Fortune Brands Innovations, Inc. (FBIN) FY 2021 MD&A

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

Introduction

This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is a supplement to the accompanying consolidated financial statements and provides additional information on our business, recent developments, financial condition, liquidity and capital resources, cash flows and results of operations. MD&A is organized as follows:

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Overview: This section provides a general description of our business and a discussion of management’s general outlook regarding market demand, our competitive position and product innovation, as well as recent developments we believe are important to understanding our results of operations and financial condition or in understanding anticipated future trends.

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Basis of Presentation: This section provides a discussion of the basis on which our consolidated financial statements were prepared.

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Results of Operations: This section provides an analysis of our results of operations for the two years ended December 31, 2021 and 2020. For a discussion of our 2019 results, please refer to Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Company’s Annual Report on Form 10-K for the year ended December 31, 2020 filed with the SEC on February 24, 2021.

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Liquidity and Capital Resources: This section provides a discussion of our financial condition and an analysis of our cash flows for each of the two years ended December 31, 2021 and 2020. This section also provides a discussion of our contractual obligations, other purchase commitments and customer credit risk that existed at December 31, 2021, as well as a discussion of our ability to fund our future commitments and ongoing operating activities through internal and external sources of capital.

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Critical Accounting Estimates: This section identifies and summarizes those accounting policies that significantly impact our reported results of operations and financial condition and require significant judgment or estimates on the part of management in their application.

Overview

The Company is a leader in home and security products focused on the design, manufacture and sale of market-leading branded products in the following categories: plumbing and accessories, entry door and storm door systems, security products, outdoor performance materials used in decking and railing products, and kitchen and bath cabinetry.

For the year ended December 31, 2021, net sales based on country of destination were:

We believe the Company has certain competitive advantages including market-leading brands, a diversified mix of customer channels, lean and flexible supply chains, a decentralized business model and a strong capital structure, as well as a tradition of strong innovation and customer service. We are focused on outperforming our markets in growth, profitability and returns in order to drive increased stockholder value. We believe the Company’s track record reflects the long-term attractiveness and potential of our categories and our leading brands. As consumer demand and the housing market continue to grow, we expect the benefits of operating leverage and strategic spending to support increased manufacturing capacity and long-term growth initiatives will help us to continue to achieve profitable organic growth.

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We continue to believe our most attractive opportunities are to invest in profitable organic growth initiatives, pursue accretive strategic acquisitions, non-controlling equity investments, and joint ventures, and return cash to stockholders through a combination of dividends and repurchases of shares of our common stock under our share repurchase program as explained in further detail under “Liquidity and Capital Resources” below.

The U.S. market for our home products consists of spending on both new home construction and repair and remodel activities within existing homes, with the substantial majority of the markets we serve consisting of repair and remodel spending. Continued growth in the U.S. market for our home products will largely depend on consumer confidence, employment, wage growth, home prices, stable mortgage rates and credit availability.

We may be impacted by fluctuations in raw materials, component costs, labor costs, tariffs, transportation costs, foreign exchange rates, inflation, interest rates and promotional activity among our competitors, among other things. We strive to offset the potential unfavorable impact of these items with productivity improvements and price increases.

During the two years ended December 31, 2021, our net sales grew at a compounded annual rate of 15.2% as we benefited from a growing U.S. home products market, acquisitions, and growth in international markets. Operating income grew at a compounded annual rate of 24.9% with consolidated operating margins between 12% and 14% from 2019 to 2021. Growth in operating income was primarily due to higher sales volume, changes to our portfolio of businesses, control over our operating expenses and the benefits of manufacturing productivity programs.

During the first half of 2020, in response to the COVID-19 pandemic, a number of countries and U.S. states issued orders requiring nonessential businesses to close (“closure orders”) and persons who were not engaged in essential businesses to stay at home. Generally, states and jurisdictions designated our products, our retail channel partners and residential construction as essential business activities. While our financial results were negatively impacted during the second quarter of 2020 by these closure orders, sales volumes increased as these restrictions were relaxed benefiting our third and fourth quarter 2020 results.

During 2021, the U.S. home products market grew due to increases in repair and remodel and new home construction activity. We believe spending for home repair and remodeling increased approximately 14% and new housing construction experienced approximately 11% growth in 2021 compared to 2020. In 2021, net sales grew 25.7% due to higher sales volume including the favorable comparison to 2020 when our volumes were impacted by the COVID-19 pandemic, the benefit from the Larson acquisition ($403.4 million), price increases to help mitigate the impact of cumulative commodity and transportation cost increases and favorable mix, as well as favorable foreign exchange of approximately $63 million. These benefits were partially offset by higher promotion and volume-based rebate costs. In 2021, operating income increased 36.1% over 2020 primarily due to higher net sales, the benefit from the Larson acquisition, manufacturing productivity improvements, the absence of the 2020 asset impairment charges and lower restructuring and other charges, as well as favorable foreign exchange of approximately $17 million. These benefits were partially offset by higher commodity, employee-related and transportation costs, higher amortization of intangible assets principally due to the Larson acquisition, higher advertising costs, higher promotion and volume-based rebate costs and higher tariffs.

In December 2020, we acquired 100% of the outstanding equity of Larson, the North American market leading brand of storm, screen and security doors, for a total purchase price of approximately $717.5 million, net of cash acquired. We financed the transaction with borrowings under our existing credit facilities. The results of operations are included in the Outdoors & Security segment. The financial results of Larson were included in the Company’s December 31, 2021 and 2020 consolidated balance sheets and the Company's consolidated statements of income and of cash flows beginning January 2021. Larson's net sales, operating income and cash flows from the date of acquisition to December 31, 2020 were not material to the Company.

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In June 2020, we repaid all amounts outstanding on the 3.000% Senior Notes issued in June 2015 at their maturity date using borrowings under our 2019 Revolving Credit Agreement (as defined below). In September 2019, the Company issued $700 million of 3.25% Senior Notes due 2029 (“2019 Notes”) in a registered public offering. The Company used the proceeds from the 2019 Notes offering to repay in full a $350 million term loan and to pay down outstanding balances under our 2019 Revolving Credit Agreement.

In November 2021, the Company entered into a 364-day, $400 million term loan credit agreement (“2021 Term Loan”) for general corporate purposes that matures in November 2022. Interest rates under the 2021 Term Loan are variable based on LIBOR at the time of the borrowing and the Company’s long-term credit rating and can range from LIBOR + 0.625% to LIBOR + 1.25%.

In 2018 our Plumbing segment entered into a strategic partnership with, and acquired non-controlling equity interests in, Flo Technologies, Inc. (“Flo”), a U.S. manufacturer of comprehensive water monitoring and shut-off systems with leak detection technologies. In January 2020, we entered into an agreement to acquire 100% of the outstanding shares of Flo in a multi-phase transaction, which was completed in January 2022. The minority shareholders' substantive participating rights expired on January 1, 2021, at which time we obtained control of, and began consolidating, Flo in our results of operations and statements of financial positions and cash flows. Immediately prior to consolidating Flo, we recognized a non-cash loss of $4.5 million within other expense for the year-ended December 31, 2021, related to the remeasurement of our previously existing investment in Flo. During the fourth quarter of 2021 we recorded a mark-to-market expense of $2.2 million related to the remaining shares held by the minority shareholders.

Basis of Presentation

The consolidated financial statements in this Annual Report on Form 10-K have been derived from the accounts of the Company and its wholly-owned subsidiaries. The Company’s consolidated financial statements are based on a fiscal year ending December 31. Certain of the Company’s subsidiaries operate on a 52 or 53 week fiscal year ending during the month of December.

Results of Operations

The following discussion of both consolidated results of operations and segment results of operations refers to the year ended December 31, 2021 compared to the year ended December 31, 2020. The discussion of consolidated results of operations should be read in conjunction with the discussion of segment results of operations and our financial statements and notes thereto included in this Annual Report on Form 10-K. Unless otherwise noted, all discussion of results of operations are for continuing operations.

Years Ended December 31, 2021 and 2020

Certain items had a significant impact on our results in 2021 and 2020. These included restructuring and other charges, asset impairment charges and the impact of changes in foreign currency exchange rates.

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In 2021, financial results included:

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the impact of foreign exchange primarily due to movement in the Canadian dollar, Mexican peso, British pound and Chinese yuan, which had a favorable impact compared to 2020, of approximately $63 million on net sales and of approximately $17 million both on operating income and net income and

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restructuring and other charges of $20.7 million before tax ($15.9 million after tax), largely related to severance costs associated with the relocation of manufacturing facilities within our Outdoor & Security and Cabinets segments.

In 2020, financial results included:

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restructuring and other charges of $25.1 million before tax ($17.5 million after tax), largely related to headcount actions associated with COVID-19 across all segments and costs associated with changes in our manufacturing processes within our Plumbing segment,

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asset impairment charges of $22.5 million related to the impairment of indefinite-lived tradenames within our Plumbing and Cabinets segments, which were primarily the result of forecasted sales declines resulting from the COVID-19 pandemic,

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actuarial losses within our defined benefit plans of $3.4 million primarily related to decreases in discount rates and differences between expected and actual returns on plan assets and

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the impact of foreign exchange primarily due to movement in the Canadian dollar, British pound, Mexican peso and Chinese yuan, which had an unfavorable impact compared to 2019, of approximately $4 million on net sales and a favorable impact compared to 2019, of approximately $1 million both on operating income and net income.

Total Fortune Brands

Net sales

Net sales increased by $1,565.8 million, or 25.7%, due to higher sales volume including the favorable comparison to 2020 when our volumes were impacted by the COVID-19 pandemic, the benefit from the Larson acquisition ($403.4 million), price increases to help mitigate the impact of cumulative commodity and transportation cost increases and favorable mix, as well as favorable foreign exchange of approximately $63 million. These benefits were partially offset by higher promotion and volume-based rebate costs.

Cost of products sold

Cost of products sold increased by $983.2 million, or 25.0%, due to higher net sales, the impact of the Larson acquisition including higher amortization of the acquisition related inventory fair value adjustment ($3.3 million in 2021), commodity cost inflation, product mix, labor inflation, and higher tariffs, partially offset by the benefit from manufacturing productivity improvements.

Selling, general and administrative expenses

Selling, general and administrative expenses increased by $296.4 million, or 23.1%, due to higher transportation and employee-related costs, the impact of the Larson acquisition and advertising costs.

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Amortization of intangible assets

Amortization of intangible assets increased by $22.1 million primarily due to the Larson acquisition in our Outdoors & Security segment ($18.2 million) and the 2021 consolidation of Flo in our Plumbing segment ($2.6 million).

Asset impairment charges

Asset impairment charges of $22.5 million in 2020 related to indefinite-lived tradenames within our Plumbing and Cabinets segments.

Restructuring charges

Restructuring charges of $13.5 million in 2021 largely related to severance costs associated with the relocation of manufacturing facilities within our Outdoor & Security and Cabinets segments. Restructuring charges of $15.9 million in 2020 largely related to headcount actions associated with COVID-19 across all segments and costs associated with changes in our manufacturing processes within our Plumbing segment.

Operating income

Operating income increased by $289.0 million, or 36.1%, primarily due to higher net sales, the benefit from the Larson acquisition, manufacturing productivity improvements, the absence of the 2020 asset impairment charges and lower restructuring and other charges, as well as favorable foreign exchange of approximately $17 million. These benefits were partially offset by higher commodity, employee-related and transportation costs, higher amortization of intangible assets principally due to the Larson acquisition, higher advertising costs, higher promotion and volume-based rebate costs and higher tariffs.

Interest expense

Interest expense increased by $0.5 million to $84.4 million, due to higher average borrowings partially offset by lower average interest rates.

Other expense (income), net

Other expense (income), net, was expense of $0.9 million in 2021, compared to income of $13.3 million in 2020. The decrease of $14.2 million of income is primarily due to losses of $5.0 million in 2021 and gains of $11.0 million in 2020 related to our investment in Flo prior to its consolidation and unfavorable foreign currency losses, partially offset by higher defined benefit income ($7.8 million increase).

Income taxes

The effective income tax rates for 2021 and 2020 were 23.2% and 23.1%, respectively. The 2021 effective income tax rate was unfavorably impacted by state and local income taxes, foreign income taxed at higher rates and a valuation allowance increase. This expense was offset by favorable benefits for the release of uncertain tax positions, primarily related to statute of limitation lapses, and share-based compensation.

The 2020 effective income tax rate was unfavorably impacted by state and local income taxes and foreign income taxed at higher rates. This expense was offset by a tax benefit related to share-based compensation.

Net income attributable to Fortune Brands

Net income attributable to Fortune Brands was $772.4 million in 2021 compared to $553.1 million in 2020. The increase of $219.3 million was due to higher operating income, lower equity in losses of affiliate and lower noncontrolling interests, partly offset by higher income tax expenses, higher other expense and higher interest expense.

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Results By Segment

Plumbing

Net sales increased by $559.1 million, or 25.4%, due to higher sales volume across all brands and markets, including showroom customers whose locations were negatively impacted in 2020 by the COVID-19 pandemic, and price increases to help mitigate the impact of cumulative commodity and transportation cost increases, as well as favorable foreign exchange of approximately $53 million. These benefits were partially offset by higher volume-based rebate costs.

Operating income increased by $161.8 million, or 34.6%, due to higher net sales, the benefit from manufacturing productivity improvements, the absence of the 2020 asset impairment charge ($13.0 million) and favorable restructuring and other charges, as well as favorable foreign exchange of approximately $21 million. These benefits were partially offset by the impact of higher employee-related, freight, commodity, advertising and tariff costs, higher amortization of intangible assets related to the Flo acquisition and higher volume-based rebate costs.

Outdoors & Security

Net sales increased by $620.7 million, or 43.7%, due to the benefit from the Larson acquisition ($403.4 million), higher sales volume including the favorable comparison to 2020 when our volumes were impacted by the COVID-19 pandemic, price increases to help mitigate the impact of cumulative commodity and transportation cost increases and lower rebate costs due to timing of sales in 2021 versus prior year period, as well as favorable foreign exchange of approximately $1 million. These benefits were partially offset by unfavorable mix primarily driven by materials availability.

Operating income increased by $90.6 million, or 45.0%, due to higher net sales, the benefit from the Larson acquisition and manufacturing productivity improvements. These benefits were partially offset by commodity cost inflation, higher freight and employee-related costs and higher restructuring charges, as well as unfavorable foreign exchange of approximately $1 million.

Cabinets

Net sales increased by $386.0 million, or 15.6%, due to higher sales volume in both our stock and make-to-order products, including the favorable comparison to 2020 when our volumes were impacted by the COVID-19 pandemic, price increases to help mitigate the impact of cumulative commodity and transportation cost increases and favorable mix, as well as favorable foreign exchange of approximately $8 million. These benefits were partially offset by higher volume-based rebate costs.

Operating income increased by $43.6 million, or 18.5%, due to higher net sales, the benefit from manufacturing productivity improvements, the absence of the 2020 asset impairment charge ($9.5 million) and lower advertising, tariff and restructuring costs. These factors were partly offset by higher freight, commodity, and employee-related costs and higher volume-based rebate costs, as well as unfavorable foreign exchange of approximately $3 million.

Corporate

Corporate expenses increased by $7.0 million, or 6.8%, due to higher employee-related and consulting costs. These factors were partly offset by the absence of transaction costs associated with the Larson acquisition in 2020 ($4.5 million) and the absence of the impairment of a long-lived asset in 2020 ($3.6 million).

Liquidity and Capital Resources

Our principal sources of liquidity are cash on hand, cash flows from operating activities, cash borrowed under our credit facility and cash from debt issuances in the capital markets. Our operating income is generated by our subsidiaries. We believe our operating cash flows, including funds available under the credit facility and access to capital markets, provide sufficient liquidity to support the Company’s working capital requirements, capital expenditures and service of indebtedness, as well as to finance acquisitions,

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repurchase shares of our common stock and pay dividends to stockholders, as the Board of Directors deems appropriate.

Our cash flows from operations, borrowing availability and overall liquidity are subject to certain risks and uncertainties, including those described in the section entitled “Item 1A. Risk Factors.” In addition, we cannot predict whether or when we may enter into acquisitions, joint ventures or dispositions, make any purchases of shares of our common stock under our share repurchase programs, or pay dividends, or what impact any such transactions could have on our results of operations, cash flows or financial condition, whether as a result of the issuance of debt or equity securities, or otherwise.

Unsecured Senior Notes

At December 31, 2021, the Company had aggregate outstanding notes in the principal amount of $1.8 billion, with varying maturities (the “Notes”). The Notes are unsecured senior obligations of the Company. The following table provides a summary of the Company’s outstanding Notes, including the carrying value of the Notes, net of underwriting commissions, price discounts and debt issuance costs as of December 31, 2021 and December 31, 2020:

Credit Facilities

In November 2021, the Company entered into a 364-day, $400 million term loan credit agreement (“2021 Term Loan”) for general corporate purposes that matures in November 2022. Interest rates under the 2021 Term Loan are variable based on LIBOR at the time of the borrowing and the Company’s long-term credit rating and can range from LIBOR + 0.625% to LIBOR + 1.25%. Covenants under the 2021 Term Loan are the same as the existing $1.25 billion revolving credit agreement. As of December 31, 2021, we were in compliance with all covenants under this facility.

In September 2019, the Company entered into a second amended and restated $1.25 billion revolving credit facility (the “2019 Revolving Credit Agreement”), and borrowings thereunder will be used for general corporate purposes. The maturity date of the facility is September 2024. Interest rates under the 2019 Revolving Credit Agreement are variable based on LIBOR at the time of the borrowing and the Company’s long-term credit rating, and can range from LIBOR + 0.91% to LIBOR + 1.4%. Company is required to maintain a minimum ratio of consolidated EBITDA to consolidated interest expense of 3.0 to 1.0. Consolidated EBITDA is defined as consolidated net income before interest expense, income taxes, depreciation, amortization of intangible assets, losses from asset impairments, and certain other one-time adjustments. In addition, the Company’s ratio of consolidated debt minus certain cash and cash equivalents to consolidated EBITDA generally may not exceed 3.5 to 1.0. On December 31, 2021 and December 31, 2020, our outstanding borrowings under this credit facility were $520.0 million and 785.0 million, respectively. As of December 31, 2021, we were in compliance with all covenants under this credit facility.

We currently have uncommitted bank lines of credit in China, which provide for unsecured borrowings for working capital of up to $17.5 million in aggregate as of December 31, 2021 and December 31, 2020, of which there were no outstanding balances as of December 31, 2021 and 2020. The weighted-average interest rates on these borrowings were zero in 2021 and 2020.

Commercial Paper

In November 2021, the Company established a commercial paper program (the "Commercial Paper Program") pursuant to which the Company may issue short-term, unsecured commercial paper notes. Amounts available under the Commercial Paper Program may be borrowed, repaid and re-borrowed, with the aggregate principal amount outstanding at any time not to exceed $1.25 billion. The Company’s 2019

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Revolving Credit Agreement is the liquidity backstop for the repayment of any notes issued under the Commercial Paper Program. The Company plans to use net proceeds from any issuances under the Commercial Paper Program for general corporate purposes. There was no commercial paper outstanding as of December 31, 2021.

As of December 31, 2021, the components of external long-term debt were as follows:

In our debt agreements, there are normal and customary events of default which would permit the lenders to accelerate the debt if not cured within applicable grace periods, such as failure to pay principal or interest when due or a change in control of the Company. There were no events of default as of December 31, 2021.

Cash and Seasonality

In 2021, we invested approximately $148.1 million in incremental capacity to support long-term growth potential and new products inclusive of cost reduction and productivity initiatives. We expect capital spending in 2022 to be in the range of $375 to $425 million, reflecting incremental capacity investments in our decking product line within Outdoors & Security. On December 31, 2021, we had cash and cash equivalents of $471.5 million, of which $376.1 million was held at non-U.S. subsidiaries. We manage our global cash requirements considering (i) available funds among the subsidiaries through which we conduct business, (ii) the geographic location of our liquidity needs, and (iii) the cost to access international cash balances. The repatriation of non-U.S. cash balances from certain subsidiaries could have adverse tax consequences as we may be required to pay and record tax expense on those funds that are repatriated.

Our operating cash flows are significantly impacted by the seasonality of our business. We typically generate most of our operating cash flow in the third and fourth quarters of each year. We use operating cash in the first quarter of the year.

Share Repurchases

In 2021, we repurchased 4.7 million shares of our outstanding common stock under the Company’s share repurchase program for $447.7 million. As of December 31, 2021, the Company’s total remaining share repurchase authorization under the remaining program was approximately $414.7 million. The share repurchase program does not obligate the Company to repurchase any specific dollar amount or number of shares and may be suspended or discontinued at any time.

Dividends

In 2021, we paid dividends in the amount of $143.0 million to the Company’s stockholders. Our Board of Directors will continue to evaluate dividend payment opportunities on a quarterly basis. There can be no assurance as to when and if future dividends will be paid, and at what level, because the payment of dividends is dependent on our financial condition, results of operations, cash flows, capital requirements and other factors deemed relevant by our Board of Directors. There are no restrictions on the ability of our subsidiaries to pay dividends or make other distributions to Fortune Brands.

Acquisitions

We periodically review our portfolio of brands and evaluate potential strategic transactions and other capital initiatives to increase stockholder value. In December 2020, we acquired 100% of the outstanding equity of Larson for a total purchase price of approximately $717.5 million, net of cash acquired.

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In 2018 our Plumbing segment entered into a strategic partnership with, and acquired non-controlling equity interests in, Flo Technologies, Inc. (“Flo”), a U.S. manufacturer of comprehensive water monitoring and shut-off systems with leak detection technologies. In January 2020, we entered into an agreement to acquire 100% of the outstanding shares of Flo in a multi-phase transaction, which was completed in January 2022. The minority shareholders' substantive participating rights expired on January 1, 2021, at which time we obtained control of, and began consolidating, Flo in our results of operations and statements of financial positions and cash flows. Immediately prior to consolidating Flo, we recognized a non-cash loss of $4.5 million within other expense for the year-ended December 31, 2021, related to the remeasurement of our previously existing investment in Flo. During the fourth quarter of 2021 we recorded a mark-to-market expense of $2.2 million related to the remaining shares held by the minority shareholders.

Cash Flows

Below is a summary of cash flows for the years ended December 31, 2021 and 2020.

Net cash provided by operating activities was $688.7 million in 2021 compared to $825.7 million in 2020. The $137.0 million decrease in cash provided from 2020 to 2021 was primarily due to an increase in our inventory investments to mitigate the impact of an uncertain and volatile global supply chain environment and higher increases in accounts receivable associated with our sales growth. These factors were partially offset by higher net income.

Net cash used in investing activities was $207.1 million in 2021 compared to $923.5 million in 2020. The decrease in cash used of $716.4 million from 2020 to 2021 was primarily due to the acquisition of Larson in December 2020 ($713.0 million decrease), the acquisition of additional shares of Flo in January and April 2020 ($59.4 million decrease) and the cash acquired during the consolidation of Flo in January 2021, partially offset by higher capital expenditures.

Net cash used in financing activities was $428.6 million in 2021 compared to cash provided by financing activities of $111.6 million in 2020. The increase in cash used of $540.2 million from 2020 to 2021 was primarily due to higher share repurchases in 2021 compared to 2020 ($260.1 million increase), lower net borrowings in 2021 compared to 2020 ($250.0 million decrease), lower proceeds from the exercise of stock options and higher dividends to shareholders ($9.7 million increase).

Pension Plans

Subsidiaries of Fortune Brands sponsor their respective defined benefit pension plans that are funded by a portfolio of investments maintained within our benefit plan trust. In 2021 and 2020, we contributed $21.3 million and $47.7 million, respectively, to our qualified pension plans. In 2022, we expect to make pension contributions of approximately $10.0 million. As of December 31, 2021, the fair value of our total pension plan assets was $816.0 million, representing funding of 92% of the accumulated benefit obligation liability. For the foreseeable future, we believe that we have sufficient liquidity to meet the minimum funding that may be required by the Pension Protection Act of 2006.

Foreign Exchange

We have operations in various foreign countries, principally Canada, Mexico, the United Kingdom, China, South Africa, France and Japan. Therefore, changes in the value of the related currencies affect our financial statements when translated into U.S. dollars.

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Contractual Obligations and Other Commercial Commitments

The following summarizes our contractual obligations and commitments as of December 31, 2021. Purchase obligations were $959.1 million, of which $900.3 million is due within one year. Purchase obligations include contracts for raw materials and finished goods purchases, selling and administrative services, and capital expenditures. Total lease payments under non-cancellable operating leases as of December 31, 2021 were $48.2 million in 2022, $43.3 million in 2023, $34.0 million in 2024, $24.6 million in 2025, $20.4 million in 2026 and $55.2 million thereafter. A final payment of $16.6 million related to our acquisition of Flo was paid in January 2022.

Due to the uncertainty of the timing of settlement with taxing authorities, we are unable to make reasonably reliable estimates of the period of cash settlement of unrecognized tax benefits. Therefore, $83.1 million of unrecognized tax benefits as of December 31, 2021 have been excluded from the paragraph above.

In addition to the contractual obligations and commitments described above, we also had other commercial commitments for which we are contingently liable as of December 31, 2021. Other corporate commercial commitments include standby letters of credit of $37.0 million, in the aggregate, all of which expire in less than one year, and surety bonds of $22.7 million, of which $17.4 million matures in less than one year and $5.3 million matures in 1-3 years. These contingent commitments are not expected to have a significant impact on our liquidity.

Debt payments due during the next five years as of December 31, 2021 are $400 million in 2022, $600 million in 2023, $520 million in 2024, $500 million in 2025, zero in 2026 and $700 million in 2027 and beyond. The Company intends to repay or refinance the $400 million Term Loan on or before the November 2022 maturity date. Interest payments due during the next five years as of December 31, 2021 are $78 million in 2022, $124 million in 2023 through 2024, $56 million in 2025 through 2026 and $68 million in 2027 and beyond.

Foreign Currency Risk

Certain anticipated transactions, assets and liabilities are exposed to foreign currency risk. Principal currencies hedged include the Canadian dollar, the Mexican peso, the British pound and the Chinese yuan. We regularly monitor our foreign currency exposures in order to maximize the overall effectiveness of our foreign currency hedge positions. For additional information on this risk, see Item 7A. “Quantitative and Qualitative Disclosures about Market Risk” in this Annual Report on Form 10-K.

Derivative Financial Instruments

In accordance with Accounting Standards Codification ("ASC") requirements for Derivatives and Hedging, we recognize all derivative contracts as either assets or liabilities on the balance sheet, and the measurement of those instruments is at fair value. If the derivative is designated as a fair value hedge and is effective, the changes in the fair value of the derivative and of the hedged item attributable to the hedged risk are recognized in earnings in the same period. If the derivative is designated as a cash flow hedge, the changes in the fair value of the derivative are recorded in other comprehensive income (“OCI”) and are recognized in the consolidated statement of income when the hedged item affects earnings. If the derivative is designated as an effective economic hedge of the net investment in a foreign operation, the changes in the fair value of the derivative is reported in the cumulative translation adjustment section of OCI. Similar to foreign currency translation adjustments, these changes in fair value are recognized in earnings only when realized upon sale or upon complete or substantially complete liquidation of the investment in the foreign entity.

Deferred currency gains (loss) of $0.3 million, $(3.0) million and $4.1 million (before tax impact) were reclassified into earnings for the years ended December 31, 2021, 2020 and 2019, respectively. Based on foreign exchange rates as of December 31, 2021, we estimate that $1.9 million of net derivative gain

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included in other comprehensive income ("AOCI") as of December 31, 2021, will be reclassified to earnings within the next twelve months.

Recently Issued Accounting Standards

The adoption of recent accounting standards, as discussed in Note 2, “Significant Accounting Policies,” to our Consolidated Financial Statements, has not had and is not expected to have a significant impact on our revenue, earnings or liquidity.

Critical Accounting Estimates

Our significant accounting policies are described in Note 2, “Significant Accounting Policies,” of the Notes to Consolidated Financial Statements in Item 8 of this Annual Report on Form 10-K. The Consolidated Financial Statements are prepared in conformity with U.S. generally accepted accounting principles (“GAAP”). Preparation of the financial statements requires us to make judgments, estimates and assumptions that affect the amounts of assets and liabilities reflected in the financial statements and revenues and expenses reported for the relevant reporting periods. We believe the policies discussed below are the Company’s critical accounting policies as they include the more significant, subjective and complex judgments and estimates made when preparing our consolidated financial statements.

Inventories

Inventory provisions are recorded to reduce inventory to the net realizable dollar value for obsolete or slow moving inventory based on assumptions about future demand and marketability of products, the impact of new product introductions, inventory levels and turns, product spoilage and specific identification of items, such as product discontinuance, engineering/material changes, or regulatory-related changes. In accordance with this policy, our inventory provision was $50.7 million and $51.2 million as of December 31, 2021 and 2020, respectively.

Business Combinations

We account for business combinations under the acquisition method of accounting in accordance with ASC Topic 805, Business Combinations, which requires an allocation of the consideration we paid to the identifiable assets, intangible assets and liabilities based on the estimated fair values as of the closing date of the acquisition. The excess of the fair value of the purchase price over the fair values of these identifiable assets, intangible assets and liabilities is recorded as goodwill.

Purchased intangibles other than goodwill are initially recognized at fair value and amortized over their useful lives unless those lives are determined to be indefinite. The valuation of acquired assets will impact future operating results. The fair value of identifiable intangible assets is determined using an income approach on an individual asset basis. Specifically, we use the multi-period excess earnings method to determine the fair value of customer relationships and the relief-from-royalty approach to determine the fair value of the tradename and proprietary technology. Determining the fair value of acquired intangibles involves significant estimates and assumptions, including forecasted revenue growth rates, EBITDA margins, percentage of revenue attributable to the tradename, contributory asset charges, customer attrition rate, market-participant discount rates and the assumed royalty rates.

The determination of the useful life of an intangible asset other than goodwill is based on factors including historical tradename performance with respect to consumer name recognition, geographic market presence, market share, plans for ongoing tradename support and promotion, customer attrition rate, and other relevant factors.

Goodwill and Indefinite-lived Intangible Assets

In accordance with ASC requirements for Intangibles - Goodwill and Other, goodwill is tested for impairment at least annually in the fourth quarter and written down when impaired. An interim impairment test is performed if an event occurs or conditions change that would more likely than not reduce the fair value of the reporting unit below the carrying value.

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To evaluate the recoverability of goodwill, we first assess qualitative factors to determine whether it is more likely than not that goodwill is impaired. Qualitative factors include changes in volume, margin, customers and the industry. If it is deemed more likely than not that goodwill for a reporting unit is impaired, we will perform a quantitative impairment test using a weighting of the income and market approaches. For the income approach, we use a discounted cash flow model, estimating the future cash flows of the reporting units to which the goodwill relates and then discounting the future cash flows at a market-participant-derived discount rate. In determining the estimated future cash flows, we consider current and projected future levels of income based on management’s plans for that business; business trends, prospects and market and economic conditions; and market-participant considerations. Furthermore, our cash flow projections used to assess impairment of our goodwill and other intangible assets are significantly influenced by our projection for the U.S. home products market, our annual operating plans finalized in the fourth quarter of each year, and our ability to execute on various planned cost reduction initiatives supporting operating income improvements. Our projection for the U.S. home products market is inherently uncertain and is subject to a number of factors, such as employment, home prices, credit availability, new home starts and the rate of home foreclosures. For the market approach, we apply market multiples for peer groups to the current operating results of the reporting units to determine each reporting unit’s fair value. The Company’s reporting units are operating segments, or one level below operating segments when appropriate. When the estimated fair value of a reporting unit is less than its carrying value, we measure and recognize the amount of the goodwill impairment loss based on that difference.

The significant assumptions that are used to determine the estimated fair value for goodwill impairment testing include the following: third-party market forecasts of U.S. new home starts and home repair and remodel spending; management’s sales, operating income and cash flow forecasts; peer company EBITDA earnings multiples; the market-participant-based discount rate; and the perpetuity growth rate. Our estimates of reporting unit fair values are based on certain assumptions that may differ from our historical and future actual operating performance. Specifically, assumptions related to growth in the new construction and repair and remodel segments of the U.S. home products markets drive our forecasted sales growth. The market forecasts are developed using independent third-party forecasts from multiple sources. In addition, estimated future operating income and cash flow consider our historical performance at similar levels of sales volume and management’s future operating plans as reflected in annual and long-term plans that are reviewed and approved by management.

The significant assumptions used to estimate the fair values of the goodwill tested quantitatively during the year ended December 31, 2021 were as follows:

(a)
Weighted by relative fair value of the goodwill that was tested quantitatively.

(b)
Selected long-term revenue growth rate within 10-year projection period for the goodwill that was tested quantitatively.

A 50 basis point change in any of the significant assumptions during the year ended December 31, 2021 would not have resulted in an impairment being recognized when estimating the fair value of our reporting unit goodwill.

Certain of our tradenames have been assigned an indefinite life as we currently anticipate that these tradenames will contribute cash flows to the Company indefinitely. Indefinite-lived intangible assets are not amortized, but are evaluated at least annually to determine whether the indefinite useful life is appropriate. We measure the fair value of identifiable intangible assets upon acquisition and we review for impairment annually in the fourth quarter and whenever market or business events indicate there may be a potential impairment of that intangible. Impairment losses are recorded to the extent that the carrying value of the indefinite-lived intangible asset exceeds its fair value. The significant assumptions that are used to determine the estimated fair value for indefinite-lived intangible assets upon acquisition and

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subsequent impairment testing are forecasted revenue growth rates; the assumed royalty rates; and the market-participant discount rates.

We first assess qualitative factors to determine whether it is more likely than not that an indefinite-lived intangible asset is impaired. Qualitative factors include changes in volume, customers and the industry. If it is deemed more likely than not that an intangible asset is impaired, we will perform a quantitative impairment test. We measure fair value of our indefinite-lived tradenames using the relief-from-royalty approach which estimates the present value of royalty income that could be hypothetically earned by licensing the brand name to a third party over the remaining useful life. The determination of fair value using this technique requires the use of estimates and assumptions related to forecasted revenue growth rates, the assumed royalty rates and the market-participant discount rates. During our 2021 annual impairment test, of our $711.1 million indefinite lived tradenames, we tested $355.4 million quantitatively, and the remainder was assessed using qualitative factors. There were no impairments for the year ended December 31, 2021. See Note 5, “Goodwill and Identifiable Intangible Assets,” for additional information.

During the second quarter of 2020, extended closures of luxury plumbing showrooms associated with COVID-19 led to lower than expected sales related to an indefinite-lived tradename within the Plumbing segment, which combined with the updated financial outlook compared to previous forecasts and the continued uncertainty of the pandemic on the sales and profitability related to the tradename led us to conclude that it was more likely than not that the indefinite-lived tradename was impaired. Therefore, we performed an interim impairment test as of June 30, 2020, and as a result we recognized a pre-tax impairment charge of $13.0 million related to this tradename. We also performed an evaluation of the useful life of this tradename and determined it was no longer indefinite-lived due to changes in long-term management expectations and future operating plans. As a result, the remaining carrying value of this tradename is being amortized over its estimated useful life of 30 years.

In the first quarter of 2020, we recognized an impairment charge of $9.5 million related to an indefinite-lived tradename in our Cabinets segment. This charge was primarily the result of lower expected sales of custom cabinetry products related to the impact of COVID-19. In the fourth quarter of 2019, we recognized an impairment charge of $12.0 million related to the same indefinite-lived tradename, which was the result of a strategic shift associated with new segment leadership and acceleration of our capacity rebalancing initiatives from custom cabinetry products to value-based cabinetry products as a result of lower than expected sales of custom cabinetry products compared to prior forecasts. As of December 31, 2021, the carrying value of this tradename was $29.1 million.

In the third quarter of 2019, we recognized an impairment charge of $29.5 million related to a second indefinite-lived tradename in our Cabinets segment, which was primarily the result of a continuing shift in consumer demand from semi-custom cabinetry products to value-priced cabinetry products, which led to consecutive downward adjustments of internal sales forecasts and future growth rates associated with the tradename. As of December 31, 2021, the carrying value of this tradename was $85.0 million.

The fair values of the impaired tradenames were measured using the relief-from-royalty approach, which estimates the present value of royalty income that could be hypothetically earned by licensing the tradename to a third party over its remaining useful life. Some of the more significant assumptions inherent in estimating the fair values include forecasted revenue growth rates, assumed royalty rates, and market-participant discount rates that reflect the level of risk associated with the tradenames’ future revenues and profitability. We selected the assumptions used in the financial forecasts using historical data, supplemented by current and anticipated market conditions, estimated growth rates, and management plans. These assumptions represent level 3 inputs of the fair value hierarchy (refer to Note 9).

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The significant assumptions used to estimate the fair values of the tradenames tested quantitatively during the years ended December 31, 2021 and 2020 were as follows:

(a)
Weighted by the relative fair value of the tradenames that were tested quantitatively.

(b)
Represents estimated percentage of sales a market-participant would pay to license the tradenames that were tested quantitatively.

(c)
Selected long-term revenue growth rate within 10-year projection period of the tradenames that were tested quantitatively.

A 50 basis point change in any of the significant assumptions used during the year ended December 31, 2021 would not have resulted in an impairment being recognized when estimating the fair value of our indefinite-lived tradenames.

Defined Benefit Plans

We have a number of pension plans in the United States, covering many of the Company’s employees. In addition, the Company provides postretirement health care and life insurance benefits to certain retirees. Service cost for 2021 relates to benefit accruals for an hourly Union group within the defined benefit plan for our Outdoors & Security segment. All other benefit accruals under our defined benefit pension plans were frozen as of, or prior to, December 31, 2016.

We recognize changes in the fair value of pension plan assets and net actuarial gains or losses in excess of 10 percent of the greater of the fair value of pension plan assets or each plan’s projected benefit obligation (the “corridor”) in earnings immediately upon remeasurement, which is at least annually in the fourth quarter of each year. Net actuarial gains and losses occur when actual experience differs from any of the assumptions used to value defined benefit plans or when assumptions change as they may each year. The primary factors contributing to actuarial gains and losses are changes in the discount rate used to value obligations as of the measurement date and the differences between expected and actual returns on pension plan assets. This accounting method results in the potential for volatile and difficult to forecast gains and losses. The pre-tax recognition of actuarial losses was $0.8 million and $2.8 million in 2021 and 2020, respectively. The total net actuarial losses in accumulated other comprehensive income for all defined benefit plans were $39.6 million as of December 31, 2021, compared to $87.1 million as of December 31, 2020.

We record amounts relating to these defined benefit plans based on various actuarial assumptions, including discount rates, assumed rates of return, compensation increases, turnover rates and health care cost trend rates. We review our actuarial assumptions on an annual basis and make modifications to the assumptions based on current economic conditions and trends. We believe that the assumptions utilized in recording our obligations under our plans are reasonable based on our experience and on advice from our independent actuaries; however, differences in actual experience or changes in the assumptions may materially affect our financial condition or results of operations. The expected rate of return on plan assets is determined based on the nature of the plans’ investments, our current asset allocation and our expectations for long-term rates of return. The weighted-average long-term expected rate of return on pension plan assets for the years ended December 31, 2021 and 2020 was 4.4% and 4.5%, respectively. Compensation increases reflect expected future compensation trends. The discount rate used to measure obligations is based on a spot-rate yield curve on a plan-by-plan basis that matches projected future benefit payments with the appropriate interest rate applicable to the timing of the projected future benefit payments. The bond portfolio used for the selection of the discount rate is from the top quartile of bonds rated by nationally recognized statistical rating organizations, and includes only non-callable bonds and those that are deemed to be sufficiently marketable with a Moody’s credit rating

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of Aa or higher. The weighted-average discount rate for defined benefit liabilities as of December 31, 2021 and 2020 was 2.9% and 2.6%, respectively.

For postretirement benefits, our health care trend rate assumption is based on historical cost increases and expectations for long-term increases. As of December 31, 2021, for postretirement medical and prescription drugs in the next year, our assumption was an assumed rate of increase of 6.3% for pre-65 retirees and 6.7% for post-65 retirees, declining until reaching an ultimate assumed rate of increase of 4.5% per year in 2028. As of December 31, 2020, for postretirement medical and prescription drugs in the next year, our assumption was an assumed rate of increase of 6.4% for pre-65 retirees and 7.4% for post-65 retirees, declining until reaching an ultimate assumed rate of increase of 4.5% per year in 2027.

Below is a table showing pre-tax pension and postretirement expenses, including the impact of actuarial gains and losses:

The actuarial losses in 2021 were principally due to lower than expected return on plan assets. The actuarial losses in 2020 were principally due to changes in discount rates offset by positive asset returns. Discount rates in 2021 used to determine benefit obligations increased by an average of 30 basis points for pension benefits. Discount rates for 2021 postretirement benefits decreased an average of 200 basis points mainly due to the acquisition of Larson. Discount rates in 2020 used to determine benefit obligations decreased by an average of 70 basis points for pension benefits. Discount rates for 2020 postretirement benefits decreased an average of 50 basis points. Our actual return on plan assets in 2021 was 6.6% compared to an actuarial assumption of an average 4.4% expected return. Our actual return on plan assets in 2020 was 16.5% compared to an actuarial assumption of an average 4.5% expected return. Significant actuarial losses in future periods would be expected if discount rates decline, actual returns on plan assets are lower than our expected return, or a combination of both occurs.

A 25 basis point change in our discount rate assumption would lead to an increase or decrease in our pension and postretirement liability of approximately $27 million. A 25 basis point change in the long-term rate of return on plan assets used in accounting for our pension plans would have a $2.0 million impact on pension expense. In addition, if required, actuarial gains and losses will be recorded in accordance with our defined benefit plan accounting method as previously described. It is not possible to forecast or predict whether there will be actuarial gains and losses in future periods, and if required, the magnitude of any such adjustment. These gains and losses are driven by differences in actual experience or changes in the assumptions that are beyond our control, such as changes in interest rates and the actual return on pension plan assets.

Income Taxes

In accordance with ASC requirements for Income Taxes, we establish deferred tax liabilities or assets for temporary differences between financial and tax reporting basis and subsequently adjust them to reflect changes in tax rates expected to be in effect when the temporary differences reverse. We record a

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valuation allowance reducing deferred tax assets when it is more likely than not that such assets will not be realized.

We record liabilities for uncertain income tax positions based on a two-step process. The first step is recognition, where we evaluate whether an individual tax position has a likelihood of greater than 50% of being sustained upon examination based on the technical merits of the position, including resolution of any related appeals or litigation processes. For tax positions that are currently estimated to have a less than 50% likelihood of being sustained, no tax benefit is recorded. For tax positions that have met the recognition threshold in the first step, we perform the second step of measuring the benefit to be recorded. The actual benefits ultimately realized may differ from our estimates. In future periods, changes in facts, circumstances, and new information may require us to change the recognition and measurement estimates with regard to individual tax positions. Changes in recognition and measurement estimates are recorded in the consolidated statement of income and consolidated balance sheet in the period in which such changes occur. As of December 31, 2021, we had liabilities for unrecognized tax benefits pertaining to uncertain tax positions totaling $83.1 million. It is reasonably possible that the unrecognized tax benefits may decrease in the range of $4.1 million to $41.9 million in the next 12 months primarily as a result of the conclusion of U.S. federal, state and foreign income tax proceedings.

Customer Program Costs

Customer programs and incentives are a common practice in our businesses. Our businesses incur customer program costs to obtain favorable product placement, to promote sales of products and to maintain competitive pricing. We record estimates to reduce revenue for customer programs and incentives, which are considered variable consideration, and include price discounts, volume-based incentives, promotions and cooperative advertising when revenue is recognized in order to determine the amount of consideration the Company will ultimately be entitled to receive. These estimates are based on historical and projected experience for each type of customer. In addition, for certain customer program incentives, we receive an identifiable benefit (goods or services) in exchange for the consideration given and record the associated expenditure in selling, general and administrative expenses. Volume allowances are accrued based on management’s estimates of customer volume achievement and other factors incorporated into customer agreements, such as new products, store sell-through, merchandising support, levels of returns and customer training. Management periodically reviews accruals for these rebates and allowances, and adjusts accruals when circumstances indicate (typically as a result of a change in volume expectations).