10-K 1 dec3115_10kntk.htm 2015 FORM 10-K FOR NORTEK, INC. 10-K


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10 - K
 
(Mark One)
[X]    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year-ended December 31, 2015

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: 001-34697
 
Nortek, Inc.
(Exact name of registrant as specified in its charter)
 
Delaware
 
05-0314991
(State or other jurisdiction
of incorporation or organization)
 
(I.R.S. Employer Identification No.)
 
 
 
500 Exchange Street, Providence, Rhode Island
 
02903-2699
(Address of principal executive offices)
 
(Zip Code)
 
 
 
Registrant's Telephone Number, including Area Code:
 
(401) 751-1600
Securities registered pursuant to Section 12(b) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [_] No [X]

Indicate by check mark 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 registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 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 past 90 days. Yes [X] No [_]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).     Yes [X]    No [_]

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [_]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer [X]
Accelerated filer [_]
Non-accelerated filer [_]
(Do not check if smaller reporting company)
Smaller reporting company [_]

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 the last business day of the registrant's most recently completed second fiscal quarter (June 27, 2015), the aggregate market value of the registrant's common stock held by non-affiliates was approximately $822.8 million. The registrant's common stock trades on the NASDAQ Global Market under the symbol “NTK”.

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No [_]

The number of shares of the registrant's common stock par value $0.01 per share outstanding as of February 22, 2016 was 16,401,089.

Documents incorporated by reference:

Portions of the registrant's definitive Proxy Statement for its 2016 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission within 120 days after December 31, 2015 are incorporated by reference into Part III of this Annual Report on Form 10-K.




 
TABLE OF CONTENTS
 
 

INFORMATION REGARDING FORWARD-LOOKING STATEMENTS
This annual report on Form 10-K contains “forward-looking statements” about Nortek, Inc. ("Nortek") and its subsidiaries (the "Company"). When used in this discussion and throughout this document, words such as “intend,” “plan,” “estimate,” “believe,” “will,” “could,” “may,” “seek,” “anticipate,” and “expect” or other similar expressions are intended to identify forward-looking statements, which are provided "safe harbor" protection under the U.S. Private Securities Litigation Reform Act of 1995. These statements are based on our current plans and expectations and involve risks and uncertainties, over which we have no control, that could cause actual future activities and results of operations to be materially different from those set forth in the forward-looking statements. Important factors that could cause actual future activities and operating results to differ include: global economic conditions; the level of domestic and foreign construction and remodeling activity affecting residential and commercial markets; the availability and cost of certain raw materials and purchased components (including, among others, steel, copper, aluminum, electronics, motors, plastics, compressors, various chemicals and paints, and packaging); compliance with conflict minerals regulations; weather fluctuations; acquisition and integration risks; potential restructurings and business shutdowns; competition; foreign economic and political conditions; increased costs associated with regulatory compliance, including environmental, health and safety laws and the U.S. Foreign Corrupt Practices Act; foreign currency fluctuations; international business practices; maintaining good relationships with customers and suppliers; labor disruptions; product innovations and improvements; product and warranty liability claims; product recalls or reworks; employment levels; intellectual property rights; security breaches; maintaining pension plans; changes in tax law; and our ability to service our indebtedness. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We undertake no obligation to update publicly any forward-looking statements, whether as a result of new information, future events or otherwise (except as required by applicable securities laws). All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. Readers are also urged to carefully review and consider the various disclosures made by us in this annual report on Form 10-K, including without limitation statements in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the risk factors described in Item 1A, and any further disclosures we make on related subjects in our Form 10-Q and Form 8-K reports filed with the Securities and Exchange Commission (the “SEC”).
WEBSITE ACCESS TO COMPANY REPORTS
Copies of our filings under the Securities Exchange Act of 1934, as amended (the "Exchange Act") (including annual reports on Form 10-K, quarterly reports on Form 10-Q, and current reports on Form 8-K) are available on our website, www.nortek.com, free of charge, as soon as reasonably practicable after such materials are filed with, or furnished to, the SEC.
Investors and others should note that we announce material financial information to our investors using our investor relations website (investors.nortek.com), SEC filings, press releases, public conference calls and webcasts. We use these channels to communicate with our investors and the public about our company, our services and other issues. Nortek has used, and intends to continue to use, our investor relations website as a means of disclosing material non-public information and for complying with its disclosure obligations under Regulation FD. Further corporate governance information, including our certificate of incorporation, bylaws, governance guidelines, board committee charters, and code of business conduct and ethics, is also available on our investor relations website under the heading “Corporate Governance.” The contents of our websites are not intended to be incorporated by reference into this Annual Report on Form 10-K or in any other report or document we file with the SEC, and any references to our websites are intended to be inactive textual references only.

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December 31, 2015


PART I

ITEM 1.
BUSINESS.
 
General
 
Nortek was founded in 1967 and is headquartered in Providence, Rhode Island. The Company is incorporated in the State of Delaware. In this annual report, “Nortek,” the “Company,” “we,” “us,” and “our” refer to Nortek, Inc. and its wholly-owned subsidiaries unless the context requires otherwise. This term is used for convenience only and is not intended as a precise description of any of the separate corporations, each of which manages its own affairs.


We are
a global, diversified company whose many market-leading brands deliver broad capabilities and a wide array of innovative, technology-driven products and solutions for lifestyle improvement at home and at work. Our principal reporting segments are as follows:
 
the Air Quality and Home Solutions ("AQH") segment,
the Security and Control Solutions ("SCS") segment,
the Ergonomic and Productivity Solutions ("ERG") segment,
the Residential and Commercial HVAC ("RCH") segment, and
the Custom and Commercial Air Solutions ("CAS") segment.
 

Through these segments, we manufacture and sell, primarily in the United States, Canada, and Europe, with additional manufacturing in China and Mexico, a wide variety of products principally for the remodeling and replacement markets, the residential and commercial new construction markets, and the personal and enterprise computer markets.

During the second quarter of 2015, we transferred the management of our UK commercial HVAC subsidiary from the CAS segment to the RCH segment. Additionally, during the second quarter of 2014, we changed the composition of our reporting segments to exclude the audio, video and control ("AVC") entities (formerly the "AV entities") from the SCS segment due to the Chief Operating Decision Maker's decision to operate each of these entities separately and manage each as a standalone segment. The AVC entities have been combined and have not been reported separately as these operating segments are individually not significant (the "AVC segments"). These entities were principally acquired at various times from 2003 to 2011. As a result of these changes, we have restated prior period segment disclosures to conform to the new composition.

Our performance is significantly impacted by the levels of residential replacement and remodeling activity, as well as the levels of residential and non-residential new construction. New residential and non-residential construction activity and, to a lesser extent, residential remodeling and replacement activity are affected by seasonality and cyclical factors such as interest rates, credit availability, inflation, consumer spending, employment levels and other macroeconomic factors, over which we have no control.


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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Acquisitions
 
Nortek has implemented a strategy related to the process by which we evaluate and pursue strategic acquisitions. We plan to pursue acquisitions that are highly synergistic, have a strong strategic rationale, and meet or exceed internal financial hurdles; this focused approach to growth is expected to result in improved value creation for our stockholders.
Acquisitions are included in our consolidated results from the date of their acquisition. We made the following acquisitions in 2015: 
Reporting Segment
 
Acquired Company
 
Acquisition Date
 
Primary Business of Acquired Company
ERG
 
Anthro Corporation ("Anthro")
 
January 21, 2015
 
Designs, develops, markets and manufactures technology furniture products
SCS
 
Numera, Inc. ("Numera")(1)
 
June 30, 2015
 
Designs mobile personal emergency response system ("PERS") products and cloud-based software platforms that enable a range of personal safety and health reporting services
(1)
Relates to the mobile personal emergency response system and telehealth business of Numera.

See Note 2, “Acquisitions and Dispositions”, to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report for a detailed description of these acquisitions.

Our Business Segments
 
Segment
 
Primary Products
 
Major Brands(1)
 
2015 Net
Sales(2)(3)
 
 
 
 
 
 
 
AQH
 
Range hoods, exhaust fans, indoor air quality products, central vacuum systems
 
Broan®, NuTone®, Venmar®, Best, Zephyr
 
$
598.1

 
 
 
 
 
 
 
SCS
 
Security, automation, health and wellness, and access control equipment and systems
 
Linear®, 2GIG®, GTO/PRO®, Numera®, Mighty Mule®
 
427.3

 
 
 
 
 
 
 
ERG
 
Wall and desk mounts, carts, arms, workstations, stands, related accessories
 
Ergotron®, OmniMount®, Anthro™
 
350.2

 
 
 
 
 
 
 
RCH
 
Split-system and packaged air conditioners and heat pumps, air handlers, furnaces, unit and radiant heaters
 
Frigidaire®, Gibson®, Westinghouse®, Maytag®, Broan®, NuTone®, Intertherm®, Reznor®,
Ambi-Rad®, Vapac®, Edenaire®
 
594.9

 
 
 
 
 
 
 
CAS
 
Custom-designed and engineered HVAC products, including air handlers and large rooftop cooling and heating systems
 
Mammoth®, Temtrol, Ventrol, Huntair®, Governair®, Cleanpak®, Fanwall®
 
426.3

 
 
 
 
 
 
 
AVC segments
 
Residential audio/video and home automation solutions, power conditioners, and professional video signal management solutions
 
Niles®, Elan®, SpeakerCraft®, Panamax®, Gefen®
 
129.3

 
 
 
 
 
 
 
 
 
 
 
Total
 
$
2,526.1


(1)Certain brands in the RCH Segment are used under license. See the detailed segment description below for details.
(2)Amounts in millions
(3)
Additional financial information on our reporting segments, as well as foreign and domestic operations, is set forth in Note 9, “Segment Information and Concentration of Credit Risk”, to the consolidated financial statements, Item 8 of Part II to this report.

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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Air Quality and Home Solutions Segment
 
Our AQH segment primarily manufactures, markets, and distributes room and whole house ventilation products for the professional remodeling and replacement markets, residential new construction market, and do-it-yourself (“DIY”) market. Based on internal research and analysis, we estimate that approximately 69% to 73% of the segment's 2015 net sales were sold for remodeling and replacement applications versus residential new construction. We sell the products in our AQH segment to distributors and dealers of electrical and lighting products, kitchen and bath dealers, retail home centers and private label customers.

The principal products of the segment, which are sold under the Broan®, NuTone®, Venmar®, Best® and Zephyr® brand names, among others, are kitchen range hoods, exhaust fans (such as bath fans and fan, heater and light combination units), and indoor air quality products (such as air exchangers and heat or energy recovery ventilators). Based on internal research and industry knowledge, we believe that we are one of the world's largest suppliers of residential range hoods and exhaust fans and are the largest supplier of these products in North America, in each case, based on revenues. We also believe, based on internal research and industry knowledge, that we are one of the leading suppliers in North America of indoor air quality products, based on revenues.

A key component of our operating strategy for this segment is the introduction of new products and innovations, which capitalize on the strong brand names and the extensive distribution system of the segment's businesses. We believe that new product introductions and the breadth and depth of our product lines help us to maintain and improve our market position for our principal products. We compete with suppliers of competitive products primarily on the basis of quality, distribution, delivery and price. This segment's primary products compete with products supplied by many domestic and international suppliers in various markets. In the range hood market, this segment's primary global competitors are Elica Group, Faber S.p.A. and Cata Electrodomesticas S.L. This segment competes with Panasonic Corporation, among others, in the residential exhaust fan market.

Security and Control Solutions Segment
 
Our SCS segment manufactures and distributes a broad array of products designed to provide convenience and security primarily for residential applications. The principal product categories in this segment include security, automation, health and wellness, and access control equipment and systems.

The segment's security, automation and access control products include residential and certain commercial intrusion protection systems and components focused on wireless technology such as control panels, keypads and telephone entry systems, radio transmitters, window and door contacts, and lighting control devices as well as garage and gate operators. These products are sold under the Linear®, Numera®, 2GIG®, GoControl®, GTO/PRO®, and Mighty Mule® brands, as well as others including private labels for certain customers.

We sell the products in our SCS segment primarily to distributors, retailers and security and home services companies. Sales in this segment are primarily driven by replacement applications, new installations in existing properties and to a lesser extent new construction activity. In addition, a small portion of the sales in this segment is driven by sales to customers in the non-residential market.

The segment offers a broad array of products under widely-recognized brand names with various features and price points, which we believe allows it to expand its customer base and market presence. The segment's primary products compete with products supplied by many domestic and international suppliers in various markets. The segment competes with Honeywell Security (owned by Honeywell International, Inc.), Interlogix (owned by United Technologies Corporation), DSC (owned by Tyco International Ltd.), and Chamberlain Corporation, among others. The segment competes with suppliers of competitive products primarily on the basis of product innovation, quality, delivery and price.


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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Ergonomic and Productivity Solutions Segment
 
Our ERG segment manufactures and distributes a broad array of innovative products that are designed to improve ergonomic and productivity for users of computers and digital displays. Products in this segment include computer workstations with ergonomic features including wall mounts, carts, arms, desk mounts, desks, and stands that attach to or support a variety of display devices such as notebook computers, computer monitors, and flat panel displays. Many of these products are offered with features that allow users to comfortably sit or stand while working at a computer. The segment also sells charging carts designed for notebook computers and tablet devices. These workstations support critical professional computing applications such as electronic medical records, digital imaging, and computerized learning environments.

These products are sold under the Ergotron®, OmniMount®, ErgotronHome™, and Anthro™ brand names, as well as certain original equipment manufacturer brand names in the personal computer and medical device industry. We sell the products in our ERG segment to distributors, retailers and original equipment manufacturers. Through these channels, the segment serves the healthcare, education, office, hospitality and home markets. Sales in this segment are primarily driven by personal computer and information technology spending and consumer purchases of flat-panel televisions as well as adoption and penetration rates of our products in key end markets.

The segment offers innovative products under its strong brands, and at competitive prices, which we believe allows it to expand its distribution and its relationships with original equipment manufacturer customers. Another key component of our strategy in this segment is the continuous introduction of new products that provide progressive workflow solutions for employee and student wellness and emerging digital technologies. Quality and customer service are also fundamentally important due to the critical nature of many of the applications the segment supports.

The segment's primary products compete with many domestic and international suppliers in various markets. The segment competes with Milestone AV Technologies (sells under the Chief and Sanus brand names), Humanscale, Bretford, and Varidesk, among others.

Residential and Commercial HVAC Segment
 
Our RCH segment principally manufactures and sells split-system and packaged air conditioners and heat pumps, furnaces, air handlers and parts for the residential replacement and new construction markets. In addition, this segment produces unit heaters, radiant heaters and rooftop HVAC products primarily for industrial and commercial applications. During 2015, we estimate that between approximately 85% and 89% of this segment's net sales were attributable to applications other than the residential new site-built construction market. For residential homes and certain commercial structures, the segment markets its products under the licensed brand names Frigidaire®, Tappan®, Philco®, Kelvinator®, Gibson®, Westinghouse® and Maytag®. The segment also supplies products to certain of its customers under the Broan®, NuTone® and certain private label brand names. Commercial products in the segment are principally sold under the Reznor®, Ambi-Rad®, Gaz Industrie and Mammoth® brand names. Our subsidiary, Eaton-Williams Group Limited, manufactures and markets custom and standard air conditioning and humidification equipment throughout Western Europe under the Vapac®, Cubit™, Edenaire™, and Moducel™ brand names.

The segment sells residential HVAC products for use in residential homes primarily through independently owned distributors who sell to HVAC contractors. In 2015 and 2014, the segment opened several of its own distribution centers in certain markets where it had disproportionately low sales. Building on this distribution strategy, the segment acquired the HVAC distribution business of Phoenix Wholesale, Inc. in 2014. The segment now has twelve Company-owned distribution locations. In the residential HVAC market, the segment competes with, among others, Carrier Corporation (a subsidiary of United Technologies Corporation), Rheem Manufacturing Company, Lennox Industries, Inc., Trane, Inc. (a subsidiary of Ingersoll Rand Company), York by Johnson Controls, and Goodman Global, Inc. (a subsidiary of Daikin Industries, Ltd.). The segment also sells residential HVAC products outside of North America, primarily in Latin America. These sales outside of North America consist of not only the segment's manufactured products, but also products manufactured to specification by outside sources. The products are sold under the Westinghouse® licensed brand name, the segment's own Miller® brand name, as well as other private label brand names.
Within the residential market, we believe we are one of the largest suppliers of HVAC products for manufactured homes in the United States and Canada, based on revenues. In the manufactured housing market, the segment markets its products under the Intertherm® and Miller® brand names. The segment sells its manufactured housing products to builders of manufactured housing and, through distributors, to manufactured housing retailers and owners. The majority of our sales to manufactured housing builders are for furnaces, and in the aftermarket channel of distribution, we sell both new and replacement air conditioning units and heat

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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

pumps, as well as replacement furnaces. We believe that we have one major competitor in the manufactured housing furnace market, Johnson Controls, which markets its products primarily under the “Coleman” name. The segment competes with most major industry manufacturers in the manufactured housing air conditioning market.
Commercial products in this segment are primarily sold in North America and Europe through a combination of distributor partners and direct sales efforts. Principal end-use applications for this segment’s commercial HVAC products include warehouses, factories, restaurants, retail locations and institutional buildings. In addition to certain of the competitors listed above, the commercial portion of this segment competes with, among others, Lennox Industries, Inc., Modine Manufacturing Company, Mestek, Inc., and AAON, Inc.
The segment competes in its markets primarily on the basis of breadth and quality of its product line, distribution, product availability and price.
Custom and Commercial Air Solutions Segment
 
Our CAS segment designs, manufactures and sells custom HVAC products and systems, primarily in North America, for commercial and industrial applications for markets that include healthcare and educational facilities, offices and retail, manufacturing facilities, clean rooms, data centers, and government buildings. The principal products sold by this segment are customer air handlers, energy recovery systems, integrated operating room systems, and large rooftop cooling and heating products. The segment markets its commercial HVAC products under the brand names of Governair®, Mammoth®, Temtrol®, Venmar CES™, Ventrol®, Webco®, and Huntair®. For 2015, we estimate that between approximately 42% and 46% of this segment's sales came from replacement and retrofit activity, which typically is less cyclical than new construction activity and generally commands higher margins.

The segment specializes in custom-designed and engineered HVAC products and systems that meet the specific requirements of its customers and optimize total cost of ownership in ways that are often not possible with standard commercial equipment. As a result, the segment's custom equipment can be designed to match a customer's exact space, capacity and performance requirements. The segment's commercial HVAC products are marketed through independent manufacturers' representatives, as well as other sales, marketing and engineering professionals. The independent representatives are typically HVAC engineers, which is a significant factor in marketing the segment's products because of the design-intensive nature of the market segment in which the segment competes. The segment sells its HVAC products and systems to contractors, owners and developers of the full breadth of commercial and industrial buildings. The segment works to maintain strong relationships with design engineers, building owners, as well as the in-house engineers who are most likely to value the benefits and long-term cost efficiencies of its equipment.

We believe that we are among the largest suppliers of custom and engineered HVAC products in the United States. The segment's four largest competitors in this market are Carrier Corporation (a subsidiary of United Technologies Corporation), York by Johnson Controls, Daikin Applied (a subsidiary of Daikin Industries, Ltd.), and Trane, Inc. (a subsidiary of Ingersoll-Rand Company). The segment competes primarily on the basis of engineering support, quality, design, construction flexibility and lead times, and total installed system cost. We believe that our ability to produce equipment that meets the performance characteristics required by the particular product application provides us with an advantage in the marketplace.

Audio, Video and Control Solutions segments

Our AVC segments manufacture and markets a broad array of products and solutions primarily for the residential audio, video automation and control, as well as for commercial power management, control and signal management markets. The principal product categories in these segments are smart home control and automation equipment, residential distributed audio and video equipment (including amplifiers, architectural speakers and power conditioners, among other products), and commercial power sequencing and video signal distribution and management solutions.

The residential audio/video and home automation solutions include smart home automation systems, whole-house audio/video products, power conditioning and surge protection equipment (including remote energy management solutions), as well as certain accessories often used with these systems. The segment’s home control and automation systems include software and hardware that facilitate the control of third-party residential smart-home subsystems such as home theater, whole-house audio, climate control, lighting, security and irrigation. Whole-house audio/video products include multi-room/multi-source controllers, amplifiers and architectural speakers among other products. Both the automation and whole-house audio/video sub-segments include control devices such as keypads, remote controls and volume controls. The power conditioning and surge protection equipment includes both the conditioning and surge protection hardware as well as software to remotely manage power delivered to connected devices.

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These products are sold under the Elan®, Niles®, SpeakerCraft®, Panamax®, Furman, and Xantech® brand names, among others.

The segments' professional video signal management solutions allow conversion of video signals into various formats as well as the extension and transmission of video signals to multiple display screens. Professional power management solutions include power filtration, protection and management solutions. In some cases video signal management and power management solutions are used together. These products are often used in non-residential applications such as retail outlets, airports, casinos, houses of worship, live event venues, and command and control centers as well as certain residential applications and are sold under the Gefen® and Furman® brand names.

We sell the products through a global preferred distributor network as well as direct to dealers, professional installers, electronics retailers and original equipment manufacturers. The distributor network includes low voltage security channel distributors that stock speakers, light control solutions, power protection and management. Sales in the residential market are primarily driven by new construction, remodels in existing properties, and replacement applications. Sales in the commercial markets are driven by consultants and commercial specifiers to design and implement primarily audio and video protection and distribution in commercial organizations. For its direct dealers, the AVC segments provide a self-service portal enabling product purchases supported by product resources including training materials, product specifications and related information.

These segments offer its broad array of products under widely-recognized and market leading brands, which we believe will allow the businesses to expand their presence in both the residential and commercial installation markets. The segments' primary products compete with products supplied by many domestic and international suppliers in various markets. The segments compete with Crestron Electronics, Inc., AMX LLC (owned by Harman International Industries, Inc.), and Control4 Corporation, among others. The segments compete with suppliers of competitive products primarily on the basis of quality, distribution, delivery and price.

 Manufacturing Facilities

The number of manufacturing facilities by segment at December 31, 2015 was as follows:
Segment
 
Number of
Manufacturing Facilities
 
 
 
Air Quality and Home Solutions
 
10
 
 
 
Security and Control Solutions
 
2
 
 
 
Ergonomic and Productivity Solutions
 
4
 
 
 
Residential and Commercial HVAC
 
9
 
 
 
Custom and Commercial Air Solutions
 
6

Backlog
 
Backlog expected to be filled within the next twelve months was approximately $309.6 million as of December 31, 2015 as compared to approximately $366.4 million as of December 31, 2014. The decrease in backlog at December 31, 2015 as compared to December 31, 2014 was primarily due to increased backlog in 2014 relating to RCH due to pre-build orders which were fulfilled in 2015 associated with regulatory changes effective in January 2015, and a decrease in orders in the CAS segment due to the timing of orders and product mix.
 
Backlog is not regarded as a significant factor for operations where orders are generally for prompt delivery. While backlog stated for all periods is believed to be firm, as all orders are supported by either a purchase order or a letter of intent, the possibility of cancellations makes it difficult to assess the firmness of backlog with certainty, and therefore there can be no assurance that our backlog will result in actual revenues.
 

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December 31, 2015

Raw Materials and Components
 
We purchase raw materials and most components used in our various manufacturing processes. The principal raw materials and components we purchase are steel, copper, aluminum, electronics, motors, plastics, compressors, various chemicals and paints, and packaging.
 
The materials, molds and dies, subassemblies and components purchased from other manufacturers, and other materials and supplies used in our manufacturing processes have generally been available from a variety of sources. From time to time the cost and availability of raw materials is affected by the raw material demands of other industries, among other factors. Whenever practical, we establish multiple sources for the purchase of raw materials and components to achieve competitive pricing, ensure flexibility, and protect against supply disruption. When possible, we employ a company-wide procurement strategy designed to reduce the purchase price of raw materials and purchased components.

For reasons of quality assurance, scarcity or cost effectiveness, certain components and raw materials used in the manufacture of our products are available only from a limited number of suppliers. We have worked closely with our suppliers to develop contingency plans to assure continuity of supply while maintaining high quality and reliability, and in some cases, we have established long-term supply contracts with our suppliers. Due to the non-standardized nature of certain raw materials and components, we may not be able to quickly establish additional or replacement sources for certain components or materials. In the event that we are unable to obtain sufficient quantities of raw materials or components on commercially reasonable terms or in a timely manner, our ability to manufacture our products on a timely and cost-competitive basis may be compromised, which may have a material adverse effect on our business, financial condition and results of operations. To date, we have not experienced any material adverse effect on our financial condition or results of operations due to supplier limitations.
 
We are subject to significant market risk with respect to the pricing of the principal raw materials used to manufacture our products. If prices of these raw materials were to increase dramatically, we may not be able to pass such increases on to our customers and, as a result, gross margins could decline significantly.

Research and Development
 
Our research and development activities are principally for new product development. Research and development costs were approximately $77.7 million, $75.4 million and $65.5 million for 2015, 2014 and 2013, respectively, and represented approximately 3.1%, 3.0% and 2.9% of consolidated net sales for 2015, 2014 and 2013, respectively.

Trademarks and Patents
 
We own or license numerous trademarks that we use in the marketing of our products. Certain of the trademarks we own are particularly important in the marketing of our products. We also hold numerous design and process patents, but no single patent is material to the overall conduct of our business. It is our policy to obtain and protect patents whenever such action would be beneficial to us.
 

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December 31, 2015

Environmental and Regulatory Matters
 
We are subject to numerous federal, state, local and foreign laws and regulations relating to protection of the environment, including those that impose limitations on the discharge of pollutants into the environment (land, air and water), establish standards for the use, treatment, storage and disposal of solid and hazardous materials and wastes, and govern the cleanup of contaminated sites. We believe that we are in substantial compliance with the material laws and regulations applicable to us. We are involved in current, and may become involved in future, remedial actions under federal and state environmental laws and regulations which impose liability on companies to clean up, or contribute to the cost of cleaning up, sites currently or formerly owned or operated by such companies or sites at which their hazardous wastes or materials were disposed of or released. Such claims may relate to properties or business lines acquired by us after a release has occurred. In other instances, we may be partially liable under law or contract to other parties that have acquired businesses or assets from us for past practices relating to hazardous materials or wastes. Expenditures for 2015, 2014 and 2013 to evaluate and remediate such sites were not material to our business, either individually or collectively. While we are able to reasonably estimate certain of our contingent losses, we are unable to estimate with certainty our range of reasonably possible losses in connection with identified or yet to be identified remedial actions due, among other reasons, to: (i) uncertainties surrounding the nature and application of current or future environmental regulations, (ii) our lack of information about additional sites where we may be identified as a potentially responsible party ("PRP"), (iii) the level of clean-up that may be required at specific sites and choices concerning the technologies to be applied in corrective actions and (iv) the time periods over which remediation may occur. Furthermore, since liability for site remediation may be joint and several, each PRP is potentially wholly liable for other PRPs that become insolvent or bankrupt. Thus, the solvency of other PRPs could directly affect our ultimate aggregate clean-up costs. In certain circumstances, our liability for clean-up costs may be covered in whole or in part by insurance or indemnification obligations of third parties.
 
Certain of our products must be designed and manufactured to meet various regulatory standards. We must continue to modify regulated products to meet applicable standards as such standards develop and become more stringent over time.

Internal Investigation and Compliance Matters

As previously reported, as part of our routine internal audit activities, we discovered certain questionable hospitality, gift and payment practices, and other expenses at our subsidiary, Linear Electronics (Shenzhen) Co. Ltd. (“Linear China”), which are inconsistent with our policies and raise concerns under the U.S. Foreign Corrupt Practices Act (“FCPA”) and perhaps under other applicable anti-corruption laws. We conducted an internal investigation into these practices and payments with the assistance of outside counsel.

On January 7, 2015 and January 8, 2015, respectively, we voluntarily contacted the SEC and the U.S. Department of Justice (“DOJ”) to advise both agencies of our internal investigation. We are cooperating with the SEC and DOJ investigations into these matters. We take these matters very seriously and are committed to conducting our business in compliance with all applicable laws. See “Risk Factors”, Item 1A to Part I of this report and “Legal Proceedings”, Item 3 to Part I of this report for additional information regarding our internal investigation of compliance with the FCPA.


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December 31, 2015

Employees
 
The number of full-time employees, and those covered by collective bargaining agreements, by segment at December 31, 2015 was as follows:
Segment
 
Approximate Number of
Employees
 
Employees Covered by Collective Bargaining Agreements
 
 
 
 
 
Air Quality and Home Solutions (1) (2)
 
2,600

 
142
Security and Control Solutions
 
2,600

 
0
Ergonomic and Productivity Solutions
 
1,400

 
0
Residential and Commercial HVAC (3)
 
2,500

 
123
Custom and Commercial Air Solutions (4)
 
2,000

 
245
Audio, Video and Control Solutions
 
200

 
0
Corporate
 
100

 
0
 
 
11,400

 
510

(1)
Due to continued restructuring at our Italian subsidiary, 66 employees have been excluded from "employees covered by collective bargaining agreements" in the above table as the union contract associated with this subsidiary has not been renewed. See Note 5, "Exit and Disposal Activities", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.
(2)
Collective bargaining agreement expires in 2020.
(3)
Approximately 13 employees are covered under a collective bargaining agreement that expired in 2015, the remaining 110 employees are covered under a collective bargaining agreement expiring in 2018.
(4)
Collective bargaining agreement expired on December 31, 2015.

We believe that our relationships with employees are satisfactory. A work stoppage at one of our facilities could cause us to lose sales and incur increased costs and could adversely affect our ability to meet customers’ needs. As agreements expire and until negotiations are completed, we do not know whether we will be able to negotiate collective bargaining agreements on the same or more favorable terms as the current agreements, or at all, and do so without production interruptions, including labor stoppages. See “Risk Factors,” Item 1A of Part I to this report.
 
Working Capital and Seasonality
 
The carrying of inventories to support customers and to permit prompt delivery of finished goods requires substantial working capital. Substantial working capital is also required to carry receivables. The demand for our products is seasonal, particularly in the Northeast and Midwest regions of the United States and in Canada where inclement weather during the winter months usually reduces the level of building and remodeling activity in both the home improvement and new construction markets. Certain of the product categories in the RCH segment are more seasonal in nature than our other businesses’ product categories. As a result, the demand for working capital of our subsidiaries is greater from late in the first quarter until early in the fourth quarter. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources,” Item 7 of Part II to this report.

In 2015, we substantially completed a comprehensive set of operational improvement initiatives which we began to implement in 2013. These initiatives, which were underway throughout 2013, 2014 and 2015 have resulted in improvements in efficiencies and reductions in operating costs and expenses, both in manufacturing processes and in administrative functions, and have helped to better align us with the markets we serve and to improve our overall competitiveness. As a result, in 2015, 2014, and 2013 we incurred additional costs to implement these initiatives, which included engaging additional outside resources, relocating manufacturing and distribution locations in addition to the facilities discussed above, retrofitting existing or building new facilities, reducing our work force, rationalizing or refreshing product lines, and other costs.  The cost of developing and implementing these initiatives impacted the level of working capital in 2015, 2014, and 2013.


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December 31, 2015

ITEM 1A.
RISK FACTORS.
 

This section describes the material risks associated with our business. Investors should carefully consider each of the risks described below, as well as the other information in this report and in our filings with the SEC. The occurrence of any of the following risks could individually or in the aggregate have a material adverse effect on our business, prospects, financial condition, results of operation or cash flow.

 
Risks Related to Our Business:
 
Our business is affected by global economic conditions.

 
Our results of operations are directly influenced by the conditions in the global economy. U.S. and foreign economies occasionally experience significant declines in employment, household wealth, property values, consumer spending and lending. Businesses, including Nortek and many of its customers, may face weakened demand for products and services, difficulty obtaining access to financing, increased funding costs and barriers to expanding operations. As a result, the economic environment may, among other things:

create downward pressure on the pricing of our products;
affect the collection of accounts receivable;
increase the sales cycle for certain of our products;
slow the adoption of new technology;
adversely affect our customers, causing them to reduce spending and/or decrease utilization of our products;
adversely affect our suppliers, which could disrupt our ability to produce our products; and
limit our access to capital on terms acceptable to us.

Any of these conditions could have a material adverse effect on our business, results of operations, financial condition and/or liquidity.

 
Our business is dependent upon the levels of remodeling and replacement activity and new construction activity, which may be cyclical or seasonal, and have been negatively impacted by the economic downturn and the instability of the credit markets.

 
Critical factors affecting our future performance, including our level of sales, profitability and cash flows are the levels of residential and non-residential remodeling, replacement and construction activity. The level of new residential and non-residential construction activity and, to a lesser extent, the level of residential remodeling and replacement activity are affected by seasonality and cyclical factors such as interest rates, inflation, consumer spending, employment levels and other macroeconomic factors, over which we have no control. Any decline in economic activity as a result of these or other factors typically results in a decline in new construction and, to a lesser extent, residential remodeling and replacement purchases, which would result in a decrease in our sales, profitability and cash flows. Instability in the credit and financial markets, troubles in the mortgage market, the level of unemployment and the decline in home values could have a negative impact on residential new construction activity, consumer disposable income and spending on home remodeling and repair expenditures. These factors could have an adverse effect on our operating results.

The demand for our products is seasonal, particularly in the Northeast and Midwest regions of the United States where inclement weather during the winter months usually reduces the level of building and remodeling activity in both the home improvement and new construction markets. Our lower sales levels usually occur during the first and fourth quarters. Since a high percentage of our manufacturing overhead and operating expenses are relatively fixed throughout the year, operating income and net earnings tend to be lower in quarters with lower sales levels. In addition, the demand for cash to fund the working capital needs of our subsidiaries is greater from late in the first quarter until early in the fourth quarter.
 

See “Management's Discussion and Analysis of Financial Condition and Results of Operations”, Item 7 of Part II to this report for further information on industry factors and our 2016 outlook.


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December 31, 2015

Fluctuations in the cost or availability of raw materials and components and other related costs could have an adverse effect on our business.
 

We are dependent upon raw materials and purchased components, including, among others, steel, copper, aluminum, electronics, motors, plastics, compressors, various chemicals and paints, and packaging that we purchase from third parties. As a result, our results of operations, cash flows and financial condition may be adversely affected by increases in costs of raw materials or components, or by limited availability of these items. We have worked closely with our suppliers to develop contingency plans to assure continuity of supply while maintaining high quality and reliability, and in some cases, we have established long-term supply contracts with our suppliers. In addition, we generally do not hedge against our supply requirements. Accordingly, we may not be able to obtain raw materials and components from our current or alternative suppliers at reasonable prices in the future, or may not be able to obtain these items on the scale and within the time frames we require. Further, if our suppliers are unable to meet our supply requirements, we could experience supply interruptions and/or cost increases. If we are unable to find alternate suppliers or pass along these additional costs to our customers, these interruptions and/or cost increases could adversely affect our results of operations, cash flows and financial condition.
 

Sources of raw materials or component parts for certain of our operations may be dependent upon limited or sole sources of supply which may impact our ability to manufacture finished product. While we continually review alternative sources of supply, there can be no assurance that we will not face disruptions in sources of supply which could adversely affect our results of operations, cash flows and financial position.

Continued strategic sourcing initiatives and other improvements in manufacturing efficiency, as well as sales price increases, help to mitigate fluctuations in these costs. However, there can be no assurance that we will be able to offset any or all material or other cost increases in any future periods.

Compliance with regulations regarding the use of "conflict minerals" could limit the supply or sources of certain minerals used in the manufacturing of our products.

Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the SEC promulgated rules for public companies to ascertain and disclose the use of "conflict minerals" (i.e., cassiterite, columbite-tantalite, wolframite, and gold) which are mined from the Democratic Republic of Congo and adjoining countries in their products. These rules require disclosure of conflict minerals that are necessary to the functionality or production of products manufactured or contracted to be manufactured by public companies. The rules require companies to perform due diligence and disclose through the issuance of a report whether or not their products contain certain "conflict minerals". We are required to conduct due diligence efforts and, as a result, incur additional costs. The rules could affect sourcing at competitive prices and availability in sufficient quantities of certain minerals used in the manufacture of our products. The number of suppliers who provide conflict-free minerals may be limited, which could have an adverse effect on our ability to source these products in the future. In addition, costs attributable to compliance with the disclosure requirements of the rules, such as costs related to determining the source of certain minerals used in our products, have been incurred, will continue to be incurred and could be material. The costs of compliance, including those related to supply chain research, unexpected consequences to our reputation, the limited number of suppliers, and possible changes in the sourcing of these materials, could adversely affect our results from operations and cash flows.

Weather fluctuations may negatively impact our business.
 
Weather fluctuations may adversely affect our operating results and our ability to maintain sales volume. In our RCH segment, certain product categories may be adversely affected by unseasonably warm weather in the months of November to February and unseasonably cool weather in the months of May to August, which has the effect of diminishing customer demand for heating and air conditioning products. In all of our segments, adverse weather conditions at any time of the year may negatively affect overall levels of new construction and remodeling and replacement activity, which in turn may lead to a decrease in sales. Many of our operating expenses are fixed and cannot be reduced during periods of decreased demand for our products. Accordingly, our results of operations and cash flows will be negatively impacted in quarters with lower sales due to weather fluctuations.
 


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December 31, 2015

If we fail to identify suitable acquisition candidates or successfully integrate the businesses we have acquired or will acquire in the future, our business could be negatively impacted.
 
Historically, we have engaged in a significant number of acquisitions, and those acquisitions have contributed significantly to our growth in sales and operating results. However, we cannot provide assurance that we will continue to locate and secure acquisition candidates on terms and conditions that are acceptable to us. If we are unable to identify attractive acquisition candidates, our growth could be impaired. Acquisitions involve numerous risks, including:
 
the difficulty and expense that we incur in connection with the acquisition, including those acquisitions that we pursue but do not ultimately consummate;
the difficulty and expense that we incur in the subsequent integration of the operations of the acquired company into our operations;
adverse accounting consequences of conforming the acquired company’s accounting policies to our accounting policies;
the difficulties and expense of developing, implementing and monitoring systems of internal controls at acquired companies, including disclosure controls and procedures and internal controls over financial reporting;
the difficulty in operating acquired businesses;
the diversion of management’s attention from our other business concerns;
the potential loss of customers or key employees of acquired companies;
the impact on our financial condition due to the timing of the acquisition or the failure to meet operating expectations for the acquired business; and
the assumption of unknown liabilities of the acquired company.
 
There is no assurance that any acquisition we have made or may make in the future will be successfully integrated into our on-going operations or that we will achieve any expected cost savings from any acquisition. If the operations of an acquired business do not meet expectations, our profitability and cash flows may be impaired and we may be required to restructure the acquired business or write-off the value of some or all of the assets of the acquired business.

See Note 2, "Acquisitions and Dispositions", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.
 

We continue to evaluate potential restructurings, business shutdowns and integrations focused on improving future cash flows of the business.

While the restructuring initiatives which commenced in 2015 and prior have substantially been completed, we continue to evaluate potential restructurings, business shutdowns and integrations focused on improving future cash flows of the business. Restructurings, business shutdowns and integrations involve numerous risks in their implementation including unforeseen costs, business disruption, management distraction, and potential asset impairment, among others, and may be unsuccessful. In addition, restructurings of international operations may be more costly due to differing labor laws, business practices and governmental restrictions, processes and requirements.



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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Our competitors have substantially greater resources and we face competitive risks that may negatively impact our business.
 
Our AQH and AVC segments compete with many domestic and international suppliers in various markets. We compete with suppliers of competitive products primarily on the basis of quality, distribution, delivery and price. Some of our competitors in these markets have greater financial and marketing resources than that of our AQH and AVC segments.

Our SCS and ERG segments compete with many domestic and international suppliers in various markets. We compete with suppliers of competitive products primarily on the basis of product innovation, quality, delivery and price. Some of our competitors in these markets have greater financial and marketing resources than that of our SCS and ERG segments.

Our RCH segment competes in its markets primarily on the basis of breadth and quality of its product line, distribution, product availability and price. Most of our residential HVAC competitors have greater financial and marketing resources and the products of certain of our competitors may enjoy greater brand awareness than the products in the segment.
 
Our CAS segment competes primarily on the basis of engineering support, quality, design and construction flexibility, and total installed system cost. Most of our competitors in the commercial HVAC market have greater financial and marketing resources and enjoy greater brand awareness than we enjoy.
 
Competitive factors could require us to reduce prices or increase spending on product development, marketing and sales, either of which could adversely affect our operating results.

Because we have substantial operations and sell our products outside the United States, we are subject to the economic and political conditions of the United States and foreign nations.
 
We have manufacturing facilities in several countries outside of the United States. In 2015, we sold products in over 100 countries other than the United States. Foreign net sales, which are attributed based upon the location of our subsidiary responsible for the sale, were approximately 16.0% and 16.5% of consolidated net sales for 2015 and 2014, respectively. Our foreign operations are subject to a number of risks and uncertainties, including the following:
 
foreign governments may impose limitations on our ability to repatriate funds;
foreign governments may impose withholding or other taxes on remittances and other payments to us, or the amount of any such taxes may increase;
an outbreak or escalation of any insurrection, armed conflict or act of terrorism, or other forms of political, social or economic instability, may occur;
natural disasters may occur, and local governments may have difficulties in responding to these events;
the United States and foreign governments currently regulate import and export of our products and those of our suppliers and may impose additional limitations on imports or exports of our products or the products of our suppliers;
foreign governments may nationalize foreign assets or engage in other forms of governmental protectionism;
foreign governments may impose or increase investment barriers, customs or tariffs, or other restrictions affecting our business;
development, implementation and monitoring of systems of internal controls of our international operations, including disclosure controls and procedures and internal controls over financial reporting, may be difficult and expensive; and
labor cost inflation and changes in labor practices.
 
The occurrence of any of these conditions could disrupt our business in particular countries or regions of the world, or prevent us from conducting business in particular countries or regions, which could reduce sales and adversely affect profitability.
 

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December 31, 2015

Our foreign operations are subject to anti-corruption laws, including the U.S. Foreign Corrupt Practices Act, and any determination that the Company or any of its subsidiaries has violated the Foreign Corrupt Practices Act could have a material adverse effect on our business.

The U.S. Foreign Corrupt Practices Act (“FCPA”), the UK Bribery Act and similar worldwide anti-corruption laws generally prohibit companies and their intermediaries from making improper payments to government officials and others for the purpose of obtaining or retaining business. Our internal policies mandate compliance with these anti-corruption laws. We operate in parts of the world that have experienced governmental corruption to some degree, and in certain circumstances, strict compliance with anti-corruption laws may conflict with local customs and practices. Despite our training and compliance programs, there can be no assurance that our internal control policies and procedures will protect us from reckless or criminal acts committed by those of our employees or agents who violate our policies.

As discussed under “Legal Proceedings” Item 3, Part I of this report, we have conducted an internal investigation of certain transactions and payments in China that potentially implicate the FCPA and have informed the SEC and the DOJ of these matters and are fully cooperating with these agencies in their review.

At this time, we are unable to predict, what, if any, action may be taken by the DOJ or SEC or any penalties or remedial measures these agencies may seek, but intend to cooperate with both agencies. Any determination that our operations or activities are not in compliance with existing laws or regulations could result in the imposition of fines, civil and criminal penalties, and equitable remedies, including disgorgement or injunctive relief. The imposition of any of these sanctions or remedial measures could have a material adverse effect on our business.

Further detecting, investigating, and resolving these matters is expensive and consumes significant time and attention of the Company’s senior management. The Company could also face fines, sanctions and other penalties from authorities in the relevant foreign jurisdictions, including prohibition of the Company participating in or curtailment of business operations in those jurisdictions. Any proceedings that may result from this matter could harm relationships with existing customers, distributors and agents and our ability to obtain new customers and partners.

The European debt crisis could have a material adverse effect on our European operations.

The European debt crisis and related European financial restructuring efforts have contributed to instability in the global credit markets and may cause the value of the Euro to deteriorate. If global economic and market conditions, or economic conditions in Europe, the United States or other key markets become uncertain or deteriorate, the value of the Euro could decline and the credit market may weaken. The general financial instability in the stressed European countries could have a contagion effect on the region and contribute to the general instability and uncertainty in the European Union. If this were to occur, it could adversely affect our European customers and suppliers and in turn may have a materially adverse effect on our European business and results of operations.

Fluctuations in currency exchange rates could adversely affect our revenues, profitability and cash flows.
 
Our foreign operations expose us to fluctuations in currency exchange rates and currency devaluations. We report our financial results in U.S. dollars, but a portion of our sales and in certain instances our expenses are denominated in Euros, Canadian dollars, British Pound Sterling, Chinese Renminbi, Mexican Pesos and other foreign currencies. As a result, if the value of the U.S. dollar increases relative to the value of these currencies, our levels of revenue and potentially our profitability will decline since the translation of a certain number of other currencies into U.S. dollars for financial reporting purposes will represent fewer U.S. dollars. Conversely, if the value of the U.S. dollar decreases relative to the value of these currencies, our levels of revenue and potentially our profitability will increase since the translation of a certain number of other currencies into U.S. dollars for financial reporting purposes will represent additional U.S. dollars.

In certain instances, we enter into transactions that are denominated in a currency other than the U.S. dollar. At the date the transaction is recognized, each asset, liability, revenue, expense, gain or loss arising from the transaction is measured and recorded in U.S. dollars using the exchange rate in effect at that date. At each balance sheet date, recorded monetary balances denominated in a currency other than the U.S. dollar are adjusted to the U.S. dollar using the current exchange rate with gains or losses recorded in currency translation adjustment and other, net. In addition, in the case of sales to customers in certain locations, our sales are denominated in U.S. dollars, Euros, Canadian dollars, or British Pound Sterling but all or a substantial portion of our associated

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December 31, 2015

costs are denominated in a different currency. As a result, changes in the relative values of U.S. dollars, Euros, Canadian dollars, British Pound Sterling, and Chinese Renminbi and any such different currency will affect our profitability and cash flows.

Varying international business practices may adversely impact our business and reputation.
 
We currently purchase raw materials, components and finished products from various foreign suppliers. To the extent that any such foreign supplier utilizes labor or other practices that vary from those commonly accepted in the United States, our business and reputation could be adversely affected by any resulting litigation, negative publicity, political pressure, or otherwise.

 
A decline in our relations with key distributors and dealers, loss of major customers or failures or delays in collecting payments from major customers may negatively impact our business.
 

Our operations depend upon our ability to maintain relations with our independent distributors and dealers and we do not typically enter into long-term contracts with them. If our key distributors or dealers are unwilling to continue selling our products, or if any of them merge with or are purchased by a competitor, we could experience a decline in sales. If we are unable to replace such distributors or dealers or otherwise replace the resulting loss of sales, our business, results of operations and cash flows could be adversely affected. For 2015, approximately 53% of our consolidated net sales were made through our independent distributors and dealers, and our largest distributor or dealer accounted for approximately 4% of consolidated net sales for 2015.

In addition, the loss of one or more of our other major customers, or a substantial decrease in such customers' purchases from us, could have a material adverse effect on our results of operations and cash flows. Because we do not generally have binding long-term purchasing agreements with our customers, there can be no assurance that our existing customers will continue to purchase products from us. Our largest customer (other than a distributor or dealer) accounted for approximately 4% of consolidated net sales for each of 2015 and 2014, respectively.

Labor disruptions or cost increases could adversely affect our business.
 
A work stoppage at one of our facilities could cause us to lose sales, incur increased costs and adversely affect our ability to meet customers’ needs. A plant shutdown or a substantial modification to employment terms (including the collective bargaining agreements affecting our unionized employees) could result in material gains or losses or the recognition of an asset impairment. As collective bargaining agreements expire and until negotiations are completed, it is not known whether we will be able to negotiate collective bargaining agreements on the same or more favorable terms as the current agreements, or at all, without production interruptions, including labor stoppages. At December 31, 2015, approximately 5% of our employees were unionized, and from time to time we experience union organizing efforts directed at our non-union employees. We may also experience labor cost increases or disruptions in our non-union facilities in circumstances where we must compete for employees with necessary skills and experience or in tight labor markets.
 
We must continue to innovate and improve our products to maintain our competitive advantage.
 
Our ability to maintain and grow our market share depends in part on the ability to continue to develop high quality, innovative products. An important part of our competitive strategy includes leveraging our distributor and dealer relationships and our existing brands to introduce new products. In addition, certain of our products must be designed and manufactured to meet various regulatory standards. We must continue to modify regulated products to meet applicable standards as such standards develop and become more stringent over time. We cannot assure you that our investments in product innovation and technological development will be sufficient or that we will be able to create and market new products to enable us to successfully compete with new products or technologies developed by our competitors or to meet heightened regulatory requirements in the future.
 
Changes in legislation or government regulations or policies could adversely affect our results of operations.

Our RCH and CAS segments could be directly impacted by changes in legislation or government regulations relating to changes in environmental and energy efficiency standards which may have a significant impact on the types of products that we or our competitors are permitted to develop and sell. Our inability or delay in developing or marketing products that match customer demand and that meet applicable environmental and efficiency standards could negatively impact our business. This may create an unsettled market that could impact demand and margins.  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

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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

relating to environmental or efficiency matters, product certification, product liability, taxes, tax incentives and other matters, may impact the results of our operating segments and our consolidated results.

Certain of our operations and products are subject to environmental, health and safety laws and regulations, which may result in substantial compliance costs or otherwise adversely affect our business.
 
Our operations are subject to numerous federal, state, local and foreign laws and regulations relating to protection of the environment, including those that impose limitations on the discharge of pollutants into the air and water, establish standards for the use, treatment, storage and disposal of solid and hazardous materials and wastes, and govern the cleanup of contaminated sites. We have used and continue to use various substances in our products and manufacturing operations, and have generated and continue to generate wastes, which have been or may be deemed to be hazardous or dangerous. As such, our business is subject to and may be materially and adversely affected by compliance obligations and other liabilities under environmental, health and safety laws and regulations. These laws and regulations affect ongoing operations and require capital costs and operating expenditures in order to achieve and maintain compliance. For example, the United States and other countries have established programs for limiting the production, importation and use of certain ozone depleting chemicals, including hydrochlorofluorocarbons, a refrigerant used in our air conditioning and heat pump products. Some of these chemicals have been banned completely, and others have been phased out in the United States. Modifications to the design of our products have been made, and further modifications may be necessary, in order to utilize alternative refrigerants. 

We could incur substantial costs, including cleanup costs, fines and civil or criminal sanctions, as a result of violations of or liabilities under environmental laws.
 
We could incur substantial costs, including cleanup costs, fines and civil or criminal sanctions, and third party property damage or personal injury claims, as a result of violations of or liabilities under environmental laws, or non-compliance with environmental permits required at our facilities. Certain environmental laws and regulations also impose liability, without regard to knowledge or fault, relating to the existence of contamination at or associated with properties used in our current and former operations, or those of our predecessors, or at locations to which current or former operations or those of our predecessors have shipped waste for disposal. Contaminants have been detected at certain of our former sites, and we have been named as a potentially responsible party at several third-party waste disposal sites. While we are not currently aware of any such sites as to which material outstanding claims or obligations exist, the discovery of additional contaminants or the imposition of additional cleanup obligations at these or other sites could result in significant liability. In addition, we cannot be certain that identification of presently unidentified environmental conditions, more vigorous enforcement by regulatory agencies, enactment of more stringent laws and regulations or other unanticipated events will not arise in the future and give rise to material environmental liabilities or an increase in compliance costs, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.
 

We face risks of litigation and liability claims on product liability, workers’ compensation and other matters, the extent of which exposure can be difficult or impossible to estimate and which can negatively impact our business, financial condition, results of operations and cash flows.
 
We are subject to legal proceedings and claims arising out of our businesses that cover a wide range of matters, including contract and employment claims, product liability claims, which may involve lawsuits seeking class action status, warranty claims and claims for modification, adjustment or replacement of component parts of units sold. Product liability and other legal proceedings include those related to businesses we have acquired or properties we have previously owned or operated.
 
The development, manufacture, sale and use of our products involves risks of product liability claims, which may involve lawsuits seeking class action status, and warranty claims, including personal injury and property damage arising from fire, soot, mold and carbon monoxide. We currently carry insurance and maintain reserves for potential product liability claims. However, our insurance coverage may be inadequate if such claims do arise, and any liability not covered by insurance could have a material adverse effect on our business. The accounting for self-insured plans requires that significant judgments and estimates be made both with respect to the future liabilities to be paid for known claims, and incurred but not reported claims, as of the reporting date. To date, we have been able to obtain insurance in amounts we believe to be appropriate to cover such liability. However, our insurance premiums may increase in the future as a consequence of conditions in the insurance business generally, or our situation in particular. Any such increase could result in lower profits or cause us to reduce our insurance coverage. In addition, a future claim may be brought against us, which would have a material adverse effect on us. Any product liability claim may also include the imposition of punitive damages, the award of which, pursuant to certain state laws, may not be covered by insurance. Our product liability insurance policies have limits that, if exceeded, may result in material costs that would have an adverse effect on future profitability.

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December 31, 2015

In addition, warranty claims are generally not covered by our product liability insurance. Further, any product liability or warranty issues may adversely affect our reputation as a manufacturer of high-quality, safe products and could have a material adverse effect on our business.
 
Product recalls or reworks may adversely affect our financial condition, results of operations and cash flows.
 
In the event we produce a product that is alleged to contain a design or manufacturing defect or that causes injury, we could incur costs relating to product recalls, litigation or liability claims, rework of the product, or government action. While we have undertaken several voluntary product recalls and reworks over the past several years and could do so in the future given the nature of our business, additional product recalls and/or reworks could result in material future costs. Many of our products, especially certain models of bath fans, range hoods, and residential furnaces and air conditioners, have a large installed base, and any recalls and/or reworks related to products with a large installed base could be particularly costly. The costs of product recalls or reworks are not generally covered by insurance. In addition, our reputation for safety and quality is essential to maintaining market share and protecting our brands. Any recalls or reworks may adversely affect our reputation as a manufacturer of high-quality, safe products and could have a material adverse effect on our financial condition, results of operations and cash flows.
 
Our business operations could be significantly disrupted if we lost members of our management team or key employees.
 
Our success depends to a significant degree upon the continued contributions of our executive officers, key employees and consultants, both individually and as a group. Our future performance will be substantially dependent on our ability to retain and motivate them. The loss of the services of any of our executive officers, key employees or consultants could prevent us from successfully executing our business strategy.
 
Our business operations could be negatively impacted if we fail to adequately protect our intellectual property rights, if we fail to comply with the terms of our licenses or if third parties claim that we are in violation of their intellectual property rights.
 
We are highly dependent on certain of the brand names under which we sell our products. Failure to protect these brand names and other intellectual property rights or to prevent their unauthorized use by third parties could adversely affect our business. We seek to protect our intellectual property rights through a combination of trademark, copyright, patent and trade secret laws, as well as confidentiality agreements. These protections may not be adequate to prevent competitors from using our brand names and trademarks without authorization or from copying our products or developing products equivalent to or superior to ours. We license several brand names from third parties. In the event we fail to comply with the terms of these licenses, we could lose the right to use these brand names. In addition, we face the risk of claims that we are infringing third parties’ intellectual property rights. Any such claim, even if it is without merit, could be expensive and time-consuming; could cause us to cease making, using, or selling certain products that incorporate the disputed intellectual property; could require us, if feasible, to redesign our products; could divert management time and attention; and could require us to enter into costly royalty or licensing arrangements.

Security breaches, improper disclosure of confidential company or personal data and other disruptions or misuse of information systems we rely upon could affect our ability to conduct our business effectively.

We, like most companies, may be subject to information technology system failures and network disruptions. These may be caused by delays or disruptions due to system updates, natural disasters, malicious attacks, accidents, power disruptions, telecommunication failures, acts of terrorism or war, computer viruses, physical or electronic break-ins, or similar events or disruptions. From time to time, we may implement enterprise resource planning systems or add applications to replace outdated systems and to operate more efficiently. Predictions regarding benefits resulting from the implementation of these projects are subject to uncertainties. We may not be able to successfully implement the projects without experiencing difficulties. In addition, any expected benefits of implementing projects might not be realized or the costs of implementation might outweigh the benefits realized.

We also outsource various information systems 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. These information systems have been, and will likely continue to be, subject to attack. 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. Cybersecurity breaches of our information technology systems could result in the misappropriation or unauthorized disclosure of confidential information belonging to us or to our customers, partners, suppliers, or employees. Any breach of data

19


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

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.

Volatility in the 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, our plans may be underfunded and we would have to make 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 impact on our results of operations. See Note 13, "Pension, Profit Sharing and Other Post-Retirement Benefits", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.

Future tax law changes or the interpretation of existing tax laws may materially impact our effective income tax rate and the resolution of unrecognized tax benefits.

Our businesses are subject to income taxation in the U.S. as well as internationally. It is possible that future income tax legislation may be enacted that could have a material adverse impact on our worldwide income tax provision. We are routinely audited by income tax authorities in many jurisdictions. Although we believe that the recorded tax estimates are reasonable and appropriate, there are significant uncertainties in these estimates. As a result, the ultimate outcome from any audit could be materially different from amounts reflected in our income tax provisions and accruals. Future settlements of income tax audits may have a material adverse effect on earnings between the period of initial recognition of tax estimates in our financial statements and the point of ultimate tax audit settlement. See Note 8, "Income Taxes", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.

Risks Related to Our Indebtedness:
 
Our substantial debt could negatively impact our business, prevent us from fulfilling outstanding debt obligations and adversely affect our financial condition.
 
We have a substantial amount of debt. At December 31, 2015, we had approximately $1,392.5 million of total debt outstanding, which is net of approximately $3.4 million of unamortized debt premium and approximately $4.9 million of unamortized debt discount. The terms of our outstanding debt, including our 8.5% Senior Notes due 2021 (the “8.5% Notes”), our $300.0 million senior secured asset-based revolving credit facility (the “ABL Facility”) and our senior secured term loans due 2020 ("Term Loan Facility") limit, but do not prohibit, us from incurring additional debt. If additional debt is added to current debt levels, the related risks described below could intensify.
 
Our substantial debt has or could have important adverse consequences, including the following:
 
our ability to obtain additional financing for working capital, capital expenditures, acquisitions, refinancing indebtedness or other purposes could be impaired;
a substantial portion of our cash flow from operations will be dedicated to paying principal and interest on our debt, thereby reducing funds available for expansion or other purposes;
we are more leveraged than some of our competitors, which may result in a competitive disadvantage;
we are vulnerable to interest rate increases, as certain of our borrowings, including those under the ABL Facility and the Term Loan Facility, are at variable rates;
our failure to comply with the restrictions in our financing agreements would have a material adverse effect on us and our ability to meet our obligations under certain of our borrowings;
we are more vulnerable to changes in general economic conditions than companies with less or no debt;
we face limitations on our ability to make strategic acquisitions, invest in new products or capital assets or take advantage of business opportunities; and
we are limited in our flexibility in planning for, or reacting to, changes in our business and the industries in which we operate.
 

20


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

See Note 4, "Notes, Mortgage Notes and Obligations Payable", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.

The terms of our debt covenants impose restrictions on how we conduct our business and could limit our ability to raise additional funds.

 
The agreements that govern the terms of our debt, including the indenture that governs our 8.5% Notes and the credit agreements that govern our ABL Facility and Term Loan Facility, contain covenants that restrict our ability and the ability of our subsidiaries to, among other things:
 
incur additional indebtedness;
pay dividends or make other payment or distributions;
make loans or investments;
incur certain liens;
enter into transactions with affiliates; and
consolidate, merge or sell assets.
 
There are limitations on our ability to incur the full $300.0 million of commitments under the ABL Facility. Availability is limited to the lesser of the borrowing base under the ABL Facility and $300.0 million. As of February 22, 2016, we had approximately $54.0 million in outstanding borrowings and approximately $11.5 million in outstanding letters of credit under the ABL Facility. Based on the borrowing base calculations as of January 2015, at February 22, 2016, we had excess availability of approximately $234.5 million under the ABL Facility and approximately $204.5 million of excess availability before triggering the cash deposit requirements.
 
We will be required to deposit cash daily from our material deposit accounts (including all concentration accounts) into collection accounts maintained with the administrative agent under the ABL Facility, which will be used to repay outstanding loans and cash collateralized letters of credit, if (i) excess availability (as defined in the ABL Facility) falls below the greater of $30.0 million or 10.0% of the U.S. and Canadian credit facilities or (ii) an event of default has occurred and is continuing. In addition, under the ABL Facility, if (i) excess availability falls below the greater of $30.0 million or 12.5% of the U.S. and Canadian credit facilities or (ii) an event of default has occurred and is continuing, we will be required to satisfy and maintain a consolidated fixed charge coverage ratio measured on a trailing four quarter basis of not less than 1.0 to 1.0. Our ability to meet the required fixed charge coverage ratio can be affected by events beyond our control. A breach of any of these covenants could result in a default under the ABL Facility.  

A breach of the covenants under the indenture that governs our 8.5% Notes or the credit agreements that govern the ABL Facility and the Term Loan Facility could result in an event of default under the applicable indenture or credit agreement. Such default may allow the creditors to accelerate the related debt and may result in the acceleration of any other debt to which a cross-acceleration or cross-default provision applies. In addition, an event of default under the ABL Facility would permit the lenders under the ABL Facility to terminate all commitments to extend further credit under that facility. Furthermore, if we were unable to repay the amounts due and payable under our ABL Facility or Term Loan Facility, the lenders to the ABL Facility or the Term Loan Facility, respectively, could proceed against the collateral granted to them to secure that indebtedness. In the event our noteholders or lenders accelerate the repayment of our borrowings, we can provide no assurances that we and our subsidiaries would have sufficient assets to repay such indebtedness. As a result of these restrictions, we may be:

limited in how we conduct our business;
unable to raise additional debt or equity financing to operate during general economic or business downturns;
unable to compete effectively or to take advantage of new business opportunities; or
unable to grow in accordance with our plans.

See “Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - Debt Covenant Compliance", Item 7 of Part II, to this report.


21


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

We may be unable to generate sufficient cash to service all of our indebtedness and other liquidity requirements and may be forced to take other actions to satisfy such requirements, which may not be successful.

 
We will be required to repay all amounts outstanding under our ABL Facility in 2017, our Term Loan Facility in 2020, and our 8.5% Notes by 2021. At December 31, 2015, we had outstanding borrowings under these obligations of approximately $1,385.9 million (net of unamortized debt premium of approximately $3.4 million related to our 8.5% Notes and unamortized debt discount of approximately $4.9 million related to our Term Loan Facility). We are currently obligated to make periodic interest payments under the 8.5% Notes and the ABL Facility, as well as make periodic interest and principal payments relating to the Term Loan Facility and other indebtedness of our subsidiaries. Our ability to make payments on and to refinance our indebtedness and to fund planned capital expenditures will depend on our ability to generate cash in the future. This, to a certain extent, is subject to general economic, financial, competitive, legislative, regulatory and other factors that are beyond our control.

We expect that we will need to access the capital markets in the future in order to refinance all amounts outstanding under the 8.5% Notes, the ABL Facility and the Term Loan Facility, as we do not anticipate generating sufficient cash flow from operations to repay such amounts in full. We cannot assure you that funds will be available to us in the capital markets, together with cash generated from operations, in an amount sufficient to enable us to pay our indebtedness or to fund our other liquidity needs. We cannot assure you that we will be able to refinance any of our indebtedness on commercially reasonable terms or at all. If we cannot service our indebtedness, we may have to take actions such as selling assets, seeking additional equity or reducing or delaying capital expenditures, strategic acquisitions, investments and alliances. We cannot assure you that any such actions, if necessary, could be effected on commercially reasonable terms or at all.

For further information regarding our yearly contractual obligations and sources of liquidity, see “Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - Contractual Obligations", Item 7 of Part II, to this report.

If we are unable to access funds generated by our subsidiaries, we may not be able to meet our financial obligations.
 
Because we conduct our operations through our subsidiaries, we depend on those entities for dividends, distributions and other payments to generate the funds necessary to meet our financial obligations. Legal restrictions in the United States and foreign jurisdictions applicable to our subsidiaries and contractual restrictions in certain agreements governing current and future indebtedness of our subsidiaries, as well as the financial condition and operating requirements of our subsidiaries, may limit our ability to obtain cash from our subsidiaries. All of our subsidiaries are separate and independent legal entities and have no obligation whatsoever to pay any dividends, distributions or other payments to us. 

Risks Related to Our Common Stock:
 
The trading volume in our common stock is less than that of similar public companies.

Although our common stock is listed for trading on the NASDAQ Global Market, the average daily trading volume in our common stock is generally less than that of many of our publicly traded competitors and other diversified manufacturing companies. Public companies such as us, with a relatively concentrated level of institutional shareholders, often have difficulty generating trading volume in their stock. This illiquidity can result in relative price discounts as compared to industry peers or to the stock's inherent value. It can also result in limited or no research analyst coverage, the absence of which may make it difficult for a company to establish and hold a market following. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence of willing buyers and sellers of our common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which we have no control.

A lack of published research reports by securities or industry analysts may adversely impact the market price of our common stock.
 
Since our common stock began trading on the NASDAQ Global Market, there has been minimal coverage of Nortek by securities analysts. If we do not have analyst coverage of our common stock, we may lack visibility in the financial markets, which in turn could cause the market price of our common stock or its trading volume to decline.


22


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

The price of our common stock could be volatile.
 
The overall market and the price of our common stock may fluctuate greatly. The trading price of our common stock may be significantly affected by various factors, including:
 
quarterly fluctuations in our operating results;
changes in investors' and analysts' perception of the business risks and conditions of our business;
our ability to meet the earnings estimates and other performance expectations of financial analysts or investors;
unfavorable commentary or downgrades of our stock by equity research analysts;
fluctuations in the stock prices of our peer companies or in stock markets in general;
our ability to comply with our debt covenants; and
general economic or political conditions.

The market price for our common stock could also fall if our existing significant stockholders, or management, sell, or attempt to sell, large amounts of our common stock. Alternatively, if these stockholders do not trade their shares, our common stock could be thinly traded resulting in a wide spread of bid and ask prices for our common stock, which could reduce the trading volume of our common stock.

Our significant stockholder may exert significant influence over us. Their interests may not coincide with yours and they may make decisions with which you may disagree.
 
Funds affiliated with Ares Management LLC own, in the aggregate, approximately 38% of the voting power of our outstanding common stock as of February 22, 2016 and other stockholders also own significant portions of our common stock. As a result, these stockholders, acting individually or together, control substantially all matters requiring stockholder approval, including the election of directors and the approval of significant corporate transactions. In addition, this concentration of equity ownership may delay or prevent a change in control of our company and may make some transactions more difficult or impossible without the support of these stockholders. The interests of these stockholders may not always coincide with the interests of other stockholders. Accordingly, these stockholders could cause us to enter into transactions or agreements that you would not approve or make decisions with which you may disagree.
 
Further, our bylaws and certificate of incorporation allow a majority of our stockholders to take action by written consent, rather than at an annual or special meeting of stockholders. These provisions could result in a majority of our stockholders acting quickly to take action that may be opposed to management.

ITEM 1B.
UNRESOLVED STAFF COMMENTS.
 

None.


23


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015


ITEM 2.
PROPERTIES.
 
Set forth below is a brief description of the location and general character of the principal administrative and manufacturing facilities and other material real properties of our continuing operations, all of which we consider to be in satisfactory repair as of December 31, 2015. All properties are owned, except for those indicated by an asterisk (*), which are leased under operating leases and those with a double asterisk (**), which are leased under capital leases.
 
Location
 
Description
 
Approximate Square Feet
 
 
 
 
 
 
 
Air Quality and Home Solutions:
 
 
 
 

 
 
Hartford, Wisconsin
 
Manufacturing/Warehouse/Administrative
 
538,000

 
(2)
Hartford, Wisconsin
 
Warehouse
 
130,000

 
*
Mississauga, ONT, Canada
 
Manufacturing/Warehouse/Administrative
 
110,000

 
 
Cerreto D’Esi, Italy
 
Manufacturing/Warehouse/Administrative
 
174,000

 
 
Drummondville, QUE, Canada
 
Manufacturing/Warehouse/Administrative
 
126,000

 
 
Drummondville, QUE, Canada
 
Manufacturing/Warehouse/Administrative
 
51,000

 
*
Chenjian, Huizhou, PRC
 
Manufacturing/Warehouse/Administrative/Other
 
198,000

 
 
Gliwice, Poland
 
Manufacturing/Warehouse/Administrative
 
162,000

 
(1)
Tecate, Baja California, Mexico
 
Manufacturing/Warehouse/Administrative
 
204,000

 
*
Alameda, California
 
Warehouse/Administrative
 
37,000

 
*
 
 
 
 
 
 
 
Security and Control Solutions:
 
 
 
 

 
 
Xiang, Bao An County, Shenzhen, PRC
 
Manufacturing/Warehouse/Administrative/Other
 
326,000

 
*
Chaiwan, Hong Kong
 
Administrative
 
13,000

 
*
Carlsbad, California
 
Warehouse/Administrative
 
86,000

 
*
Grand Rapids, Michigan
 
Manufacturing/Warehouse/Administrative
 
89,000

 
*
Tallahassee, Florida
 
Warehouse/Administrative
 
71,000

 
(2)
Seattle, Washington
 
Warehouse/Administrative
 
11,000

 
*
 
 
 
 
 
 
 
Ergonomic and Productivity Solutions:
 
 
 
 
 
 
St. Paul, Minnesota
 
Manufacturing/Warehouse/Administrative
 
102,000

 
(2)
Dongguan City, Guangdong, PRC
 
Manufacturing/Warehouse/Administrative
 
399,000

 
*
Amersfoort, The Netherlands
 
Manufacturing/Warehouse/Administrative
 
20,000

 
*
Phoenix, Arizona
 
Warehouse/Administrative
 
16,000

 
*
Tualatin, Oregon
 
Manufacturing/Warehouse/Administrative
 
127,000

 
*
 
 
 
 
 
 
 
Residential and Commercial HVAC:
 
 

 
 
O’Fallon, Missouri
 
Warehouse/Administrative
 
70,000

 
*
Boonville, Missouri
 
Manufacturing
 
250,000

 
(2)
Poplar Bluff, Missouri
 
Warehouse
 
725,000

 
**
Dyersburg, Tennessee
 
Manufacturing/Warehouse
 
368,000

 
**
Miami, Florida
 
Warehouse/Administrative
 
88,000

 
*
Lenexa, Kansas
 
Warehouse/Administrative
 
28,000

 
*
San Antonio, Texas
 
Warehouse
 
19,000

 
*
Englewood, Colorado
 
Warehouse/Administrative
 
21,000

 
*
Tucson, Arizona
 
Warehouse/Administrative
 
34,000

 
*
Tempe, Arizona
 
Warehouse/Administrative
 
30,000

 
*
Surprise, Arizona
 
Warehouse/Administrative
 
44,000

 
*
Show Low, Arizona
 
Warehouse/Administrative
 
24,000

 
*
Flagstaff, Arizona
 
Warehouse/Administrative
 
30,000

 
*
Houston, Texas
 
Warehouse
 
45,000

 
*

24


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015


Location
 
Description
 
Approximate Square Feet
 
 
 
 
 
 
 
Residential and Commercial HVAC (continued):
 
 

 
 
Folkestone, Kent, United Kingdom
 
Warehouse/Administrative
 
18,000

 
*
Brierley Hill, West Midlands, United Kingdom
 
Manufacturing/Warehouse
 
110,000

 
*
Mirabel, France
 
Manufacturing/Warehouse/Administrative
 
25,000

 
*
Menen, Belgium
 
Manufacturing/Warehouse/Administrative
 
140,000

 
*
Mercer, Pennsylvania
 
Manufacturing/Warehouse/Administrative
 
126,000

 
 
Saltillo, Coahuila, Mexico
 
Manufacturing/Administrative
 
697,000

 
(3)
Monterrey, Nuevo Leon, Mexico
 
Manufacturing/Administrative
 
214,000

 
(3)
Edenbridge, Kent, United Kingdom
 
Administrative
 
41,000

 
*
Fenton, Stoke-on-Trent, United Kingdom
 
Manufacturing/Administrative
 
104,000

 
*
Phoenix, Arizona
 
Warehouse/Administrative
 
28,000

 
*
Newbern, Tennessee
 
Warehouse/Administrative
 
65,000

 
*
Quinpo, Shanghai
 
Administrative
 
95,000

 
*
Coahuila, Mexico
 
Warehouse
 
68,000

 
(3)
 
 
 
 
 
 
 
Custom and Commercial Air Solutions:
 
 
 
 

 
 
St. Leonard d’Aston, QUE, Canada
 
Manufacturing/Administrative
 
95,000

 
*
Saskatoon, Saskatchewan, Canada
 
Warehouse/Administrative
 
59,000

 
*
Drummondville, QUE, Canada
 
Manufacturing/Warehouse/Administrative
 
82,000

 
*
Oklahoma City, Oklahoma
 
Manufacturing/Administrative
 
127,000

 
(2)
Oklahoma City, Oklahoma
 
Warehouse
 
23,000

 
*
Okarche, Oklahoma
 
Manufacturing/Warehouse/Administrative
 
228,000

 
(2)
Anjou, QUE, Canada
 
Manufacturing/Administrative
 
127,000

 
*
Tualatin, Oregon
 
Manufacturing/Warehouse/Administrative
 
315,000

 
*
Eden Prairie, Minnesota
 
Administrative
 
30,000

 
*
Shakopee, Minnesota
 
Warehouse
 
13,000

 
*
 
 
 
 
 
 
 
Audio, Video and Control Solutions:
 
 
 
 

 
 
Petaluma, California
 
Warehouse/Administrative
 
40,000

 
*
Los Angeles, California
 
Warehouse/Administrative
 
28,000

 
*
 
 
 
 
 
 
 
Other:
 
 
 
 

 
 
Providence, RI
 
Corporate Headquarters
 
33,000

 
*
Eastvale, California
 
Warehouse/Administrative
 
376,000

 
*
Olive Branch, Mississippi
 
Warehouse/Administrative
 
702,000

 
*

(1)
These facilities are pledged as security under various subsidiary debt agreements.
(2)
These facilities are pledged as first priority security under our Term Loan Facility and as second priority under our ABL Facility.
(3)
These facilities relate to our manufacturing operations in Mexico under certain arrangements with independent third parties in Mexico. See Note 1, “Summary of Significant Accounting Policies”, to the consolidated financial statements, Item 8 of Part II to this report.


25


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

ITEM 3.
LEGAL PROCEEDINGS.
 

As previously reported, as part of our routine internal audit activities, we discovered certain questionable hospitality, gift and payment practices, and other expenses at our subsidiary, Linear Electronics (Shenzhen) Co. Ltd. (“Linear China”), which are inconsistent with our policies and raise concerns under the U.S. Foreign Corrupt Practices Act and perhaps under other applicable anti-corruption laws. We conducted an internal investigation into these practices and payments with the assistance of outside counsel.

On January 7, 2015 and January 8, 2015, respectively, we voluntarily contacted the SEC and the DOJ to advise both agencies of our internal investigation. We are cooperating with the SEC and DOJ investigations into these matters. We take these matters very seriously and are committed to conducting business in compliance with all applicable laws.

Based on information known at this time, we currently believe that the amount of the questionable expenses and payments is not material with respect to our consolidated financial condition or results of operations for the periods presented. However, at this time, we are unable to predict, what, if any, action may be taken by the DOJ or SEC or any penalties or remedial measures these agencies may seek, but intend to cooperate with both agencies. Any determination that our operations or activities are not in compliance with existing laws or regulations could result in the imposition of fines, civil and criminal penalties, and equitable remedies, including disgorgement or injunctive relief. We cannot reasonably estimate the potential liability, if any, related to these matters resulting from any proceedings that may be commenced by the SEC, the DOJ or any other governmental authorities. In the fiscal year ended December 31, 2015 and 2014, approximately $2.3 million and $0.8 million, respectively, was recorded for legal and other professional services incurred related to the internal investigation of this matter. We expect to incur additional costs relating to the investigation of this matter in 2016.

In addition, we are from time to time, involved in litigation relating to claims arising in the normal course of business, including a number of product liability lawsuits. We do not expect that any of these proceedings will have a material adverse effect, either individually or in the aggregate, on our financial position, results of operations, liquidity or competitive position. See Note 6, “Commitments and Contingencies - Product Liability Contingencies”, to the consolidated financial statements, Item 8 of Part II, which is incorporated herein by reference.


26


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

ITEM 4.
MINE SAFETY DISCLOSURES

Not applicable.

Executive Officers of the Registrant
Pursuant to General Instruction G(3) to Form 10-K, the following description of our executive officers is included as an unnumbered item in Part I of this report in lieu of being included in our definitive proxy statement for our annual meeting of stockholders. Set forth below are the name, age, present title, and certain other information for each of our executive officers as of February 22, 2016. Each executive officer is appointed by our Board of Directors and holds his/her office until the earlier of his/her death, resignation, retirement, disqualification or removal.

Name
Age
Positions with the Company
Michael J. Clarke
61
President, Chief Executive Officer and Director
Kevin W. Donnelly
61
Senior Vice President, General Counsel and Secretary
Timothy J. Burling
57
Senior Vice President, Operational Finance
Jeffrey Mueller
48
Group President, Air Quality and Home Solutions
Michael O'Neal
60
President, Nortek Security and Control
David J. LaGrand
62
Group President, Residential and Commercial HVAC
Peter Segar
53
Group President, Ergonomic and Productivity Solutions
Mark DeVincent
51
Group President, Custom and Commercial Air Solutions

Mr. Clarke has been President and Chief Executive Officer and a director of the Company since joining us on December 30, 2011. From January 2006 until his appointment as our Chief Executive Officer, Mr. Clarke served as President, FlexInfrastructure and Group President of Integrated Network Solutions of Flextronics International, Ltd, a publicly traded provider of design and electronics manufacturing services to original equipment manufacturers ("Flextronics").

Each of Messrs. Donnelly, and LaGrand has served in the same or substantially similar executive positions with us for at least the past five years. Mr. Donnelly was an executive officer when we filed voluntary petitions in the Bankruptcy Court seeking relief under the provisions of chapter 11 of the Bankruptcy Code on October 21, 2009.

Mr. Burling was appointed Senior Vice President, Finance and Operational Excellence on March 5, 2014, and prior to that he was Vice President, Operational Finance since March 2012. From 2006 until his appointment as our Vice President, Operational Finance, he served as Vice President, Finance of Integrated Network Solutions of Flextronics.

Mr. Mueller has been Group President, Air Quality and Home Solutions since September 2014.  Prior to his appointment as the Group President, Air Quality and Home Solutions, he served as President of Kohler Co.'s faucet businesses globally from 2009 to June 2013, and from June 2013 to August 2014, he served as Managing Director of Kohler Co. Kitchen and Bath, Latin Americas.

Mr. O'Neal has been President, Nortek Security and Control since March 2011. Prior to joining Nortek Security and Control, Mr. O'Neal was president of North American operations for Gibson Guitar, and was earlier CEO of several high-tech electronics corporations including Phillips Accessories and Peripherals and Gemini Industries.

Mr. Segar has been Group President, Ergonomic and Productivity Solutions since September 2013. Prior to his appointment as the Group President, Ergonomic and Productivity Solutions, he served as Interim President of Ergotron, Inc. (“Ergotron”) from January 2013 to October 2013, he served as Ergotron Brand Products President from August 2010 to October 2013 and he served as Senior Vice President and Chief Technical Officer of Ergotron from September 2004 to August 2010. Mr. Segar also serves on the board of directors of Caringbridge.

Mr. DeVincent has been Group President, Custom and Commercial Air Solutions since February 2014. Prior to his appointment as the Group President, Custom and Commercial Air Solutions, he served as Vice President, Advanced Systems of Flextronics from March 2006 to May 2011 and from June 2011 to January 2014, he served as Senior Vice President & GM, Server & Storage of Flextronics.



27


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

PART II

ITEM 5.
MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
 
Market Information
 
Our common stock trades on the NASDAQ Global Market ("NASDAQ") under the trading symbol “NTK”. The following table sets forth the high and low sale prices for our common stock as reported by NASDAQ for the periods indicated:
2014 Quarter Ended
 
High
 
Low
March 29, 2014
 
$
83.00

 
$
70.10

June 28, 2014
 
$
91.78

 
$
79.13

September 27, 2014
 
$
92.30

 
$
73.24

December 31, 2014
 
$
85.67

 
$
70.73

 
 
 
 
 
2015 Quarter Ended
 
High
 
Low
March 28, 2015
 
$
88.59

 
$
74.02

June 27, 2015
 
$
89.92

 
$
78.01

September 26, 2015
 
$
92.96

 
$
64.38

December 31, 2015
 
$
67.25

 
$
41.02

 
Holders

As of February 22, 2016, there were approximately 139 holders of record of our common stock and an unknown number of additional beneficial owners whose shares are held through brokerage firms or other institutions.
 
Dividends
 
We did not pay any cash dividends on our common stock in 2015 or 2014, and we do not anticipate declaring any cash dividends to holders of our common stock in the foreseeable future. Furthermore, the agreements that govern the terms of our debt, including the respective indenture that governs our 8.5% Notes, and the credit agreements that govern our ABL Facility and Term Loan Facility, restrict our ability to pay dividends. See Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources - Adequacy of Liquidity Sources” and Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources  - Debt Covenant Compliance”, Item 7 of Part II of this report, for further information regarding restrictions on our ability to pay dividends. In addition, the declaration of any future cash dividends and, if declared, the amount of any such dividends will be subject to our financial condition, earnings, capital requirements, financial covenants and other contractual restrictions and to the discretion of our Board of Directors. As of December 31, 2015, we had the capacity to make certain payments, including dividends, of approximately $102.9 million.

 

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NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Performance Graph

Set forth below is a graph comparing the cumulative total stockholder return on our common stock against the cumulative total return of the Russell 2000 Index and the Dow Jones US Building Materials & Fixtures Index for the period commencing November 15, 2011 (the first day our common stock began “when-issued” trading on the NASDAQ) through December 31, 2015. Index data was furnished by Dow Jones & Co. and Russell Investments Group. The graph assumes that $100 was invested on November 15, 2011 in each of our common stock, the Russell 2000 Index, and the Dow Jones US Building Materials & Fixtures Index and that all dividends were reinvested.

Recent Sales of Unregistered Securities

There were no unregistered sales of equity securities during the fourth quarter of 2015.


29


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015

Purchases of Equity Securities by Issuer and Affiliated Purchases

Issuer’s Purchases of Equity Securities

We do not currently have a publicly announced plan to repurchase shares. Below is a summary of our common stock repurchases during the fourth quarter ended December 31, 2015:

Period
 
Total Number of Shares Purchased (1)
 
Average Price Paid per Share (2)
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
 
Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs
September 27 - October 24, 2015
 
703

 
$
62.55

 

 

 
 
 
 
 
 
 
 
 
October 25 - November 21, 2015
 
29

 
$
61.35

 

 

 
 
 
 
 
 
 
 
 
November 22 - December 31, 2015
 
4,999

 
$
53.97

 

 


(1)
Shares repurchased by us during the fourth quarter of 2015 from employees who surrendered shares to satisfy minimum statutory income tax withholding obligations arising in connection with the vesting of restricted stock awards, which we pay in cash to the appropriate taxing authorities on behalf of our employees.
(2)
Amounts disclosed are rounded to the nearest two decimal places.





30


NORTEK, INC. AND SUBSIDIARIES
December 31, 2015


ITEM 6.
SELECTED CONSOLIDATED FINANCIAL DATA
 
The table below summarizes our selected consolidated financial information as of and for the periods indicated. You should read the following selected consolidated financial data together with our consolidated financial statements, Item 8 of Part II, to this report, the sections entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Liquidity and Capital Resources”, Item 7 of Part II, to this report, and the section entitled “Market Price of and Dividends on the Registrant’s Common Equity and Related Stockholder Matters” included in Item 5 of Part II, to this report. Our historical results for any prior period are not necessarily indicative of results to be expected in any future period.
 
 
 
For the Years Ended December 31,
 
 
2015
 
2014
 
2013
 
2012
 
2011
 
 
(In millions except per share amounts and ratios)
Consolidated Summary of Operations:
 
 
 
 
 
 
Net sales
 
$
2,526.1

 
$
2,546.1

 
$
2,287.9

 
$
2,201.3

 
$
2,140.5

Impairment of long-lived assets and goodwill
 
1.6

 
80.4

 
4.3

 

 

Operating earnings
 
85.4

 
42.9

 
87.9

 
127.6

 
63.1

(Loss) earnings before (benefit) provision for income taxes
 
(30.1
)
 
(65.0
)
 
(11.4
)
 
24.8

 
(76.2
)
Net (loss) earnings
 
(26.7
)
 
(45.6
)
 
(8.3
)
 
9.5

 
(55.9
)
(Loss) earnings per share:
 
 
 
 
 
 
 
 
 
 
Basic (1)
 
$
(1.67
)
 
$
(2.92
)
 
$
(0.54
)
 
$
0.63

 
$
(3.70
)
Diluted (1)
 
$
(1.67
)
 
$
(2.92
)
 
$
(0.54
)
 
$
0.61

 
$
(3.70
)
 
 
 
 
 
 
 
 
 
 
 
Financial Position and Other Financial Data:
 
 
 
 
 
 
Unrestricted cash, investments and
  marketable securities
 
$
24.6

 
$
58.4

 
$
80.9

 
$
144.7

 
$
58.2

Working capital (2)(3)
 
280.3

 
304.7

 
250.3

 
348.0

 
317.5

Total assets
 
2,143.9

 
2,209.1

 
1,990.9

 
1,888.1

 
1,941.9

Total debt —
 
 
 
 
 
 
 
 
 
 
  Current
 
7.4

 
6.9

 
3.5

 
3.1

 
33.4

  Long-term
 
1,385.1

 
1,339.4

 
1,093.3

 
1,097.9

 
1,111.1

Current ratio (4)
 
1.6:1

 
1.6:1

 
1.6:1

 
1.9:1

 
1.8:1

Debt to equity ratio (5)
 
113.2:1

 
31.9:1

 
11.0:1

 
11.7:1

 
14.2:1

Depreciation and amortization
  expense, including non-cash interest (6)
 
121.3

 
107.9

 
97.6

 
89.3

 
99.9

Capital expenditures (7)(8)
 
44.8

 
38.9

 
43.8

 
24.1

 
21.1

Stockholders’ investment
 
12.3

 
42.2

 
99.9

 
94.2

 
80.4


(1)
See Note 11, "Earnings per Share", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.
(2)
Working capital is computed by subtracting current liabilities from current assets.
(3)
In 2015, we adopted ASU No. 2015-17, Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes, on a prospective basis, reclassifying all deferred tax assets and liabilities from current to long-term. See Note 8, "Income Taxes", to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.
(4)
Current ratio is computed by dividing current assets by current liabilities.
(5)
Debt to equity ratio is computed by dividing total debt by total stockholders’ investment. 
(6)
Includes an increase to cost of revenues for inventory acquired in business combinations of approximately $0.5 million, $2.2 million, $3.3 million, $0.9 million, and $7.9 million for 2015, 2014, 2013, 2012, and 2011, respectively.
(7)
Excludes capital expenditures financed under capital leases of approximately $0.5 million, $0.1 million, $0.9 million for the years ended December 31, 2014, 2013 and 2012, respectively.
(8)
Does not include the addition of approximately $31.5 million related to the 2013 construction of new facilities in Mexico. See Note 6, “Commitments and Contingencies”, to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report.

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NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the “Forward-Looking Statements” section set forth in Part I and the “Risk Factors” section set forth in Item 1A in this annual report on Form 10-K, and in any further disclosures we make in our reports filed with the SEC.

Executive Overview

This Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to help the reader understand Nortek, Inc., our operations, and our present business environment. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying notes contained in this report. Unless the context requires otherwise, the terms “Nortek,” “Company,” “we”, and “our” in this MD&A refer to Nortek, Inc. and its wholly-owned subsidiaries.

Organization

We are a global, diversified company whose many market-leading brands deliver broad capabilities and a wide array of innovative, technology-driven products and solutions for lifestyle improvement at home and at work. Our principal reporting segments are as follows: 

the Air Quality and Home Solutions ("AQH") segment,
the Security and Control Solutions ("SCS") segment,
the Ergonomic and Productivity Solutions ("ERG") segment,
the Residential and Commercial HVAC ("RCH") segment, and
the Custom and Commercial Air Solutions ("CAS") segment.
 

Through these segments, we manufacture and sell, primarily in the United States, Canada, and Europe, with additional manufacturing in China and Mexico, a wide variety of products principally for the remodeling and replacement markets, the residential and commercial new construction markets, and the personal and enterprise computer markets.

During the second quarter of 2015, we transferred the management of our UK commercial HVAC subsidiary from the CAS segment to the RCH segment. Additionally, during the second quarter of 2014, we changed the composition of our reporting segments to exclude the audio, video and control ("AVC") entities (formerly the "AV entities") from the SCS segment due to the Chief Operating Decision Maker's decision to operate each of these entities separately and manage each as a standalone segment. The AVC entities have been combined and have not been reported separately as these operating segments are individually not significant (the "AVC segments"). These entities were principally acquired at various times from 2003 to 2011. As a result of these changes, we have restated prior period segment disclosures to conform to the new composition.

The AQH segment primarily manufactures and distributes room and whole house ventilation products for the professional remodeling and replacement markets, residential new construction market, and do-it-yourself market. The principal products sold by this segment include kitchen range hoods, exhaust fans (such as bath fans and fan, heater and light combination units), and indoor air quality products (such as air exchangers and heat energy recovery ventilators).  Sales of our kitchen range hoods and exhaust fans within the AQH segment accounted for approximately 10.1% and 8.8%, respectively, of consolidated net sales for 2015, approximately 9.6% and 9.1%, respectively, of consolidated net sales in 2014 and approximately 10.7% and 9.8%, respectively, of consolidated net sales in 2013.
 
The SCS segment manufactures and distributes a broad array of products designed to provide convenience and security primarily for residential applications. The principal product categories in this segment include security, automation and access control equipment and systems. Sales of our security systems and components within the SCS segment accounted for approximately 12.7%, 12.8%, and 10.1% of consolidated net sales for 2015, 2014, and 2013, respectively.

The ERG segment manufactures and distributes a broad array of innovative products designed with ergonomic features including wall mounts, carts, arms, desk mounts, workstations, and stands that attach to or support a variety of display devices such as notebook

32


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

computers, computer monitors, and flat panel displays. Sales of our digital display mounting and mobility products within the ERG segment accounted for approximately 13.9%, 11.6% and 12.0% of consolidated net sales in 2015, 2014 and 2013, respectively.

The RCH segment principally manufactures and sells split-system and packaged air conditioners and heat pumps, furnaces, air handlers and parts for the residential replacement and new construction markets. In addition, this segment produces unit heaters, radiant heaters and rooftop heating, ventilation and cooling products primarily for industrial and commercial applications. Sales of products sold in our RCH segment accounted for approximately 23.6%, 23.9% and 20.1% of consolidated net sales in 2015, 2014 and 2013, respectively.
 

The CAS segment manufactures and sells custom-designed and engineered HVAC products and systems, primarily in North America, for non-residential applications. The principal products sold by the segment are air handlers and large custom rooftop cooling and heating products. Sales of our commercial air handlers within the CAS segment accounted for approximately 13.9%, 13.8% and 14.6% of consolidated net sales in 2015, 2014 and 2013, respectively.

The AVC segments manufacture and distribute a broad array of products primarily for the residential audio/video and professional video signal management markets. The principal product categories in these segments include residential audio/video equipment (including architectural speakers and power conditioners, among other products), home control equipment, and professional video signal management solutions.
 

Significant events in 2015

Acquisitions

We made the following acquisitions in 2015: 
Reporting Segment
 
Acquired Company
 
Acquisition Date
 
Primary Business of Acquired Company
ERG
 
Anthro Corporation ("Anthro")
 
January 21, 2015
 
Designs, develops, markets and manufactures technology furniture products
SCS
 
Numera, Inc. ("Numera")(1)
 
June 30, 2015
 
Designs mobile personal emergency response system ("PERS") products and cloud-based software platforms that enable the creation of new safety and health monitoring services
(1)
Relates to the mobile personal emergency response system and telehealth business of Numera.

See Note 2, “Acquisitions and Dispositions”, to the consolidated financial statements, Item 8 of Part II, included elsewhere in this report for a detailed description of these acquisitions.

Logistical Issues in RCH segment

Early in the second quarter of 2015, our RCH segment transferred its warehousing and distribution functions to a third party logistics provider, an initiative included in our Operational Improvement Initiatives discussed in the Liquidity and Capital Resources section of this report. However, the distribution process was significantly hampered throughout most of the second quarter due to the third party logistics provider's inadequate staffing and processes, negatively impacting sales in the second quarter of 2015. Distribution activities were substantially transferred back to a facility owned and operated by the RCH segment prior to the end of the second quarter and we believe the distribution process for shipments began to return to historical shipping performance levels in the month of June. However, we believe those logistic issues had an ongoing impact on demand from many of our customers in the second half of 2015, particularly those who source the products we provide from multiple vendors. Warehousing and distribution costs, including freight, increased approximately $19.2 million in 2015 as compared to 2014 partly as a result of this transfer of the warehousing and distribution functions.


33


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

RCH Discontinued Production Lines

In connection with the transfer of the management of our UK commercial HVAC subsidiary from the CAS segment to the RCH segment discussed above, we discontinued production at one of the facilities operated by this subsidiary and discontinued certain product lines that were determined to be redundant, competitively disadvantaged or of limited strategic value.

CAS Segment Consolidation

As discussed in Note 5, "Exit and Disposal Activities", to the consolidated financial statements, Item 8 of Part II to this report, on May 4, 2015, the Board of Directors approved a restructuring plan designed to consolidate production activities in the North American and European operations of the CAS segment and to discontinue certain product lines which were determined to have limited strategic importance or to be competitively disadvantaged. The plan to consolidate production included the discontinuation of production in two North American facilities with production transferred to other CAS facilities in North America. As part of the plan, CAS manufacturing activities in Mexico were ceased and the operation of the manufacturing facility was transferred to the RCH segment to be used in that segment's production activities. We estimate that discontinued product lines will reduce the CAS segment's annual revenues by approximately $25 million in 2016 as compared to sales levels in 2015. Excluding the costs associated with this restructuring plan, we estimate improvement in operating earnings in 2016 as compared to 2015 of approximately $10.0 million to $12.0 million.

The plan further included the consolidation of production and transfer of certain product lines of our UK commercial HVAC subsidiary from the CAS segment to the RCH segment. As discussed earlier in this section, we have restated prior period segment disclosures to conform to this change in our segment composition. The production consolidation and product line transfer was in part made possible by our acquisition of Reznor in 2014.

Core Brands and Gefen Consolidation

On July 28, 2015, the Board of Directors approved a restructuring plan designed to merge the operations of Gefen into Core Brands, including the exit from certain product lines. This restructuring plan commenced in the third quarter of 2015. Costs to be incurred in connection with the plan are expected to be in the range of $8.0 million to $9.0 million, comprised principally of employee separation costs and certain asset impairment charges, principally related to inventory write-offs associated with the products that will be discontinued.

2015 Debt Transactions

On April 2, 2015, we obtained an incremental $265.0 million senior secured term loan pursuant to an amendment (the "Incremental Amendment") to our existing senior secured term loan facility due 2020 (the "Term Loan Facility") dated as of April 30, 2014, with substantially the same terms as the Term Loan Facility (the "Incremental Term Loan"). The net proceeds were used to redeem the 10% Senior Notes due 2018 (the "10% Notes") on May 4, 2015 at a redemption price of 105% of the aggregate principal amount thereof, plus accrued and unpaid interest to the redemption date. The redemption of the 10% Notes resulted in a pre-tax loss of approximately $14.8 million during the second quarter of 2015.

Sale of TV One

In July 2015, we received an unsolicited inquiry regarding the purchase of our TV One businesses ("TV One") that were part of the AVC entities and we commenced an evaluation of the potential sale of TV One.  On July 28, 2015, our Board of Directors approved the plan to sell the stock of TV One to a consortium of TV One's management on July 31, 2015.  Under the terms of the agreement, we have no ongoing involvement or obligations with respect to TV One and we are not obligated to indemnify the purchasers in connection with this transaction. The Company recorded a loss on sale of assets of approximately $2.9 million in the third quarter of 2015.  

Other Matters

As previously reported, we discovered certain questionable hospitality, gift and payment practices, and other expenses at one of our subsidiaries in China. See “- Liquidity and Capital Resources - Internal Investigation and Compliance Matters” below.


34


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Significant events in 2014

Acquisitions

We made the following acquisitions in 2014: 
Reporting Segment
 
Acquired Company
 
Acquisition Date
 
Primary Business of Acquired Company
RCH
 
Heating, ventilation and air conditioning business of Thomas & Betts Corporation ("Reznor")
 
April 30, 2014
 
Manufactures industrial and commercial HVAC products
RCH
 
Phoenix Wholesale, Inc.
 
October 8, 2014
 
Distributes HVAC products

Impairment of Long-lived Assets and Goodwill

During the second quarter of 2014, we determined that the significant under performance of our AVC companies through the first half of the year, along with a declining earnings forecast for the remainder of 2014 and beyond, represented an indicator of impairment related to the long-lived assets of these businesses. As a result, we performed the first step in the long-lived assets impairment test pursuant to ASC 360, “Property, Plant and Equipment” and compared the forecasted undiscounted cash flows for these businesses to their net assets. These cash flows were insufficient to recover the carrying value of these businesses. Based on the estimated fair values of the asset groups and the long-lived assets, we recorded an aggregate impairment charge of approximately $80.4 million to write down the long-lived assets to their fair values. This charge was comprised of approximately $74.7 million for intangible assets, primarily trademarks, customer relationships and developed technology, approximately $4.4 million for goodwill and approximately $1.3 million for property and equipment.

Second Quarter 2014 Debt Transactions

On April 30, 2014, we entered into the Term Loan Facility for $350.0 million. The net proceeds from the Term Loan Facility were used to fund the acquisition of Reznor and to repay all of the outstanding secured debt under the Company's previous senior secured term loan due 2017, which had an aggregate principal amount outstanding of approximately $93.0 million upon repayment. The redemption of the previous senior secured term loan facility resulted in a pre-tax loss of approximately $2.3 million in 2014.

Significant events in 2013

Acquisitions

We made the following acquisition in 2013: 
Reporting Segment
 
Acquired Company
 
Acquisition Date
 
Primary Business of Acquired Company
SCS
 
2GIG Technologies, Inc. (“2GIG”)
 
April 1, 2013
 
Designs and supplies residential security and home automation systems


35


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Basis of Presentation

We operate on a calendar year, and for our interim periods, operate on a 4-4-5 fiscal calendar, where each fiscal quarter is comprised of two 4-week periods and one 5-week period, with each week ending on a Saturday. Our fiscal year always begins on January 1 and ends on December 31. As a result, our first and fourth quarters may have more or less days included than a traditional 4-4-5 fiscal calendar, which consists of 91 days.

The remainder of this discussion provides greater detail of our operating results for each of our reporting segments. Our reporting segments offer a significant number of different products across a wide range of price points and numerous distribution channels that do not always allow meaningful quantitative analysis to be performed with respect to the effect on net sales of changes in units sold or the price per unit sold. However, whenever the underlying causes of material increases or decreases in consolidated net sales can be adequately analyzed and quantified, we attempt to make appropriate disclosure of such reasons, including changes in price, volume, and the mix of products sold. Overall, changes in cost of revenues as a percentage of net sales for one period as compared to another period may reflect a number of factors including changes in the relative mix of products sold, the effect of changes in sales prices and material costs, as well as changes in productivity levels.

We report our financial results in accordance with U.S. GAAP. However, we believe that certain non-GAAP performance measures used in managing the business may provide users of this financial information with additional meaningful comparisons between current results and results in prior periods. Non-GAAP performance measures should be viewed in addition to, and not as an alternative for, our reported results. We provide net sales excluding the impact of foreign currency as a supplement to net sales as determined by U.S. GAAP in order to provide readers with a clearer basis to assess our results over time. This measure is considered a non-GAAP financial measure and is calculated by translating the current period net sales in functional currency to U.S. dollars using the prior year's exchange rate.

Industry Overview
 
Critical factors affecting our future performance, including our level of sales, profitability, and cash flows are the levels of residential remodeling and replacement activity, and new residential and non-residential construction activity. The level of new construction activity and the level of residential remodeling and replacement activity are affected by seasonality and cyclical factors such as interest rates, inflation, consumer spending, employment levels, and other macroeconomic factors over which we have no control. Any decline in economic activity as a result of these or other factors typically results in a decline in residential and non-residential new construction and, to a lesser extent, residential and non-residential remodeling and replacement spending, which would result in a decrease in our sales, profitability, and cash flows.

Instability in the credit and financial markets, troubles in the mortgage market, the level of unemployment, and the decline in home values could have a negative impact on residential and non-residential new construction activity, consumer disposable income, and spending on home remodeling and repairs. These factors could have an adverse effect on our operating results.


36


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Changes in key industry activity affecting our businesses in North America for 2015, 2014, and 2013 as compared to the prior year periods were as follows:
 
 
 
Source of
 
% Increase (Decrease)
 
 
Data
 
2015
 
2014
 
2013
Private residential construction spending
 
1
 
13
 %
 
14
 %
 
20
 %
Total U.S. housing starts
 
1
 
11
 %
 
9
 %
 
19
 %
Total Canadian housing starts
 
2
 
3
 %
 
1
 %
 
(13
)%
New home sales
 
1
 
14
 %
 
2
 %
 
16
 %
Existing home sales
 
3
 
7
 %
 
(3
)%
 
9
 %
Residential improvement spending
 
1
 
9
 %
 
11
 %
 
5
 %
Central air conditioning and heat pump shipments
 
4
 
(1
)%
 
11
 %
 
10
 %
Gas furnace shipments
 
4
 
3
 %
 
5
 %
 
16
 %
Private non-residential construction spending
 
1
 
12
 %
 
11
 %
 
4
 %
Manufactured housing shipments
 
5
 
10
 %
 
7
 %
 
10
 %
Residential fixed investment spending
 
6
 
9
 %
 
2
 %
 
10
 %

Source of data:
(1)
U.S. Census Bureau
(2)
Canada Mortgage and Housing Corporation
(3)
National Association of Realtors
(4)
Air Conditioning, Heating and Refrigeration Institute
(5)
Institute for Building Technology and Safety
(6)
U.S. Bureau of Economic Analysis
 


In 2015, approximately 53% of consolidated net sales were made through independent distributors, dealers, wholesalers and similar channels, approximately 17% were to commercial HVAC markets, approximately 12% were to retailers (of which approximately 7% were sold to the four largest home center retailers), approximately 12% were private label sales, approximately 4% were to other commercial channels, and approximately 2% were to manufactured housing original equipment manufacturers and aftermarket dealers. Our largest distributor or dealer accounted for approximately 4% of consolidated net sales in 2015. Our largest customer (other than a distributor or dealer) accounted for approximately 4% of consolidated net sales for 2015.

Based on internal research and analysis, we estimate that approximately 56% to 60% of our consolidated 2015 net sales were related to the residential housing market. Our products that serve the residential housing market primarily include range hoods and bath fans sold by our AQH segment, central air conditioning and heating products sold by our RCH segment, security and access control products sold by our SCS segment, and certain of the audio/video distribution and control products sold by our AVC segments. We believe that approximately 18% to 22% of our consolidated 2015 net sales to the residential housing market were related to new construction activity.
Also based on internal research and analysis, we estimate that approximately 37% to 41% of our consolidated 2015 net sales were related to non-residential applications including healthcare and educational institutions. Our products that serve the non-residential market primarily include air handlers and other heating and cooling products sold by our CAS segment, unit heaters, radiant heaters and rooftop heating, ventilation and cooling products sold by our RCH segment, digital mounting and mobility products sold by our ERG segment, and certain of the audio/video distribution and control products sold by our AVC segments. We believe that approximately 32% to 36% of our consolidated 2015 net sales to the non-residential market were related to new construction activity.
  
The demand for certain of our products is seasonal, particularly in the Northeast and Midwest regions of the United States. Inclement weather during winter months usually reduces the level of building and remodeling activity in both home improvement and new construction markets, thereby reducing our sales levels during the first and fourth quarters.
 
We are subject to the effects of changing prices and the impact of inflation which could have a significant adverse effect on our results of operations. In some circumstances, market conditions or customer expectations may prevent us from increasing the prices

37


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

of our products to offset the inflationary pressures that may increase costs in the future. We continually review the costs of our product lines and look for opportunities to help offset the rising costs of raw materials and transportation when possible.  

During the past three years, the following have been our major purchases, expressed as a percentage of consolidated net sales, of raw materials and purchased components:
 
 
 
For the Year Ended December 31,
 
 
2015
 
2014
 
2013
Electronics
 
13%
 
13%
 
11%
Electro mechanical, including motors and compressors
 
9%
 
11%
 
10%
Steel
 
6%
 
7%
 
7%
Metal components, including copper and aluminum
 
2%
 
3%
 
3%
Plastic components
 
2%
 
3%
 
3%
Packaging
 
2%
 
2%
 
2%
 

Outlook

For 2016, our expectation is that market demand for residential building products will be higher than the levels experienced in 2015. We also anticipate that residential and non-residential construction activity in the United States will continue to improve with increased activity in 2016 as compared to 2015.

Excluding the potential continued negative impact from unfavorable changes in foreign currency exchange rates, we expect to deliver overall net sales growth in 2016 despite planned lower sales related to certain restructuring projects as previously discussed. With planned increases in sales volume and benefits from restructuring actions, we also expect to achieve growth in operating earnings in 2016. We anticipate that a portion of this growth will be offset by normal increases in operating expenses as well as investments in the areas of product development and marketing.

Cost and Expense Components

Cost of revenues principally consists of the manufacturing costs, including materials, labor and overhead, of products sold. The most significant component of cost of revenues relates to the materials cost of our products. The cost of materials is affected by changes in key underlying commodity prices of these products, including steel, copper and aluminum, as well as overall changes in products. Cost of revenues also includes warranty fulfillment costs, third party services, equipment costs, equipment depreciation, and the wages and associated benefits that we pay related to performance of certain purchased services.

Selling, general and administrative expenses, net, consist of selling and marketing, general and administrative expenses, and research and development expenses. Personnel-related costs are the most significant component of each of these expense categories. Overall growth and expansion, including growth through acquisitions, could affect the number of non-manufacturing employees at any given period, and as a result, our selling, general and administrative expenses could fluctuate. We expect to continue to hire employees to support our growth for the foreseeable future. In addition, our operating expenses include the expenses related to certain of our warehouse and distribution facilities.


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NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Results of Operations

Net Sales

Net sales were approximately $2,526.1 million, $2,546.1 million, and $2,287.9 million for 2015, 2014, and 2013, respectively. As discussed further below in our "Segment Discussion", the decrease in net sales for 2015 as compared to 2014 is primarily the result of a decline in the RCH, CAS, and AVC segments, partially offset by increased sales within the ERG segment. The increase in net sales for 2014 as compared to 2013 was primarily the result of increases within the RCH, SCS, and CAS segments, partially offset by a decline in sales in the AVC segments.

Cost of Revenues

Cost of revenues were approximately $1,797.9 million, $1,805.0 million, and $1,624.6 million for 2015, 2014, and 2013, respectively. As a percentage of net sales, cost of revenues was approximately 71.2%, 70.9%, and 71.0% for 2015, 2014, and 2013, respectively. Exit and transformation costs recorded to cost of revenues during 2015, 2014, and 2013 was approximately $28.5 million, $17.0 million, and $14.7 million, respectively.

Cost of revenues as a percentage of net sales increased in 2015 as compared to 2014 primarily due to an increase in exit and transformation costs, higher product liability expense, as well as changes in product and customer mix. This increase was partially offset by decreased warranty charges, as well as a decrease in certain commodity prices.

Cost of revenues as a percentage of net sales decreased slightly in 2014 as compared to 2013 and was primarily due to changes in the relative mix of products sold, as well as lower product liability expense. This decrease was partially offset by manufacturing inefficiencies due to certain exit and transformation activities.

Selling, General and Administrative Expense, net

Selling, general and administrative expense, net was approximately $571.0 million, $557.8 million, and $519.8 million for 2015, 2014, and 2013, respectively. As a percentage of net sales, selling, general and administrative expense, net was approximately 22.6%, 21.9%, and 22.7% for 2015, 2014, and 2013, respectively. Exit and transformation costs recorded to selling, general and administrative expense, net during 2015, 2014, and 2013 were approximately $22.8 million, $13.4 million, and $20.7 million, respectively.

Selling, general and administrative expense, net as a percentage of net sales increased in 2015 as compared to 2014 primarily as a result of increased exit and transformation costs, higher costs associated with warehousing and distribution, increased product development costs, as well as higher legal and other professional fees. The increase in selling, general and administrative expense, net as a percentage of net sales was partially offset by a decrease in net foreign exchange losses related to transactions, ongoing cost reduction efforts within the Company, and headcount reductions.

Selling, general and administrative expense, net as a percentage of net sales decreased slightly in 2014 as compared to 2013 primarily as a result of a decrease in exit and transformation costs coupled with an increase in net sales without a proportionate increase in SG&A due to the fixed nature of certain expenses. This decrease was partially offset by higher product development costs, as well as increased legal and professional fees.

Impairment of Long-lived Assets and Goodwill

As a result of certain restructuring initiatives that we commenced in the second quarter of 2015, we identified an indicator of impairment related to the long-lived assets of certain of the AVC entities due to declining operating results related to these companies. Based on review of the forecasted undiscounted cash flows over the remaining estimated useful life of the primary asset of the asset group, we determined that there was insufficient forecasted net positive cash flows to recover the net book value of property and equipment and such property and equipment had no material salvage value. As a result, we recorded an impairment charge of approximately $1.2 million to reduce the carrying value of the property and equipment to zero.

Additionally, in the fourth quarter of 2015 we recorded an impairment charge of approximately $0.4 million due to the change in estimated fair value less cost to sell related to one of our RCH segment’s warehouse properties which was sold in January 2016.

39


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015


During the second quarter of 2014, we determined that the significant under performance of our AVC companies through the first half of the year, along with a declining earnings forecast for the remainder of 2014 and beyond, represented an indicator of impairment related to the long-lived assets of these businesses. As a result, we performed the first step in the long-lived assets impairment test pursuant to ASC 360, “Property, Plant and Equipment” and compared the forecasted undiscounted cash flows for these businesses to their net assets. These cash flows were insufficient to recover the carrying value of these businesses. Based on the estimated fair values of the asset groups and the long-lived assets, we recorded an aggregate impairment charge of approximately $80.4 million to write down the long-lived assets to their fair values.

In 2013, we recorded a non-cash long-lived asset impairment charge of approximately $4.3 million related to the write-down of property and equipment in connection with the exit in the first quarter of 2014 of a product line within the AQH segment.

Amortization of Intangible Assets

Amortization of intangible assets was approximately $67.3 million, $60.0 million, and $51.3 million for 2015, 2014, and 2013, respectively.

The change in amortization of intangible assets in 2015 as compared to 2014 is primarily the result of the acquisition of Anthro and Numera in 2015 and the full year impact of the acquisitions of Reznor and Phoenix in 2014, coupled with a change in estimated useful lives relating to the AQH, RCH, SCS, and ERG reporting units. The impact of this change in estimated useful lives was approximately $1.9 million of additional amortization expense in 2015 and represents a change in the estimated future annual amortization of approximately $5.9 million.

The change in amortization of intangible assets in 2014 as compared to 2013 is primarily the result of the acquisition of Reznor and Phoenix in 2014 and the full year impact of the acquisition of 2GIG in 2013.

Net Interest Expense

Net interest expense was approximately $100.7 million, $105.6 million, and $99.3 million for 2015, 2014, and 2013, respectively. Changes in net interest expense are primarily the result of changes in the average principal balances and weighted average interest rates of our outstanding debt due to the 2015 and 2014 debt transactions described previously.

Loss from Debt Retirement

On April 2, 2015, we obtained a $265.0 million Incremental Term Loan. The net proceeds were used to redeem the 10% Notes on May 4, 2015 at a redemption price of 105% of the aggregate principal amount thereof, plus accrued and unpaid interest to the redemption date. The redemption of the 10% Notes resulted in a pre-tax loss of approximately $14.8 million during the second quarter of 2015.

On April 30, 2014, we entered into the $350.0 million Term Loan Facility. The net proceeds from the Term Loan Facility were used to fund the acquisition of Reznor and to repay all of the outstanding secured debt under the Company's previous senior secured term loan due 2017, which had an aggregate principal amount outstanding of approximately $93.0 million upon repayment. The redemption of the previous senior secured term loan facility resulted in a pre-tax loss of approximately $2.3 million in 2014.

Benefit from Income Taxes

The benefit from income taxes was approximately $3.4 million, $19.4 million, and $3.1 million for 2015, 2014, and 2013, respectively. The effective income tax rate of a benefit of approximately 11.3% for 2015 differs from the United States federal statutory rate of 35% principally as a result of the impact of losses in certain jurisdictions that cannot be benefited, U.S. tax on unremitted earnings, and non-deductible expenses. The effective income tax rate of a benefit of approximately 29.8% for 2014 differs from the United States federal statutory rate of 35% principally as a result of non-deductible goodwill impairment, losses in certain jurisdictions that cannot be benefited and uncertain tax positions, partially offset by the impact of foreign rates and research tax credits. The effective income tax rate of a benefit of approximately 27.2% for 2013 differs from the United States federal statutory rate of 35% principally as a result of losses in certain foreign jurisdictions that cannot be benefited, partially offset by the settlement of an uncertain tax position during the first quarter of 2013 and reductions in reserves for uncertain tax positions as a

40


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

result of the expiration of the statute of limitations on certain items including a $2.1 million reserve reversal for uncertain tax positions recorded as part of acquisition accounting.

Segment Discussion

Our net sales by segment for 2015, 2014 and 2013 were as follows:
 
 
 
 
 
 
 
 
Change
 
 
For the year ended December 31,
 
2015 vs. 2014
 
2014 vs. 2013
 
 
2015
 
2014
 
2013
 
$
 
%
 
$
 
%
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
AQH
 
$
598.1

 
$
595.1

 
$
600.5

 
$
3.0

 
0.5
 %
 
$
(5.4
)
 
(0.9
)%
SCS
 
427.3

 
436.5

 
347.2

 
(9.2
)
 
(2.1
)
 
89.3

 
25.7

ERG
 
350.2

 
294.4

 
274.5

 
55.8

 
19.0

 
19.9

 
7.2

RCH
 
594.9

 
607.5

 
460.8

 
(12.6
)
 
(2.1
)
 
146.7

 
31.8

CAS
 
426.3

 
450.0

 
425.2

 
(23.7
)
 
(5.3
)
 
24.8

 
5.8

AVC
 
129.3

 
162.6

 
179.7

 
(33.3
)
 
(20.5
)
 
(17.1
)
 
(9.5
)
 
 
$
2,526.1

 
$
2,546.1

 
$
2,287.9

 
$
(20.0
)
 
(0.8
)%
 
$
258.2

 
11.3
 %

Operating earnings (loss) by segment for 2015, 2014 and 2013 were as follows:

 
 
 
 
 
 
Change
 
 
For the year ended December 31,
 
2015 vs. 2014
 
2014 vs. 2013
 
 
2015
 
2014
 
2013
 
$
 
%
 
$
 
%
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
AQH
 
$
66.4

 
$
67.6

 
$
67.4

 
$
(1.2
)
 
(1.8
)%
 
$
0.2

 
0.3
 %
SCS
 
39.8

 
44.5

 
20.5

 
(4.7
)
 
(10.6
)
 
24.0

 
*

ERG
 
59.1

 
45.5

 
38.2

 
13.6

 
29.9

 
7.3

 
19.1

RCH
 
(18.4
)
 
17.8

 
9.6

 
(36.2
)
 
*

 
8.2

 
85.4

CAS
 
13.6

 
32.2

 
29.7

 
(18.6
)
 
(57.8
)
 
2.5

 
8.4

AVC
 
(20.8
)
 
(19.2
)
 
(12.9
)
 
(1.6
)
 
(8.3
)
 
(6.3
)
 
(48.8
)
 
 
139.7

 
188.4

 
152.5

 
(48.7
)
 
(25.8
)
 
35.9

 
23.5

Impairment of long-lived assets
     and goodwill
 
(1.6
)
 
(80.4
)
 
(4.3
)
 
78.8

 
98.0

 
(76.1
)
 
*

Unallocated
 
(52.7
)
 
(65.1
)
 
(60.3
)
 
12.4

 
19.0

 
(4.8
)
 
(8.0
)
 
 
$
85.4

 
$
42.9

 
$
87.9

 
$
42.5

 
99.1
 %
 
$
(45.0
)
 
(51.2
)%

*
not meaningful or not applicable

41


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Year Ended December 31, 2015 as compared to the year ended December 31, 2014

AQH Segment

Net sales in the AQH segment increased approximately $3.0 million, or 0.5%, in 2015 as compared to 2014 and were significantly impacted by currency movement. For 2015, changes in foreign currency exchange rates had a negative impact of approximately $23.9 million on net sales in Canada, Europe, and other regions. Excluding the effect of changes in foreign currency exchange rates, net sales in North America, Europe, and other regions for 2015 increased approximately $26.9 million as compared to 2014. The increase in net sales in North America for 2015 is primarily due to higher retail and appliance sales in the United States, and to a lesser extent higher wholesale channel sales. Net sales and operating earnings in the retail channel also reflect higher allowances recorded in the first quarter of 2014 related to in-store displays. The increase in Europe and other regions was mainly driven by higher sales in China.

Operating earnings decreased approximately $1.2 million, or 1.8%, in 2015 as compared to 2014. This decline is primarily the result of additional severance charges recorded in 2015 related to restructuring plans at the Company's European range hood subsidiary of approximately $2.0 million, an increase in product liability expense of approximately $8.7 million, and increased legal fees of approximately $2.0 million. This decline was partially offset by ongoing cost reduction efforts within the segment, lower prices related to the purchase of steel and motors, lower warranty costs, as well as a decrease in net foreign exchange losses related to transactions.

SCS Segment

Net sales in the SCS segment decreased approximately $9.2 million, or 2.1%, in 2015 as compared to the same period of 2014. This decline was driven by decreased shipments of security and home automation products to certain OEM customers, as well as the impact of pricing changes to these same customers. This decline was partially offset by increased sales of security products to other customers during the period. The acquisition of Numera did not contribute any significant amount to net sales in 2015.

Operating earnings decreased approximately $4.7 million, or 10.6%, in 2015 as compared to the same period of 2014. A change in product mix, coupled with increased legal and other professional fees of approximately $2.7 million related primarily to the ongoing U.S. Foreign Corrupt Practices Act investigation, and increased product development costs of approximately $3.4 million contributed to the decline in operating earnings in this segment. Additionally, the acquisition of Numera contributed an operating loss of approximately $2.4 million in 2015. This decline was partially offset by a reduction in selling, general and administrative expense, net of approximately $3.5 million related to a reduction in the fair value of contingent consideration, decreased warranty charges in 2015 as compared to 2014, primarily as a result of a 2014 product safety recall, and lower trade show expenses.

ERG Segment

Net sales in the ERG segment increased approximately $55.8 million, or 19.0%, in 2015 as compared to the same period of 2014. The acquisition of Anthro in 2015 contributed approximately $37.8 million to the increase in this segment. The remaining change in net sales for 2015 as compared to 2014 was primarily attributable to the net effect of an increase in Ergotron branded sales and a decline in retail sales. The increase in net sales for Ergotron branded products was primarily driven by volume increases in ergonomic sit-stand products, and device management carts, in the office, education and healthcare channels. Decreases in retail sales during 2015 are primarily the result of a decline in sales in Europe and Russia.

Operating earnings increased approximately $13.6 million, or 29.9%, in 2015 as compared to the same period of 2014. The acquisition of Anthro contributed approximately $1.2 million to operating earnings in 2015. The remaining increase is primarily the result of increased volume and the relative mix of products sold within the segment.


42


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

RCH Segment

Net sales decreased approximately $12.6 million, or 2.1%, in 2015 as compared to 2014. The incremental impact of the acquisitions of Reznor and Phoenix contributed approximately $70.0 million to net sales during 2015 as compared to 2014. Excluding these acquisitions, net sales for 2015 decreased as compared to 2014 primarily as a result of lower volume, partially offset by price changes and changes in product mix. The decrease in volume is primarily the result of a shift in demand due to customer requests during the fourth quarter of 2014, due in part to regulatory changes, and shipping disruptions experienced in 2015 due to the logistical issues experienced primarily in the first half of 2015 as discussed previously.

Operating earnings decreased approximately $36.2 million in 2015 as compared to 2014. The incremental impact of the acquisitions of Reznor and Phoenix contributed approximately $2.2 million to operating earnings during 2015 as compared to 2014. The decrease in operating earnings reflects higher costs associated with freight, warehousing and distribution of approximately $19.2 million, increased legal fees of approximately $7.0 million, and increased costs associated with our company-owned distribution centers in select markets. An increase in amortization expense related to the acquisition of Reznor and Phoenix and a change in the estimated useful lives of intangible assets acquired also contributed to the decline in operating earnings. Changes in product mix helped to offset some of the decline in operating earnings.

CAS Segment

Net sales declined approximately $23.7 million, or 5.3%, in 2015 as compared to 2014, and were negatively impacted by changes in foreign exchange rates of approximately $2.6 million. This decline in net sales is primarily the result of lower sales to a major customer of approximately $40.0 million because of the cyclical nature of the semiconductor industry in which this customer competes, as well as lower sales due to the discontinuation of certain product lines as discussed previously of approximately $20.0 million. We have offset some of this decline with increased sales to other customers in the CAS segment primarily in the commercial office and healthcare end markets, among others. Backlog for CAS products expected to be filled within the next twelve months was approximately $194.5 million and $224.5 million at December 31, 2015 and 2014, respectively. Backlog related to our major customer noted above was approximately $1.3 million and $14.9 million at December 31, 2015 and 2014, respectively.

Operating earnings in the CAS segment decreased approximately $18.6 million, or 57.8%, in 2015 as compared to 2014. This decline was primarily the result of lower sales volume, manufacturing inefficiencies experienced as a result of our continuing manufacturing rationalization and relocation initiatives, and severance and other charges related to the restructuring plan discussed previously. The decline in operating earnings was partially offset by lower selling expenses and ongoing cost reduction efforts.

AVC Segments

Net sales in the AVC segments decreased approximately $33.3 million, or 20.5%, in 2015 as compared to 2014. The decrease in net sales was driven by the disposition of our TV One subsidiaries to a consortium of management as discussed previously, a non-recurring sale to a customer in 2014, as well as a decrease in volume.

Operating losses increased approximately $1.6 million, or 8.3%, in 2015 as compared to 2014. This increase is primarily the result of severance, inventory and other charges related to the planned restructuring and merger of Gefen into Core Brands as discussed previously and additional inventory charges principally related to product discontinuation. During the second quarter of 2014, we wrote down intangible assets to their fair value of zero. As a result, the AVC segments did not have amortization expense during 2015, partially offsetting the increase in operating losses.


43


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Unallocated

Unallocated operating loss was approximately $52.7 million and $65.1 million for 2015 and 2014, respectively. The lower operating loss was the result of decreases in corporate general administrative expenses, costs of operational improvement initiatives, and acquisition costs, and were partially offset by executive transition employment and separation agreement costs and other fees, and increased legal and professional fees.

Year Ended December 31, 2014 as compared to the year ended December 31, 2013

AQH Segment

Net sales in the AQH segment decreased approximately $5.4 million, or 0.9%, as compared to 2013. This decrease is primarily the result of a decrease in net sales in North America of approximately $6.4 million, partially offset by an increase in net sales in Europe and other regions of approximately $1.0 million. The decline in net sales in North America is primarily due to the exit of the medicine cabinet product line during the first quarter of 2014 of approximately $11.3 million, and due to the result of the change in the exchange rate between the Canadian and US dollar during the year of approximately $8.1 million. Excluding the impact of the exit from the medicine cabinet product line and changes in foreign exchange rates, net sales in North America increased approximately $13.0 million with retail, wholesale and appliance sales all increasing compared to 2013.

Operating earnings increased approximately $0.2 million, or 0.3%, for 2014 as compared to 2013. This increase is primarily the result of a decrease in product liability expense of approximately $1.3 million and manufacturing efficiencies, partially offset by higher prices related to the purchase of steel and motors and changes in product mix.

SCS Segment

Net sales in the SCS segment increased approximately $89.3 million, or 25.7%, in 2014 as compared to 2013, which was driven by increased shipments of security, access control and home automation products. The acquisition of 2GIG in April 2013 as well as organic growth contributed to the increase in net sales.

Operating earnings increased approximately $24.0 million in 2014 as compared to 2013. This increase is primarily the result of an increase in net sales without a proportionate increase in certain costs due to their fixed nature, changes in product mix, as well as a decrease in warranty and inventory reserve charges of approximately $1.3 million related to a product safety recall initiated in 2013 and a decrease in restructuring and transformation charges. Additionally, 2013 reflects an increase in cost of revenues of approximately $3.1 million due to the recognition of inventory at the acquisition date fair value related to 2GIG. Increases in product development costs of approximately $5.2 million in 2014 as compared to 2013 and an increase in amortization expense principally due to the full year impact of intangible assets acquired in connection with the 2GIG acquisition partially offset the increase in operating earnings.

ERG Segment

Net sales in the ERG segment for 2014 increased approximately $19.9 million, or 7.2%, as compared to 2013, primarily attributable to an increase in Ergotron branded sales, partially offset by a decline in retail and original equipment manufacturer sales. The increase in net sales for Ergotron branded products was primarily driven by volume increases in ergonomic sit-stand, device management and healthcare carts. Decreases in sales to original equipment manufacturer customers and retail sales during 2014 are primarily the result of the global decline in desktop personal computer and television sales, as well as our transition away from lower gross margin business.

Operating earnings increased approximately $7.3 million, or 19.1%, in 2014 as compared to 2013. This increase is primarily the result of changes in the relative mix of products sold, an increase in net sales without a proportionate increase in SG&A due to the fixed nature of certain expenses, as well as decreased freight costs.


44


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

RCH Segment

Net sales increased approximately $146.7 million, or 31.8%, in 2014 as compared to 2013. The acquisitions of Reznor and Phoenix contributed approximately $121.0 million to net sales during 2014. The remaining increase in net sales for 2014 as compared to 2013 was primarily the result of increased private label sales to specific customers, higher industry demand, due in part to regulatory changes, and the impact of our company-owned distribution initiative as compared to 2013.

Operating earnings increased approximately $8.2 million, or 85.4%, in 2014 as compared to 2013. The acquisitions of Reznor and Phoenix contributed approximately $6.1 million to operating earnings in 2014. The remaining increase in operating earnings was primarily as a result of lower warranty related costs, decreased labor costs, favorable overhead absorption related to increased finished goods inventory at the end of 2014, and an increase in net sales without a proportionate increase costs due to the fixed nature of certain expenses. This increase was partially offset by increased amortization of intangible assets of approximately $8.7 million primarily related to the acquisitions of Reznor and Phoenix, increased severance and other charges of approximately $3.1 million related to certain exit and transformation activities, higher levels of expense for 2014 as compared to 2013 related to our company-owned distribution centers in select markets, and increased legal expenses of approximately $0.7 million driven by increased activity primarily in the fourth quarter of 2014.
 
CAS Segment

Net sales in the CAS segment increased approximately $24.8 million, or 5.8%, in 2014 as compared to 2013, and were negatively impacted by changes in foreign exchange rates of approximately $7.9 million. Sales relating to a major customer increased approximately $8.5 million during 2014 as compared to 2013. The remaining increase in net sales for 2014 primarily relates to increases in the data center and commercial office end markets, partially offset by a decline in sales in the healthcare end market.

Operating earnings increased approximately $2.5 million, or 8.4%, in 2014 as compared to 2013. This increase is primarily the result of certain warranty charges recorded in 2013 of approximately $6.5 million with no corresponding charge in 2014, as well as an increase in net sales without a proportionate increase in certain expenses due to their fixed nature. Offsetting these increases were manufacturing inefficiencies experienced during 2014 as a result of our continuing manufacturing rationalization and relocation initiatives within the segment, as well as a favorable benefit to bad debt expense in 2013 related to customer recoveries received with no corresponding benefit in 2014.

AVC Segments

Net sales decreased approximately $17.1 million, or 9.5%, in 2014 as compared to 2013, while operating losses increased approximately $6.3 million, or 48.8%, in 2014 as compared to 2013. Continued weakened demand for our audio, video and control products contributed to the decline in operating results for the entities included within the combined AVC segments. The decline in demand was driven, in part, by technology changes that affect certain product categories that the businesses compete in. This caused demand to shift from certain of our legacy products to newer technologies. Also impacting the operating performance of these businesses were sales discounts offered on certain legacy products and inefficiencies experienced in the combination of certain businesses as well as the shifting of logistics to a third party provider.

Unallocated

Unallocated operating losses increased approximately $4.8 million, or 8.0%, in 2014 as compared to 2013. This increase is primarily the result of an increase in corporate general administrative costs primarily related to increased rent and office expenses, salary and other compensation related expenses, consulting, and other costs associated with the transition to an operational company. An increase in acquisition costs also contributed to the increase in operating losses in 2014 as compared to 2013. Partially offsetting this decline was a decrease in costs associated with operational improvement initiatives and a decrease in share based compensation.





45


NORTEK, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and Results of Operations
December 31, 2015

Other Financial Information

Other financial information consists of depreciation and amortization expense, non-cash impairment charges, share-based compensation expense, restructuring and transformation charges, and certain other charges. Other financial information by segment for 2015, 2014 and 2013 was as follows:
 
 
For the year ended December 31, 2015
 
 
AQH
 
SCS
 
ERG
 
RCH
 
CAS
 
AVC
 
Other
 
Total
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Depreciation and amortization
 
$
24.8

 
$
18.5

 
$
22.9

 
$
30.8

 
13.9

 
$
4.8

 
$
2.5

 
$
118.2

Non-cash impairment charges
 

 

 

 

 

 

 
1.6

 
1.6

Share-based compensation expense
 
0.4

 
0.3

 
0.2

 
0.3

 
0.3

 
0.1

 
3.8

 
5.4

Restructuring and transformation charges
 
2.1

 
0.9

 
0.5

 
24.1

 
13.6

 
8.7

 
1.4

 
51.3

Other (1)
 

 
(1.5
)
 

 
(1.0
)
 
(0.3
)
 
2.9

 
4.5

 
4.6

 
 
For the year ended December 31, 2014
 
 
AQH
 
SCS
 
ERG
 
RCH
 
CAS
 
AVC
 
Other
 
Total
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Depreciation and amortization
 
$
24.6

 
$
17.3

 
$
17.5

 
$
24.5

 
12.4

 
$
6.6

 
$
2.5

 
$
105.4

Non-cash impairment charges
 

 

 

 

 

 

 
80.4

 
80.4

Share-based compensation expense
 
0.6

 
0.4

 
0.2

 
0.3

 
0.4

 
0.1

 
4.2

 
6.2

Restructuring and transformation charges
 
0.3

 
2.0

 
0.4

 
14.9

 
3.1

 
3.2

 
6.5

 
30.4

Other (1)
 

 
0.4

 
0.2

 
0.4

 
0.2

 

 
8.6

 
9.8

 
 
For the year ended December 31, 2013
 
 
AQH
 
SCS
 
ERG
 
RCH
 
CAS
 
AVC
 
Other
 
Total
 
 
(Dollar amounts in millions)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Depreciation and amortization
 
$
27.4

 
$
18.1

 
$
17.7

 
$
10.3

 
11.9

 
$
8.7

 
$
1.1

 
$
95.2

Non-cash impairment charges
 

 

 

 

 

 

 
4.3

 
4.3

Share-based compensation expense
 
1.1

 
0.6

 
0.2

 
0.7

 
0.9

 
0.5

 
6.5

 
10.5

Restructuring and transformation charges
 
(0.2
)
 
2.8

 
1.1

 
8.6

 
2.0

 
7.7

 
13.4

 
35.4

Other
 

 
1.8