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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2019
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____to ______

Commission File Number 001-15149

LENNOX INTERNATIONAL INC.
(Exact name of Registrant as specified in its charter)

Delaware
42-0991521
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)

2140 Lake Park Blvd. Richardson, Texas 75080
(Address of principal executive offices, including zip code)

(Registrant’s telephone number, including area code): (972) 497-5000

Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common stock, $0.01 par value per share
LII
New York Stock Exchange

Securities Registered Pursuant to Section 12(g) of the Act: None

Indicate by checkmark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [X] No [ ]
Indicate by checkmark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act. Yes [ ] No [X]
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes [X] No [ ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer
[X]
 
Accelerated Filer
[ ]
Non-Accelerated Filer
[ ]
 
Smaller Reporting Company
 
 
 
Emerging Growth Company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).Yes No x

As of June 30, 2019, the aggregate market value of the common stock held by non-affiliates of the registrant was approximately $11 billion based on the closing price of the registrant’s common stock on the New York Stock Exchange. As of February 7, 2020, there were 38,598,884 shares of the registrant’s common stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s 2019 Definitive Proxy Statement to be filed with the Securities and Exchange Commission in connection with the registrant’s 2019 Annual Meeting of Stockholders to be held on May 21, 2020 are incorporated by reference into Part III of this report.
 





LENNOX INTERNATIONAL INC.
FORM 10-K
For the Fiscal Year Ended December 31, 2019

INDEX
 
 
Page
 
 
 
PART I
 
 
ITEM 1.
ITEM 1A.
ITEM 1B.
ITEM 2.
ITEM 3.
ITEM 4.
 
 
 
PART II
 
 
ITEM 5.
ITEM 6.
ITEM 7.
ITEM 7A.
ITEM 8.
ITEM 9.
ITEM 9A.
ITEM 9B.
 
 
 
PART III
 
 
ITEM 10.
ITEM 11.
ITEM 12.
ITEM 13.
ITEM 14.
 
 
 
PART IV
 
 
ITEM 15.
ITEM 16.
 
 
 
 
 




PART I
Item 1. Business

References in this Annual Report on Form 10-K to “we,” “our,” “us,” “LII” or the “Company” refer to Lennox International Inc. and its subsidiaries, unless the context requires otherwise.

The Company

We are a leading global provider of climate control solutions. We design, manufacture and market a broad range of products for the heating, ventilation, air conditioning and refrigeration (“HVACR”) markets. We have leveraged our expertise to become an industry leader known for innovation, quality and reliability. Our products and services are sold through multiple distribution channels under various brand names. The Company was founded in 1895, in Marshalltown, Iowa, by Dave Lennox, the owner of a machine repair business for railroads. He designed and patented a riveted steel coal-fired furnace, which led to numerous advancements in heating, cooling and climate control solutions.

Shown in the table below are our three business segments, the key products, services and well-known product and brand names within each segment and net sales in 2019 by segment. Segment financial data for 2019, 2018 and 2017, including financial information about foreign and domestic operations, is included in Note 3 of the Notes to our Consolidated Financial Statements in “Item 8. Financial Statements and Supplementary Data” and is incorporated herein by reference.

Segment
 
Products & Services
 
Product and Brand Names
 
2019
Net Sales (in millions)
Residential Heating & Cooling
 
Furnaces, air conditioners, heat pumps, packaged heating and cooling systems, indoor air quality equipment, comfort control products, replacement parts and supplies
 
Lennox, Dave Lennox Signature Collection, Armstrong Air, Ducane, Air-Ease, Concord, Magic-Pak, ADP Advanced Distributor Products, Allied, Healthy Climate, Elite Series, Merit Series, Comfort Sync, iComfort and Lennox Stores
 
$
2,291.1

Commercial Heating & Cooling
 
Unitary heating and air conditioning equipment, applied systems, controls, installation and service of commercial heating and cooling equipment, variable refrigerant flow commercial products
 
Lennox, Allied Commercial, Magic-Pak, Raider, Landmark, Prodigy, Strategos, Energence, Lennox VRF and Lennox National Account Services
 
947.4

Refrigeration
 
Condensing units, unit coolers, fluid coolers, air cooled condensers, air handlers, process chillers, controls, compressorized racks.
 
Heatcraft Worldwide Refrigeration, Lennox (Europe HVAC), Bohn, Larkin, Climate Control, Chandler Refrigeration, Friga-Bohn, HK Refrigeration, Hyfra and Interlink
 
568.7

 
 
 
 
Total
 
$
3,807.2


Products and Services

Residential Heating & Cooling

Heating & Cooling Products. We manufacture and market a broad range of furnaces, air conditioners, heat pumps, packaged heating and cooling systems, equipment and accessories to improve indoor air quality, comfort control products, replacement parts and supplies and related products for both the residential replacement and new construction markets in North America. These products are available in a variety of designs and efficiency levels and at a range of price points, and are intended to provide a complete line of home comfort systems. We believe that by maintaining a broad product line marketed under multiple brand names, we can address different market segments and penetrate multiple distribution channels.

The “Lennox” brands are sold directly to a network of approximately 7,000 independent installing dealers, making us one of the largest wholesale distributors of residential heating and air conditioning products in North America. The Allied Air Enterprise brands (“Armstrong Air,” “Air-Ease,” “Concord,” “Ducane,” and “Magic-Pak”) include a full line of heating and air conditioning products and are sold through independent distributors in North America.


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We continue to invest in our network of 221 Lennox Stores across the United States and Canada. These stores provide an easy access solution for contractors and independent dealers to obtain universal service and replacement parts, supplies, convenience items, tools, Lennox equipment and OEM parts. 

Our Advanced Distributor Products (“ADP”) operation builds evaporator coils and air handlers under the “ADP Advanced Distributor Products” brand and also builds evaporator coils under the “Lennox” brand and Allied Air Enterprise brands. ADP sells ADP-branded evaporator coils to over 450 HVAC wholesale distributors across North America.
 
Commercial Heating & Cooling

North America. In North America, we manufacture and sell unitary heating and cooling equipment used in light commercial applications, such as low-rise office buildings, restaurants, retail centers, churches and schools. Our product offerings for these applications include rooftop units ranging from 2 to 50 tons of cooling capacity and split system/air handler combinations, which range from 1.5 to 20 tons of cooling capacity. These products are distributed primarily through commercial contractors and directly to national account customers. In 2014, we launched Lennox-branded variable refrigerant flow (“VRF”) commercial products through Lennox company-owned distribution. We believe the success of our products is attributable to their efficiency, design flexibility, total cost of ownership, low life-cycle cost, ease of service and advanced control technology.

National Account Services. National Account Service (“NAS”) provides installation, service and preventive maintenance for commercial HVAC national account customers in the United States and Canada.

Refrigeration

We manufacture and market equipment for the global commercial refrigeration markets under the Heatcraft Worldwide Refrigeration name.  We sell these products to distributors, installing contractors, engineering design firms, original equipment manufacturers and end-users. Our global manufacturing, distribution, sales and marketing footprint serves customers in over 113 countries worldwide.

North America.  Our commercial refrigeration products for the North American market include condensing units, unit coolers, fluid coolers, air-cooled condensers, air handlers and refrigeration rack systems.  These products preserve food and other perishables in supermarkets, convenience stores, restaurants, warehouses and distribution centers.  In addition, our products are used to cool a wide variety of industrial processes, including data centers, machine tooling, and other critical cooling applications. We routinely provide application engineering for consulting engineers, contractors, store planners, end customers and others to support the sale of commercial refrigeration products. In the first quarter of 2019, we completed the sale of our Kysor Warren business.

International. In Europe, we manufacture and sell unitary HVAC products, which range from 2 to 70 tons of cooling capacity, and applied systems with up to 200 tons of cooling capacity. Our European products consist of small package units, rooftop units, chillers, air handlers and fan coils that serve medium-rise commercial buildings, shopping malls, other retail and entertainment buildings, institutional applications and other field-engineered applications. We manufacture heating and cooling products in several locations in Europe and market these products through both direct and indirect distribution channels in Europe, Russia, Turkey and the Middle East.

We also manufacture and market refrigeration products including condensing units, unit coolers, air-cooled condensers, fluid coolers, compressor racks and industrial process chillers.  We have manufacturing locations in Germany, France and Spain.  In addition, we own a 50% common stock interest in a joint venture in Mexico that produces unit coolers, air-cooled condensers, condensing units, compressors and compressorized racks of the same design and quality as those manufactured by our U.S. business.  This joint venture product line is complemented with imports from the U.S., which are sold through the joint venture’s distribution network.

Business Strategy

Our business strategy is to sustain and expand our premium market position by offering a full spectrum of products to meet our customers’ needs. We plan to expand our market position through organic growth while maintaining our focus on cost reductions to drive margin expansion and support growth in target business segments. This strategy is supported by the following four strategic priorities:

Innovative Product and System Solutions. In all of our markets, we are building on our heritage of innovation by developing residential, commercial and refrigeration products that give families and business owners more precise control over more aspects of their indoor environments, while significantly lowering their energy costs.

2






Manufacturing and Sourcing Excellence. We maintain our commitment to manufacturing and sourcing excellence by maximizing factory efficiencies and leveraging our purchasing power and sourcing initiatives to expand the use of lower-cost components that meet our high-quality requirements.

Distribution Excellence. By investing resources in expanding our distribution network, we are making products available to our customers in a timely, cost-efficient manner. Additionally, we provide enhanced dealer support through the use of technology, training, advertising and merchandising.

Expense Reduction. Through our cost management initiatives, we are optimizing operating, manufacturing and administrative costs.

Marketing and Distribution

We utilize multiple channels of distribution and offer different brands at various price points in order to better penetrate the HVACR markets. Our products and services are sold through a combination of direct sales, distributors and company-owned parts and supplies stores. Dedicated sales forces and manufacturers’ representatives are deployed across our business segments and brands in a manner designed to maximize our ability to service each distribution channel. To optimize enterprise-wide effectiveness, we have active cross-functional and cross-organizational teams coordinating approaches to pricing, product design, distribution and national account customers.

The North American residential heating and cooling market provides an example of the competitive strength of our marketing and distribution strategy. We use three distinct distribution approaches in this market: the company-owned distribution system, the independent distribution system and direct sales to end-users. We distribute our “Lennox” brands in a company-owned process directly to independent dealers that install these heating and cooling products. We distribute our “Armstrong Air,” “Ducane,” “Air-Ease,” “Concord,” “Magic-Pak” and “ADP Advanced Distributor Products” brands through the traditional independent distribution process pursuant to which we sell our products to distributors who, in turn, sell the products to installing contractors. We also sell our products directly to customers through our Lennox Stores.

Manufacturing

We operate manufacturing facilities worldwide and utilize the best available manufacturing techniques based on the needs of our businesses, including the use of lean manufacturing and principles of Six Sigma, a disciplined, data-driven approach and methodology for improving quality. We use numerous metrics to track and manage annual efficiency improvements. Some facilities are impacted by seasonal production demand, and we manufacture both heating and cooling products in those facilities to balance production and maintain a relatively stable labor force. We may also hire temporary employees to meet changes in demand.

Strategic Sourcing

We rely on various suppliers to furnish the raw materials and components used in the manufacturing of our products. To maximize our buying effectiveness in the marketplace, we have a central strategic sourcing group that consolidates purchases of certain materials, components and indirect items across business segments. The goal of the strategic sourcing group is to develop global strategies for a given component group, concentrate purchases with three to five suppliers and develop long-term relationships with these vendors. By developing these strategies and relationships, we seek to leverage our material needs to reduce costs and improve financial and operating performance. Our strategic sourcing group also works with selected suppliers to reduce costs, improve quality and delivery performance by employing lean manufacturing and Six Sigma.

Compressors, motors and controls constitute our most significant component purchases, while steel, copper and aluminum account for the bulk of our raw material purchases. We own a minority equity interest in a joint venture that manufactures compressors. This joint venture provides us with compressors for our residential and commercial heating and cooling and refrigeration businesses.

Research and Development and Technology

Research and development is a key pillar of our growth strategy.  We operate a global engineering and technology organization that focuses on new technology invention, product development, product quality improvements and process enhancements, including our development of next-generation control systems as well as heating and cooling products that include some of the most efficient products in their respective categories.  We leverage intellectual property and innovative designs across our

3





businesses.  We also leverage product development cycle time improvements and product data management systems to commercialize new products to market more rapidly.  We use advanced, commercially available computer-aided design, computer-aided manufacturing, computational fluid dynamics and other sophisticated design tools to streamline the design and manufacturing processes. We use complex computer simulations and analyses in the conceptual design phase before functional prototypes are created.  We also operate a full line of prototype machine equipment and advanced laboratories certified by applicable industry associations. 
  
Seasonality

Our sales and related segment profit tend to be seasonally higher in the second and third quarters of the year because summer is the peak season for sales of air conditioning equipment and services in the U.S. and Canada. For the same reason, our working capital needs are generally greater in the first and second quarters, and we generally have higher operating cash inflows in the third and fourth quarters.

HVAC markets are driven by seasonal weather patterns. HVAC products and services are sold year round, but the volume and mix of product sales and service change significantly by season. The industry generally ships roughly twice as many units during June as it does in December. Overall, cooling equipment represents a substantial portion of the annual HVAC market. Between the heating season (roughly November through February) and cooling season (roughly May through August) are periods commonly referred to as “shoulder seasons” when the distribution channel transitions its buying patterns from one season to the next. These seasonal fluctuations in mix and volume drive our sales and related segment profit, resulting in somewhat higher sales in the second and third quarters due to the higher volume in the cooling season relative to the heating season.

Patents and Trademarks

We hold numerous patents that relate to the design and use of our products. We consider these patents important, but no single patent is material to the overall conduct of our business. We proactively obtain patents to further our strategic intellectual property objectives. We own or license several trademarks and service marks we consider important in the marketing of our products and services, and we protect our marks through national registrations and common law rights.

Competition

Substantially all markets in which we participate are competitive. The most significant competitive factors we face are product reliability, product performance, service and price, with the relative importance of these factors varying among our businesses. The following are some of the companies we view as significant competitors in each of our three business segments, with relevant brand names, when different from the company name, shown in parentheses. The marks below may be the registered or unregistered trademarks or trade names of their respective owners.

Residential Heating & Cooling -United Technologies Corp. (Carrier, Bryant, Payne, Tempstar, Comfortmaker, Heil, Arcoaire, KeepRite, Day & Night); Ingersoll-Rand plc (Trane, American Standard, Ameristar); Paloma Industries, Inc. (Rheem, Ruud, Weather King); Johnson Controls, Inc. (York, Luxaire, Coleman); Daikin Industries, Ltd. (Daikin, Goodman, Amana, GMC); and Melrose Industries PLC (Maytag, Westinghouse, Frigidaire, Tappan, Philco, Kelvinator, Gibson, Broan, NuTone).

Commercial Heating & Cooling - United Technologies Corp. (Carrier, ICP Commercial); Ingersoll-Rand plc (Trane); Paloma Industries, Inc. (Rheem, Ruud); Johnson Controls, Inc. (York); Daikin Industries, Ltd. (Goodman, McQuay); Melrose Industries PLC (Mammoth); and AAON, Inc.

Refrigeration - Hussmann Corporation; Paloma Industries, Inc. (Rheem Manufacturing Company (Heat Transfer Products Group)); Emerson Electric Co. (Copeland); United Technologies Corp. (Carrier); GEA Group (Kuba, Searle, Goedhart); Alfa Laval; Guntner GmbH; and Panasonic Corp. (Sanyo).

Employees

As of December 31, 2019, we employed approximately 11,200 employees. Approximately 4,700 of these employees were salaried and 6,500 were hourly. The number of hourly workers we employ may vary in order to match our labor needs during periods of fluctuating demand. Approximately 3,000 employees, including international locations, are represented by unions. We believe we have good relationships with our employees and with the unions representing our employees. We currently do not anticipate any material adverse consequences resulting from negotiations to renew any collective bargaining agreements.



4





Environmental Regulation

Our operations are subject to evolving and often increasingly stringent international, federal, state and local laws and regulations concerning the environment.  Environmental laws that affect or could affect our domestic operations include, among others, the National Appliance Energy Conservation Act of 1987, as amended (“NAECA”), the Energy Policy Act ("EPAct"), the Energy Policy and Conservation Act ("EPCA"), the Clean Air Act, the Clean Water Act, the Resource Conservation and Recovery Act, the Comprehensive Environmental Response, Compensation and Liability Act, the National Environmental Policy Act ("NEPA"), the Toxic Substances Control Act, any regulations promulgated under these acts and various other international, federal, state and local laws and regulations governing environmental matters.  We believe we are in substantial compliance with such existing environmental laws and regulations. 
  
Energy Efficiency. The U.S. Department of Energy has numerous active energy conservation rulemakings that impact residential and commercial heating, air conditioning and refrigeration equipment.  We are actively involved in U.S. Department of Energy and Congressional activities related to energy efficiency.  We are prepared to have compliant products in place in advance of the effective dates of all such regulations being considered by the U.S. Department of Energy.

Refrigerants. The use of hydrochlorofluorocarbons (“HCFCs”) and hydroflurocarbons (“HFCs”) as refrigerants for air conditioning and refrigeration equipment is common practice in the HVACR industry and is regulated. We believe we have complied with applicable rules and regulations in various countries governing the use of HCFCs and HFCs.  The U.S. Congress and the Environmental Protection Agency are considering steps to phase down the future use of HFCs in HVACR products and an international accord was adopted in October 2016 which would significantly phase-down the use of HFCs when ratified by the United Sates and globally. We are an active participant in the ongoing international and domestic dialogue on this subject and are well positioned to react in a timely manner to changes in the regulatory landscape.  In addition, we are taking proactive steps to implement responsible use principles and guidelines with respect to limiting refrigerants from escaping into the atmosphere throughout the life span of our HVACR equipment. 
 
Remediation Activity. In addition to affecting our ongoing operations, applicable environmental laws can impose obligations to remediate hazardous substances at our properties, at properties formerly owned or operated by us and at facilities to which we have sent or send waste for treatment or disposal. We are aware of contamination at some of our facilities; however, based on facts presently known, we do not believe that any future remediation costs at such facilities will be material to our results of operations. For more information, see Note 5 in the Notes to our Consolidated Financial Statements.

In the past, we have received notices that we are a potentially responsible party along with other potentially responsible parties in Superfund proceedings under the Comprehensive Environmental Response, Compensation and Liability Act for cleanup of hazardous substances at certain sites to which the potentially responsible parties are alleged to have sent waste. Based on the facts presently known, we do not believe environmental cleanup costs associated with any Superfund sites about which we have received notice that we are a potentially responsible party will be material.

European WEEE and RoHS Compliance. In the European marketplace, electrical and electronic equipment is required to comply with the Directive on Waste Electrical and Electronic Equipment (“WEEE”) and the Directive on Restriction of Use of Certain Hazardous Substances (“RoHS”). WEEE aims to prevent waste by encouraging reuse and recycling and RoHS restricts the use of six hazardous substances in electrical and electronic products. All HVACR products and certain components of such products “put on the market” in the EU (whether or not manufactured in the EU) are potentially subject to WEEE and RoHS. Because all HVACR manufacturers selling within or from the EU are subject to the standards promulgated under WEEE and RoHS, we believe that neither WEEE nor RoHS uniquely impacts us as compared to such other manufacturers. Similar directives are being introduced in other parts of the world, including the U.S. For example, California, China and Japan have all adopted standards possessing similar intent as RoHS. We are actively monitoring the development of such directives and believe we are well positioned to comply with such directives in the required time frames.

Available Information

Our web site address is www.lennoxinternational.com. We make available, free of charge through our web site, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, including exhibits, and amendments to those reports filed or furnished pursuant to the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as soon as reasonably possible after such material is electronically filed with, or furnished to, the Securities and Exchange Commission. The information on our web site is not a part of, or incorporated by reference into, this Annual Report on Form 10-K.


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The Securities and Exchange Commission maintains a website at www.sec.gov that contains reports, proxy and information statements, and other information regarding issuers, including Lennox International, that file electronically with the Securities and Exchange Commission.

Information about our Executive Officers

Our executive officers, their present positions and their ages are as follows as of February 7, 2020:

Name
Age
Position
Todd M. Bluedorn
56
Chairman of the Board and Chief Executive Officer
Joseph W. Reitmeier
55
Executive Vice President, Chief Financial Officer
Douglas L. Young
57
Executive Vice President, President and Chief Operating Officer, Residential Heating & Cooling
Gary S. Bedard
55
Executive Vice President, President and Chief Operating Officer, Worldwide Refrigeration
Prakash Bedapudi
53
Executive Vice President, Chief Technology Officer
Daniel M. Sessa
55
Executive Vice President, Chief Human Resources Officer
John D. Torres
61
Executive Vice President, Chief Legal Officer and Secretary
Elliot Zimmer
43
Executive Vice President, President and Chief Operating Officer, North America Commercial Heating & Cooling
Chris A. Kosel
53
Vice President, Chief Accounting Officer and Controller

Todd M. Bluedorn was appointed Chief Executive Officer and was elected to our Board of Directors in April 2007. Mr. Bluedorn was elected Chairman of the Board of Directors in May 2012. Prior to joining Lennox International, Mr. Bluedorn served in numerous senior management positions for United Technologies since 1995, including President, Americas - Otis Elevator Company; President, North America - Commercial Heating, Ventilation and Air Conditioning for Carrier Corporation; and President, Hamilton Sundstrand Industrial. He began his professional career with McKinsey & Company in 1992. A graduate of the United States Military Academy at West Point with a bachelor of science in electrical engineering, Mr. Bluedorn served in the United States Army as a combat engineer officer and United States Army Ranger from 1985 to 1990. He received his MBA from Harvard University School of Business in 1992. Mr. Bluedorn also serves on the Board of Directors of Eaton Corporation, a diversified industrial manufacturer, on the Board of Directors of Texas Instruments Incorporated, a global designer and manufacturer of semiconductors, and on the Board of Trustees of Washington University in St. Louis. Mr. Bluedorn possesses considerable industry knowledge and executive leadership experience. Mr. Bluedorn’s extensive knowledge of our Company and its business, combined with his drive for excellence and innovation, position him well to serve as CEO and a director of our Company.

Joseph W. Reitmeier was appointed Executive Vice President, Chief Financial Officer in July 2012. He had served as Vice President of Finance for the Company’s Commercial Heating & Cooling segment since 2007 and as Director of Internal Audit from 2005 to 2007. Before joining the Company, he held financial leadership roles at Cummins Inc. and PolyOne Corporation. He is a director of Watts Water Technologies, Inc., a global provider of plumbing, heating and water quality solutions for residential, industrial, municipal and commercial settings. Mr. Reitmeier holds a bachelor’s degree in accounting from the University of Akron and an MBA from Case Western Reserve University. He is also a Certified Public Accountant.


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Douglas L. Young was appointed Executive Vice President, President and Chief Operating Officer of the Company’s Residential Heating & Cooling segment in October 2006. Mr. Young had previously served as Vice President and General Manager of North American Residential Products since 2003 and as Vice President and General Manager of Lennox North American Residential Sales, Marketing, and Distribution from 1999 to 2003. Prior to his career with the Company, Mr. Young was employed in the Appliances division of GE, where he held various management positions before serving as General Manager of Marketing for GE Appliance division’s retail group from 1997 to 1999 and as General Manager of Strategic Initiatives in 1999. He holds a BSBA from Creighton University and a master’s of science in management from Purdue University. Mr. Young serves on the Board of Directors of Beacon Roofing Supply, a general building material distributor and is a past Chairman of the Board of Directors of AHRI (the Air-Conditioning, Heating, and Refrigeration Institute), the trade association for the HVACR and water heating equipment industries.

Gary S. Bedard was appointed Executive Vice President, President and Chief Operating Officer of the Company’s Worldwide Refrigeration business in October 2017. From 2005 through 2017, Mr. Bedard served as Vice President and General Manager for the Company’s Lennox-branded Residential business. He has also held the positions of Vice President, Residential Sales, Vice President Residential Product Management, Director of Brand and Product Management, and District Manager for Lennox Industries’ New York District. Prior to joining the Company in 1998, Mr. Bedard spent eight years at York International in product management and sales leadership roles for commercial applied and unitary systems as well as residential systems. Mr. Bedard has a bachelor’s degree in engineering management from the United States Military Academy at West Point. 

Prakash Bedapudi was appointed Executive Vice President, Chief Technology Officer in July 2008. He had previously served as Vice President, Global Engineering and Program Management for Trane Inc. Commercial Systems from 2006 through 2008, and as Vice President, Engineering and Technology for Trane’s Residential Systems division from 2003 through 2006. Prior to his career at Trane, Mr. Bedapudi served in senior engineering leadership positions for GE Transportation Systems, a division of General Electric Company, and for Cummins Engine Company. He holds a bachelor of science in mechanical/automotive engineering from Karnataka University, India and a master’s of science in mechanical/aeronautical engineering from the University of Cincinnati.

Daniel M. Sessa was appointed Executive Vice President, Chief Human Resources Officer in June 2007. He had previously served in numerous senior human resources and legal leadership positions for United Technologies Corporation since 1996, including Vice President, Human Resources for Otis Elevator Company - Americas from 2005 to 2007, Director, Employee Benefits and Human Resources Systems for United Technologies Corporation from 2004 to 2005, and Director, Human Resources for Pratt & Whitney from 2002 to 2004. He holds a bachelor of arts in law and society from the State University of New York at Binghamton and a juris doctor from the Hofstra University School of Law.

John D. Torres was appointed Executive Vice President, Chief Legal Officer and Secretary in December 2008. He had previously served as Senior Vice President, General Counsel and Secretary for Freescale Semiconductor, a semiconductor manufacturer that was originally part of Motorola. He joined Motorola’s legal department as Senior Counsel in 1996 and was appointed Vice President, General Counsel of the company’s semiconductor business in 2001. Prior to joining Motorola, Mr. Torres was in private practice in Phoenix, specializing in commercial law, for 13 years. He holds a bachelor of arts from Notre Dame and a juris doctor from the University of Chicago.

Elliot Zimmer was appointed Executive Vice President, President and Chief Operating Officer of the Company’s Commercial Heating & Cooling segment in November 2019. He previously served as Vice President and General Manager, Lennox North America Commercial Equipment business since 2016; Vice President, Worldwide Sourcing from 2011 to 2016; and Director of Business Development from 2010 to 2011. Prior to joining the Company, Mr. Zimmer was Director, Capacity Planning & Operations Strategy at Dr. Pepper Snapple. He began his professional career with McKinsey & Company in 2006. Mr. Zimmer holds a bachelor of science degree in systems engineering from the United States Military Academy, served as a Captain in the United States Army and received an MBA from the Harvard Business School.

Chris A. Kosel was appointed Vice President, Chief Accounting Officer and Controller in May 2017. He had previously served as Vice President, Business Analysis and Planning for the Company since 2016. He also had served as Vice President, Finance and Controller / Director, Finance for the Company’s North America Commercial Business from 2015 - 2016 and Director, Financial Planning and Analysis for the Company’s Residential Business Unit from 2014 to 2015. Prior to 2014 he had served as Director, Finance for the Company’s Lennox Stores business and Director of the Company’s Financial Shared Services function. Prior to joining Lennox, he worked for Ernst & Young. He holds a bachelor’s degree in accounting from Texas A&M University. He is also a Certified Public Accountant.


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Item 1A. Risk Factors
Forward-Looking Statements

This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Exchange Act that are based on information currently available to management as well as management’s assumptions and beliefs as of the date hereof. All statements, other than statements of historical fact, included in this Annual Report on Form 10-K constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by the words “may,” “will,” “should,” “plan,” “predict,” “anticipate,” “believe,” “intend,” “estimate” and “expect” and similar expressions. Statements that are not historical should also be considered forward-looking statements. Such statements reflect our current views with respect to future events. Readers are cautioned not to place undue reliance on these forward-looking statements. We believe these statements are based on reasonable assumptions; however, such statements are inherently subject to risks and uncertainties, including but not limited to the specific uncertainties discussed elsewhere in this Annual Report on Form 10-K and the risk factors set forth in Item 1A. Risk Factors in this Annual Report on Form 10-K. These risks and uncertainties may affect our performance and results of operations. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may differ materially from those in the forward-looking statements. We disclaim any intention or obligation to update or review any forward-looking statements or information, whether as a result of new information, future events or otherwise unless required by law.

Risk Factors

The following risk factors and other information included in this Annual Report on Form 10-K should be carefully considered. We believe these are the principal material risks currently facing our business; however, additional risks and uncertainties not presently known to us or that we presently deem less significant may also impair our business operations. If any of the following risks or those disclosed in our other SEC filings occurs, our business, financial condition or results of operations could be materially adversely affected.

We May Not be Able to Compete Favorably in the Competitive HVACR Business.

Substantially all of the markets in which we operate are competitive. The most significant competitive factors we face are product reliability, product performance, reputation of our company and brands, service and price, with the relative importance of these factors varying among our product lines. Other factors that affect competition in the HVACR market include the development and application of new technologies, an increasing emphasis on the development of more efficient HVACR products and new product introductions. We may not be able to adapt to market changes as quickly or effectively as our current and future competitors. Also, the establishment of manufacturing operations in low-cost countries could provide cost advantages to existing and emerging competitors. Some of our competitors may have greater financial resources than we have, allowing them to invest in more extensive research and development and/or marketing activity and making them better able to withstand adverse HVACR market conditions. Current and future competitive pressures may cause us to reduce our prices or lose market share, or could negatively affect our cash flow, all of which could have a material adverse effect on our results of operations.

Our Financial Performance Is Affected by the Conditions of the U.S. Construction Industry.

Our business is affected by the performance of the U.S. construction industry. Our sales in the residential and commercial new construction markets correlate to the number of new homes and buildings that are built, which in turn is influenced by cyclical factors such as interest rates, inflation, availability of financing, consumer spending habits and confidence, employment rates and other macroeconomic factors over which we have no control. Our sales may not improve, or improvement may be limited or lower than expected.


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Cooler than Normal Summers and Warmer than Normal Winters May Depress Our Sales.

Demand for our products and for our services is seasonal and strongly affected by the weather. Cooler than normal summers depress our sales of replacement air conditioning and refrigeration products and services. Similarly, warmer than normal winters have the same effect on our heating products and services.

Changes in Legislation or Government Regulations or Policies Could Have an Adverse Effect on Our Results of Operations.

The sales, gross margins and profitability for each of our segments could be directly impacted by changes in legislation or government regulations or policies. Specifically, changes in environmental and energy efficiency standards and regulations, such as the recent amendments to the Montreal Protocol to phase down the use of hydrofluorocarbons, may particularly have a significant impact on the types of products that we are allowed to develop and sell, and the types of products that are developed and sold by our competitors. Our inability or delay in developing or marketing products that match customer demand and that meet applicable efficiency and environmental standards may negatively impact our results. The demand for our products and services could also be affected by the size and availability of tax incentives for purchasers of our products and services. Future legislation or regulations, including environmental matters, product certification, product liability, taxes, tax incentives and other matters, may impact the results of each of our operating segments and our consolidated results.

Changes in U.S. Trade Policy, Including the Imposition of Tariffs and the Resulting Consequences, Could Have an Adverse Effect on our Results of Operations.

The U.S. government has made changes in U.S. trade policy over the past several years. These changes include renegotiating and terminating certain existing bilateral or multi-lateral trade agreements, such as the North American Free Trade Agreement, and initiating tariffs on certain foreign goods from a variety of countries and regions, most notably China. These changes in U.S. trade policy have resulted in, and may continue to result in, one or more foreign governments adopting responsive trade policies that make it more difficult or costly for us to do business in or import our products or components from those countries. The sales, gross margins and profitability for each of our segments could be directly impacted by changes in tariffs and trade agreements.

We cannot predict the extent to which the U.S. or other countries will impose new or additional quotas, duties, tariffs, taxes or other similar restrictions upon the import or export of our products in the future, nor can we predict future trade policy or the terms of any renegotiated trade agreements and their impact on our business. The continuing adoption or expansion of trade restrictions, the occurrence of a trade war, or other governmental action related to tariffs or trade agreements or policies has the potential to adversely impact demand for our products, our costs, our customers, our suppliers, and the U.S. economy, which in turn could have a material adverse effect on our business, operating results and financial condition.

Global General Business, Economic and Market Conditions Could Adversely Affect Our Financial Performance and Limit our Access to the Capital Markets.

Future disruptions in U.S. or global financial and credit markets or increases in the costs of capital might have an adverse impact on our business.  The tightening, unavailability or increased costs of credit adversely affects the ability of our customers to obtain financing for significant purchases and operations, which could result in a decrease in sales of our products and services and may impact the ability of our customers to make payments to us. Similarly, tightening of credit may adversely affect our supplier base and increase the potential for one or more of our suppliers to experience financial distress or bankruptcy. Our business may also be adversely affected by future decreases in the general level of economic activity and increases in borrowing costs, which may cause our customers to cancel, decrease or delay their purchases of our products and services.

If financial markets were to deteriorate, or costs of capital were to increase significantly due to a lowering of our credit ratings, prevailing industry conditions, the volatility of the capital markets or other factors, we may be unable to obtain new financing on acceptable terms, or at all. A deterioration in our financial performance could also limit our future ability to access amounts currently available under our domestic credit facility.  In addition, availability under our asset securitization agreement may be adversely impacted by credit quality and performance of our customer accounts receivable. The availability under our asset securitization agreement is based on the amount of accounts receivable that meet the eligibility criteria of the asset securitization agreement.  If receivable losses increase or credit quality deteriorates, the amount of eligible receivables could decline and, in turn, lower the availability under the asset securitization.

We cannot predict the likelihood, duration or severity of any future disruption in financial markets or any adverse economic conditions in the U.S. and other countries.



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Our International Operations Subject Us to Risks Including Foreign Currency Fluctuations, Regulations and Other Risks.

We earn revenue, pay expenses, own assets and incur liabilities in countries using currencies other than the U.S. dollar. Our Consolidated Financial Statements are presented in U.S. dollars and we translate revenue, income, expenses, assets and liabilities into U.S. dollars at exchange rates in effect during or at the end of each reporting period. Therefore, increases or decreases in the value of the U.S. dollar relative to other currencies may affect our net operating revenues, operating income and the value of balance sheet items denominated in foreign currencies. Because of the geographic diversity of our operations, weaknesses in some currencies might be offset by strengths in others over time. However, we cannot assure that fluctuations in foreign currency exchange rates, particularly the strengthening of the U.S. dollar against major currencies, would not materially affect our financial results.

In addition to the currency exchange risks inherent in operating in foreign countries, our international sales and operations, including purchases of raw materials from international suppliers, are subject to risks associated with local government laws, regulations and policies (including those related to tariffs and trade barriers, investments, taxation, exchange controls, employment regulations and changes in laws and regulations). Our international sales and operations are also sensitive to changes in foreign national priorities, including government budgets, as well as to geopolitical and economic instability. International transactions may involve increased financial and legal risks due to differing legal systems and customs in foreign countries, as well as compliance with anti-corruption laws such as the U.S. Foreign Corrupt Practices Act and the U.K. Bribery Act. The ability to manage these risks could be difficult and may limit our operations and make the manufacture and sale of our products internationally more difficult, which could negatively affect our business and results of operations.

Conflicts, wars, natural disasters, infectious disease outbreaks or terrorist acts could also cause significant damage or disruption to our operations, employees, facilities, systems, suppliers, supply chain, distributors, resellers or customers in the United States and internationally for extended periods of time and could also affect demand for our products. For example, in December 2019, a strain of coronavirus surfaced in Wuhan, China.  Lennox has two small offices in Shanghai and Shenzhen, China with 30 employees devoted to supply chain, engineering, and trade compliance matters. We also source components from approximately 24 suppliers located throughout China.  At the time of this filing, the outbreak has been largely concentrated in China, although cases have been confirmed in other countries. The extent to which the coronavirus impacts our results will depend on future developments, which are highly uncertain and unpredictable, including new information concerning the severity of the coronavirus and the actions to contain or treat its impact, among others.

Net sales outside of the United States comprised 13.2% of our net sales in 2019.

Our Ability to Meet Customer Demand may be Limited by Our Single-Location Production Facilities, Reliance on Certain Key Suppliers and Unanticipated Significant Shifts in Customer Demand.

We manufacture many of our products at single-location production facilities, and we rely on certain suppliers who also may concentrate production in single locations. Any significant interruptions in production at one or more of our facilities, or at a facility of one of our suppliers, could negatively impact our ability to deliver our products to our customers. We experienced such an event in July 2018, when our manufacturing facility in Marshalltown, Iowa was severely damaged by a tornado. See Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Business Overview - Marshalltown Tornado.”

Further, even with all of our facilities running at full production, we could potentially be unable to fully meet demand during an unanticipated period of exceptionally high demand. Our inability to meet our customers’ demand for our products could have a material adverse effect on our business, financial condition and results of operations.

Price Volatility for Commodities and Components We Purchase or Significant Supply Interruptions Could Have an Adverse Effect on Our Cash Flow or Results of Operations.

We depend on raw materials, such as steel, copper and aluminum, and components purchased from third parties to manufacture our products. Some of these third-party suppliers are located outside of the United States. We generally concentrate purchases for a given raw material or component with a small number of suppliers. If a supplier is unable or unwilling to meet our supply requirements, including suffering any disruptions at its facilities or in its supply chain, we could experience supply interruptions or cost increases, either of which could have an adverse effect on our results of operations. Similarly, suppliers of components that we purchase for use in our products may be affected by rising material costs and pass these increased costs on to us. Although we regularly pre-purchase a portion of our raw materials at fixed prices each year to hedge against price increases, an increase in raw materials prices not covered by our fixed price arrangements could significantly increase our cost of goods sold and negatively impact our margins if we are unable to effectively pass such price increases on to our customers. Alternatively, if we increase our

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prices in response to increases in the prices or quantities of raw materials or components or if we encounter significant supply interruptions, our competitive position could be adversely affected, which may result in depressed sales and profitability.

In addition, we use derivatives to hedge price risk associated with forecasted purchases of certain raw materials.  Our hedged prices could result in paying higher or lower prices for commodities as compared to the market prices for those commodities when purchased.

We May Incur Substantial Costs as a Result of Claims Which Could Have an Adverse Effect on Our Results of Operations.

The development, manufacture, sale and use of our products involve warranty, intellectual property infringement, product liability claim and other risks. In some cases, we may incur liability claims for the installation and service of our products. Our product liability insurance policies have limits that, if exceeded, may result in substantial costs that would have an adverse effect on our results of operations. In addition, warranty claims are not covered by our product liability insurance and certain product liability claims may also not be covered by our product liability insurance.

For some of our HVAC products, we provide warranty terms ranging from one to 20 years to customers for certain components such as compressors or heat exchangers. For certain limited products, we provided lifetime warranties. Warranties of such extended lengths pose a risk to us as actual future costs may exceed our current estimates of those costs. Warranty expense is recorded on the date that revenue is recognized and requires significant assumptions about what costs will be incurred in the future. We may be required to record material adjustments to accruals and expense in the future if actual costs for these warranties are different from our assumptions.

If We Cannot Successfully Execute our Business Strategy, Our Results of Operations Could be Adversely Impacted

Our future success depends on our continued investment in research and new product development as well as our ability to commercialize new HVACR technological advances in domestic and global markets. If we are unable to continue to timely and successfully develop and market new products, achieve technological advances or extend our business model and technological advances into international markets, our business and results of operations could be adversely impacted.

We are engaged in various manufacturing rationalization actions designed to achieve our strategic priorities of manufacturing, sourcing and distribution excellence and of lowering our cost structure. For example, we are continuing to reorganize our North American distribution network in order to better serve our customers’ needs by deploying parts and equipment inventory closer to them and are expanding our sourcing activities outside of the U.S. We also continue to rationalize and reorganize various support and administrative functions in order to reduce ongoing selling and administrative expenses. If we cannot successfully implement such distribution and restructuring strategies or other cost savings plans, we may not achieve our expected cost savings in the time anticipated, or at all. In such case, our results of operations and profitability may be negatively impacted, making us less competitive and potentially causing us to lose market share.

Security Breaches and Other Disruptions or Misuse of Information Systems We Rely Upon Could Affect Our Ability to Conduct Our Business Effectively.

Our information systems and those of our business partners are important to our business activities. We also outsource various information systems, including data management, to third-party service providers. Despite our security measures as well as those of our business partners and third-party service providers, the information systems we rely upon may be vulnerable to interruption or damage from computer hackings, computer viruses, worms or other destructive or disruptive software, process breakdowns, denial of service attacks, malicious social engineering or other malicious activities, or any combination thereof. Attempts have been made to attack our information systems, but no material harm has resulted. While we have implemented controls and taken other preventative actions to strengthen these systems against future attacks, we can give no assurance that these controls and preventative actions will be effective. Any breach of data security could result in a disruption of our services or improper disclosure of personal data or confidential information, which could harm our reputation, require us to expend resources to remedy such a security breach or defend against further attacks or subject us to liability under laws that protect personal data, resulting in increased operating costs or loss of revenue.

We May Not be Able to Successfully Integrate and Operate Businesses that We May Acquire nor Realize the Anticipated Benefits of Strategic Relationships We May Form.

From time to time, we may seek to complement or expand our businesses through strategic acquisitions, joint ventures and strategic relationships. The success of these transactions will depend, in part, on our ability to timely identify those relationships, negotiate and close the transactions and then integrate, manage and operate those businesses profitably. If we are unable to

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successfully do those things, we may not realize the anticipated benefits associated with such transactions, which could adversely affect our business and results of operations.

Because a Significant Percentage of Our Workforce is Unionized in Certain Manufacturing Facilities, We Face Risks of Work Stoppages and Other Labor Relations Problems.

As of February 7, 2020, approximately 27% of our workforce, including international locations, was unionized. The results of future negotiations with these unions and the effects of any production interruptions or labor stoppages could have a material adverse effect on our results of operations.

We are Subject to Litigation and Tax, Environmental and Other Regulations that Could Have an Adverse Effect on Our Results of Operations.

We are involved in various claims and lawsuits incidental to our business, including those involving product liability, labor relations, alleged exposure to asbestos-containing materials and environmental matters, some of which claim significant damages. Estimates related to our claims and lawsuits, including estimates for asbestos-related claims and related insurance recoveries, involve numerous uncertainties. Given the inherent uncertainty of litigation and estimates, we cannot be certain that existing claims or litigation or any future adverse legal developments will not have a material adverse impact on our financial condition. In addition, we are subject to extensive and changing federal, state and local laws and regulations designed to protect the environment. These laws and regulations could impose liability for remediation costs and civil or criminal penalties in cases of non-compliance. Compliance with environmental laws increases our costs of doing business. Because these laws are subject to frequent change, we are unable to predict the future costs resulting from environmental compliance.

Volatility in Capital Markets Could Necessitate Increased Cash Contributions by Us to Our Pension Plans to Maintain Required Levels of Funding.

Volatility in the capital markets may have a significant impact on the funding status of our defined benefit pension plans. If the performance of the capital markets depresses the value of our defined benefit pension plan assets or increases the liabilities, we would be required to make additional contributions to the pension plans. The amount of contributions we may be required to make to our pension plans in the future is uncertain and could be significant, which may have a material adverse effect on our results of operations.

Our Results of Operations May Suffer if We Cannot Continue to License or Enforce the Intellectual Property Rights on Which Our Businesses Depend or if Third Parties Assert That We Violate Their Intellectual Property Rights.

We rely upon patent, copyright, trademark and trade secret laws and agreements to establish and maintain intellectual property rights in the products we sell. Our intellectual property rights could be challenged, invalidated, infringed, circumvented, or be insufficient to permit us to take advantage of current market trends or to otherwise provide competitive advantages. Further, the laws of certain countries do not protect proprietary rights to the same extent as the laws of the United States.

Third parties may also claim that we are infringing upon their intellectual property rights. If we do not license infringed intellectual property or if we are required to substitute similar technology from another source, our operations could be adversely affected. Even if we believe that intellectual property claims are without merit, they can be time consuming, require significant resources and be costly to defend. Claims of intellectual property infringement also might require us to redesign affected products, pay costly damage awards, or face injunction prohibiting us from manufacturing, importing, marketing or selling certain of our products. Even if we have agreements to indemnify us, indemnifying parties may be unable or unwilling to do so.

Any Future Determination that a Significant Impairment of the Value of Our Goodwill Intangible Asset Occurred Could Have an Adverse Effect on Our Results of Operations.

As of December 31, 2019, we had goodwill of $186.5 million on our Consolidated Balance Sheet. Any future determination that an impairment of the value of goodwill occurred would require a write-down of the impaired portion of goodwill to fair value and would reduce our assets and stockholders’ equity and could have a material adverse effect on our results of operations.

Item 1B. Unresolved Staff Comments

None.


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Item 2. Properties

The following chart lists our principal domestic and international manufacturing, distribution and office facilities as of December 31, 2019 and indicates the business segment that uses such facilities, the approximate size of such facilities and whether such facilities are owned or leased. Also included in the chart are large warehouses that hold significant inventory balances.
Location
Segment
Type or Use of Facility
Approx. Sq. Ft. (In thousands)
Owned/Leased
Marshalltown, IA
Residential Heating & Cooling
Manufacturing & Distribution
1,000
Owned & Leased
Orangeburg, SC
Residential Heating & Cooling
Manufacturing & Distribution
750
Owned & Leased
Saltillo, Mexico
Residential Heating & Cooling
Manufacturing & Distribution
638
Owned
Grenada, MS
Residential Heating & Cooling
Manufacturing & Distribution
395
Owned & Leased
Romeoville, IL
Residential Heating & Cooling
Distribution & Office
697
Leased
McDonough, GA
Residential Heating & Cooling
Distribution
254
Leased
Grove City, OH
Residential Heating & Cooling
Distribution
279
Leased
Pittston, PA
Residential Heating & Cooling
Distribution
144
Leased
Concord, NC
Residential Heating & Cooling
Distribution
123
Leased
Blythewood, SC
Residential Heating & Cooling
Distribution
147
Leased
Eastvale, CA
Residential & Commercial Heating & Cooling
Distribution
377
Leased
Carrollton, TX
Residential & Commercial Heating & Cooling
Distribution
252
Leased
Brampton, Canada
Residential & Commercial Heating & Cooling
Distribution
251
Leased
Houston, TX
Residential & Commercial Heating & Cooling
Distribution
204
Leased
Orlando, FL
Residential & Commercial Heating & Cooling
Distribution
173
Leased
Middletown, PA
Residential & Commercial Heating & Cooling
Distribution
166
Leased
Lenexa, KS
Residential & Commercial Heating & Cooling
Distribution
147
Leased
East Fife, WA
Residential & Commercial Heating & Cooling
Distribution
112
Leased
Calgary, Canada
Residential & Commercial Heating & Cooling
Distribution
145
Leased
Stuttgart, AR
Commercial Heating & Cooling
Manufacturing
750
Owned
Dallas, TX
Commercial Heating & Cooling
Distribution
227
Leased
Jessup, PA
Commercial Heating & Cooling
Distribution
130
Leased
Longvic, France
Refrigeration
Manufacturing
142
Owned
Longvic, France
Refrigeration
Distribution
133
Owned
Burgos, Spain
Refrigeration
Manufacturing
140
Owned
Mions, France
Refrigeration
Research & Development
129
Owned
Genas, France
Refrigeration
Manufacturing, Distribution & Offices
111
Owned
Tifton, GA
Refrigeration
Manufacturing & Distribution
738
Owned & Leased
Stone Mountain, GA
Refrigeration
Manufacturing & Business Unit Headquarters
139
Owned
Richardson, TX
Corporate and other
Corporate Headquarters
356
Owned & Leased
Carrollton, TX
Corporate and other
Research & Development
294
Owned

In addition to the properties described above, we lease numerous facilities in the U.S. and worldwide for use as sales offices, service offices, district and regional warehouses, and Lennox Stores. We routinely evaluate our facilities to ensure adequate capacity, effective cost structure, and consistency with our business strategy. We believe that our properties are in good condition, suitable and adequate for their present requirements and that our principal manufacturing plants are generally adequate to meet our production needs.


Item 3. Legal Proceedings

We are involved in a number of claims and lawsuits incident to the operation of our businesses. Insurance coverages are maintained and estimated costs are recorded for such claims and lawsuits. It is management’s opinion that none of these claims or lawsuits will have a material adverse effect, individually or in the aggregate, on our financial position, results of operations or

13





cash flows. For more information, see Note 5 in the Notes to the Consolidated Financial Statements.

Item 4. Mine Safety Disclosures

Not applicable.

PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information for Common Stock

Our common stock is listed for trading on the New York Stock Exchange under the symbol “LII.”

Holders of Common Stock

As of the close of business on February 7, 2020, approximately 594 holders of record held our common stock.
  
Comparison of Total Stockholder Return

The following graph compares the cumulative total returns of LII’s common stock with the cumulative total returns of the Standards & Poor’s Midcap 400 Index, a broad index of mid-size U.S. companies of which the Company is a part, and with a peer group of U.S. industrial manufacturing and service companies in the HVACR businesses. The graph assumes that $100 was invested on December 31, 2014, with dividends reinvested. Our peer group includes AAON, Inc., Ingersoll-Rand plc, Comfort Systems USA, Inc., United Technologies Corporation, Johnson Controls Inc., and Watsco, Inc. Peer group returns are weighted by market capitalization.

a5yearsgrapha19.jpg

This performance graph and other information furnished under this Comparison of Total Stockholder Return section shall not be deemed to be “soliciting material” or to be “filed” with the Securities and Exchange Commission or subject to Regulation 14A or 14C, or to the liabilities of Section 18 of the Exchange Act.




14





Our Purchases of Company Equity Securities
      
Our Board of Directors has authorized a total of $3 billion to repurchase shares of our common stock (collectively referred to as the “Share Repurchase Plans”), including an incremental $500 million share repurchase authorization in December 2019. The Share Repurchase Plans authorize open market repurchase transactions and do not have a stated expiration date. As of December 31, 2019, $546 million is available to repurchase shares under the Share Repurchase Plans.

In the fourth quarter of 2019, we purchased shares of our common stock as follows:
 
Total Shares Purchased (1)
 
Average Price Paid per Share (including fees)
 
Shares Purchased As Part of Publicly Announced Plans
 
Approximate Dollar Value of Shares that may yet be Purchased Under the Plans
(in millions) (2)
October 1 through October 31
6,012

 
$
243.91

 

 
46.0

November 1 through November 30
3,910

 
251.04

 

 
46.0

December 1 through December 31
17,781

 
260.39

 

 
546.0

 
27,703

 
 
 

 
 

(1) Includes the surrender of 27,703 shares of common stock to LII to satisfy employee tax-withholding obligations in connection with the exercise of vested stock appreciation rights and the vesting of restricted stock units.
(2) After $100.0 million, $150.0 million and $150.0 million share repurchases from stock market transactions during the first, second and third quarters, respectively, which were executed pursuant to previously announced Share Repurchase Plans. See Note 6 in the Notes to the Consolidated Financial Statements for further details.


Item 6. Selected Financial Data

The following table presents selected financial data for each of the five years ended December 31, 2019 to 2015 (in millions, except per share data):
 
For the Years Ended December 31,
 
2019
 
2018
 
2017
 
2016
 
2015
Statements of Operations Data:
 
 
 
 
 
 
 
 
 
Net Sales
$
3,807.2

 
$
3,883.9

 
$
3,839.6

 
$
3,641.6

 
$
3,467.4

Operating Income
656.9

 
509.9

 
494.5

 
429.4

 
305.4

Income From Continuing Operations
408.8

 
360.3

 
307.1

 
278.6

 
187.2

Net Income
408.7

 
359.0

 
305.7

 
277.8

 
186.6

Basic Earnings Per Share From Continuing Operations
10.49

 
8.87

 
7.28

 
6.41

 
4.17

Diluted Earnings Per Share From Continuing Operations
10.38

 
8.77

 
7.17

 
6.34

 
4.11

Cash Dividends Declared Per Share
2.95

 
2.43

 
1.96

 
1.65

 
1.38

 
 
 
 
 
 
 
 
 
 
Other Data:
 
 
 
 
 
 
 
 
 
Capital Expenditures
$
105.6

 
$
95.2

 
$
98.3

 
$
84.3

 
$
69.9

Research and Development Expenses
69.9

 
72.2

 
73.6

 
64.6

 
62.3

 
 
 
 
 
 
 
 
 
 
Balance Sheet Data at Period End:
 
 
 
 
 
 
 
 
 
Total Assets
$
2,034.9

 
$
1,817.2

 
$
1,891.5

 
$
1,760.3

 
$
1,677.4

Total Debt
1,171.2

 
1,041.3

 
1,004.0

 
868.2

 
741.1

Stockholders’ (Deficit) Equity
(170.2
)
 
(149.6
)
 
50.1

 
38.0

 
101.6


Information in the table above is not necessarily indicative of results of future operations. To understand the factors that may affect comparability, the financial data should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and the Consolidated Financial Statements and the related Notes to the Consolidated Financial Statements in Item 8, “Other Financial Statement Details,” of this Annual Report on Form 10-K.

15







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

The following discussion should be read in conjunction with the other sections of this report, including the Consolidated Financial Statements and related Notes to the Consolidated Financial Statements in Item 8, “Other Financial Statement Details,” of this Annual Report on Form 10-K.

Business Overview

We operate in three reportable business segments of the heating, ventilation, air conditioning and refrigeration (“HVACR”) industry. Our reportable segments are Residential Heating & Cooling, Commercial Heating & Cooling, and Refrigeration. For more detailed information regarding our reportable segments, see Note 3 in the Notes to the Consolidated Financial Statements.

We sell our products and services through a combination of direct sales, distributors and company-owned stores. The demand for our products and services is seasonal and significantly impacted by the weather. Warmer than normal summer temperatures generate demand for replacement air conditioning and refrigeration products and services, and colder than normal winter temperatures have a similar effect on heating products and services. Conversely, cooler than normal summers and warmer than normal winters depress the demand for HVACR products and services. In addition to weather, demand for our products and services is influenced by national and regional economic and demographic factors, such as interest rates, the availability of financing, regional population and employment trends, new construction, general economic conditions and consumer spending habits and confidence. A substantial portion of the sales in each of our business segments is attributable to replacement business, with the balance comprised of new construction business.

The principal elements of cost of goods sold are components, raw materials, factory overhead, labor, estimated costs of warranty expense and freight and distribution costs. The principal raw materials used in our manufacturing processes are steel, copper and aluminum. In recent years, pricing volatility for these commodities and related components has impacted us and the HVACR industry in general. We seek to mitigate the impact of commodity price volatility through a combination of pricing actions, vendor contracts, improved production efficiency and cost reduction initiatives. We also partially mitigate volatility in the prices of these commodities by entering into futures contracts and fixed forward contracts.

Marshalltown Tornado

On July 19, 2018, our manufacturing facility in Marshalltown, Iowa was damaged by a tornado. Insurance covered the repair or replacement of our assets that suffered damage or loss and, in 2018 and 2019, we worked closely with our insurance carriers and claims adjusters to ascertain the amount of insurance recoveries due to us as a result of the damage and loss we suffered. Our insurance policies also provided business interruption coverage, including lost profits, and reimbursement for other expenses and costs that were incurred relating to the damages and losses suffered.

For the year ended December 31, 2019, we incurred expenses of $64 million related to damages caused by the tornado, which included site clean-up and demolition, factory inefficiencies, freight to move product to other warehouses, professional fees, and sales and marketing promotional costs.

In December 2019, we reached a final settlement with our insurance carriers for the losses we suffered from the tornado. The settlement allowed for total cumulative insurance recoveries of $367.5 million, of which $243 million was received for the year ended December 31, 2019. We allocated the first $64 million of insurance recoveries received in 2019 to cover our expenses, we allocated $80 million for capital expenditures related to rebuilding costs, and the remaining $99 million of insurance recoveries represents amounts for lost profits. These amounts are included in Gain from insurance recoveries, net of losses incurred in the Consolidated Statements of Operations. See Note 5 in the Notes to the Consolidated Financial Statements for additional information.

Financial Highlights

Net sales decreased $77 million, or 2.0%, to $3,807 million in 2019 from $3,884 million in 2018. Sales growth in our Residential Heating & Cooling and Commercial Heating & Cooling segments was offset by a sales decline in our Refrigeration segment due to the sale of our Australia, Asia, and South America businesses in 2018, and the sale of our Kysor Warren business in the first quarter of 2019.

16





Operating income in 2019 was $657 million compared to $510 million in 2018. The increase was primarily due to increased sales in our Residential Heating & Cooling and Commercial Heating & Cooling segments, sourcing and engineering-led cost reductions, and a larger gain from insurance proceeds received related to the Marshalltown tornado.
Net income in 2019 increased to $409 million from $359 million in 2018.
Diluted earnings per share from continuing operations were $10.38 per share in 2019 compared to $8.77 per share in 2018.
We generated $396 million of cash flow from operating activities in 2019 compared to $496 million in 2018. The decrease was primarily due to an increase in working capital.
In 2019, we returned $111 million to shareholders through dividend payments and we used $400 million to purchase 1.5 million shares of stock under our Share Repurchase Plans. We also received $44 million in net proceeds from the sale of our Kysor Warren business.

Overview of Results

Despite the impact of the tornado at our Marshalltown facility, the Residential Heating & Cooling segment performed well in 2019, with a 3% increase in net sales and a $65 million increase in segment profit compared to 2018, including the insurance proceeds received for lost profits in 2019. Our Commercial Heating & Cooling segment also performed well in 2019 with a 5% increase in net sales and an $8 million increase in segment profit compared to 2018. This segment’s results were driven by higher volumes and price and mix gains. Sales in our Refrigeration segment decreased 25% and segment profit decreased $7 million compared to 2018 mostly due to the sale of our Australia, Asia, South America, and Kysor Warren businesses.

On a consolidated basis, our gross profit margins decreased to 28.4% in 2019 due primarily to unfavorable commodities, factory inefficiencies, and higher freight and distribution costs. These declines were partially offset by favorable price and mix, sourcing and engineering-led cost reductions across our business, and the divestiture of our Kysor Warren business which had lower margins.

Results of Operations

The following table provides a summary of our financial results, including information presented as a percentage of net sales (dollars in millions):
 
For the Years Ended December 31,
 
2019
 
2018
 
2017
 
Dollars
 
Percent
 
Dollars
 
Percent
 
Dollars
 
Percent
Net sales
$
3,807.2

 
100.0
 %
 
$
3,883.9

 
100.0
 %
 
$
3,839.6

 
100.0
 %
Cost of goods sold
2,727.4

 
71.6
 %
 
2,772.7

 
71.4
 %
 
2,714.4

 
70.7
 %
Gross profit
1,079.8

 
28.4
 %
 
1,111.2

 
28.6
 %
 
1,125.2

 
29.3
 %
Selling, general and administrative expenses
585.9

 
15.4
 %
 
608.2

 
15.7
 %
 
637.7

 
16.6
 %
Losses (gains) and other expenses, net
8.3

 
0.2
 %
 
13.4

 
0.3
 %
 
7.1

 
0.2
 %
Restructuring charges
10.3

 
0.3
 %
 
3.0

 
0.1
 %
 
3.2

 
0.1
 %
Loss (gain), net on sale of businesses and related property
10.6

 
0.3
 %
 
27.0

 
0.7
 %
 
1.1

 
 %
Gain from insurance recoveries, net of losses incurred
(178.8
)
 
(4.7
)%
 
(38.3
)
 
(1.0
)%
 

 
 %
Income from equity method investments
(13.4
)
 
(0.4
)%
 
(12.0
)
 
(0.3
)%
 
(18.4
)
 
(0.5
)%
Operating income
$
656.9

 
17.3
 %
 
$
509.9

 
13.1
 %
 
$
494.5

 
12.9
 %
Loss from discontinued operations
(0.1
)
 
 %
 
(1.3
)
 
 %
 
(1.4
)
 
 %
Net income
$
408.7

 
10.7
 %
 
$
359.0

 
9.2
 %
 
$
305.7

 
8.0
 %

Year Ended December 31, 2019 Compared to Year Ended December 31, 2018 - Consolidated Results

Net Sales

Net sales decreased 2.0% in 2019 compared to 2018, driven by a 5% decline related to the divestitures of our Australia, Asia, South America, and Kysor Warren businesses, partially offset by 1% volume growth and 2% from favorable price and mix combined. The increase in volume was primarily due to market growth in our Residential Heating & Cooling and Commercial Heating & Cooling segments, and the favorable price and mix combined was attributable to all three of our business segments.

17






Gross Profit

Gross profit margins for 2019 decreased 20 basis points (“bps”) to 28.4% compared to 28.6% in 2018. We saw margin decreases of 30 bps from higher commodity costs, 80 bps from higher freight and distribution costs, 70 bps from lower factory productivity, and 50 bps from other product costs. These decreases were offset by increases of 100 bps from favorable price and mix, 50 bps from sourcing and engineering-led cost reductions, and 60 bps from our divested Australia, Asia, South America, and Kysor Warren businesses which collectively had lower margins.

Selling, General and Administrative Expenses

SG&A expenses decreased by $22 million in 2019 compared to 2018. As a percentage of net sales, SG&A expenses decreased 30 bps from 15.7% to 15.4% in the same periods. SG&A decreased primarily due to the sale of our divested Australia, Asia, South America, and Kysor Warren businesses.
   
Losses (Gains) and Other Expenses, Net

Losses (gains) and other expenses, net for 2019 and 2018 included the following (in millions):
 
For the Years Ended December 31,
 
2019
 
2018
Realized losses (gains), net on settled futures contracts
$
0.4

 
$
(0.4
)
Foreign currency exchange (gains) losses, net
(1.5
)
 
1.7

(Gains) losses on disposal of fixed assets
(0.2
)
 
0.7

Other operating (gains) losses
(1.7
)
 

Change in unrealized (gains) losses, net of unsettled futures contracts
(0.5
)
 
1.5

Asbestos-related litigation
3.1

 
4.0

Special legal contingency charges
1.2

 
1.9

Environmental liabilities
5.7

 
2.2

Other items, net
1.8

 
1.8

Losses (gains) and other expenses, net
$
8.3

 
$
13.4


The realized losses on settled futures contracts in 2019 were attributable to changes in commodity prices relative to our settled futures contract prices, as commodity prices have decreased in 2019 relative to 2018. Additionally, the change in unrealized (gains) losses, net on unsettled futures contracts was due to higher commodity prices relative to the unsettled futures contract prices. For more information on our derivatives, see Note 10 in the Notes to the Consolidated Financial Statements.

Foreign currency exchange gains increased in 2019 primarily due to strengthening in foreign exchange rates in our primary markets. The special legal contingency charges in 2019 relate to outstanding legal settlements. The asbestos-related litigation relates to known and estimated future asbestos matters. The environmental liabilities relate to estimated remediation costs for contamination at some of our facilities. Refer to Note 5 in the Notes to the Consolidated Financial Statements for more information on litigation, including the asbestos-related litigation, and the environmental liabilities.

Restructuring Charges

Restructuring charges were $10.3 million in 2019 compared to $3.0 million in 2018. The charges in 2019 related primarily to activities in the Residential Heating & Cooling segment to close certain Lennox Stores and reduce management and support staff, and activities in the Commercial Heating & Cooling segments to re-align resources and its product portfolio. The charges in 2018 were primarily for projects to realign resources and enhance manufacturing and distribution capabilities. For more information on our restructuring activities, see Note 8 in the Notes to the Consolidated Financial Statements.

Goodwill

We performed a qualitative impairment analysis and noted no indicators of goodwill impairment for the year ended December 31, 2019. We did not record any goodwill impairments in 2018 or 2019. Refer to Note 10 in the Notes to the Consolidated Financial Statements for more information on goodwill.

18






Asset Impairments

We did not have any impairments of assets related to continuing operations in 2019 or 2018.

Pension Settlement

In the second and fourth quarters of 2019, we entered into agreements to purchase group annuity contracts and transfer certain pension assets and related pension benefit obligations to Pacific Life Insurance Company. We recognized $99.2 million of pension settlement charges related to these transactions. We did not have significant pension buyout activity in 2018. Refer to Note 11 in the Notes to the Consolidated Financial Statements for more information on pensions and employee benefit plans.

Income from Equity Method Investments

Investments over which we do not exercise control but have significant influence are accounted for using the equity method of accounting. Income from equity method investments was $13 million in 2019 compared to $12 million in 2018. The increase is due to improved operating performance at the joint ventures.

Interest Expense, net

Net interest expense of $48 million in 2019 increased from $38 million in 2018 primarily due to an increase in our average borrowings.

Income Taxes

The income tax provision was $99 million in 2019 compared to $108 million in 2018, and the effective tax rate was 19.5% in 2019 compared to 23.0% in 2018. The 2019 and 2018 effective tax rates differ from the statutory rate of 21% primarily due to state and foreign taxes. Refer to Note 13 in the Notes to the Consolidated Financial Statements for more information on pensions and employee benefit plans. We expect our effective tax rate will be between 21% and 22% in future years, excluding the impact of excess tax benefits.

Loss from Discontinued Operations

There were no significant losses from discontinued operations in 2019. The $1 million of pre-tax income in 2018 primarily related to changes in retained product liabilities and general liabilities for the Service Experts business sold in 2013 and the Hearth business sold in 2012.

Year Ended December 31, 2019 Compared to Year Ended December 31, 2018 - Results by Segment

Residential Heating & Cooling

The following table presents our Residential Heating & Cooling segment’s net sales and profit for 2019 and 2018 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2019
 
2018
 
Difference
 
% Change
Net sales
$
2,291.1

 
$
2,225.0

 
$
66.1

 
3.0
%
Profit
$
464.6

 
$
399.4

 
$
65.2

 
16.3
%
% of net sales
20.3
%
 
18.0
%
 
 
 
 
        
Residential Heating & Cooling net sales increased 3% in 2019 compared to 2018. Sales volume increased 1% and price and mix combined increased 2%.

Segment profit in 2019 increased $65 million compared to 2018 due to an incremental $72 million of insurance proceeds for lost profits related to the Marshalltown tornado, $53 million of favorable price, $14 million of sourcing and engineer-led cost reductions, $8 million of lower warranty costs, and $2 million of higher sales volume. Partially offsetting these increases is $28 million of higher freight and distribution expense, $16 million from lower factory efficiency, $12 million of higher SG&A, $11

19





million of unfavorable mix, $10 million of higher other product costs, $6 million of higher commodities, and $1 million of unfavorable foreign exchange rates.

Commercial Heating & Cooling

The following table presents our Commercial Heating & Cooling segment’s net sales and profit for 2019 and 2018 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2019
 
2018
 
Difference
 
% Change
Net sales
$
947.4

 
$
900.7

 
$
46.7

 
5.2
%
Profit
$
165.4

 
$
157.5

 
$
7.9

 
5.0
%
% of net sales
17.5
%
 
17.5
%
 
 
 
 

Commercial Heating & Cooling net sales increased 5% in 2019 compared to 2018. Sales volume increased 2% and price and mix combined increased 3%.

Segment profit in 2019 increased $8 million compared to 2018 due to $23 million of higher price and mix combined, $7 million of higher sales volume, and $6 million from sourcing and engineering-led cost reductions. Partially offsetting these increases was $7 million of lower factory efficiency, $6 million of higher warranty and other product costs, $5 million of higher commodities, $4 million of higher freight and distribution expense, $3 million of higher SG&A expense, and $3 million of higher tariffs on Chinese imports.

Refrigeration

The following table presents our Refrigeration segment’s net sales and profit for 2019 and 2018 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2019
 
2018
 
Difference
 
% Change
Net sales
$
568.7

 
$
758.2

 
$
(189.5
)
 
(25.0
)%
Profit
$
61.3

 
$
68.1

 
$
(6.8
)
 
(10.0
)%
% of net sales
10.8
%
 
9.0
%
 
 
 
 

Net sales decreased 25% in 2019 compared to 2018. The loss of sales from the divested Australia, Asia, South America and Kysor Warren businesses contributed 24% and unfavorable foreign currency exchange rates contributed 2%, partially offset by 1% favorable price and mix combined.

Segment profit in 2019 decreased $7 million compared to 2018 due to $5 million of lower factory efficiency, $2 million of higher commodities, $3 million of lower sales of refrigerant allocations in Europe, $3 million of higher warranty and other product costs, $3 million of higher SG&A expenses, $1 million unfavorable foreign currency exchange rates, and $1 million of higher tariffs on Chinese imports. Partially offsetting these decreases was $4 million from higher price and mix combined, $5 million of sourcing and engineering-led cost reductions, and $2 million of higher profit due to the divestiture of Kysor Warren.

Corporate and Other

Corporate and other expenses decreased by $2 million in 2019 compared to 2018 primarily due to lower short-term and long-term incentive compensation.

Year Ended December 31, 2018 Compared to Year Ended December 31, 2017 - Consolidated Results

Net Sales

Net sales increased 1.2% in 2018 compared to 2017, primarily driven by volume and price increases. The increase in volume was primarily due to market growth in our Residential Heating and Cooling and Commercial Heating and Cooling segments.

20





These increases were partially offset by the impact due to the sale of our Australia, Asia and South America businesses in our Refrigeration segment.

Gross Profit

Gross profit margins for 2018 decreased 70 basis points (“bps”) to 28.6% compared to 29.3% in 2017. We saw margin decreases of 120 bps from higher commodity costs, 100 bps from higher freight and distribution costs, and 50 bps from other product costs. These decreases were offset by increases of 130 bps from favorable price and mix and 70 bps from sourcing and engineering-led cost reductions.

Selling, General and Administrative Expenses

SG&A expenses decreased by $30 million in 2018 compared to 2017. As a percentage of net sales, SG&A expenses decreased 90 bps from 16.6% to 15.7% in the same periods. SG&A decreased primarily due to the sale of our divested businesses in Australia, Asia and South America.
   
Losses (Gains) and Other Expenses, Net

Losses (gains) and other expenses, net for 2018 and 2017 included the following (in millions):

 
For the Years Ended December 31,
 
2018
 
2017
Realized gains, net on settled futures contracts
$
(0.4
)
 
$
(1.7
)
Foreign currency exchange losses (gains), net
1.7

 
(1.8
)
Losses on disposal of fixed assets
0.7

 
0.2

Change in unrealized losses, net of unsettled futures contracts
1.5

 
0.9

Asbestos-related litigation
4.0

 
3.5

Special legal contingency charges
1.9

 
3.7

Environmental liabilities
2.2

 
2.2

Contractor tax payments

 
0.1

Other items, net
1.8

 

Losses (gains) and other expenses, net
$
13.4

 
$
7.1


The realized gains on settled futures contracts in 2018 were attributable to changes in commodity prices relative to our settled futures contract prices, as commodity prices have increased in 2018 relative to 2017. Additionally, the change in unrealized losses, net on unsettled futures contracts was due to lower commodity prices relative to the unsettled futures contract prices. For more information on our derivatives, see Note 10 in the Notes to the Consolidated Financial Statements.

Foreign currency exchange losses increased in 2018 primarily due to weakening in foreign exchange rates in our primary markets. The special legal contingency charges decreased primarily due to lower legal costs associated with outstanding legal settlements. The asbestos-related litigation relates to known and estimated future asbestos matters. The environmental liabilities relate to estimated remediation costs for contamination at some of our facilities. Refer to Note 5 in the Notes to the Consolidated Financial Statements for more information on litigation, including the asbestos-related litigation, and the environmental liabilities.

Restructuring Charges

Restructuring charges were $3.0 million in 2018 compared to $3.2 million in 2017. The charges in 2018 and 2017 were primarily for projects to realign resources and enhance manufacturing and distribution capabilities. For more information on our restructuring activities, see Note 8 in the Notes to the Consolidated Financial Statements.

Goodwill

We performed a qualitative impairment analysis and noted no indicators of goodwill impairment for the year ended December 31, 2018. In 2018, we wrote off $11.5 million of goodwill as a part of the completed sales of our Australia, Asia and South America businesses (discussed further in Note 7 of the Notes to the Consolidated Financial Statements). Also, we did not record any

21





goodwill impairments in 2017. Refer to Note 10 in the Notes to the Consolidated Financial Statements for more information on goodwill.

Asset Impairment

We did not have any impairments of assets related to continuing operations in 2018 or 2017.

Pension Settlement

We did not have significant pension buyout activity in 2018 or 2017. Refer to Note 11 in the Notes to the Consolidated Financial Statements for more information on pensions and employee benefit plans.

Income from Equity Method Investments

Investments over which we do not exercise control but have significant influence are accounted for using the equity method of accounting. Income from equity method investments was $12 million in 2018 compared to $18 million in 2017. The decrease is because the joint ventures have experienced increased costs related to commodities and components and have not passed these increased costs on through price increases.

Interest Expense, net

Net interest expense of $38 million in 2018 increased from $31 million in 2017 primarily due to an increase in our average borrowings and rising interest rates.

Income Taxes

The income tax provision was $108 million in 2018 compared to $157 million in 2017, and the effective tax rate was 23% in 2018 compared to 34% in 2017. The 2018 effective tax rate differs from the statutory rate of 21% primarily due to state and foreign taxes. The 2017 effective tax rate was negatively impacted by changes in U.S. tax legislation that reduced the value of our deferred tax assets by $31.8 million, partially offset by the benefit from the impact of excess tax benefits related to stock-based compensation of $23.6 million. Refer to Note 13 in the Notes to the Consolidated Financial Statements for more information on the impact of recent changes in tax legislation.

Loss from Discontinued Operations

The $1 million of pre-tax income incurred in 2018 and $2 million of pre-tax losses in 2017 primarily relate to changes in retained product liabilities and general liabilities for the Service Experts business sold in 2013 and the Hearth business sold in 2012.

Year Ended December 31, 2018 Compared to Year Ended December 31, 2017 - Results by Segment

Residential Heating & Cooling

The following table presents our Residential Heating & Cooling segment’s net sales and profit for 2018 and 2017 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2018
 
2017
 
Difference
 
% Change
Net sales
$
2,225.0

 
$
2,140.4

 
$
84.6

 
4.0
%
Profit
$
399.4

 
$
373.9

 
$
25.5

 
6.8
%
% of net sales
18.0
%
 
17.5
%
 
 
 
 
        
Residential Heating & Cooling net sales increased 4% in 2018 compared to 2017. Sales volume increased 2% and price and mix combined increased 2%.

Segment profit in 2018 increased $26 million due to $52 million of combined price and mix, $27 million of insurance proceeds for the third quarter 2018 lost profits from the Marshalltown tornado, $14 million from higher sales volume, $12 million from

22





sourcing and engineering-led cost reductions, and $5 million of higher factory productivity. Partially offsetting these increases is $35 million of higher commodity costs, $32 million of higher freight and distribution expenses, $9 million of higher other product costs, $4 million from lower equity method income, $3 million from unfavorable foreign exchange rates, and $1 million from higher SG&A.

Commercial Heating & Cooling

The following table presents our Commercial Heating & Cooling segment’s net sales and profit for 2018 and 2017 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2018
 
2017
 
Difference
 
% Change
Net sales
$
900.7

 
$
819.5

 
$
81.2

 
9.9
%
Profit
$
157.5

 
$
149.3

 
$
8.2

 
5.5
%
% of net sales
17.5
%
 
18.2
%
 
 
 
 

Commercial Heating & Cooling net sales increased 10% in 2018 compared to 2017. Sales volume increased 7% and price and mix combined increased 3%.

Segment profit in 2018 increased $8 million compared to 2017 due to $19 million from higher sales volume, $11 million of combined price and mix, and $5 million from sourcing and engineering-led cost reductions. Partially offsetting these increases is $9 million of higher commodity costs, $9 million of higher other product costs, $5 million of higher freight and distribution expense, $2 million of lower factory productivity, and $2 million of higher SG&A expense.

Refrigeration

The following table presents our Refrigeration segment’s net sales and profit for 2018 and 2017 (dollars in millions):
 
For the Years Ended December 31,
 
 
 
 
 
2018
 
2017
 
Difference
 
% Change
Net sales
$
758.2

 
$
879.7

 
$
(121.5
)
 
(13.8
)%
Profit
$
68.1

 
$
80.6

 
$
(12.5
)
 
(15.5
)%
% of net sales
9.0
%
 
9.2
%
 
 
 
 

Net sales decreased 14% in 2018 compared to 2017. The loss of sales from the divested Australia, Asia and South America businesses contributed 13%, price and mix combined was 1% lower and sales volume was 1% lower. These were partially offset by an increase of 1% from favorable foreign currency exchange rates.

Segment profit in 2018 decreased $13 million compared to 2017 due to $6 million of higher commodity costs, $6 million of lower profit due to the divested Australia, Asia and South America businesses, $3 million from lower sales volume, $3 million of lower factory productivity, $2 million of higher freight and distribution expense and $2 million of lower equity method income. Partially offsetting these decreases was $6 million of sourcing and engineering-led cost reductions, $2 million from selling refrigerant allocations in Europe, and $1 million of lower SG&A expense.

Corporate and Other

Corporate and other expenses decreased by $5 million in 2018 primarily due to $2 million of non-recurring discretionary expenses in 2017, $2 million of pension expense that was reclassified out of operating income due to a change in accounting rules, and $1 million of lower health and welfare expense.


23





Accounting for Futures Contracts

Realized gains and losses on settled futures contracts are a component of segment profit (loss). Unrealized gains and losses on unsettled futures contracts are excluded from segment profit (loss) as they are subject to changes in fair value until their settlement date. Both realized and unrealized gains and losses on futures contracts are a component of Losses (gains) and other expenses, net in the accompanying Consolidated Statements of Operations. See Note 10 of the Notes to Consolidated Financial Statements for more information on our derivatives and Note 3 of the Notes to the Consolidated Financial Statements for more information on our segments and for a reconciliation of segment profit to operating income.

Liquidity and Capital Resources

Our working capital and capital expenditure requirements are generally met through internally generated funds, bank lines of credit and an asset securitization arrangement. Working capital needs are generally greater in the first and second quarters due to the seasonal nature of our business cycle.

Statement of Cash Flows

The following table summarizes our cash flow activity for the years ended December 31, 2019, 2018 and 2017 (in millions):
 
2019
 
2018
 
2017
Net cash provided by operating activities
$
396.1

 
$
495.5

 
$
325.1

Net cash provided by (used in) investing activities
15.9

 
30.5

 
(98.1
)
Net cash used in financing activities
$
(423.4
)
 
$
(537.8
)
 
$
(218.3
)

Net Cash Provided by Operating Activities - Net cash provided by operating activities decreased $99 million to $396 million in 2019 compared to $496 million in 2018. The decrease was primarily attributable to an increase in working capital partially offset by an increase in net income.

Net Cash Provided by (Used in) Investing Activities - Capital expenditures were $106 million, $95 million and $98 million in 2019, 2018 and 2017, respectively. Capital expenditures in 2019 were primarily related to the reconstruction of the Marshalltown facility, expansion of our manufacturing capacity and equipment and investments in systems and software to support the overall enterprise. We received net proceeds of $44 million in 2019 from the sale of our Kysor Warren business, and we received $80 million of insurance proceeds to fund the capital expenditures for the reconstruction of our Marshalltown facility.

Net Cash Used in Financing Activities - Net cash used in financing activities decreased to $423 million in 2019 from $538 million in 2018. The decrease is largely due to lower share repurchases in 2019 and an increase in borrowings from our debt facilities. During 2019 we repurchased $400 million of shares compared to $450 million of shares in 2018. We also returned $111 million to shareholders through dividend payments. For additional information on share repurchases, refer to Note 6 in the Notes to the Consolidated Financial Statements.


24





Debt Position

The following table details our lines of credit and financing arrangements as of December 31, 2019 (in millions):
 
 
Outstanding Borrowings
Current maturities of long-term debt:
 
Asset Securitization Program (1)
$
285.0

Capital lease obligations
7.8

Domestic credit facility (2)
30.0

Debt issuance costs
(0.9
)
Total current maturities of long-term debt
$
321.9

Long-term debt:
 
Capital lease obligations
$
25.9

Domestic credit facility (2)
475.5

Senior unsecured notes
350.0

Debt issuance costs
(2.1
)
Total long-term debt
849.3

Total debt
$
1,171.2


(1)
The maximum securitization amount ranges from $250.0 million to $400.0 million, depending on the period. The maximum capacity of the Asset Securitization Program (“ASP”) is the lesser of the maximum securitization amount or 100% of the net pool balance less reserves, as defined under the ASP. Refer to Note 14 in the Notes to the Consolidated Financial Statements for more details.
(2)
The available future borrowings on our domestic credit facility are $652 million after being reduced by the outstanding borrowings and $2 million in outstanding standby letters of credit. We also had $30.0 million in outstanding standby letters of credit outside of the domestic credit facility as of December 31, 2019. In January 2019, we increased the maximum credit commitments by $350 million as permitted under the Domestic Credit Facility bringing the total maximum credit commitments to $1.0 billion.

Financial Leverage

We periodically review our capital structure, including our primary bank facility, to ensure the appropriate levels of liquidity and leverage and to take advantage of favorable interest rate environments or other market conditions. We consider various other financing alternatives and may, from time to time, access the capital markets.

We also evaluate our debt-to-capital and debt-to-EBITDA ratios to determine, among other considerations, the appropriate targets for capital expenditures and share repurchases under our Share Repurchase Plans. Our debt-to-total-capital ratio increased to 117.0% at December 31, 2019 compared to 116.8% at December 31, 2018. The increase in the ratio in 2019 is primarily due to the increase in total debt.

As of December 31, 2019, our senior credit ratings were Baa3 with a stable outlook, and BBB with a stable outlook, by Moody’s Investors Service, Inc. (“Moody’s”) and Standard & Poor’s Rating Group (“S&P”), respectively. The security ratings are not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating agency. Each rating should be evaluated independently of any other rating. Our goal is to maintain investment grade ratings from Moody’s and S&P to help ensure the capital markets remain available to us.

Liquidity

We believe our cash and cash equivalents of $37 million, future cash generated from operations and available future borrowings are sufficient to fund our operations, planned capital expenditures, future contractual obligations, share repurchases, anticipated dividends and other needs in the foreseeable future. Included in our cash and cash equivalents as of December 31, 2019 was $19 million of cash held in foreign locations, although that amount can fluctuate significantly depending on the timing of cash receipts and payments. Our cash held in foreign locations is used for investing and operating activities in those locations, and we generally

25





do not have the need or intent to repatriate those funds to the United States. An actual repatriation in the future from our non-U.S. subsidiaries could be subject to foreign withholding taxes and U.S. state taxes.

No contributions are required to be made to our U.S. defined benefit plans in 2020. We made $2 million in total contributions to pension plans in 2019.

On May 22, 2019, our Board of Directors approved a 20% increase in our quarterly dividend on common stock from $0.64 to $0.77 per share effective with the July 2019 dividend payment. Dividend payments were $111 million in 2019 compared to $94 million in 2018, with the increase due to the increase in dividends approved by the Board of Directors.

We also continued to increase shareholder value through our Share Repurchase Plans. We returned $400 million to our investors through share repurchases in 2019 and expect to repurchase another $400 million of shares in 2020. Our Board of Directors authorized an incremental $500 million of share repurchases in December 2019, and we have $546 million of repurchases available under the Share Repurchase Plans at December 31, 2019.

We expect capital expenditures of approximately $153 million in 2020, including $53 million to complete the reconstruction of the Marshalltown, Iowa manufacturing facility.

Financial Covenants related to our Debt

Our domestic credit facility is guaranteed by certain of our subsidiaries and contains financial covenants relating to leverage and interest coverage. Other covenants contained in the domestic credit facility restrict, among other things, certain mergers, asset dispositions, guarantees, debt, liens, and affiliate transactions. The financial covenants require us to maintain a defined Consolidated Indebtedness to Adjusted EBITDA Ratio and a Cash Flow (defined as EBITDA minus capital expenditures) to Interest Expense Ratio. The required ratios under our domestic credit facility are detailed below:
Consolidated Indebtedness to Adjusted EBITDA Ratio no greater than
3.5 : 1.0
Cash Flow to Interest Expense Ratio no less than
3.0 : 1.0

Our domestic credit facility contains customary events of default. These events of default include nonpayment of principal or other amounts, material inaccuracy of representations and warranties, breach of covenants, default on certain other indebtedness or receivables securitizations (cross default), certain voluntary and involuntary bankruptcy events and the occurrence of a change in control. A cross default under our credit facility could occur if:

We fail to pay any principal or interest when due on any other indebtedness or receivables securitization exceeding $75.0 million; or
We are in default in the performance of, or compliance with any term of any other indebtedness or receivables securitization in an aggregate principal amount exceeding $75.0 million, or any other condition exists which would give the holders the right to declare such indebtedness due and payable prior to its stated maturity.

Each of our major debt agreements contains provisions by which a default under one agreement causes a default in the others (a cross default). If a cross default under our domestic credit facility, our senior unsecured notes, or our ASP were to occur, it could have a wider impact on our liquidity than might otherwise occur from a default of a single debt instrument or lease commitment.

If any event of default occurs and is continuing, the administrative agent, or lenders with a majority of the aggregate commitments may require the administrative agent to, terminate our right to borrow under our domestic credit facility and accelerate amounts due under our domestic credit facility (except for a bankruptcy event of default, in which case such amounts will automatically become due and payable and the lenders’ commitments will automatically terminate).

In the event of a credit rating downgrade below investment grade resulting from a change of control, holders of our senior unsecured notes will have the right to require us to repurchase all or a portion of the senior unsecured notes at a repurchase price equal to 101% of the principal amount of the notes, plus accrued and unpaid interest, if any. The notes are guaranteed, on a senior unsecured basis, by each of our subsidiaries that guarantee payment by us of any indebtedness under our domestic credit facility. The indenture governing the notes contains covenants that, among other things, limit our ability and the ability of the subsidiary guarantors to: create or incur certain liens; enter into certain sale and leaseback transactions; enter into certain mergers, consolidations and transfers of substantially all of our assets; and transfer certain properties. The indenture also contains a cross default provision which is triggered if we default on other debt of at least $75 million in principal which is then accelerated, and such acceleration is not rescinded within 30 days of the notice date.

26






As of December 31, 2019, we believe we were in compliance with all covenant requirements. Delaware law limits the ability to pay dividends to surplus or, if there is no surplus, out of net profits for the fiscal year in which the dividend is declared and/or the preceding fiscal year. In addition, stock repurchases can only be made out of surplus and only if our capital would not be impaired.

Leasing Commitments

Refer to Note 5 in the Notes to the Consolidated Financial Statements for more details on our leasing commitments.

Off Balance Sheet Arrangements

An off-balance sheet arrangement is any transaction, agreement or other contractual arrangement involving an unconsolidated entity under which the company has: (1) made guarantees, (2) a retained or a contingent interest in transferred assets, (3) an obligation under derivative instruments classified as equity or (4) any obligation arising out of a material variable interest in an unconsolidated entity that provides financing, liquidity, market risk or credit risk support to us, or that engages in leasing, hedging or research and development arrangements with us.  We have no off-balance sheet arrangements that we believe may have a material current or future effect on our financial condition, liquidity or results of operations.

Contractual Obligations

Summarized below are our contractual obligations as of December 31, 2019 and their expected impact on our liquidity and cash flows in future periods (in millions):
 
Payments Due by Period
 
Total
 
1 Year or Less
 
1 - 3 Years
 
3 - 5 Years
 
More than 5 Years
Total long-term debt obligations (1) 
$
1,174.2

 
$
322.8

 
$
486.6

 
$
353.1

 
$
11.7

Estimated interest payments on existing debt obligations (2)
72.5

 
32.4

 
30.5

 
9.3

 
0.3

Operating leases
199.3

 
58.4

 
80.1

 
43.7

 
17.1

Purchase obligations (3)
25.4

 
25.4

 

 

 

Total contractual obligations
$
1,471.4

 
$
439.0

 
$
597.2

 
$
406.1

 
$
29.1


(1) Contractual obligations related to finance leases are included as part of long-term debt.
(2) Estimated interest payments are based on current contractual requirements and do not reflect seasonal changes in the balance of our domestic credit facility.
(3) Purchase obligations consist of inventory that is part of our third party logistics programs.

The table above does not include pension, post-retirement benefit and warranty liabilities because it is not certain when these liabilities will be funded. For additional information regarding our contractual obligations, see Note 5 of the Notes to the Consolidated Financial Statements. See Note 11 of the Notes to the Consolidated Financial Statements for more information on our pension and post-retirement benefits obligations.

Fair Value Measurements
      
Fair value is the price that would be received to sell an asset or the price paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date and requires consideration of our creditworthiness when valuing certain liabilities. Our framework for measuring fair value is based on a three-level hierarchy for fair value measurements.

The three-level fair value hierarchy for disclosure of fair value measurements is defined as follows:

Level 1 -     Quoted prices for identical instruments in active markets at the measurement date.

Level 2 -
Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets at the measurement date and for the anticipated term of the instrument.


27





Level 3 -
Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable inputs that reflect the reporting entity’s own assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.

Where available, the fair values were based upon quoted prices in active markets. However, if quoted prices were not available, then the fair values were based upon quoted prices for similar assets or liabilities or independently sourced market parameters, such as credit default swap spreads, yield curves, reported trades, broker/dealer quotes, interest rates and benchmark securities. For assets and liabilities without observable market activity, if any, the fair values were based upon discounted cash flow methodologies incorporating assumptions that, in our judgment, reflect the assumptions a marketplace participant would use. Valuation adjustments to reflect either party’s creditworthiness and ability to pay were incorporated into our valuations, where appropriate, as of December 31, 2019 and 2018, the measurement dates. See Note 17 of the Notes to the Consolidated Financial Statements for more information on the assets and liabilities measured at fair value.

Market Risk

Commodity Price Risk

We enter into commodity futures contracts to stabilize prices expected to be paid for raw materials and parts containing high copper and aluminum content. These contracts are for quantities equal to or less than quantities expected to be consumed in future production. Fluctuations in metal commodity prices impact the value of the futures contracts that we hold. When metal commodity prices rise, the fair value of our futures contracts increases. Conversely, when commodity prices fall, the fair value of our futures contracts decreases. Information about our exposure to metal commodity price market risks and a sensitivity analysis related to our metal commodity hedges is presented below (in millions):
Notional amount (pounds of aluminum and copper)
61.8

Carrying amount and fair value of net liability
$
(0.7
)
Change in fair value from 10% change in forward prices
$
9.1


Refer to Note 10 of the Notes to the Consolidated Financial Statements for additional information regarding our commodity futures contracts.

Interest Rate Risk

Our results of operations can be affected by changes in interest rates due to variable rates of interest on our debt facilities, cash, cash equivalents and short-term investments. A 10% adverse movement in the levels of interest rates across the entire yield curve would have resulted in an increase to pre-tax interest expense of approximately $3.9 million, $2.7 million and $1.8 million for the years ended December 31, 2019, 2018 and 2017, respectively.

From time to time, we may use an interest rate swap hedging strategy to eliminate the variability of cash flows in a portion of our interest payments. This strategy, when employed, allows us to fix a portion of our interest payments while also taking advantage of historically low interest rates. As of December 31, 2019 and 2018, no interest rate swaps were in effect.

Foreign Currency Exchange Rate Risk

Our results of operations are affected by changes in foreign currency exchange rates. Net sales and expenses in foreign currencies are translated into U.S. dollars for financial reporting purposes based on the average exchange rate for the period. During 2019, 2018 and 2017, net sales from outside the U.S. represented 13.2%, 18.5% and 18.5% , respectively, of our total net sales. For the years ended December 31, 2019 and 2018, foreign currency transaction gains and losses did not have a material impact to our results of operations. A 10% change in foreign exchange rates would have had an estimated $4.2 million, $2.1 million and $5.2 million impact to net income for the years ended December 31, 2019, 2018 and 2017, respectively.

We seek to mitigate the impact of currency exchange rate movements on certain short-term transactions by periodically entering into foreign currency forward contracts. By entering into forward contracts, we lock in exchange rates that would otherwise cause losses should the U.S. dollar appreciate and gains should the U.S. dollar depreciate. Refer to Note 10 of the Notes to the Consolidated Financial Statements for additional information regarding our foreign currency forward contracts.



28





Critical Accounting Estimates

A critical accounting estimate is one that requires difficult, subjective or complex estimates and assessments and is fundamental to our results of operations and financial condition. The following describes our critical accounting estimate related to product warranties and product-related contingencies and how we develop our judgments, assumptions and estimates about future events and how such policies can impact our financial statements. This discussion and analysis should be read in conjunction with our Consolidated Financial Statements and related Notes in “Item 8. Financial Statements and Supplementary Data.”

Product Warranties and Product-Related Contingencies

The estimate of our liability for future warranty costs requires us to make assumptions about the amount, timing and nature of future product-related costs. Some of the warranties we issue extend 10 years or more in duration and a relatively small adjustment to an assumption may have a significant impact on our overall liability.

From time to time, we may also incur costs to repair or replace installed products experiencing quality issues in order to satisfy our customers and protect our brand. These product-related costs may not be covered under our warranties and are not covered by insurance.

We periodically review the assumptions used to determine the liabilities for product warranties and product-related contingencies and we adjust our assumptions based upon factors such as actual failure rates and cost experience. Numerous factors could affect actual failure rates and cost experience, including the amount and timing of new product introductions, changes in manufacturing techniques or locations, components or suppliers used. Should actual costs differ from our estimates, we may be required to adjust the liabilities and to record expense in future periods. See Note 5 in the Notes to the Consolidated Financial Statements for more information on our product warranties and product-related contingencies.

Recent Accounting Pronouncements

See Note 2 in the Notes to the Consolidated Financial Statements for disclosure of recent accounting pronouncements and the potential impact on our financial statements and disclosures.

Item 7A. Quantitative and Qualitative Disclosures About Market Risk
 
The information required by this item is included under the caption “Market Risk” in Item 7 above.

29





Item 8. Financial Statements and Supplementary Data

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

      Our management is responsible for establishing and maintaining adequate internal control over financial reporting. As defined by the Securities and Exchange Commission, internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the Consolidated Financial Statements in accordance with U.S. generally accepted accounting principles.
     
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
     
Management, including our Chief Executive Officer and Chief Financial Officer, has undertaken an assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control - Integrated Framework (2013) by the Committee of Sponsoring Organizations of the Treadway Commission. Management’s assessment included an evaluation of the design of the Company’s internal control over financial reporting and testing of the operational effectiveness of those controls.
     
Based on this assessment, management concluded that as of December 31, 2019, the Company’s internal control over financial reporting was effective.
     
KPMG LLP, the independent registered public accounting firm that audited the Company’s Consolidated Financial Statements, has issued an audit report including an opinion on the effectiveness of our internal control over financial reporting as of December 31, 2019, a copy of which is included herein.

30






REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and Board of Directors
Lennox International Inc.:
Opinions on the Consolidated Financial Statements and Internal Control Over Financial Reporting
We have audited the accompanying consolidated balance sheets of Lennox International Inc. and subsidiaries (the Company) as of December 31, 2019 and 2018, the related consolidated statements of operations, comprehensive (loss) income, stockholders’ (deficit) equity, and cash flows for each of the years in the three-year period ended December 31, 2019, and the related notes and Schedule II - Valuation and Qualifying Accounts and Reserves (collectively, the consolidated financial statements). We also have audited the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2019, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
Change in Accounting Principles
As discussed in Note 2 to the consolidated financial statements, the Company has changed its method of accounting for leases as of January 1, 2019 due to the adoption of Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), as amended. As discussed in Note 9 to the consolidated financial statements, the Company has changed its method of accounting for revenue from contracts with customers as of January 1, 2018 due to the adoption of Accounting Standards Update (ASU) No. 2014-09, Revenue from Contracts with Customers (Topic 606), as amended.
Basis for Opinions
The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are

31





being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgment. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Evaluation of the product warranty liability
As discussed in Notes 2 and 5 to the consolidated financial statements, the Company provides a product warranty for certain of its products with the warranty period generally ranging from one to 20 years. The product warranty liability is estimated by product category based on the estimated future costs to repair or replace the products under warranty. The Company’s product warranty liability was $113 million as of December 31, 2019.
We identified the evaluation of the product warranty liability as a critical audit matter. Assessing the assumptions used to estimate the product warranty liability, specifically, the estimated failure rates by product by year, and estimated cost per failure, involved subjective and complex auditor judgment.
The primary procedures we performed to address this critical audit matter included the following. We tested certain internal controls over the Company’s estimate of the future failure rates by product category and controls to estimate the cost of failures by product category for products subject to warranty. We assessed the estimated future failure rates by product category and the estimated cost per failure by product category used in the estimation of the product warranty liability by comparing them to the Company’s underlying historical data. We tested a sample of the historical data used as the basis for these assumptions by comparing to the relevant underlying documentation.

/s/ KPMG LLP


We have served as the Company’s auditor since 2002.
Dallas, Texas
February 18, 2020


32





LENNOX INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In millions, except shares and par values)
 
As of December 31,
 
2019
 
2018
ASSETS
Current Assets:
 
 
 
Cash and cash equivalents
$
37.3

 
$
46.3

Short-term investments
2.9

 

Accounts and notes receivable, net of allowances of $6.1 and $6.3 in 2019 and 2018, respectively
477.8

 
472.7

Inventories, net
544.1

 
509.8

Other assets
58.8

 
60.6

Total current assets
1,120.9

 
1,089.4

Property, plant and equipment, net of accumulated depreciation of $824.3 and $778.5 in 2019 and 2018, respectively
445.4

 
408.3

Right-of-use assets from operating leases
181.6

 

Goodwill
186.5

 
186.6

Deferred income taxes
21.5

 
67.0

Other assets, net
79.0

 
65.9

Total assets
$
2,034.9

 
$
1,817.2

LIABILITIES AND STOCKHOLDERS’ DEFICIT
Current Liabilities:
 
 
 
Current maturities of long-term debt
321.9

 
300.8

Current operating lease liabilities
52.7

 

Accounts payable
372.4

 
433.3

Accrued expenses
255.7

 
272.3

Income taxes payable

 
2.1

Total current liabilities
1,002.7

 
1,008.5

Long-term debt
849.3

 
740.5

Long-term operating lease liabilities
131.0

 

Pensions
87.4

 
82.8

Other liabilities
134.7

 
135.0

Total liabilities
2,205.1

 
1,966.8

Commitments and contingencies


 


Stockholders' deficit:
 
 
 
Preferred stock, $.01 par value, 25,000,000 shares authorized, no shares issued or outstanding

 

Common stock, $.01 par value, 200,000,000 shares authorized, 87,170,197 shares issued
0.9

 
0.9

Additional paid-in capital
1,093.5

 
1,078.8

Retained earnings
2,148.7

 
1,855.0

Accumulated other comprehensive loss
(103.8
)
 
(188.8
)
Treasury stock, at cost, 48,575,901 shares and 47,312,248 shares for 2019 and 2018, respectively
(3,309.5
)
 
(2,895.5
)
Total stockholders' deficit
(170.2
)
 
(149.6
)
Total liabilities and stockholders' deficit
$
2,034.9

 
$
1,817.2



The accompanying notes are an integral part of these Consolidated Financial Statements.

33





LENNOX INTERNATIONAL INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(In millions, except per share data)
 
For the Years Ended December 31,
 
2019
 
2018
 
2017
Net sales
$
3,807.2

 
$
3,883.9

 
$
3,839.6

Cost of goods sold
2,727.4

 
2,772.7

 
2,714.4

Gross profit
1,079.8

 
1,111.2

 
1,125.2

Operating expenses:
 
 
 
 
 
Selling, general and administrative expenses
585.9

 
608.2

 
637.7

Losses (gains) and other expenses, net
8.3

 
13.4

 
7.1

Restructuring charges
10.3

 
3.0

 
3.2

Loss (gain), net on sale of businesses and related property
10.6

 
27.0

 
1.1

Gain from insurance recoveries, net of losses incurred
(178.8
)
 
(38.3
)
 

Income from equity method investments
(13.4
)
 
(12.0
)
 
(18.4
)
Operating income
656.9

 
509.9

 
494.5

Pension settlements