from FLIR. The third quarter and first nine months of 2021 includes $82.3 million and $152.5 million, respectively, in acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. | |||||||||||||||||||||||||||||||||||
| (c) Corporate expense for the third quarter and first nine months of 2021 includes $0.3 million and $76.7 million, respectively, in acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. |
The table below presents net sales and cost of sales by segment and total company:
| Third Quarter | Nine Months | ||||||||||||||||||||||||||||
| (dollars in millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||||
| Digital Imaging | |||||||||||||||||||||||||||||
| Net sales | $ | 760.6 | $ | 239.7 | $ | 1,603.4 | $ | 724.0 | |||||||||||||||||||||
| Cost of sales | $ | 449.3 | $ | 139.0 | $ | 931.8 | $ | 420.3 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 59.1 | % | 58.0 | % | 58.2 | % | 58.1 | % | |||||||||||||||||||||
| Instrumentation | |||||||||||||||||||||||||||||
| Net sales | $ | 287.1 | $ | 263.5 | $ | 864.7 | $ | 811.7 | |||||||||||||||||||||
| Cost of sales | $ | 150.7 | $ | 147.0 | $ | 460.0 | $ | 452.3 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 52.5 | % | 55.8 | % | 53.2 | % | 55.7 | % | |||||||||||||||||||||
| Aerospace and Defense Electronics | |||||||||||||||||||||||||||||
| Net sales | $ | 161.8 | $ | 144.8 | $ | 465.4 | $ | 444.2 | |||||||||||||||||||||
| Cost of sales | $ | 103.1 | $ | 90.6 | $ | 302.6 | $ | 297.8 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 63.7 | % | 62.6 | % | 65.0 | % | 67.0 | % | |||||||||||||||||||||
| Engineered Systems | |||||||||||||||||||||||||||||
| Net sales | $ | 102.4 | $ | 101.0 | $ | 305.1 | $ | 297.0 | |||||||||||||||||||||
| Costs of sales | $ | 84.6 | $ | 81.9 | $ | 248.9 | $ | 241.3 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 82.6 | % | 81.1 | % | 81.6 | % | 81.2 | % | |||||||||||||||||||||
| Total Company | |||||||||||||||||||||||||||||
| Net sales | $ | 1,311.9 | $ | 749.0 | $ | 3,238.6 | $ | 2,276.9 | |||||||||||||||||||||
| Costs of sales | $ | 787.7 | $ | 458.5 | $ | 1,943.3 | $ | 1,411.7 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 60.0 | % | 61.2 | % | 60.0 | % | 62.0 | % |
Third Quarter and First Nine Months Results
The following is a discussion of our 2021 third quarter and first nine months results compared with the third quarter and first nine months results of 2020. Comparisons are with the corresponding reporting period of 2020, unless noted otherwise. Acquired intangible asset amortization was previously included in selling, general and administrative expenses. Prior period amounts have been reclassified to conform to the current presentation.
Third quarter of 2021 compared with the third quarter of 2020
Our third quarter of 2021 net sales increased 75.2%. Net income for the third quarter of 2021 increased 42.8%. Net income per diluted share was $2.81 for the third quarter of 2021, compared with net income per diluted share of $2.48.
The third quarter of 2021 net sales included $473.6 million in incremental net sales from the acquisition of FLIR. In connection with the FLIR acquisition, Teledyne incurred pretax expenses of $82.6 million, which included $45.6 million in acquired intangible asset amortization expense, $35.2 million in acquired inventory step-up expense and $1.8 million of transaction and integration-related costs. The third quarter of 2021 also included $9.7 million of acquired intangible asset amortization expense for acquisitions completed in prior periods. The third quarter of 2020 included pretax charges of $13.8 million which included $9.9 million in acquired intangible asset amortization expense and $3.9 million in severance, facility consolidation and other costs. The third quarter of 2021 reflected net discrete income tax benefits of $6.3 million compared with net discrete income tax benefits of $1.2 million.
Net Sales
The third quarter of 2021 net sales, compared with the third quarter of 2020 net sales, reflected higher net sales in each segment. The third quarter of 2021 included $473.6 million in incremental net sales from the acquisition of FLIR in the Digital Imaging segment, as well as organic sales growth.
Cost of Sales
Cost of sales increased $329.2 million in the third quarter of 2021 and primarily reflected the increase in net sales. Cost of sales as a percentage of net sales decreased for the third quarter of 2021 to 60.0%, from 61.2%. The lower cost of sales percentage in 2021, primarily reflects the impact of the FLIR acquisition which carries a lower cost of sales percentage than the other Teledyne businesses.
Selling, General and Administrative Expenses
Selling, general and administrative expenses, including research and development expense, increased $121.2 million in the third quarter of 2021 and primarily reflected the impact of higher net sales. Selling, general and administrative expenses for the third quarter of 2021, as a percentage of net sales increased slightly to 21.3% from 21.1%. Corporate expense, which is included in selling, general and administrative expenses, was $15.7 million for the third quarter of 2021, compared with $12.9 million and reflected higher compensation and professional fees expense. Stock option compensation expense was $5.8 million for the third quarter of 2021 compared with $5.7 million.
Acquired Intangible Asset Amortization
Acquired intangible asset amortization for the third quarter of 2021 was $55.3 million, compared with $9.9 million. The third quarter of 2021 includes $45.6 million in acquired intangible asset amortization from the FLIR acquisition.
Pension Service Expense
Pension service expense is included in both cost of sales and selling general and administrative expense. For both the third quarter of 2021 and 2020, pension service expense was $2.6 million. For 2021, the weighted-average discount rate used to determine the benefit obligation for the domestic qualified pension plans was 2.64% compared with 3.41% in 2020.
Operating Income
Operating income for the third quarter of 2021 increased 54.8%. The third quarter of 2021, compared with the third quarter of 2020, reflected higher operating income in each business segment, except the Engineered Systems segment. Operating income in the third quarter of 2021 included $82.3 million of expense in the Digital Imaging segment for acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. The third quarter of 2020 included pretax charges of $13.8 million which included $9.9 million in acquired intangible asset amortization expense and $3.9 million in severance, facility consolidation and other costs. The incremental operating income included in the results for the third quarter of 2021 from the FLIR acquisition was $35.2 million, which included $82.3 million of acquisition-related transaction and purchase accounting expenses.
Interest and Debt Expense, Non-Service Retirement Benefit Income and Other Income/Expense
Interest and debt expense, net of interest income, was $23.8 million for the third quarter of 2021, compared with $4.1 million. The 2021 amount primarily reflected interest and debt expense on the debt incurred to fund the cash portion of the FLIR acquisition. Non-service retirement benefit income was $2.8 million for the third quarter of 2021, compared with $3.2 million. Other income and expense was expense of $0.7 million for the third quarter of 2021, compared with expense of $1.9 million.
Income Taxes
The income tax provision is calculated using an estimated annual effective tax rate, based upon estimates of annual income, permanent items, statutory tax rates and planned tax strategies in the various jurisdictions in which we operate except that certain loss jurisdictions and discrete items, such as the resolution of uncertain tax positions and share-based accounting income tax benefits, are treated separately.
The Company’s effective income tax rate for the third quarter of 2021 was 20.1%, compared with 21.5%. The third quarter of 2021 included net discrete income tax benefits of $6.3 million, which included $3.0 million income tax benefit related to share-based accounting and an income tax benefit of $4.9 million primarily related to research and development and foreign tax credits. The third quarter of 2020 included net discrete tax benefits of $1.2 million, which included a $0.7 million income tax benefit related to share-based accounting. Excluding the net discrete income tax items in both periods, the effective tax rates would have been 23.9% for the third quarter of 2021 and 22.5% for the third quarter of 2020. The Company’s annual effective tax rate for fiscal year 2021 is expected to be 23.9% before discrete tax items. In addition, we currently expect less discrete tax items in 2021 compared with 2020.
First nine months of 2021 compared with the first nine months of 2020
Our first nine months of 2021 net sales increased 42.2% and included $775.0 million in incremental net sales from the acquisition FLIR. Net income for the first nine months of 2021 increased 5.1%. Net income per diluted share was $6.58 for the first nine months of 2021 compared with net income per diluted share of $7.14. In connection with the FLIR acquisition, in the first nine months of 2021, Teledyne incurred pretax expenses of $259.8 million, which included $51.2 million of transaction and integration-related costs, $51.0 million for the settlement of FLIR employee and director stock awards, $68.4 million in acquired intangible asset amortization expense, $58.6 million in acquired inventory step-up expense and $30.6 million in bridge loan and debt extinguishment fees. The first nine months of 2021 also included $29.5 million of acquired intangible asset amortization expense for acquisitions completed in prior periods. The first nine months of 2020 included pretax charges of $52.1 million which included $29.2 million in acquired intangible asset amortization expense and $22.9 million in severance, facility consolidation, acquisition and certain changes in contract cost estimates and other costs. The first nine months of 2021 included net discrete income tax benefits of $8.5 million, compared with $15.8 million.
Net Sales
The first nine months of 2021 net sales, compared with the first nine months of 2020 net sales, reflected higher net sales in each segment. The first nine months of 2021 included $775.0 million in incremental net sales from the acquisition of FLIR in the Digital Imaging segment, as well as organic sales growth.
Cost of Sales
Cost of sales increased $531.6 million in the first nine months of 2021 and primarily reflected the impact of higher net sales. Cost of sales as a percentage of net sales for the nine months of 2021 decreased to 60.0%, compared with 62.0%. The lower cost of sales percentage in 2021, primarily reflects the impact of the FLIR acquisition which carries a lower cost of sales percentage than the other Teledyne businesses.
Selling, General and Administrative Expenses
Selling, general and administrative expenses, including research and development, increased by $268.5 million in the first nine months of 2021 and primarily reflected the impact of higher net sales, as well as $101.9 million in acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. Selling, general and administrative expenses for the first nine months of 2021, as a percentage of net sales, increased to 23.7% compared with 21.9%. The higher percentage in 2021 primarily reflected the impact of acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. In the first nine months of 2021 and 2020, we recorded a total of $13.6 million and $18.8 million, respectively, in stock option compensation expense. The decrease in stock option expense in the first nine months of 2021, reflects the absence of stock option grants in the first six months of 2021.
Acquired Intangible Asset Amortization
Acquired intangible asset amortization for the first nine months of 2021 was $97.9 million, compared with $29.2 million. The first nine months of 2021 includes $68.4 million in acquired intangible asset amortization from the FLIR acquisition.
Pension Service Expense
Pension service expense for the first nine months of 2021 was $8.0 million compared with $7.8 million.
Operating Income
Operating income for the first nine months of 2021 increased 27.6%. The first nine months of 2021 compared with the first nine months of 2020, reflected higher operating income in each segment. Corporate expense was $119.3 million in the first nine months of 2021 compared with $42.1 million and included $76.7 million in acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition in 2021. The incremental operating income included in the results for the first nine months of 2021 from the FLIR acquisition was $56.6 million, which included $152.5 million of acquisition-related transaction and purchase accounting expenses.
Interest Expense, Non-Service Retirement Benefit Income and Other Income/Expense
Interest expense, net of interest income, was $80.7 million for the first nine months of 2021, compared with $11.9 million. The 2021 amount primarily reflected interest and debt expense on the debt incurred to fund the cash portion of the FLIR acquisition. Other income and expense was income of $4.4 million for the first nine months of 2021 compared with expense of $4.7 million. The first nine months of 2021 amount included $3.3 million in foreign currency income, compared with $4.6 million in foreign currency expense in the first nine months of 2020.
Income Taxes
The Company’s effective income tax rate for the first nine months of 2021 was 21.5% compared with 17.9%. The first nine months of 2021 reflected $8.5 million in net discrete income tax benefits, which included a $9.9 million income benefit related to share-based accounting, a $5.3 million income tax benefit related to the release of a valuation allowance and an income tax benefit of $4.9 million primarily related to research and development and foreign tax credits, partially offset by $11.5 million expense related to foreign tax rate changes. The foreign tax rate changes are a result of the United Kingdom Parliament enacting legislation to increase the corporate tax rate to 25% effective April 2023. The first nine months of 2020 reflected $15.8 million in net discrete income tax benefits, which included a $15.2 million income benefit related to share-based accounting. Excluding the net discrete income tax items in both periods, the effective tax rates would have been 23.9% for the first nine months of 2021 and 22.7% for the first nine months of 2020.
Segment Results
Segment results include net sales and operating income by segment but excludes non-service retirement benefit income, equity income or loss, unusual non-recurring legal matter settlements, interest income and expense, gains and losses on the disposition of assets, sublease rental income and non-revenue licensing and royalty income, domestic and foreign income taxes and corporate office expenses. Corporate expense includes various administrative expenses relating to the corporate office and certain nonoperating expenses, including certain acquisition-related transaction costs, not allocated to our segments. See Note 14 to these condensed consolidated financial statements for additional segment information.
Digital Imaging
| Third Quarter | Nine Months | ||||||||||||||||||||||
| (dollars in millions) | 2021 (a) | 2020 | 2021 (a) | 2020 | |||||||||||||||||||
| Net sales | $ | 760.6 | $ | 239.7 | $ | 1,603.4 | $ | 724.0 | |||||||||||||||
| Cost of sales | $ | 449.3 | $ | 139.0 | $ | 931.8 | $ | 420.3 | |||||||||||||||
| Selling, general and administrative expenses | $ | 166.3 | $ | 50.7 | $ | 358.0 | $ | 154.1 | |||||||||||||||
| Acquired intangible asset amortization | $ | 50.1 | $ | 4.5 | $ | 82.1 | $ | 13.5 | |||||||||||||||
| Operating income | $ | 94.9 | $ | 45.5 | $ | 231.5 | $ | 136.1 | |||||||||||||||
| Cost of sales as a % of net sales | 59.1 | % | 58.0 | % | 58.2 | % | 58.1 | % | |||||||||||||||
| Selling, general and administrative expenses as a % of net sales | 21.9 | % | 21.1 | % | 22.3 | % | 21.3 | % | |||||||||||||||
| Acquired intangible asset amortization as a % of net sales | 6.5 | % | 1.9 | % | 5.1 | % | 1.8 | % | |||||||||||||||
| Operating income as a % of net sales | 12.5 | % | 19.0 | % | 14.4 | % | 18.8 | % |
(a) On May 14, 2021, the Company completed the acquisition of FLIR, and the 2021 financial results of FLIR have been included since the date of the acquisition.
Third quarter of 2021 compared with the third quarter of 2020
The Digital Imaging segment’s third quarter of 2021 net sales increased 217.3%. Operating income for the third quarter of 2021 increased 108.6%.
The third quarter of 2021 net sales increase included $473.6 million of incremental net sales from the FLIR acquisition as well as organic sales growth from industrial and scientific sensors and cameras, x-ray products and micro-electro-mechanical systems (“MEMS”), partially offset by lower sales for geospatial imaging systems. The increase in operating income in the third quarter of 2021 reflected the contribution from FLIR, partially offset by $82.3 million of FLIR acquisition-related transaction and purchase accounting expenses, which included $45.6 million in acquired intangible asset amortization expense, $35.2 million in inventory step-up expense and $1.5 million of integration-related costs. The increase in operating income also reflected the impact of organic sales growth. The incremental operating income included in the results for the third quarter of 2021 from the FLIR acquisition was $35.2 million, which included $82.3 million of acquisition-related transaction and purchase accounting expenses.
The third quarter of 2021 cost of sales increased $310.3 million and primarily reflected the impact of higher net sales. The cost of sales percentage increased to 59.1% in the third quarter of 2021 from 58.0%. Third quarter 2021 selling, general and administrative expenses increased $115.8 million and reflected the impact of higher net sales, as well as the acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. The selling, general and administrative expense percentage increased slightly to 21.9% in the third quarter of 2021 from 21.1%. Acquired intangible asset amortization expense
for the third quarter of 2021 was $50.1 million, compared with $4.5 million. The third quarter 2021 amount included $45.6 million in acquired intangible asset amortization expense related to the FLIR acquisition.
First nine months of 2021 compared with the first nine months of 2020
The Digital Imaging segment’s first nine months of 2021 net sales increased 121.5%. Operating income for the first nine months of 2021 increased 70.1%.
The first nine months of 2021 net sales included $775.0 million incremental net sales from the FLIR acquisition as well as organic sales growth from industrial and scientific sensors and cameras, x-ray products, MEMS and detectors for space imaging applications. The increase in operating income in the first nine months of 2021 reflected the net sales contribution from FLIR partially offset by $152.5 million of acquisition-related transaction and purchase accounting expenses related to FLIR which included $25.5 million of integration-related costs, $68.4 million in acquired intangible asset amortization expense and $58.6 million in inventory step-up expense. The increase in operating income also reflected the impact of organic sales growth. The incremental operating income included in the results for the first nine months of 2021 from the FLIR acquisition was $56.6 million, which included $152.5 million of acquisition-related transaction and purchase accounting expenses.
The first nine months of 2021 cost of sales increased $511.5 million and reflected the impact of higher sales. The cost of sales percentage increased slightly to 58.2% in the first nine months of 2021, from 58.0%. Selling, general and administrative expenses, increased $204.1 million in the first nine months of 2021 and reflected the impact of higher net sales, as well as the acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. The selling, general and administrative expense percentage increased to 22.3% in the first nine months of 2021 from 21.3%. The increase was primarily due to the impact of acquisition-related transaction and purchase accounting expenses related to the FLIR acquisition. Acquired intangible asset amortization expense for the first nine months of 2021 was $82.1 million, compared with $13.5 million. The first nine months of 2021 included $68.4 million in acquired intangible asset amortization expense related to the FLIR acquisition.
Instrumentation
| Third Quarter | Nine Months | ||||||||||||||||||||||||||||
| (dollars in millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||||||||
| Net sales | $ | 287.1 | $ | 263.5 | $ | 864.7 | $ | 811.7 | |||||||||||||||||||||
| Cost of sales | $ | 150.7 | $ | 147.0 | $ | 460.0 | $ | 452.3 | |||||||||||||||||||||
| Selling, general and administrative expenses | $ | 68.4 | $ | 60.7 | $ | 202.5 | $ | 194.4 | |||||||||||||||||||||
| Acquired intangible asset amortization | $ | 5.0 | $ | 5.1 | $ | 15.2 | $ | 15.0 | |||||||||||||||||||||
| Operating income | $ | 63.0 | $ | 50.7 | $ | 187.0 | $ | 150.0 | |||||||||||||||||||||
| Cost of sales as a % of net sales | 52.5 | % | 55.8 | % | 53.2 | % | 55.7 | % | |||||||||||||||||||||
| Selling, general and administrative expenses as a % of net sales | 23.8 | % | 23.1 | % | 23.4 | % | 24.0 | % | |||||||||||||||||||||
| Acquired intangible asset amortization as a % of net sales | 1.8 | % | 1.9 | % | 1.8 | % | 1.8 | % | |||||||||||||||||||||
| Operating income as a % of net sales | 21.9 | % | 19.2 | % | 21.6 | % | 18.5 | % |
Third quarter of 2021 compared with the third quarter of 2020
The Instrumentation segment’s third quarter of 2021 net sales increased 9.0%. Operating income for the third quarter of 2021 increased 24.3%.
The third quarter of 2021 net sales increase resulted from higher sales of test and measurement instrumentation, environmental instrumentation and marine instrumentation. Sales of test and measurement instrumentation increased $12.8 million, environmental instrumentation increased $7.6 million and marine instrumentation increased $3.2 million. The increase in operating income reflected the impact of higher sales and improved margins across most product categories resulting from ongoing margin improvement initiatives.
The third quarter of 2021 cost of sales increased $3.7 million. The cost of sales percentage decreased to 52.5% in the third quarter of 2021 from 55.8%. Third quarter 2021 selling, general and administrative expenses increased $7.7 million, primarily as a result of higher net sales. The selling, general and administrative expense percentage increased slightly to 23.8% in the third quarter of 2021 from 23.1%.
First nine months of 2021 compared with the first nine months of 2020
The Instrumentation segment’s first nine months 2021 net sales increased 6.5%. Operating income for the first nine months of 2021 increased of 24.7%. The first nine months of 2021 net sales increase resulted from higher sales of environmental instrumentation and test and measurement instrumentation, partially offset by lower sales of marine instrumentation. Sales of environmental instrumentation and test and measurement instrumentation increased $31.6 million and $30.5 million, respectively. Sales of marine instrumentation decreased $9.1 million. The increase in operating income the first nine months of
2021 reflected the impact of higher sales and improved margins across most product categories resulting from ongoing margin improvement initiatives.
The first nine months of 2021 cost of sales increased by $7.7 million and primarily reflected the impact of higher sales. The cost of sales percentage decreased to 53.2% in the first nine months of 2021 from 55.7%. The first nine months of 2021 selling, general and administrative expenses increased by $8.1 million. The selling, general and administrative expense percentage decreased slightly to 23.4% in the first nine months of 2021 from 24.0%.
Aerospace and Defense Electronics
| Third Quarter | Nine Months | ||||||||||||||||||||||
| (dollars in millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||
| Net sales | $ | 161.8 | $ | 144.8 | $ | 465.4 | $ | 444.2 | |||||||||||||||
| Cost of sales | $ | 103.1 | $ | 90.6 | $ | 302.6 | $ | 297.8 | |||||||||||||||
| Selling, general and administrative expenses | $ | 22.6 | $ | 27.2 | $ | 69.6 | $ | 88.1 | |||||||||||||||
| Acquired intangible asset amortization | $ | 0.2 | $ | 0.3 | $ | 0.6 | $ | 0.7 | |||||||||||||||
| Operating income | $ | 35.9 | $ | 26.7 | $ | 92.6 | $ | 57.6 | |||||||||||||||
| Cost of sales as a % of net sales | 63.7 | % | 62.6 | % | 65.0 | % | 67.0 | % | |||||||||||||||
| Selling, general and administrative expenses as a % of net sales | 14.0 | % | 18.8 | % | 15.0 | % | 19.8 | % | |||||||||||||||
| Acquired intangible asset amortization as a % of net sales | 0.1 | % | 0.2 | % | 0.1 | % | 0.2 | % | |||||||||||||||
| Operating income as a % of net sales | 22.2 | % | 18.4 | % | 19.9 | % | 13.0 | % |
Third quarter of 2021 compared with the third quarter of 2020
The Aerospace and Defense Electronics segment’s third quarter of 2021 net sales increased 11.7%. Operating income for the third quarter of 2021 increased 34.5%.
The third quarter of 2021 net sales reflected $9.9 million of higher sales for defense and space electronics and $7.1 million for aerospace electronics. Operating income in the third quarter of 2021 reflected the impact of higher sales and a lower cost structure due to actions taken in 2020, lower research and development costs. Research and development expense was lower by $2.8 million in the third quarter of 2021, and primarily reflected lower spending for aerospace electronics.
The third quarter of 2021 cost of sales increased $12.5 million and reflected the impact of higher sales. The cost of sales percentage increased to 63.7% for the third quarter of 2021, from 62.6%. Selling, general and administrative expenses, including research and development expense, decreased to $22.6 million in the third quarter of 2021 from $27.2 million and reflected the impact lower research and development expense, partially offset by the impact of higher net sales. The selling, general and administrative expense percentage decreased to 14.0% in the third quarter of 2021 from 18.8% and reflected the impact of lower research and development expense.
First nine months of 2021 compared with the first nine months of 2020
The Aerospace and Defense Electronics segment’s first nine months of 2021 net sales increased 4.8%. Operating income for the first nine months of 2021 increased 60.8%.
The first nine months of 2021 net sales reflected $24.9 million of higher sales for defense and space electronics, partially offset by lower sales of $3.7 million for aerospace electronics. The weakness in the commercial aerospace industry, due to COVID, has negatively affected sales of aerospace electronics. The increase in operating income in the first nine months of 2021 primarily reflected the impact of higher sales and $7.5 million of lower severance, facility consolidation cost. Research and development expense was lower by $10.7 million in the first nine months of 2021, and primarily reflected lower spending for aerospace electronics.
The first nine months of 2021 cost of sales increased by $4.8 million and reflected the impact of higher sales, partially offset by the impact of lower severance and facility consolidation costs. The cost of sales percentage decreased to 65.0% in the first nine months of 2021, from 67.0% and reflected impact of lower severance and facility consolidation costs. Selling, general and administrative expenses, including research and development expense, decreased to $69.6 million in the first nine months of 2021, compared with $88.1 million for the first nine months of 2020 and impact of lower severance, facility consolidation and lower research and development expense. The selling, general and administrative expense percentage decreased to 15.0% in the first nine months of 2021, compared with 19.8% and reflected impact of lower severance, facility consolidation and lower research and development expense.
Engineered Systems
| Third Quarter | Nine Months | ||||||||||||||||||||||
| (dollars in millions) | 2021 | 2020 | 2021 | 2020 | |||||||||||||||||||
| Net sales | $ | 102.4 | $ | 101.0 | $ | 305.1 | $ | 297.0 | |||||||||||||||
| Cost of sales | $ | 84.6 | $ | 81.9 | $ | 248.9 | $ | 241.3 | |||||||||||||||
| Selling, general and administrative expenses | $ | 6.3 | $ | 6.6 | $ | 18.8 | $ | 21.0 | |||||||||||||||
| Operating income | $ | 11.5 | $ | 12.5 | $ | 37.4 | $ | 34.7 | |||||||||||||||
| Cost of sales as a % of net sales | 82.6 | % | 81.1 | % | 81.6 | % | 81.2 | % | |||||||||||||||
| Selling, general and administrative expenses as a % of net sales | 6.2 | % | 6.5 | % | 6.1 | % | 7.1 | % | |||||||||||||||
| Operating income as a % of net sales | 11.2 | % | 12.4 | % | 12.3 | % | 11.7 | % |
Third quarter of 2021 compared with the third quarter of 2020
The Engineered Systems segment’s third quarter of 2021 net sales increased 1.4%. Operating income for the third quarter of 2020 decreased 8.0%.
The third quarter of 2021 net sales primarily reflected higher sales of $7.8 million of engineered products, partially offset by lower sales of $6.3 million of turbine engines. The higher sales for engineered products primarily reflected increased sales from medical modeling and analysis, missile defense and marine manufacturing programs. Teledyne exited the turbine engine business in the first quarter of 2021.
The third quarter of 2021 cost of sales increased $2.7 million. The cost of sales percentage increased to 82.6% for the third quarter of 2021,from 81.1%. Selling, general and administrative expense was $6.3 million for the third quarter of 2021, compared with $6.6 million. The selling, general and administrative expense percentage decreased slightly to 6.2% for the third quarter of 2021 from 6.5%.
First nine months of 2021 compared with the first nine months of 2020
The Engineered Systems segment’s first nine months of 2021 net sales increased 2.7%. Operating income for the first nine months of 2021 increased 7.8%.
The first nine months of 2021 net sales primarily reflected higher sales of $19.5 million of engineered products and services, partially offset by lower net sales of $11.2 million for turbine engines. The higher sales for engineered products primarily reflected increased sales from missile defense, medical modeling and analysis, and marine and other manufacturing programs. Operating income in the first nine months of 2021 reflected the impact of higher sales.
The first nine months of 2021 cost of sales increased by $7.6 million and primarily reflected the impact of higher sales. The cost of sales as a percentage increased slightly to 81.6% for the first nine months of 2021,from 81.2%. Selling, general and administrative expenses, including research and development expense, decreased to $18.8 million for the first nine months of 2021, compared with $21.0 million for the first nine months of 2020. The selling, general and administrative expense percentage decreased to 6.1% for the first nine months of 2021, compared with 7.1%.
Financial Condition, Liquidity and Capital Resources
Our net cash provided by operating activities was $529.0 million for the first nine months of 2021, compared with net cash provided by operating activities of $382.5 million. The higher cash provided by operating activities in the first nine months of 2021 reflects improved working capital management, which included a focus on inventory reduction initiatives, and the cash flow contribution from FLIR, partially offset by after tax payments of $68.8 million for expenses related to the FLIR acquisition, $15.1 million in higher income tax payments and higher interest payments.
Our net cash used by investing activities was $3,790.4 million for the first nine months of 2021, compared with net cash used by investing activities of $80.9 million. The 2021 amount includes the cash portion of the purchase price for the FLIR acquisition of $3.7 billion, net of cash acquired. The first nine months of 2020 included $29.0 million for the OakGate acquisition acquired on January 5, 2020. Capital expenditures for the first nine months of 2021 and 2020 were $67.6 million and $52.0 million, respectively.
Our goodwill was $7,899.5 million at October 3, 2021 and $2,150.0 million at January 3, 2021. The increase in goodwill primarily reflected preliminary amounts recorded for the FLIR acquisition. Teledyne’s net acquired intangible assets were $2,705.2 million at October 3, 2021 and $409.7 million at January 3, 2021. The increase in the balance of net acquired intangible assets reflected preliminary amounts recorded for the FLIR acquisition. The Company is in the process of specifically identifying the amount assigned to certain assets, including acquired intangible assets, and liabilities and the related impact on taxes and goodwill for the FLIR acquisition. The amounts recorded as of October 3, 2021 are preliminary since there was insufficient time between the acquisition date and the end of the period to finalize the analysis.
Financing activities provided cash of $3,147.3 million for the first nine months of 2021, compared with cash used by financing activities of $45.9 million. The higher cash provided by financing activities in the first nine months of 2021 included the proceeds of debt incurred to fund the cash portion of the FLIR acquisition. Proceeds from the exercise of stock options were $21.4 million for the first nine months of 2021 compared with $29.5 million for the first nine months of 2020.
Total debt at October 3, 2021 was $4,441.7 million compared with $778.5 million at January 3, 2021. The debt balance at October 3, 2021, includes the debt incurred in 2021 for the cash portion of the consideration for the FLIR acquisition. At October 3, 2021, Teledyne had $288.9 million in outstanding letters of credit. At October 3, 2021, $751.1 million was available under the $1.150 billion credit facility, after reductions of $125.0 million in borrowings and $273.9 million in outstanding letters of credit. The outstanding letters of credit include a $253.6 million letter of credit to the STA related to a disputed 2018 tax reassessment issued to a FLIR subsidiary in Sweden. See Note 2 to these Notes to Condensed Consolidated Financial Statements for information regarding the STA’s reassessment of tax for the year ending December 31, 2012 related to one of FLIR’s non-operating subsidiaries in Sweden.
Our principal cash and capital requirements are to fund working capital needs, capital expenditures, income tax payments, and debt service requirements, as well as acquisitions. It is anticipated that cash on hand, operating cash flow, together with available borrowings under the $1.15 billion credit facility, will be sufficient to meet these requirements. To support acquisitions, we may raise additional capital. We currently expect to spend approximately $115.0 million for capital expenditures in 2021, of which $67.6 million has been spent in the first nine months of 2021. No cash pension contributions have been made since 2013 or are planned for the remainder of 2021 for the domestic qualified pension plans.
Our credit agreements require Teledyne to comply with various financial and operating covenants and at October 3, 2021, the Company was in compliance with these covenants. As of October 3, 2021, the Company had an adequate amount of margin between required financial covenant ratios (as required by applicable credit agreements) and our actual ratios. At October 3, 2021, the required financial ratios and the actual ratios were as follows:
| $1.15 billion Credit Facility expires March 2026, $1.0 billion term loan due May 2026 and $150.0 million term loan due October 2024 (issued October 2019) | |||||||||||
| Financial Covenants | Requirement | Actual Measure | |||||||||
| Consolidated Leverage Ratio (Net Debt/EBITDA) (a) | No more than 4.75 to 1 | 3.3 to 1 | |||||||||
| Consolidated Interest Coverage Ratio (EBITDA/Interest) (b) | No less than 3.0 to 1 | 9.6 to 1 | |||||||||
a) The Consolidated Leverage Ratio is equal to Net Debt/EBITDA as defined in our $1.150 billion credit agreement. Requirement changes to 4.5 to 1 for the second and third quarter of 2022 and to 4.0 to 1 for the fourth quarter of 2022 and 3.5 to 1 thereafter.
b) The Consolidated Interest Coverage Ratio is equal to EBITDA/Interest as defined in our $1.150 billion credit agreement.
Our liquidity is not dependent upon the use of off-balance sheet financial arrangements. We have no off-balance sheet financing arrangements that incorporate the use of special purpose entities or unconsolidated entities.
Critical Accounting Policies
Our critical accounting policies are those that are reflective of significant judgments and uncertainties, and may potentially result in materially different results under different assumptions and conditions. Our critical accounting policies are the following: accounting for revenue recognition; accounting for pension plans; accounting for business combinations, goodwill, and acquired intangible assets; and accounting for income taxes.
For additional discussion of the application of the critical accounting policies and other accounting policies, see Note 1 to these Condensed Consolidated Financial Statements and also Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Note 2 of the Notes to Consolidated Financial Statements included in Teledyne’s 2020 Form 10-K.
Safe Harbor Cautionary Statement Regarding Forward-Looking Information
From time to time we make, and this report contains, forward looking statements, as defined in the Private Securities Litigation Reform Act of 1995, directly or indirectly relating to sales, earnings, operating margin, growth opportunities, acquisitions, including the acquisition of FLIR, product sales, capital expenditures, pension matters, stock-based compensation expense, the credit facility, interest expense, severance, relocation and facility consolidation costs, environmental remediation costs, taxes, exchange rate fluctuations and strategic plans. Forward-looking statements are generally accompanied by words such as “estimate”, “project”, “predict”, “believes” or “expect”, that convey the uncertainty of future events or outcomes. All statements made in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and in other sections of this Form 10-Q that are not historical in nature should be considered forward-looking.
Actual results could differ materially from these forward-looking statements. Many factors could change anticipated results, including ongoing challenges and uncertainties posed by the COVID pandemic for businesses and governments around the world, including production, supply, contractual and other disruptions, including facility closures and furloughs and travel restrictions; the inability to integrate FLIR successfully, to retain customers and key employees and to achieve operating synergies, including the possibility that the anticipated benefits of the transaction are not realized when expected or at all, including as a result of the impact of, or problems arising from, the integration of the two companies or as a result of the
strength of the economy and competitive factors in the areas where Teledyne and FLIR do business; changes in relevant tax and other laws; risks associated with indebtedness, including that incurred as a result of financing transactions undertaken in connection with the acquisition of FLIR, as well as our ability to reduce indebtedness and the timing thereof; the inability to develop and market new competitive products; inherent uncertainties involved in the estimates and judgments used in the preparation of financial statements and the providing of estimates of financial measures, in accordance with U.S. GAAP and related standards; operating results of FLIR being lower than anticipated; disruptions in the global economy; customer and supplier bankruptcies; changes in demand for products sold to the defense electronics, instrumentation, digital imaging, energy exploration and production, commercial aviation, semiconductor and communications markets; funding, continuation and award of government programs; cuts to defense spending resulting from existing and future deficit reduction measures or changes to U.S. and foreign government spending and budget priorities triggered by the COVID pandemic; impacts from the United Kingdom’s exit from the European Union; uncertainties related to the policies of the U.S. Presidential Administration; the imposition and expansion of, and responses to, trade sanctions and tariffs; the continuing review and resolution of FLIR’s tax and export matters; escalating economic and diplomatic tension between China and the United States; the impact of higher inflation; semiconductor and other supply chain shortages; and threats to the security of our confidential and proprietary information, including cyber security threats. Lower oil and natural gas prices, as well as instability in the Middle East or other oil producing regions, and new regulations or restrictions relating to energy production could further negatively affect our businesses that supply the oil and gas industry. Continued weakness in the commercial aerospace industry will negatively affect the markets of our commercial aviation businesses. In addition, financial market fluctuations affect the value of the company’s pension assets. Changes in the policies of U.S. and foreign governments, including economic sanctions, could result, over time, in reductions or realignment in defense or other government spending and further changes in programs in which the Company participates. An adverse tax ruling by the Swedish Appellate Court related to a pre-acquisition assessment by the Swedish Tax Authority against a FLIR subsidiary would materially impact our cash flow.
While the Company’s growth strategy includes possible acquisitions, we cannot provide any assurance as to when, if or on what terms any acquisitions will be made. Acquisitions involve various inherent risks, such as, among others, our ability to integrate acquired businesses, retain customers and achieve identified financial and operating synergies. There are additional risks associated with acquiring, owning and operating businesses internationally, including those arising from U.S. and foreign government policy changes or actions and exchange rate fluctuations.
While we believe our internal and disclosure control systems are effective, there are inherent limitations in all control systems, and misstatements due to error or fraud may occur and not be detected.
Readers are urged to read our periodic reports filed with the Securities and Exchange Commission for a more complete description of our Company, its businesses, its strategies and the various risks that we face. Various risks are identified in Teledyne’s 2020 Form 10-K and subsequent Quarterly Reports on Form 10-Q.
We assume no duty to publicly update or revise any forward-looking statements, whether as a result of new information or otherwise.
Previous: Item 1. Financial Statements · Next: Item 3. Quantitative and Qualitative Disclosures About Market Risk