# ADVANCED DRAINAGE SYSTEMS, INC. (WMS) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from ADVANCED DRAINAGE SYSTEMS, INC.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/1604028/000160402822000025/wms-20220331.htm
Accession: 0001604028-22-000025
Filing date: 2022-05-19
Report date: 2022-03-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Published MD&A gate trimmed front/tail over-capture.
Confidence: high

Company profile: /company/WMS/
All MD&A years: /company/WMS/mda/
Next year: /company/WMS/mda/fy2023/ (FY 2023)

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

Our fiscal year begins on April 1 and ends on March 31. Unless otherwise noted, references to “year” pertain to our fiscal year. For example, “2022” refers to fiscal 2022, which is the period from April 1, 2021 to March 31, 2022.

The following discussion and analysis of our financial condition and results of our operations should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements that are based on the beliefs of our management, as well as assumptions made by, and information currently available to, our management. Our actual results could differ materially from those discussed below. Factors that could cause or contribute to such differences include, but are not limited to, those identified below, and those discussed in the sections titled “Item 1A. Risk Factors” and “Cautionary Statement About Forward-Looking Statements” included elsewhere in this Annual Report on Form 10-K. Please read the following discussion together with the sections titled “Item 1A. Risk Factors” and our consolidated financial statements, including the related notes, included in “Item 8. Financial Statements and Supplementary Data” of this Form 10-K.

Overview

We are the leading manufacturer of high performance thermoplastic corrugated pipe, providing a comprehensive suite of water management products and superior drainage solutions for use in the underground construction and infrastructure marketplace. Our innovative products are used across a broad range of end markets and applications, including non-residential, residential, agriculture and infrastructure applications. We have established a leading position in many of these end markets by leveraging our national sales and distribution platform, our overall product breadth and scale and our manufacturing excellence. In the United States, our national footprint combined with our strong local presence and broad product offering make us the leader in an otherwise highly fragmented sector comprised of many smaller competitors. With the acquisition of Infiltrator in the second quarter of fiscal 2020, we are now a leading provider of plastic leachfield chambers, septic tanks and accessories for use primarily in residential applications.

Impact of COVID-19

In March 2020, the World Health Organization categorized the novel coronavirus (“COVID-19”) as a pandemic, and it continues to spread throughout the United States and globally. The COVID-19 pandemic has resulted, and is likely to continue to result, in significant economic disruptions and may have an adverse effect on our business. Significant uncertainty exists concerning the magnitude of the impact and duration of the COVID-19 pandemic.

Key Factors Affecting Our Results of Operations

Product Demand - There are numerous factors that influence demand for our products. Our businesses are cyclical in nature and sensitive to general economic conditions, primarily in the United States, Canada, Mexico and South America. The non-residential, residential, agricultural and infrastructure markets we serve are affected by the availability of credit, lending practices, interest rates and unemployment rates. Demand for new homes, farm income, commercial development and highway infrastructure spending have a direct impact on our financial condition and results of operations. Accordingly, the following factors may have a direct impact on our business in the markets in which our products are sold:

•the strength of the economy;

•the amount and type of non-residential and residential construction;

•funding for infrastructure spending;

•farm income and agricultural land values;

•inventory of improved housing lots;

•changes in raw material prices;

•the availability and cost of credit;

•non-residential occupancy rates;

•commodity prices; and

•demographic factors such as population growth and household formation.

Product Pricing - The price of our products is impacted by competitive pricing dynamics in our industry as well as by raw material input costs. Our industry is highly competitive and the sales prices for our products may vary based on the sales policies of our competitors. Raw material costs represent a significant portion of the cost of goods sold for our products. We aim to increase our product selling prices in order to cover raw material price increases, but the inability to do so could

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impact our profitability. Movements in raw material, logistics or other overhead costs and resulting changes in the selling prices may also impact changes in period-to-period comparisons of net sales.

Material Conversion - Our HDPE and PP pipe, plastic leachfield chambers, septic tanks and related water management product lines compete with other manufacturers of corrugated polyethylene pipe as well as manufacturers of alternative products made with traditional materials, such as concrete, steel and PVC. Our net sales are driven by market trends, including the continued increase in adoption of thermoplastic corrugated pipe products as a replacement for traditional materials. Thermoplastic corrugated pipe is generally lighter, more durable, more cost effective and easier to install than comparable products made from traditional materials. We believe customers will continue to acknowledge the superior attributes and compelling value proposition of our thermoplastic products and expanded regulatory approvals allow for their use in new markets and geographies. In addition, we believe that PP pipe products will also help accelerate conversion given the additional applications for which our PP pipe products can be used.

We believe the adoption of HDPE and PP pipe outside of the United States is still in its early stages and represents a significant opportunity for us to continue to increase the conversion to our products from traditional products in these markets, including Canada, Mexico and South America where we operate.

Growth in Allied Products & Other - Our Allied Products & Other include storm and septic chambers, PVC drainage structures, fittings, stormwater filters and water separators. These products complement our pipe product lines and allow us to offer a comprehensive water management solution to our customers and drive organic growth. Our leading market position in pipe products allows us to cross-sell Allied Products & Other effectively. Our comprehensive offering of Allied Products & Other also helps us increase pipe sales in certain markets. Our Allied Products & Other are less sensitive to increases in resin prices since resin prices represent a smaller percentage of the cost for Allied Products & Other.

Our leading position in the pipe market has allowed us to increase organic growth of our Allied Products & Other. We also expect to expand our Allied Product offerings through acquisitions.

Raw Material Costs - Our raw material cost and product selling prices fluctuate with changes in the price of resins utilized in production. We actively manage our resin purchases and pass fluctuations in the cost of resin through to our customers, where possible, in order to maintain our profitability. Fluctuations in the price of crude oil and natural gas prices may impact the cost of resin. In addition, changes in and disruptions to existing ethylene or polyethylene capacities could also significantly increase resin prices, often within a short period of time, even if crude oil and natural gas prices remain low. Our ability to pass through raw material price increases to our customers may, in some cases, lag the increase in our costs of goods sold. Sharp rises in raw material prices over a short period of time have historically occurred with a significant supply disruption (hurricanes or fires at petrochemical facilities), which may increase prices to levels that cannot be fully passed through to customers due to pricing of competing products made from different raw materials or the anticipated length of time the raw material pricing will stay elevated. For more information regarding risks relating to our raw material costs, see “Item 1A. Risk Factors — Risks Relating to Our Business.”

We currently purchase in excess of 1.3 billion pounds of virgin and recycled resin annually from approximately 500 suppliers in North America. As a high-volume buyer of resin, we are able to achieve economies of scale to negotiate favorable terms and pricing. Our purchasing strategies differ based on the material (virgin resin versus recycled material) ordered for delivery to our production locations. The price movements of the different materials also vary, resulting in the need to use a number of strategies to reduce volatility.

In order to reduce the volatility of raw material costs in the future, our raw material strategies for managing our costs include the following:

•increasing the use of less price-volatile recycled HDPE resin in our pipe products in place of virgin resin while meeting or exceeding industry standards;

•internally processing an increasing percentage of our recycled HDPE resin in order to closely monitor quality and minimize costs;

•managing a resin price risk program that may entail both physical fixed price and volume contracts; and

•maintaining supply agreements with our major resin suppliers that provide multi-year terms and volumes that are in excess of our projected consumption.

We also consume a large amount of energy and other petroleum products in our operations, including the electricity we use in our manufacturing process as well as the diesel fuel consumed in delivering a significant volume of products to our

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customers through our in-house fleet. As a result, our operating profit also depends upon our ability to manage the cost of the energy and fuel we require, as well as our ability to pass through increased prices or surcharges to our customers.

Seasonality - Our operating results are impacted by seasonality. Historically, sales of our products have been higher in the first and second quarters of each fiscal year due to favorable weather and longer daylight conditions accelerating construction project activity during these periods while fourth quarter results are impacted by the timing of spring in the northern United States and Canada. Seasonal variations in operating results may also be significantly impacted by inclement weather conditions, such as cold or wet weather, which can delay projects, resulting in decreased net sales for one or more quarters, but we believe that these delayed projects generally result in increased net sales during subsequent quarters.

In the non-residential, residential and infrastructure markets in the northern United States and Canada, the construction season typically begins to gain momentum in late March and lasts through November, before winter sets in, significantly slowing the construction markets. In the southern and western United States, Mexico, Central America and South America, the construction markets are less seasonal. The agricultural drainage market is concentrated in the early spring just prior to planting and in the fall just after crops are harvested prior to freezing of the ground in winter.

Currency Exchange Rates - Although we sell and manufacture our products in many countries, our sales and production costs are primarily denominated in U.S. dollars. We have wholly-owned facilities in Canada, the Netherlands and joint venture facilities in Mexico, Chile, Brazil, Argentina, Colombia and Peru. The functional currencies in the areas in which we have wholly-owned facilities and joint venture facilities other than the U.S. dollar are the Canadian dollar, Euro, Mexican peso, Chilean peso, Brazilian real and Colombian peso. From time to time, we use derivatives to reduce our exposure to currency fluctuations.

Executive Summary of Our Fiscal Year 2022 Results

Fiscal Year 2022 Results

•Net sales increased 39.7% to $2.8 billion

•Net income increased to $275.0 million, compared to net income of $226.1 million in the prior year

•Adjusted EBITDA increased 19.2% to $676.0 million

•Cash provided by operating activities decreased 39.2% to $274.9 million

•Free cash flow decreased 66.3% to $125.8 million

Net sales increased $786.5 million, or 39.7%, to $2,769.3 million, as compared to $1,982.8 million in the prior year. Domestic pipe sales increased $496.0 million, or 46.8%, to $1,555.2 million. Domestic allied products & other sales increased $126.9 million, or 28.7%, to $569.4 million. Infiltrator sales increased $154.1 million, or 38.7%, to $551.9 million. These increases were driven by strong sales growth in both the U.S. construction and agriculture end markets. International sales increased $59.9 million, or 36.3%, to $224.7 million, driven by double-digit sales growth in the Canadian, Mexican and Exports businesses.

Gross profit increased $110.3 million, or 16.0%, to $800.4 million as compared to $690.1 million in the prior year. The increase is primarily due an increase in sales volume and favorable pricing on pipe, onsite septic and allied products. These increases were partially offset by inflationary cost pressure on materials, transportation and labor, as well as an increase in the use of third-party logistics services. Labor shortages and absenteeism related to COVID-19 remain a challenge in both manufacturing and transportation operations. In addition, the Company recorded $19.2 million of non-cash, stock-based compensation expense in Cost of goods sold - ESOP acceleration and special dividend compensation expense.

Adjusted EBITDA, a non-GAAP financial measure, increased $109.1 million, or 19.2%, to $676.0 million, as compared to $567.0 million in the prior year. The increase is primarily due to the factors mentioned above. As a percentage of net sales, Adjusted EBITDA was 24.4% as compared to 28.6% in the prior year.

Description of our Segments

We operate our business in three distinct reportable segments: “Pipe”, “International” and “Infiltrator.” “Allied Products & Other” represents our Allied Products and all other business segments.

We generate a greater proportion of our net sales and gross profit in our Pipe segment, which consists of Pipe product sales in all regions of the United States. We expect the percentage of total net sales and gross profit derived from our other

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segments to continue to increase in future periods as we continue to expand non-Pipe product and our international presence. See “Note 18. Business Segment Information,” to our audited consolidated financial statements included in “Item 8. Financial Statements and Supplementary Data” of this Form 10-K.

Pipe – Our Pipe segment manufactures and markets high performance thermoplastic corrugated pipe throughout the United States. We maintain and serve these markets through product distribution relationships with many of the largest national and independent waterworks distributors, buying groups and co-ops, major national retailers as well as an extensive network of hundreds of small to medium-sized distributors across the United States.

Infiltrator – Infiltrator is a leading national provider of plastic leachfield chambers and systems, septic tanks and accessories, primarily for use in residential applications. Infiltrator products are used in onsite septic wastewater treatment systems in the United States and Canada.

International – Our International segment manufactures and markets products in regions outside of the United States, with a strategy focused on our owned facilities in Canada and those markets serviced through our joint ventures in Mexico and South America. Pipe manufactured in these countries is primarily sold into the same region. Our joint venture strategy has provided us with local and regional access to new markets. The unconsolidated sales of the South American Joint Venture were $61.6 million, $45.6 million, and $52.5 million, in fiscal 2022, 2021, and 2020, respectively.

Allied Products & Other – Our other operating segments manufacture a range of Allied Products & Other that are complementary to our Pipe products. Our Allied Products & Other offer adjacent technologies to our core Pipe offering, presenting a complete drainage solution for our clients and customers.

Results of Operations

Fiscal Year Ended March 31, 2022 Compared with Fiscal Year Ended March 31, 2021

The following table summarizes our operating results as a percentage of net sales that have been derived from our Consolidated Financial Statements for the fiscal years ended March 31, 2022 and 2021. We believe this presentation is useful to investors in comparing historical results.

[[GREPCENT_TABLE]]
[["Consolidated Statements of Operations data:","2022","","2021"],["(Amounts in thousands)"],["Net sales","$","2,769,315","","","100.0","%","","$","1,982,780","","","100.0","%"],["Cost of goods sold","1,949,750","","70.4","","1,292,698","","","65.2"],["Cost of goods sold - ESOP acceleration and special dividend compensation","19,181","","0.7","","\u2014","","","\u2014"],["Gross profit","800,384","","28.9","","690,082","","","34.8"],["Selling, general and administrative expenses","309,840","","11.2","","267,574","","","13.5"],["Selling, general and administrative - ESOP acceleration and special dividend compensation","11,254","","0.4","","\u2014","","","\u2014"],["Loss on disposal of assets and costs from exit and disposal activities","3,398","","0.1","","4,275","","","0.2"],["Intangible amortization","63,974","","2.3","","73,708","","","3.7"],["Income from operations","411,918","","14.9","","344,525","","","17.4"],["Interest expense","33,550","","1.2","","35,658","","","1.8"],["Derivative gains and other income, net","(5,143)","","(0.2)","","(3,404)","","","(0.2)"],["Income before income taxes","383,511","","13.8","","312,271","","","15.7"],["Income tax expense","110,071","","4.0","","86,382","","","4.4"],["Equity in net income of unconsolidated affiliates","(1,586)","","(0.1)","","(201)","","","\u2014"],["Net income","275,026","","9.9","","226,090","","","11.4"],["Less: net income attributable to the non- controlling interest","3,695","","0.1","","1,860","","","0.1"],["Net income attributable to ADS","$","271,331","","","9.8","%","","$","224,230","","","11.3","%"]]
[[/GREPCENT_TABLE]]

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Net sales – The following table presents net sales to external customers by reportable segment for the fiscal years ended March 31, 2022 and 2021.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","$ Variance","","% Variance"],["Pipe","$","1,539,434","","","$","1,052,920","","","$","486,514","","","46.2","%"],["Infiltrator","460,500","","329,144","","131,356","","39.9"],["International","205,312","","158,269","","47,043","","29.7"],["Allied Products & Other","564,069","","442,447","","121,622","","27.5"],["Total Consolidated","$","2,769,315","","","$","1,982,780","","","$","786,535","","","39.7","%"]]
[[/GREPCENT_TABLE]]

Our consolidated net sales for the fiscal year ended March 31, 2022 increased by $786.5 million, or 39.7%, compared to fiscal 2021. The increase in net sales was primarily a result of growth in our domestic Pipe segment along with both the Infiltrator and International segments.

Our Pipe segment experienced growth primarily through improved pricing/mix of products sold. Infiltrator achieved growth through improved price/mix of products sold and higher volumes associated with the residential market. The increase in our International segment was driven by improved price/mix of products sold in the Canadian and Mexican businesses. Growth in Allied Products & Other was driven mainly by improved price/mix of products offerings.

Cost of goods sold and Gross profit – The following table presents gross profit by reportable segment for the fiscal years ended March 31, 2022 and 2021.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","$ Variance","","% Variance"],["Pipe","$","269,855","","","$","247,266","","","$","22,589","","","9.1","%"],["Infiltrator","217,432","","178,296","","39,136","","22.0"],["International","53,284","","44,463","","8,821","","19.8"],["Allied Products & Other","279,022","","220,560","","58,462","","26.5"],["","819,593","","690,585","","129,008","","18.7"],["Cost of goods sold - ESOP acceleration and special dividend compensation","(19,181)","","\u2014","","(19,181)","","100.0"],["Intersegment eliminations","(28)","","(503)","","475","","(94.4)"],["Total gross profit","$","800,384","","","$","690,082","","","$","110,302","","","16.0","%"]]
[[/GREPCENT_TABLE]]

Our consolidated Cost of goods sold for the fiscal year ended March 31, 2022 increased by $676.2 million or, 52.3%, and our consolidated Gross profit increased by $110.3 million, or 16.0%, compared to the same period in fiscal 2021. The increase in our gross profit was due to an increase in net sales from higher volumes and improved pricing and was partially offset by inflationary pressures of higher material and transportation costs along with higher manufacturing costs and the ESOP acceleration expense.

Selling, general and administrative expenses – The following table presents selling, general and administrative expenses as a percentage of sales for the fiscal years ended March 31, 2022 and 2021.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","$ Variance","","% Variance"],["Selling, general and administrative","$","309,840","","","$","267,574","","","$","42,266","","","15.8","%"],["% of Net Sales","11.2","%","","13.5","%","","","","(0.2)"],["Selling, general and administrative - ESOP acceleration and special dividend compensation","11,254","","\u2014","","11,254","","100.0"],["% of Net Sales","0.4","%","","\u2014","%","","","","\u2014"]]
[[/GREPCENT_TABLE]]

Selling, general and administrative expenses for the fiscal year ended March 31, 2022 increased $42.3 million from the same period in fiscal 2021 and as a percentage of sales, decreased by 2.3%. The increase in Selling, general and

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administrative expenses is the result of increased headcount to support business growth along with higher spend in various areas impacted last year by COVID-19 including travel and entertainment expenses and transaction costs.

Selling, general and administrative – ESOP acceleration and special dividend compensation – In fiscal 2022, ESOP acceleration compensation expense of $11.3 million was allocated to selling, general and administrative expenses which did not occur in fiscal 2021.

Loss on disposal of assets and costs from exit and disposal activities – The change in Loss on disposal of assets and costs from exit and disposal activities is primarily due to asset disposals.

Intangible amortization – Intangible amortization decreased by $9.7 million primarily due the accelerated method of amortization for customer relationships.

Interest expense – Interest expense decreased $2.1 million for the fiscal year ended March 31, 2022 compared to the same period in fiscal 2021. The decrease was primarily due to decreased average debt levels.

Derivative gains and other income, net – Derivative gains and other income, net increased by $1.7 million or the fiscal year ended March 31, 2022 compared to the same period in fiscal 2021.

Income tax expense – The following table presents the effective tax rates for the fiscal years presented:

[[GREPCENT_TABLE]]
[["","2022","","2021"],["Effective tax rate","28.7","%","","27.7","%"]]
[[/GREPCENT_TABLE]]

The increase in the effective tax rate was primarily due to stock appreciation from the ESOP shares allocated during fiscal year 2022. See “Note 15. Income Taxes” for additional information.

Equity in net income of unconsolidated affiliates – The Equity in net income of unconsolidated affiliates increased for the fiscal year ended March 31, 2022 compared to the same period in fiscal 2021 due to an increase in the current period income at our South American Joint Venture.

Net income attributable to noncontrolling interest – Net income attributable to noncontrolling interest increased for the fiscal year ended March 31, 2022 due to increased net income at our ADS Mexicana joint venture.

The discussion of our results of operations for the fiscal year ended March 31, 2021 compared with the fiscal year ended March 31, 2020 can be found in our fiscal 2021 Form 10-K. See “Item 7. Management’s Discussion and Analysis of Financial Discussion and Results of Operations” in our fiscal 2021 Form 10-K for further information on our prior period results of operations.

Non-GAAP Financial Measures

EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin - EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin, non-GAAP financial measures, have been presented in this Annual Report on Form 10-K as supplemental adjusted EBITDA as net income before interest, income taxes, depreciation and amortization, stock-based compensation expense, non-cash charges and certain other gains and expenses. We calculate Adjusted EBITDA Margin as Adjusted EBITDA divided by net sales.

EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin are included in this Annual Report on Form 10-K because they are key metrics used by management and our Board of Directors to assess our financial performance. EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin are frequently used by analysts, investors and other interested parties to evaluate companies in our industry. In addition to covenant compliance and executive performance evaluations, we use EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions and to compare our performance against that of other peer companies using similar measures.

EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin are not GAAP measures of our financial performance and should not be considered as alternatives to net income as measures of financial performance or cash flows from operations or any other performance measure derived in accordance with GAAP, and it should not be construed as an inference that

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our future results will be unaffected by unusual or non-recurring items. EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin contain certain other limitations, including the failure to reflect our cash expenditures, cash requirements for working capital needs and cash costs to replace assets being depreciated and amortized. In evaluating EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin, you should be aware that in the future we will incur expenses that are the same as or similar to some of the adjustments in this presentation, such as stock-based compensation expense, derivative fair value adjustments, and foreign currency transaction losses. Management compensates for these limitations by relying on our GAAP results in addition to using EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin on a supplemental basis. Our measure of EBITDA, Adjusted EBITDA and Adjusted EBITDA Margin are not necessarily comparable to other similarly titled captions of other companies due to different methods of calculation.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","2020"],["Net income (loss)","$","275,026","","","$","226,090","","","$","(191,797)"],["Depreciation and amortization","141,808","","145,586","","124,940"],["Interest expense","33,550","","35,658","","82,711"],["Income tax expense","110,071","","86,382","","14,092"],["EBITDA","560,455","","493,716","","29,946"],["Loss on disposal of assets and costs from exit and disposal activities","3,398","","4,275","","5,338"],["ESOP and stock-based compensation expense","77,559","","65,434","","32,395"],["ESOP acceleration and special dividend compensation (a)","30,435","","\u2014","","246,752"],["Transaction costs (b)","3,539","","1,415","","22,896"],["Inventory step up related to the Acquisition of Infiltrator","\u2014","","\u2014","","7,880"],["Strategic growth and operational improvement initiatives (c)","\u2014","","3,304","","6,659"],["COVID-19 related expenses (d)","\u2014","","806","","5,081"],["Other adjustments (e)","656","","(1,995)","","4,921"],["Adjusted EBITDA","$","676,042","","","$","566,955","","","$","361,868"],["Adjusted EBITDA Margin","24.4","%","","28.6","%","","21.6","%"]]
[[/GREPCENT_TABLE]]

(a)Includes the impact of two ESOP allocation events. In the fourth quarter of fiscal 2022, the approximately 0.3 million remaining unallocated shares of Preferred Stock were allocated on March 31, 2022 after repayment of the ESOP loan. See “Note 13. Employee Benefit Plans” for additional information. In the first quarter of fiscal 2020, the Company paid a special dividend of $1.00 per share. The dividend was used to pay back a portion of the ESOP loan resulting in $246.8 million in additional stock-based compensation. See “Note 16. Net Income Per Share and Stockholders’ Equity” for additional information.

(b)Represents expenses recorded related to legal, accounting and other professional fees incurred in connection with business or asset acquisitions and dispositions.

(c)Represents professional fees incurred in connection with our strategic growth and operational improvement initiatives, which included various market feasibility assessments and acquisition strategies, along with our operational improvement initiatives, which included evaluation of our manufacturing network and improvement initiatives.

(d)Includes expenses in connection with our response to the COVID-19 pandemic including pandemic pay, see “Note 13. Employee Benefit Plans” for additional information, and crisis management.

(e)Includes derivative fair value adjustments, foreign currency transaction (gains) losses, the proportionate share of interest, income taxes, depreciation and amortization related to the South American Joint Venture, which is accounted for under the equity method of accounting, contingent consideration remeasurement, executive retirement expense (benefit) and legal settlements.

Liquidity and Capital Resources

Historically we have funded our operations through internally generated cash flow supplemented by debt financings, equity issuance and finance and operating leases. These sources have been sufficient historically to fund our primary liquidity requirements, including working capital, capital expenditures, debt service and dividend payments for our convertible preferred stock and common stock. From time to time, we may explore additional financing methods and other means to raise capital. There can be no assurance that any additional financing will be available to us on acceptable terms or at all.

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The following table presents key liquidity metrics utilized by management. The table includes the Non-GAAP measure, Free cash flow, which is further discussed and defined below.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021"],["Net cash provided by operating activities","$","274,888","","","$","452,216"],["Capital expenditures","(149,083)","","(78,757)"],["Free cash flow","125,805","","373,459"],["Total debt (debt and finance lease obligations)","944,638"],["Cash","20,125"],["Net debt (total debt less cash)","924,513"],["Leverage ratio","1.4"]]
[[/GREPCENT_TABLE]]

The following table summarizes our available liquidity under our Revolving Credit Facility as of March 31, 2022:

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","3/31/2022"],["Revolver capacity","$","350,000"],["Less: outstanding borrowings","114,300"],["Less: letters of credit","9,200"],["Revolver available liquidity","$","226,500"]]
[[/GREPCENT_TABLE]]

In addition to the available liquidity above, we have the ability to borrow up to $1.3 billion under our Term Loan Facility, subject to leverage ratio restrictions.

As of March 31, 2022, we had $12.9 million in cash that was held by our foreign subsidiaries, including $5.4 million held by our Canadian subsidiaries. We continue to evaluate our strategy regarding foreign cash, but our earnings in foreign subsidiaries still remain indefinitely reinvested, except for Canada. See “Note 15. Income Taxes” for additional discussion of our plans to repatriate earnings from Canada.

Free Cash Flow - Free cash flow is a non-GAAP financial measure that comprises cash flow from operations less capital expenditures. Free cash flow is a measure used by management and our Board of Directors to assess our ability to generate cash. Accordingly, free cash flow has been presented in this Annual Report on Form 10-K as a supplemental measure of liquidity that is not required by, or presented in accordance with GAAP, because management believes that free cash flow provides useful information to investors and others in understanding and evaluating our ability to generate cash flow from operations after capital expenditures.

Free cash flow is not a GAAP measure of our liquidity and should not be considered as an alternative to cash flow from operating activities as a measure of liquidity or any other liquidity measure derived in accordance with GAAP. Our measure of free cash flow is not necessarily comparable to other similarly titled captions of other companies due to different methods of calculation.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","2020"],["Cash flow from operating activities","$","274,888","","","$","452,216","","","$","306,189"],["Capital expenditures","(149,083)","","(78,757)","","(67,677)"],["Free cash flow","$","125,805","","","$","373,459","","","$","238,512"]]
[[/GREPCENT_TABLE]]

Working Capital and Cash Flows

Our use of cash in fiscal 2022, of $174.9 million, was predominantly driven by the $292.0 million in share repurchases net of incremental borrowings during fiscal 2022, offset by cash generated from operations in excess of investments in working capital and capital expenditures. Cash in fiscal 2021 increased by $20.8 million primarily from cash generated from operations net of payments on our Term Loan Facility and Revolving Credit Facility. During fiscal 2020, our net increase in cash amounted to $165.3 million. Our sources of funds in fiscal 2020 were primarily driven by borrowings under the Term Loan Facility, Senior Notes and Revolving Credit Facility, proceeds from our Common Stock Offering and

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an increase in cash provided by operating activities. Our use of cash during fiscal 2020 was primarily related to the Acquisition and repayment of our previous debt arrangements.

As of March 31, 2022, we had $246.6 million in liquidity, including $20.1 million of cash, $226.5 million in borrowings available under our Revolving Credit Facility, excluding $9.2 million of outstanding letters of credit. We believe that our cash on hand, together with the availability of borrowings under our Revolving Credit Facility and cash generated from operations, will be sufficient to meet our working capital requirements, anticipated capital expenditures and scheduled interest payments on our indebtedness for at least the next twelve months.

Working Capital - Working capital is an indication of liquidity and potential need for short-term funding. We define working capital as current assets less current liabilities.

Working capital increased to $480.7 million as of March 31, 2022, from $424.7 million as of March 31, 2021, primarily due to the increases in inventory related to the inflationary cost of resin and increased quantities to support demand, as well as increased accounts receivable and accounts payable which increased consistent with the increase in net sales and inventory, offset by the use of cash during the fiscal year.

Working capital decreased to $424.7 million as of March 31, 2021, from $428.0 million as of March 31, 2020, primarily due to an increase in accounts payable, due to improved payment terms, offset by increased accounts receivable and inventory due to increased sales.

Operating Cash Flows - During fiscal 2022, cash provided by operating activities was $274.9 million. Cash flow from operating activities in fiscal 2022 was primarily driven by operating income offset by investments in working capital.

During fiscal 2021, cash provided by operating activities was $452.2 million as compared with cash provided by operating activities of $306.2 million for fiscal 2020. Cash flow from operating activities during fiscal 2021 was primarily impacted by increased income from continuing operations and improvements in payment terms on accounts payable.

During fiscal 2020, cash provided by operating activities was $306.2 million. Cash flow from operating activities during fiscal 2020 was primarily impacted by changes in working capital, including improved collections from accounts receivable, faster inventory turns and extension of terms of our accounts payable.

Investing Cash Flows - During fiscal 2022, cash used for investing activities was $198.8 million. The increase in cash used for investing cash flows was primarily due to elevated capital expenditures and the acquisition of Jet Polymer Recycling. Our capital expenditures in fiscal 2022 were used primarily to support growth, but also to support our recycled resin and technology improvement initiatives.

During fiscal 2021, cash used for investing activities was $77.9 million. The decrease in cash used for investing activities was primarily due to the acquisition of Infiltrator in fiscal 2020. Capital expenditures was $78.8 million compared to $67.7 million in fiscal 2020. Our capital expenditures in fiscal 2021 were used primarily to support facility expansions, equipment replacements, our recycled resin and technology improvement initiatives.

During fiscal 2020, cash used for investing activities was $1,150.5 million. The cash used for investing activities was primarily due to the acquisition of Infiltrator, net of cash acquired, in fiscal 2020. Our capital expenditures in fiscal 2020 of $67.7 million were used primarily to support facility improvements, equipment replacements, our recycled resin and operating efficiency initiatives and technology.

We currently anticipate that we will make capital expenditures of approximately $150 to $180 million in fiscal 2023 to focus on growth and productivity through increasing our manufacturing capacity and investing in automation. Such capital expenditures are expected to be financed using funds generated by operations. We had approximately $80 million of open orders through purchase commitments as of March 31, 2022.

Financing Cash Flows – During fiscal 2022, cash used in financing activities was $251.1 million. During fiscal 2022, ADS repurchased shares for $292.0 million.

During fiscal 2021, cash used in financing activities was $354.5 million, due to payments on the Term Loan Facility of $207.0 million and the Revolving Credit Facility of $100.0 million. In addition, we made dividend payments of $32.1 million and $21.5 million on our finance lease obligations.

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During fiscal 2020, cash provided by financing activities was $1,011.6 million, due to the new Term Loan Facility, Senior Notes and Common Stock Offering. These cash inflows were offset by the repayment of the PNC Credit Agreement and Prudential Senior Notes, the special and quarterly dividend payments of $92.1 million and payments on our finance lease obligations of $27.1 million.

Employee Stock Ownership Plan (“ESOP”)

The Company established the Advanced Drainage Systems, Inc. ESOP (the “ESOP” or the “Plan”) effective April 1, 1993 to enable eligible employees to acquire stock ownership in ADS in the form of redeemable convertible preferred shares. The Plan was funded by an existing tax-qualified profit-sharing retirement plan, as well as a 30-year term loan from ADS. Within 30 days following the repayment of the ESOP loan, which occurred in March 2022, the ESOP committee directed the shares of redeemable convertible preferred stock owned by the ESOP to be converted into shares of the Company’s common stock.

The Company was obligated to make contributions to the Plan, which, when aggregated with the Plan’s dividends, equal the amount necessary to enable the Plan to make its regularly scheduled payments of principal and interest due on its term loan to ADS. Compensation expense was recognized based upon the average annual fair value of the shares during the period which ADS received payments on the term loan, and the number of ESOP shares allocated to participant accounts.

Following the repayment of the ESOP loan discussed above, the ESOP’s conversion of redeemable convertible preferred stock into common stock will impact the Company’s net income, net income per share and common shares outstanding as follows (with the outstanding shares of common stock being approximately 19% greater after conversion).

Impact on Net Income – Provided that the converted common stock do not qualify as participating securities, the Company will no longer be required to apply the two-class method to determine Net income per share once all of the redeemable convertible preferred stock is converted into common stock. After the preferred shares are fully allocated upon the repayment of the ESOP loan and all of the redeemable convertible preferred stock is converted into common stock, the Company will no longer incur the fair value of ESOP deferred compensation attributable to the shares of redeemable convertible preferred shares.

The impact of the ESOP on net income includes the fair value of ESOP deferred compensation attributable to the shares of redeemable convertible preferred stock allocated to employee ESOP accounts during the applicable period, which is a non-cash charge to our earnings and not deductible for income tax purposes. Additional ESOP compensation expense was recorded for the acceleration of the remaining loan payment in the fourth quarter of fiscal 2022 and the repayment of a significant portion of the ESOP loan, through the special dividend, in fiscal 2020.

[[GREPCENT_TABLE]]
[["(Amounts in thousands)","2022","","2021","","2020"],["Net (loss) income attributable to ADS","$","271,331","","","$","224,230","","","$","(193,174)"],["ESOP acceleration and special dividend compensation","30,435","","\u2014","","246,752"],["ESOP deferred stock-based compensation","53,401","","44,981","","20,126"]]
[[/GREPCENT_TABLE]]

Impact on Common Stock Outstanding – The impact on the number of common shares outstanding will be as shares are converted, the number of common shares outstanding will increase.

[[GREPCENT_TABLE]]
[["(Shares in millions)","2022","","2021","","2020"],["Weighted average common shares outstanding","71.3","","70.2","","63.8"],["Conversion of redeemable convertible shares","13.6","","16.0","","17.1"]]
[[/GREPCENT_TABLE]]

Debt and Capitalized Lease Obligations

See “Note 5. Leases” and “Note 11. Debt” to our consolidated financial statements included in “Item 8. Financial Statements and Supplementary Data” for a discussion of the Company’s financing transactions, including the Secured Bank Loans, the Senior Notes and the Company’s finance lease obligations.

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Financing Transactions

Bridge Credit Facility – On July 31, 2019, we entered into the Base Credit Agreement with Barclays Bank PLC, as administrative agent and the several lenders from time to time party thereto. The Base Credit Agreement provides for up to $1.3 billion as a Term Loan Facility, up to $350 million as a Revolving Facility, up to $50 million as an L/C Facility and up to $50 million, as a sublimit of the Revolving Facility.

On July 31, 2019, the Company borrowed under the Base Credit Agreement which was used to (i) finance the merger consideration paid in connection with the closing of the acquisition of Infiltrator by us which occurred on July 31, 2019 (the “Merger”), (ii) repay the total outstanding amount as of the closing date of the Merger under its credit agreements, (iii) repay outstanding amounts of existing indebtedness incurred by Infiltrator under its outstanding credit facility in effect prior to the Merger, and (iv) pay certain transaction fees and expenses associated with the Merger and the Base Credit Agreement.

New Senior Secured Credit Facility - On September 24, 2019, the joint lead arrangers informed the Company that the parties had successfully completed a syndication of the remaining balance of the Bridge Credit Facility. The Senior Secured Credit Facility provided for a Term Loan Facility with an initial aggregate amount of $700 million, up to $350 million as a Revolving Facility, and up to $50 million as a letter of credit facility, as a sublimit of the Revolving Facility.

The Term Loan Facility has an amortization feature equal to 1% of the original $700 million balance paid in equal quarterly installments commencing on January 1, 2020 and continuing on the first day of each consecutive April, July, October and January thereafter. To the extent not previously paid, all then-outstanding amounts under the Term Loan Facility are due and payable on the maturity date of the Term Loan Facility, which is September 26, 2026. Borrowings under the Revolving Facility are available beginning on the Closing Date and, to the extent not previously paid, all then-outstanding amounts under the Revolving Facility are due and payable on the maturity date of the Revolving Facility, which is September 29, 2024.

The Senior Secured Credit Facility includes customary representations, warranties, covenants and events of default.

At the option of the Company, borrowings under the Term Loan Facility and under the Revolving Facility (subject to certain limitations) bear interest at either a base rate (as determined pursuant to the Senior Secured Credit Facility) or at a Eurocurrency Rate, based on LIBOR (as defined in the Senior Secured Credit Facility), plus the applicable margin as set forth therein from time to time. In the case of the Revolving Facility, the applicable margin is based on the Company's consolidated senior secured net leverage ratio (as defined in the Senior Secured Credit Facility). All borrowings under the Term Loan Facility used to finance the merger consideration as described above initially bear interest at a Eurocurrency Rate (as defined in the Senior Secured Credit Facility).

The Company’s obligations under the Credit Agreement have been secured by granting a first priority lien on substantially all of the Company’s assets (subject to certain exceptions and limitations), and each of StormTech, LLC, Advanced Drainage of Ohio, Inc. and Infiltrator Water Technologies, LLC (collectively the “Guarantors”) has agreed to guarantee the obligations of the Company under the Senior Secured Credit Facility and to secure the obligations thereunder by granting a first priority lien in substantially all of such Guarantor's assets (subject to certain exceptions and limitations).

Senior Notes due 2027 - On September 23, 2019, the Company issued $350.0 million aggregate principal amount of its senior notes (“Senior Notes”), pursuant to the Indenture among the Company, the Guarantors and the trustee. The Senior Notes are guaranteed by each of the Company’s present and future direct and indirect wholly owned domestic subsidiaries that is a guarantor under the Company’s Senior Secured Credit Facility. The Senior Notes were offered and sold either to persons reasonably believed to be “qualified institutional buyers” pursuant to Rule 144A under the Securities Act of 1933 (the “Securities Act”) or to persons outside the United States under Regulation S of the Securities Act.

Interest on the Senior Notes is payable semi-annually in cash in arrears on March 31 and September 30 of each year, commencing on March 31, 2020, at a rate of 5.000% per annum. The Senior Notes mature on September 30, 2027. The Company used the majority of the net proceeds from the offering of the Senior Notes for the repayment of $300.0 million of its outstanding borrowings under the Company’s Bridge Credit Facility.

The Company may redeem the Senior Notes, in whole or in part, at any time on or after September 30, 2022 at established redemption prices. At any time prior to September 30, 2022, the Company may also redeem up to 40% of the Senior Notes with net cash proceeds of certain equity offerings at a redemption price equal to 105.000% of the principal amount of the Senior Notes to be redeemed, plus accrued and unpaid interest, if any, to, but excluding, the redemption date. In addition, at

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any time prior to September 30, 2022, the Company may redeem the Senior Notes, in whole or in part, at a redemption price equal to 100% of the principal amount of the Senior Notes to be redeemed, plus accrued and unpaid interest, if any, to, but excluding, the redemption date plus an applicable "make-whole" premium.

The Indenture contains customary events of default, including, among other things, payment default, failure to comply with covenants or agreements contained in the Indenture or the Senior Notes and certain provisions related to bankruptcy events. The Indenture also contains customary negative covenants.

Covenant Compliance

The Senior Secured Credit Facility requires, if the aggregate amount of outstanding exposure under the Revolving Facility exceeds $122.5 million at the end of any fiscal quarter, the Company to maintain a consolidated senior secured net leverage ratio (commencing with the fiscal quarter ending March 31, 2020) not to exceed 4.25 to 1.00 for any four consecutive fiscal quarter periods.

The Senior Secured Credit Facility also includes other covenants, including negative covenants that, subject to certain exceptions, limit the Company's and its restricted subsidiaries’ (as defined in the Credit Agreement) ability to, among other things: (i) incur additional debt, including guarantees; (ii) create liens upon any of their property; (iii) enter into any merger, consolidation or amalgamation, liquidate, wind up or dissolve, or dispose of all or substantially all of their property or business; (iv) dispose of assets; (v) pay subordinated debt; (vi) make certain investments; (vii) enter into swap agreements; (viii) engage in transactions with affiliates; (ix) engage in new lines of business; (x) modify certain material contractual obligations, organizational documents, accounting policies or fiscal year; or (xi) create or permit restrictions on the ability of any subsidiary of any Loan Party (as defined in the Senior Secured Credit Facility) to pay dividends or make distributions to the Company or any of its subsidiaries.

The Senior Secured Credit Facility also contains customary provisions requiring the following mandatory prepayments (subject to certain exceptions and limitations): (i) annual prepayments (beginning with the fiscal year ending March 31, 2021) with a percentage of excess cash flow (as defined in the Senior Secured Credit Facility); (ii) 100% of the net cash proceeds from any non-ordinary course sale of assets and certain casualty or condemnation events; and (iii) 100% of the net cash proceeds of indebtedness not permitted to be incurred under the Senior Secured Credit Facility.

For further information, see “Note 11. Debt” to the Consolidated Financial Statements. We were in compliance with our debt covenants as of March 31, 2022.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements, with the exception of the guarantee of 50% of certain debt of our unconsolidated South American Joint Venture, as further discussed in “Note 10. Related Party Transactions” of our Consolidated Financial Statements included in “Item 8. Financial Statements and Supplementary Data,” of this Form 10-K. Our maximum potential obligation under this guarantee totals $11 million as of March 31, 2022. The maximum borrowing permitted under the South American Joint Venture’s credit agreement is $22 million. As of March 31, 2022, our South American Joint Venture had approximately $9.9 million of outstanding debt subject to our guarantee, resulting in our guarantee of 50%, or $5.0 million, of that amount. We do not believe that this guarantee will have a current or future effect on our financial condition, results of operations, liquidity, or capital resources.

Critical Accounting Policies and Estimates

Our discussion and analysis of financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of the consolidated financial statements requires management to make estimates and judgments that affect the reported amounts in our consolidated financial statements and accompanying notes.

Certain of our accounting policies involve a higher degree of judgment and complexity in their application, and therefore, represent the critical accounting policies used in the preparation of our financial statements. If different assumptions or conditions were to prevail, the results could be materially different from our reported results. We believe the following accounting policies may involve a higher degree of judgment and complexity in their application and represent the critical accounting policies used in the preparation of our financial statements. For additional discussion of our significant

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accounting policies, see “Note 1. Background and Summary of Significant Accounting Policies” to our consolidated financial statements included in “Item 8. Financial Statements and Supplementary Data” included in this Form 10-K.

[[GREPCENT_TABLE]]
[["Policy","Judgments and Estimates","Effect if Actual Results Differ from Assumptions"],["Goodwill- Goodwill is reviewed annually for impairment as of March 31 or whenever events or changes in circumstances indicate the carrying value may not be recoverable. The fair value of goodwill is determined by considering both the income and market approach.","Determining the fair value of a reporting unit is judgmental in nature and involves the use of significant estimates and assumptions.\u2022 Estimates and assumptions including revenue growth rates and EBITDA used to calculate projected future cash flows, risk-adjusted discount rates, future economic and market conditions, and determination of appropriate market comparables.\u2022 The fair value estimates are based on assumptions management believes to be reasonable but are inherently uncertain.","We performed our annual impairment test for goodwill for all reporting units as of March 31, 2022 using a qualitative approach. We determined for our goodwill that it was not more likely than not that the fair value of the assets exceeded carrying value for fiscal years ended March 31, 2022. Future events and unanticipated changes to assumptions could require a provision for impairment in a future period."]]
[[/GREPCENT_TABLE]]

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[[GREPCENT_TABLE]]
[["Policy","Judgments and Estimates","Effect if Actual Results Differ from Assumptions"],["Definite-lived intangible assets-Definite-lived intangible assets are tested for recoverability whenever events or changes in circumstances indicate that carrying amounts of the asset group may not be recoverable. Asset groups are established primarily by determining the lowest level of cash flows available. If the estimated undiscounted future cash flows are less than the carrying amounts of such assets, an impairment loss is recognized to the extent the fair value of the asset less any costs of disposition is less than the carrying amount of the asset. Indefinite-lived intangible assets-Indefinite-lived intangible assets are tested for impairment annually as of March 31 or whenever events or changes in circumstances indicate the carrying value may be greater than fair value. Determining the fair value of these assets is judgmental in nature and involves the use of significant estimates and assumptions. We base our fair value estimates on assumptions we believe to be reasonable, but that are inherently uncertain. To estimate the fair value of these indefinite-lived intangible assets, we use an income approach, which utilizes a market derived rate of return to discount anticipated performance. An impairment loss is recognized when the estimated fair value of the intangible asset is less than the carrying value.","Determining the fair value of the definite-lived and indefinite-lived intangible assets is judgmental in nature and involves the use of significant estimates and assumptions.","We did not record any impairment charges for definite-lived intangible assets in fiscal 2022, 2021, or 2020. We performed our annual impairment test for indefinite-lived intangible assets as of March 31, 2022. We performed a qualitative impairment analysis and determined for our indefinite-lived intangible assets that it was not more likely than not that the fair value of the assets exceeded carrying value for fiscal years ended March 31, 2022. Future events and unanticipated changes to assumptions could require a provision for impairment in a future period."]]
[[/GREPCENT_TABLE]]

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[[GREPCENT_TABLE]]
[["Policy","Judgments and Estimates","Effect if Actual Results Differ from Assumptions"],["Revenue Recognition- We generate revenue by selling pipe and related water management products primarily to distributors, retailers, buying groups and co-operative buying groups. Products are shipped predominately by our internal fleet, and we do not provide any additional revenue generating services after product delivery. Payment terms and conditions vary by contract. Revenue is recognized at the point in-time obligations under the terms of a contract with a customer are satisfied, which generally occurs upon the transfer of control of the promised goods. In substantially all of our contracts with customers, control is transferred to the customer upon delivery. We recognize revenue in an amount that reflects the consideration we expect to be entitled to in exchange for those goods or services.","We estimate and allocate variable consideration, such as right of return, credits or incentives, based on numerous factors, including the customer agreements and past transaction history.","If our historical experience differs from future experience, our estimates of variable consideration could differ."]]
[[/GREPCENT_TABLE]]

Recent Accounting Pronouncements

For a discussion of recent accounting pronouncements, see “Note 1. Background and Summary of Significant Accounting Policies” to our consolidated financial statements included in “Item 8. Financial Statements and Supplementary Data.”