(In millions, except per share amounts, unless otherwise stated) OVERVIEWITT Inc. is a diversified manufacturer of highly engineered critical components and customized technology solutions for the transportation, industrial, and oil and gas markets. We manufacture components that are integral to the operation of equipment systems and manufacturing processes in our key markets. Our products provide enabling functionality for applications where reliability and performance are critically important to our customers and the users of their products. Our businesses share a common, repeatable operating model centered on our engineering capabilities. Each business applies its technology and engineering expertise to solve our customers' most pressing challenges. Our applied engineering provides a valuable business relationship with our customers given the critical nature of their applications. This in turn provides us with unique insight to our customers' requirements and enables us to develop solutions to assist our customers to achieve their business goals. Our technology and customer intimacy together produce opportunities to capture recurring revenue streams, aftermarket opportunities and long-lived platforms from original equipment manufacturers (OEMs). Our product and service offerings are organized into three segments: Motion Technologies, Industrial Process, and Connect & Control Technologies. See Note 3, Segment Information , in this Report for a summary description of each segment. Additional information is also available in our 2019 Annual Report within Part I, Item 1, "Description of Business". All comparisons included within Management's Discussion and Analysis of Financial Condition and Results of Operations refer to the comparable three and nine months endedSeptember 30, 2019 , unless stated otherwise. Impact of COVID-19 on our Business OnMarch 11, 2020 , theWorld Health Organization declared the coronavirus ("COVID-19") outbreak to be a global pandemic. In response to this declaration and the rapid spread of COVID-19, governments throughout the world imposed varying degrees of restrictions on social and commercial activity to promote social distancing in an effort to slow the spread of the illness. While most of our businesses are deemed essential, these restrictions have created many challenges for our business, and ITT has maintained cross functional global crisis management teams to respond to the changing conditions. In the face of this unprecedented challenge posed by the COVID-19 pandemic, we remain united in our focus on our three top priorities, the health of our people, the health of our business, and the health of our financials. Health of our People From the earliest signs of the COVID-19 pandemic, we have taken proactive, aggressive actions to protect the health and safety of our employees. We have created core crisis teams and enacted rigorous safety measures at all of our sites. Some of these measures include enhanced cleaning protocols, temperature checks, and distribution of personal protective equipment. We also redesigned employee workspaces to enable social distancing and required non-essential employees to work from home when appropriate. We continue to be proactive in our response and take all necessary actions to keep our people safe. Health of our Business While we do not yet know how long this pandemic will last or how it will impact customer demand for the remainder of the foreseeable future, our ITT team continues to work closely with our customers and suppliers to support them and to minimize disruptions within our supply chain. We continue to work hard to generate value for our customers, striving to go above and beyond to be flexible and responsive to their needs. Health of our Financials ITT entered 2020 with a strong balance sheet and liquidity position, and as a result of COVID-19, we have taken many proactive measures in 2020 to enhance our liquidity and reduce costs to better navigate the uncertain environment and secure ITT's future. Here are some of the liquidity and cost action highlights: •Strong available liquidity of$1.5 billion , including: 26 --------------------------------------------------------------------------------
•$782 cash on hand with
•$500 available borrowing capacity on our revolver; and
•$200 undrawn under our 364-Day Revolving Credit Agreements.
•Implemented$160 of cost actions, including: •$80 of expected annualized pre-tax benefit from a$55 organizational-wide restructuring plan primarily focused on structural cost reductions, including global footprint optimization; •$35 of discretionary spending reductions and supply chain productivity; •$35 planned reduction in 2020 capital expenditures; and •$10 of savings from a temporary reduction in the compensation of our Board of Directors, Chief Executive Officer and other executives, and suspension of certain 401(k) benefits for certainU.S. employees. We believe these actions have positioned us well to confront the pandemic. However, the ultimate impact of COVID-19 on our business, results of operations, financial condition and cash flows is dependent on future developments, including the duration of the pandemic and the related length of its impact on the global economy, which cannot be predicted at this time. See Part II, Item 1A, Risk Factors , for an additional discussion of risk related to COVID-19. Executive Summary During the third quarter of 2020, the COVID-19 pandemic continued to have an impact on our customers and in the end markets we serve. Today's ITT and its set of resilient businesses, as well as its focus on execution and aggressive cost actions have enabled us to control margin degradation, generate strong cash flow and sequential financial improvements from the second quarter of 2020. The health of our people, business, and financials continue to be our top priorities, as we continue to work hard to satisfy our customers, support each other, and successfully navigate this challenging period. The following table provides a summary of key performance indicators for the third quarter of 2020 as compared to the third quarter of 2019. Summary of Key Performance Indicators for the
Third Quarter of 2020
Revenue Segment Operating Income Segment Operating Margin EPS
$591 $84 14.2% ($0.55 )
17% Decrease 22% Decrease 80bp Decrease 141% Decrease
Adjusted Segment Operating Adjusted Segment Operating Adjusted
Organic Revenue Income Margin EPS
$584 $96 16.2% $0.82
18% Decrease 19% Decrease 40bp Decrease 15% Decrease
Further details related to these results are contained elsewhere in the
Discussion of Financial Results section. Refer to the section titled " Key
Performance Indicators and Non-GAAP Measures " for a definition and
reconciliations between GAAP and non-GAAP metrics.
Our third quarter 2020 results include:
•Revenue of $591.2 decreased $120.7 including favorable foreign exchange of
$7.1 . Organic revenue decreased 18.0%, mainly as a result of the global impact
of COVID-19 which drove declines in transportation of 19% and industrial of 14%.
Sequentially, organic revenue improved 12% from the second quarter of 2020
driven by strength in our Motion Technologies Friction OEM business.
•Segment operating income of $83.9 declined $23.2 , which included higher
restructuring costs of $4.8 . Adjusted segment operating income declined $22.4
due to reduced volume from weaker demand and disruption caused by COVID-19,
partially offset by savings from restructuring, productivity and cost actions.
Sequentially, segment operating income increased 125% and we delivered strong
incremental improvement from the second quarter of 2020.
•Income from continuing operations per diluted share decreased $1.89 to a loss
of $0.55 per share, primarily due to higher net after-tax asbestos costs of
$150.6 primarily to extend our estimated net liability through 2052 and a
decline in segment operating income, partially offset by a reduction in
corporate
27
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costs. Adjusted income from continuing operations was $0.82 per diluted share,
reflecting a decrease of $0.15 from the prior year.
•Cash flow from operations for the year to date period was $318.1 , an increase
of 43.5% over the prior year, due to proactive working capital management which
drove favorable timing of cash collections from customers and improved inventory
control. Additionally, cash flows from operations benefited from a decline in
asbestos, postretirement contributions, and income tax payments, as well as a
reduction in incentive compensation.
In terms of capital deployment, we declared dividends of $14.7 that were paid on
October 5, 2020 following the close of the third quarter.
Outlook
The COVID-19 pandemic has created an unprecedented downturn in demand across the
global end markets we serve. The full extent of the decline and the timing of
the recovery is unknown. During the third quarter of 2020, we experienced higher
sequential demand for automotive components as automakers began to increase
automotive production. Demand for aerospace components continues to be impacted
by an unprecedented reduction in commercial air traffic. As the COVID-19
pandemic persists, we expect significant uncertainty in these markets to
continue. Separately, we have been further impacted by the production stoppage
of the Boeing 737 MAX. Lastly, declines in oil and gas prices have resulted in a
reduction of customer capital expenditures and maintenance spending.
Given these uncertainties, we have continued to take proactive measures to align
our production with the demand of our customers and earlier this year initiated
a global restructuring plan which is expected to deliver annual savings of $80 .
These actions, coupled with productivity and other cost reduction strategies
will help to mitigate some of these financial pressures. We also may experience
negative impacts to our operating cash flows due to lower segment operating
income and may experience delays in customer collections of receivables. We
remain laser focused on our top three priorities to navigate through these
challenging times and position us for the future.
DISCUSSION OF FINANCIAL RESULTS
Three and Nine Months Ended September 30
Three Months Nine Months
2020 2019 Change 2020 2019 Change
Revenue $ 591.2 $ 711.9 (17.0) % $ 1,769.2 $ 2,127.3 (16.8) %
Gross profit 190.6 231.3 (17.6) % 563.6 682.1 (17.4) %
Gross margin 32.2 % 32.5 % (30) bp 31.9 % 32.1 % (20) bp
Operating expenses 253.1 78.8 221.2 % 496.3 353.0 40.6 %
Operating expense to revenue ratio 42.8 % 11.1 % 3,170 bp 28.1 % 16.6 % 1,150 bp
Operating (loss) income (62.5) 152.5 (141.0) % 67.3 329.1 (79.6) %
Operating margin (10.6) % 21.4 % (3,200) bp 3.8 % 15.5 % (1,170) bp
Interest and non-operating expenses
(income), net 1.2 (0.4) (400.0) % 4.0 (1.3) (407.7) %
Income tax (benefit) expense (16.2) 34.1 (147.5) % (19.6) 73.1 (126.8) %
Effective tax rate 25.4 % 22.3 % 310 bp (31.0) % 22.1 % **
(Loss) income from continuing
operations attributable to ITT Inc. (48.0) 118.7 (140.4) % 82.1 256.9 (68.0) %
Net (loss) income attributable to ITT
Inc. (46.8) 118.6 (139.5) % 86.0 256.7 (66.5) %
** Resulting basis point change not considered meaningful.
28 --------------------------------------------------------------------------------
REVENUE
The following tables illustrate the revenue derived from each of our segments
for the three and nine months ended
For the Three Months Ended
2020 2019 Change Organic Decline(a) Motion Technologies$ 271.8 $ 304.5 (10.7) % (13.3) % Industrial Process 194.1 240.3 (19.2) % (18.6) % Connect & Control Technologies 125.9 167.9 (25.0) % (25.6) % Eliminations (0.6) (0.8) Total Revenue$ 591.2 $ 711.9 (17.0) % (18.0) % For the Nine Months EndedSeptember 30 Motion Technologies$ 769.0 $ 937.4 (18.0) % (17.1) % Industrial Process 614.7 688.6 (10.7) % (11.8) % Connect & Control Technologies 387.5 503.1 (23.0) % (24.2) % Eliminations (2.0) (1.8) Total Revenue$ 1,769.2 $ 2,127.3 (16.8) % (17.1) % (a)See the section titled " Key Performance Indicators and Non-GAAP Measures " for a definition and reconciliation of organic revenue. Motion Technologies (MT) MT revenue for the three and nine months endedSeptember 30, 2020 decreased$32.7 and$168.4 , respectively, which included favorable foreign currency translation of$7.7 during the three months endedSeptember 30, 2020 and unfavorable foreign currency translation$8.1 for the nine months endedSeptember 30, 2020 . Organic revenue declined$40.4 and$160.3 as sales from Friction declined 14% and 20%, respectively, during the three and nine month periods driven by continued weakness in automotive demand as a result of COVID-19, which was partially offset by strength in OEM sales forNorth America andChina in the third quarter of 2020. Weakness in the global automotive market also negatively impacted Wolverine, resulting in a decline of 16% and 20%, respectively. KONI & Axtone sales decreased 8% and 4%, respectively, during the three and nine month periods due to weakness in global rail. The nine month period was partially offset by growth inEurope . Industrial Process (IP)IP revenue for the three and nine months endedSeptember 30, 2020 decreased$46.2 and$73.9 , respectively, which included revenue in the nine month period of$18.6 from our 2019 acquisition of Rheinhütte, and unfavorable foreign currency translation impacts of$1.5 and$11.1 , respectively. Organic revenue decreased$44.7 and$81.4 , respectively, primarily driven by pump projects, which declined 34% and 30%, respectively, due to large prior year deliveries in the chemical and oil and gas markets. Revenue from our short-cycle business decreased 13% and 6%, respectively. For the three month period, the decline was primarily driven by a decrease in baseline pumps and aftermarket parts and service, while the nine month period experienced an 18% decline in industrial valve sales. The level of order and shipment activity at IP can vary significantly from period to period due to pump projects which are highly engineered, customized to customer needs, and have longer lead times. Total orders during the nine months endedSeptember 30, 2020 were$614.4 , a decrease of 7.8%, compared to the prior year period. Backlog as ofSeptember 30, 2020 was$406.7 , an increase of$11.3 , or 2.9%, compared toDecember 31, 2019 . 29 -------------------------------------------------------------------------------- Connect & Control Technologies (CCT) CCT revenue for the three and nine months endedSeptember 30, 2020 decreased$42.0 and$115.6 , which included revenue in the nine month period of$5.8 from our 2019 acquisition of Matrix, and favorable foreign currency translation impacts of$1.0 and$0.2 , respectively. Organic revenue declined$43.0 and$121.6 , respectively, primarily driven by declines in the aerospace and defense market of 36% and 32% for the three and nine month periods, respectively. The decrease in aerospace and defense was driven by a decline in global commercial air traffic due to COVID-19 and Boeing's reduced production levels, including the 737 MAX, as well as unfavorable timing of defense programs. Revenue from the industrial market decreased 9% during the nine month period driven by temporary plant closures inEurope andChina and distributor destocking. GROSS PROFIT Gross profit for the three months endedSeptember 30, 2020 and 2019 was$190.6 and$231.3 , respectively, reflecting a gross margin of 32.2% and 32.5%, respectively. Gross profit for the nine months endedSeptember 30, 2020 and 2019 was$563.6 and$682.1 , respectively, reflecting a gross margin of 31.9% and 32.1%, respectively. The decrease in gross profit was primarily driven by unfavorable sales volumes due to lower demand as a result of the COVID-19 pandemic, partially offset by supply chain and productivity improvements, restructuring benefits, and lower tariffs.
OPERATING EXPENSES
Three Months Nine Months
For the Periods Ended September 30 2020 2019 Change 2020 2019 Change
General and administrative expenses $ 47.1 $ 61.9 (23.9) % $ 148.8 $ 175.3 (15.1) %
Sales and marketing expenses 33.4 41.6 (19.7) % 110.7 124.5 (11.1) %
Research and development expenses 19.7 23.8 (17.2) % 61.3 73.1 (16.1) %
Asbestos-related costs (benefit), net 141.4 (56.2) (351.6) % 116.7 (31.8) (467.0) %
Restructuring costs 11.5 6.7 71.6 % 42.5 10.9 289.9 %
Asset impairment charges - 1.0 (100.0) % 16.3 1.0 **
Total operating expenses $ 253.1 $ 78.8 221.2 % $ 496.3 $ 353.0 40.6 %
Total Operating Expenses By Segment:
Motion Technologies $ 31.8 $ 40.0 (20.5) % $ 111.7 $ 120.0 (6.9) %
Industrial Process 47.9 50.5 (5.1) % 161.5 136.9 18.0 %
Connect & Control Technologies 27.0 33.7 (19.9) % 91.3 100.0 (8.7) %
Corporate & Other 146.4 (45.4) (422.5) % 131.8 (3.9) **
** Resulting percentage change not considered meaningful.
General and administrative (G&A) expenses for the three and nine months ended
September 30, 2020 decreased $14.8 and $26.5 , which included incremental costs
of $3.0 in the nine month period from our 2019 acquisitions of Rheinhütte and
Matrix. The decrease in G&A expenses during the three and nine month periods was
primarily driven by proactive cost actions across all segments, which included a
decline in professional services of $5.6 and $9.8 , respectively, and savings
from restructuring actions. In addition, incentive compensation costs decreased
$2.9 and $8.3 , respectively, and the prior year included a legal reserve of
$3.4 . The nine month period also had a decline in environmental costs of $3.8 ,
which included the recognition of insurance related recoveries. These items were
partially offset by an increase in bad debt expense of $1.5 and $5.7 ,
respectively, and government investment incentives of $3 during the prior year
nine month period.
Sales and marketing expenses for the three and nine months ended September 30,
2020 decreased $8.2 and $13.8 , respectively, which included incremental costs of
$4.3 in the nine month period from our 2019 acquisitions of Rheinhütte and
Matrix. The decline in sales and marketing expenses was primarily driven by
cost-saving actions across all segments.
Research and development expenses for the three and nine months ended
September 30, 2020 decreased across all segments for a total reduction of $4.1
and $11.8 , respectively.
30
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Asbestos-related costs during the three and nine months ended September 30, 2020
increased $197.6 and $148.5 , respectively. In the third quarter of 2020, we
extended our projections through 2052 to include the full time horizon over
which we expect asbestos-related claims to be filed against us. The nine month
period also includes a favorable $66.4 settlement agreement with a group of
insurers. See Note 19, Commitments and Contingencies , to the Consolidated
Condensed Financial Statements for further information.
Restructuring costs increased $4.8 and $31.6 during the three and nine months
ended September 30, 2020 , respectively, due to actions taken under the Company's
2020 Global Restructuring Plan. See Note 5, Restructuring Actions , to the
Consolidated Condensed Financial Statements for further information.
Asset impairment charges during the nine months ended September 30, 2020 are
related to a business within IP that primarily serves the global upstream oil
and gas market. See Note 11, Plant, Property and Equipment, net , and Note
12, Goodwill and Other intangible assets, net , to the Consolidated Condensed
Financial Statements for further information. Significant additional adverse
changes to the economic environment and future cash flows of other businesses
could cause us to record additional impairment charges in future periods, which
may be material.
OPERATING INCOME
Three Months Nine Months
For the Periods Ended September 30 2020 2019 Change 2020 2019 Change
Motion Technologies $ 50.4 $ 56.7 (11.1) % $ 113.9 $ 169.6 (32.8) %
Industrial Process 17.1 22.0 (22.3) % 44.5 70.2 (36.6) %
Connect & Control Technologies 16.4 28.4 (42.3) % 40.7 85.4 (52.3) %
Segment operating income 83.9 107.1 (21.7) % 199.1 325.2 (38.8) %
Asbestos-related (costs) benefit, net (141.4) 56.2 ** (116.7) 31.8 **
Other corporate costs (5.0) (10.8) 53.7 % (15.1) (27.9) 45.9 %
Total corporate (146.4) 45.4 ** (131.8) 3.9 **
Total operating (loss) income $ (62.5) $ 152.5 (141.0) % $ 67.3 $ 329.1 (79.6) %
Operating margin:
Motion Technologies 18.5 % 18.6 % (10) bp 14.8 % 18.1 % (330) bp
Industrial Process 8.8 % 9.2 % (40) bp 7.2 % 10.2 % (300) bp
Connect & Control Technologies 13.0 % 16.9 % (390) bp 10.5 % 17.0 % (650) bp
Segment operating margin 14.2 % 15.0 % (80) bp 11.3 % 15.3 % (400) bp
Consolidated operating margin (10.6) % 21.4 % (3,200) bp 3.8 % 15.5 % (1,170)
bp
** Resulting percentage change not considered meaningful. MT operating income for the three and nine months endedSeptember 30, 2020 decreased$6.3 and$55.7 , respectively. The decrease was primarily driven by unfavorable sales volume of$17 and$63 , respectively, due to a decline in automotive production resulting from COVID-19, as well as unfavorable product mix and pricing. The nine month period also included an increase in restructuring costs of$9.5 and investment incentives received in the prior year of$3 . Partially offsetting the decline for the three and nine month periods were net savings from productivity, sourcing and restructuring actions of$12 and$27 , respectively, and a reduction in tariffs. IP operating income for the three and nine months endedSeptember 30, 2020 decreased$4.9 and$25.7 , respectively. The decline during the three and nine month periods was primarily driven by lower sales volumes of$17 and$32 , respectively, and an increase in restructuring costs of$5.1 and$12.6 , respectively. The nine month period also included asset impairments of$16.3 related to a business that primarily serves the global upstream oil and gas market. These items were partially offset by net savings from productivity, supply chain and restructuring actions of$8 and$18 , respectively, as well as favorable product mix and pricing of$4 and$13 , respectively. 31 -------------------------------------------------------------------------------- CCT operating income for the three and nine months endedSeptember 30, 2020 decreased$12.0 and$44.7 , respectively. The decline during the three and nine month periods was primarily driven by lower sales volumes of$23 and$64 , respectively, mainly due to the negative impact of COVID-19 on global commercial air traffic and an increase in restructuring costs of$7.2 for the nine month period. These items were partially offset by benefits from productivity, supply chain, and restructuring actions. Other corporate costs for the three and nine months endedSeptember 30, 2020 decreased$5.8 and$12.8 , respectively, primarily driven by lower incentive compensation costs of$2.1 and$5.7 , respectively, benefits from cost actions, and a prior year legal reserve of$3.4 . In addition, the nine month period included a$5.9 environmental insurance-related benefit. These items were partially offset by unfavorable foreign currency impacts of$0.9 and$2.3 , respectively, and an increase in restructuring costs of$2.3 during the nine month period. INTEREST AND NON-OPERATING EXPENSES AND INCOME, NET Three Months Nine Months For the Periods Ended September 30 2020 2019 Change 2020 2019 Change Interest and non-operating expenses (income), net$ 1.2 $ (0.4) (400.0) %$ 4.0 $ (1.3) (407.7) % The change during the three and nine months endedSeptember 30, 2020 was due to an increase in pension-related expense, higher interest expense from an increase in outstanding borrowings, and a decline in interest returns on cash and money market investments.U.S. Qualified Pension Plan Termination InOctober 2020 , the Company terminated itsU.S. qualified pension plan by purchasing a group annuity contract fromMassMutual Life Insurance Company (MassMutual), which will fully assume the responsibility for paying and administering pension benefits to approximately five thousand plan participants and their beneficiaries. MassMutual is a highly rated Fortune 100 insurance company that has a long history of efficiently providing and administering pension benefits. In connection with the plan termination, we will settle all future obligations under the plan by providing lump sum payments to eligible participantswho elected to receive them, and by transferring the remaining projected benefit obligation to the insurance company. The termination was funded with plan assets of$321 and cash of$8.4 . Consequently, in the fourth quarter of 2020, the Company will recognize a settlement charge in the range of$135 to$140 within non-operating expenses, which primarily represents the acceleration of deferred charges currently accrued in accumulated other comprehensive loss and derecognition of the net assets of the plan. INCOME TAX EXPENSE Three Months Nine Months For the Periods Ended September 30 2020 2019 Change 2020 2019 Change Income tax (benefit) expense$ (16.2) $ 34.1 (147.5) %$ (19.6) $ 73.1 (126.8) % Effective tax rate 25.4 % 22.3 % 310 bp (31.0) % 22.1 % ** ** Resulting basis point change not considered meaningful. The income tax benefit and effective tax rate for the three and nine months endedSeptember 30, 2020 primarily reflects the tax effect of the$135.9 asbestos remeasurement charge recognized during the third quarter. Additionally, the effective tax rate during the third quarter of 2020 includes a benefit of$3.2 related to previously unrecognized tax benefits from state statute of limitations expirations. The effective tax rate for the nine month period of 2020 includes tax benefits of$27.2 resulting from a recently completed internal reorganization inEurope . This reorganization resulted in a refined projection of future earnings, which will result in the realization of a portion of our deferred tax assets. The Company's financial condition and results of operations have been and are expected to continue to be adversely affected by the COVID-19 pandemic and the governmental and market reactions to COVID-19. The impacts on earnings have already had, and will continue to have, an impact on the Company's overall effective tax rate throughout the year. 32 -------------------------------------------------------------------------------- The Coronavirus Aid, Relief, and Economic Security Act (the CARES Act) was enactedMarch 27, 2020 . The CARES Act provides numerous tax provisions and other stimulus measures, including temporary changes regarding the prior and future utilization of net operating losses, temporary suspension of certain payment requirements for the employer portion ofSocial Security taxes, technical corrections from prior tax legislation for tax depreciation of certain qualified improvement property, and the creation of certain refundable employee retention credits. In nine months endedSeptember 30, 2020 , the Company recognized a benefit of$8.7 from the CARES Act. The benefit was recorded in operating income and was related to the employer portion of payroll taxes. Certain non-U.S. jurisdictions have enacted similar stimulus measures. We continue to monitor any effects that may result from the CARES Act or other similar legislation globally. LIQUIDITY Funding and Liquidity Strategy We monitor our funding needs and execute strategies to meet overall liquidity requirements, including the management of our capital structure, on both a short- and long-term basis. Significant factors that affect our overall management of liquidity include our cash flow from operations, credit ratings, the availability of commercial paper, access to bank lines of credit, term loans, and the ability to attract long-term capital on satisfactory terms. We assess these factors along with current market conditions on a continuous basis, and as a result, may alter the mix of our short- and long-term financing when it is advantageous to do so. We expect to have enough liquidity to fund operations for at least the next 12 months. As a result of the COVID-19 global pandemic, we have experienced and continue to anticipate future unfavorable impacts to our cash flow from operations, which is the primary source of funding for our ongoing working capital needs. These negative impacts include, but are not limited to, lower revenues and orders from customer delays, missed or late deliveries due to disruptions in our global supply chain, delayed supplier deliveries, or the inability to procure supplier inputs at reasonable prices or at all, and customer bankruptcies or delays in customer receivable collections. We are unable to predict how long these negative impacts will last, and therefore have taken proactive measures to provide access to additional liquidity. OnApril 29, 2020 , we secured two 364-day revolving credit agreements totaling$200 to supplement our existing$500 Revolving Credit Agreement and commercial paper programs. As ofSeptember 30, 2020 , we had no outstanding borrowings under our revolving credit agreements. We also continue to take a proactive approach to preserve cash by renegotiating contracts with vendors where possible, applying aggressive cost savings measures to limit discretionary spending, and implementing actions to reduce our cost structure. The Company also continues to evaluate the various global governmental programs instituted in response to COVID-19, including the CARES Act in theU.S. , to further maximize our liquidity. The CARES Act and various global programs in the jurisdictions in which we operate generally provide for deferrals of tax payments, employee retention credits, workforce incentives, as well as incentive financing programs backed by governmental agencies. As ofSeptember 30, 2020 , we have not incurred any borrowings under governmental loan programs. We manage our worldwide cash requirements considering available funds among the many subsidiaries through which we conduct business and the cost effectiveness with which those funds can be accessed. We have identified and continue to look for opportunities to access cash balances in excess of local operating requirements to meet our global liquidity needs in a cost-efficient manner. We plan to continue to transfer cash between certain international subsidiaries and theU.S. and other international subsidiaries when it is cost effective to do so. The passage of theU.S. Tax Cuts and Jobs Act of 2017 (Tax Act) in 2017 provided greater flexibility around our global cash management strategy related to the amount and timing of transfers, and we will continue to support growth and expansion in markets outside of theU.S. through the development of products, increased capital spending, and potential foreign acquisitions. Net cash distributions from foreign countries to theU.S. during the nine months endedSeptember 30, 2020 was$442.7 . During the year endedDecember 31, 2019 , we had net cash distributions from foreign countries to theU.S. of$11.4 . The timing and amount of any additional future distributions remains under evaluation based on our jurisdictional cash needs. The amount and timing of dividends payable on our common stock are within the sole discretion of our Board of Directors and will be based on, and affected by, a number of factors, including our financial position and results of operations, available cash, expected capital spending plans, prevailing business conditions and other factors the Board of Directors deems relevant. Therefore, there can be no assurance as to what level of dividends, if any, will be paid in the future. In the third quarter of 2020, we declared dividends of$0.169 per share for shareholders of record onSeptember 11, 2020 . Dividends declared in 2020 of$44.2 was a 13.3% increase from dividends declared in 2019. 33 -------------------------------------------------------------------------------- During the first quarter of 2020, we completed our$1 billion share repurchase plan approved in 2006 and commenced repurchases under the$500 share repurchase plan approved in 2019. During the nine months endedSeptember 30, 2020 and 2019, we repurchased and retired 1.7 and 0.5 shares of common stock for$73.2 and$28.7 , respectively, under our share repurchase plans. Separate from our share repurchase plans, the Company repurchased 0.2 shares during both the nine months endedSeptember 30, 2020 and 2019, respectively, for an aggregate price of$10.7 and$9.6 , respectively, in settlement of employee tax withholding obligations due upon the vesting of RSUs and PSUs. All repurchased shares are canceled immediately following the repurchases. Commercial Paper When available and economically feasible, we have accessed the commercial paper market through programs in place in theU.S. andEurope to supplement cash flows generated internally and to provide additional short-term funding. Commercial paper outstanding as ofSeptember 30, 2020 was$116.3 , under the Company's Euro program. Outstanding commercial paper as ofSeptember 30, 2020 had maturity terms of less than three months from the date of issuance. Revolving Credit Agreements Our$500 revolving credit agreement (the Revolving Credit Agreement) provides for increases of up to$200 for a possible maximum total of$700 in aggregate principal amount. These increased commitments are subject to certain conditions and therefore may not be available to us. The Revolving Credit Agreement is intended to provide access to additional liquidity and be a source of alternate funding to the commercial paper program, if needed. Our policy is to maintain unused committed bank lines of credit in an amount greater than outstanding commercial paper balances. As ofSeptember 30, 2020 , we had no outstanding borrowings under the Revolving Credit Agreement. The provisions of the Revolving Credit Agreement require that we maintain an interest coverage ratio, as defined therein, of at least 3.0 and a leverage ratio, as defined therein, of not more than 3.0. In the event of a ratings downgrade of the Company to a level below investment grade, the direct and indirect significantU.S. subsidiaries of the Company would be required to guarantee the obligations under the Revolving Credit Agreement. The Revolving Credit Agreement matures inNovember 2022 . OnApril 29, 2020 , we entered into two 364-day revolving credit agreements totaling$200 (the Incremental Revolving Credit Agreements) which provide the Company with additional liquidity in excess of the Revolving Credit Agreement. The provisions of the Incremental Revolving Credit Agreements mirror those of the Revolving Credit Agreement, including all covenants. In addition, the Incremental Revolving Credit Agreements did not violate any negative covenants associated with the existing Revolving Credit Agreement. There were no outstanding borrowings under the Incremental Revolving Credit Agreements as ofSeptember 30, 2020 . As ofSeptember 30, 2020 , our interest coverage ratio and leverage ratios associated with our revolving credit agreements were within the prescribed thresholds. Additionally, we currently expect to remain within the prescribed thresholds until maturity. See Note 14, Debt , to the Consolidated Condensed Financial Statements for further information. Sources and Uses of Liquidity Our principal source of liquidity is our cash flow generated from operating activities, which provides us with the ability to meet the majority of our short-term funding requirements. The following table summarizes net cash derived from operating, investing, and financing activities from continuing operations, as well as net cash from discontinued operations, for the nine months endedSeptember 30, 2020 and 2019. For the Nine Months Ended September 30 2020 2019 Operating activities$ 318.1 $ 221.7 Investing activities (50.4) (180.8) Financing activities (109.9) (36.9) Foreign exchange 12.2 (10.6)
Total net cash provided by (used in) continuing operations 170.0
(6.6)
Net cash provided by discontinued operations 0.2
1.1
Net change in cash and cash equivalents$ 170.2 $ (5.5) 34
-------------------------------------------------------------------------------- Operating Activities The increase in net cash provided by operating activities was primarily due to timing of collections from customers and improved inventory management. Also contributing to the increase was a decline in postretirement contributions of$12.5 , lower asbestos-related payments of$11.2 , a decline in income taxes paid of$7.0 , and a reduction in incentive compensation payments. These items were partially offset by an increase in restructuring payments of$16.7 . In addition, the Company's 2019 settlement of$11 for a civil matter with the DOJ was partially offset by proceeds received of$9 in 2019 from an intellectual property settlement. As a result of the COVID-19 global pandemic, we may experience a negative impact to our working capital in future periods related to the challenging global economic environment. Collecting from customers may become increasingly difficult the longer the COVID-19 pandemic continues. Investing Activities The decrease in net cash used in investing activities was driven by payments of$113.1 in 2019 related to our acquisitions of Rheinhütte and Matrix, and a decline in capital expenditures of$21.7 . As a result of the COVID-19 global pandemic, we have implemented various cost savings and cash preservation measures. As a result, we expect a reduction in capital expenditures of$35 in 2020, compared to 2019. Financing Activities The decrease in net cash from financing activities was primarily driven by a decline in net borrowings of$14.5 under our Revolving Credit Agreement and commercial paper programs, an increase in repurchases of ITT common stock of$45.6 . In addition, proceeds from the issuance of common stock decreased$9.9 . Discontinued Operations The change in net cash from discontinued operations was primarily driven by a tax-related reimbursement from a former subsidiary in 2019. Asbestos Based on the estimated undiscounted asbestos liability as ofSeptember 30, 2020 for claims filed or estimated to be filed through 2052, we have estimated that we will be able to recover approximately 43% of the asbestos indemnity and defense costs from our insurers. However, actual insurance reimbursements may vary significantly from period to period and the anticipated recovery rate is expected to decline over time due to gaps in our insurance coverage, reflecting uninsured periods, the insolvency of certain insurers, prior settlements with our insurers, and our expectation that certain insurance policies will exhaust over time. Additionally, future recovery rates may be impacted by other factors, such as future insurance settlements, insolvencies, and judicial determinations relevant to our coverage program, which are difficult to predict. The Company has negotiated with certain of its excess insurers to reimburse the Company for a portion of its settlement or defense costs as incurred, frequently referred to as "coverage-in-place" agreements. Under coverage-in-place agreements, an insurer's policies remain in force and the insurer undertakes to provide coverage for the Company's present and future asbestos claims on specified terms and conditions that address, among other things, the share of asbestos claims costs to be paid by the insurer, payment terms, claims handling procedures and the expiration of the insurer's obligations. The Company has entered into policy buyout agreements with certain insurers confirming the aggregate amount of available coverage under the subject policies and setting forth a schedule for future payments to aQualified Settlement Fund , to be disbursed for future asbestos costs. Collectively, these agreements are designed to facilitate an orderly resolution and collection of ITT's insurance and to mitigate issues that insurers may raise regarding their responsibility to respond to claims. As ofSeptember 30, 2020 , the Company has entered into coverage-in-place agreements and policy buyout agreements representing approximately 59% of our recorded asbestos-related asset. While there are overall limits on the aggregate amount of insurance available to the Company with respect to asbestos claims, with respect to certain coverage, those overall limits were not reached by the estimated liability recorded by the Company atSeptember 30, 2020 . We continue to pursue our right to reimbursement for asbestos-related losses under certain insurance policies in the coverage litigation and explore negotiations with our insurers to maximize our insurance recoveries. Although asbestos cash outflows can vary significantly from year to year, our current net cash outflows for defense and indemnity, net of tax benefits, are projected to average$20 to$30 over the next ten years, with declines in subsequent years. Net cash outflows for defense and indemnity, net of tax, averaged$20 over the 35 -------------------------------------------------------------------------------- past three annual periods. Total net asbestos cash outflows also include certain administrative costs such as legal related costs for insurance asset recoveries. In light of the uncertainties and variables inherent in the long-term projection of the Company's asbestos exposures and potential recoveries, it is difficult to predict the ultimate cost of resolving the pending and estimated unasserted future claims. We believe it is possible that the future events affecting the key factors and other variables over the projection period could have a material adverse effect on our financial statements. KEY PERFORMANCE INDICATORS AND NON-GAAP MEASURES Management reviews a variety of key performance indicators including revenue, segment operating income and margins, earnings per share, and backlog, some of which are calculated other than in accordance with accounting principles generally accepted inthe United States of America (GAAP). In addition, we consider certain measures to be useful to management and investors when evaluating our operating performance for the periods presented. These measures provide a tool for evaluating our ongoing operations and management of assets from period to period. This information can assist investors in assessing our financial performance and measures our ability to generate capital for deployment among competing strategic alternatives and initiatives, including, but not limited to, acquisitions, dividends, and share repurchases. Some of these metrics, however, are not measures of financial performance under GAAP and should not be considered a substitute for measures determined in accordance with GAAP. We consider the following non-GAAP measures to be key performance indicators. These measures may not be comparable to similarly titled measures reported by other companies. •"Organic revenue" is defined as revenue, excluding the impacts of foreign currency fluctuations, acquisitions, and divestitures that did not meet the criteria for presentation as a discontinued operation. The period-over-period change resulting from foreign currency fluctuations is estimated using a fixed exchange rate for both the current and prior periods. Management believes that reporting organic revenue provides useful information to investors by facilitating comparisons of our revenue performance with prior and future periods and to our peers. A reconciliation of revenue to organic revenue for the three and nine months endedSeptember 30, 2020 is provided below. Industrial Connect & Control
Total
Three Months Ended September 30 Motion Technologies Process Technologies Eliminations ITT 2020 Revenue$ 271.8 $ 194.1 $ 125.9 $ (0.6) $ 591.2 Acquisitions - - - - - Foreign currency translation (7.7) 1.5 (1.0) 0.1
(7.1)
2020 Organic revenue$ 264.1 $ 195.6 $ 124.9 $ (0.5) $ 584.1 2019 Revenue$ 304.5 $ 240.3 $ 167.9 $ (0.8) $ 711.9 Organic (decline) growth (40.4) (44.7) (43.0) 0.3 (127.8) Percentage change (13.3) % (18.6) % (25.6) % (18.0) % Nine Months Ended September 30 2020 Revenue$ 769.0 $ 614.7 $ 387.5 $ (2.0) $ 1,769.2 Acquisitions - (18.6) (5.8) - (24.4) Foreign currency translation 8.1 11.1 (0.2) 0.1
19.1
2020 Organic revenue$ 777.1 $ 607.2 $ 381.5 $ (1.9) $ 1,763.9 2019 Revenue$ 937.4 $ 688.6 $ 503.1 $ (1.8) $ 2,127.3 Organic (decline) growth (160.3) (81.4) (121.6) (0.1) (363.4) Percentage change (17.1) % (11.8) % (24.2) % (17.1) % •"Adjusted operating income" and "Adjusted segment operating income" are defined as operating income, adjusted to exclude special items that include, but are not limited to, asbestos-related impacts, restructuring, realignment, certain asset impairment charges, certain acquisition-related impacts, and unusual or infrequent operating items. Special items represent charges or credits that impact current results, which management views as unrelated to the Company's ongoing operations and performance. "Adjusted operating margin" and "Adjusted segment operating margin" are defined as adjusted operating income or adjusted segment operating income divided by revenue. We believe that these financial measures are useful to investors and other users of our financial statements in evaluating ongoing operating profitability, as well as in evaluating operating performance in relation to our competitors. 36 --------------------------------------------------------------------------------
A reconciliation of operating income to adjusted operating income for the three
and nine months ended
Motion Industrial Connect & Control Total
Three Months Ended September 30, 2020 Technologies Process Technologies Segment Corporate Total ITT
Operating income (loss) $ 50.4 $ 17.1 $ 16.4 $ 83.9 $ (146.4) $ (62.5)
Asbestos-related costs, net - - - - 141.4 141.4
Restructuring costs - 10.2 1.3 11.5 - 11.5
Acquisition-related expenses - 0.1 - 0.1 - 0.1
Realignment costs and other - - - - 0.3 0.3
Adjusted operating income (loss) $ 50.4 $ 27.4 $ 17.7 $ 95.5 $ (4.7) $ 90.8
Adjusted operating margin 18.5 % 14.1 % 14.1 % 16.2 % 15.4 %
Nine Months Ended September 30, 2020
Operating income (loss) $ 113.9 $ 44.5 $ 40.7 $ 199.1 $ (131.8) $ 67.3
Asbestos-related costs, net - - - - 116.7 116.7
Asset impairment charges(a) - 16.3 - 16.3 - 16.3
Restructuring costs 14.0 18.1 8.0 40.1 2.4 42.5
Acquisition-related expenses - 0.6 0.2 0.8 - 0.8
Adjusted operating income (loss) $ 127.9 $ 79.5 $ 48.9 $ 256.3 $ (12.7) $ 243.6
Adjusted operating margin 16.6 % 12.9 % 12.6 % 14.5 % 13.8 %
Motion Industrial Connect & Control Total
Three Months Ended September 30, 2019 Technologies Process Technologies Segment Corporate Total ITT
Operating income $ 56.7 $ 22.0 $ 28.4 $ 107.1 $ 45.4 $ 152.5
Asbestos-related benefit, net - - - - (56.2) (56.2)
Asset impairment charges - 1.0 - 1.0 - 1.0
Restructuring costs 0.7 5.1 0.9 6.7 - 6.7
Acquisition-related expenses - 3.0 0.3 3.3 - 3.3
Realignment costs and other(b) (0.1) - (0.1) (0.2) 0.8 0.6
Adjusted operating income (loss) $ 57.3 $ 31.1 $ 29.5 $ 117.9 $ (10.0) $ 107.9
Adjusted operating margin 18.8 % 12.9 % 17.6 % 16.6 % 15.2 %
Nine Months Ended September 30, 2019
Operating income $ 169.6 $ 70.2 $ 85.4 $ 325.2 $ 3.9 $ 329.1
Asbestos-related benefit, net - - - - (31.8) (31.8)
Asset impairment charges - 1.0 - 1.0 - 1.0
Restructuring costs 4.5 5.5 0.8 10.8 0.1 10.9
Acquisition-related expenses - 5.9 1.1 7.0 - 7.0
Realignment costs and other(b) 1.2 0.5 0.2 1.9 0.5 2.4
Adjusted operating income (loss) $ 175.3 $ 83.1 $ 87.5 $ 345.9 $ (27.3) $ 318.6
Adjusted operating margin 18.7 % 12.1 % 17.4 % 16.3 % 15.0 %
(a)Asset impairment charges in 2020 are related to a business within IP that
primarily serves the global upstream oil and gas market.
(b)Realignment and other in 2019 include costs associated with a legal matter at
MT, a management reorganization at IP, as well as costs associated with a
resolved DOJ civil matter at CCT. Realignment costs and other at Corporate
primarily relate to a management reorganization.
•"Adjusted income from continuing operations" is defined as income from
continuing operations attributable to ITT Inc. adjusted to exclude special items
that include, but are not limited to, asbestos-related impacts, restructuring,
realignment, certain asset impairment charges, pension termination and
settlement impacts, certain acquisition-related impacts, income tax settlements
or adjustments, and unusual or infrequent items. Special items represent charges
or credits, on an after-tax basis, that impact current results, which management
views as unrelated to the Company's ongoing operations and performance. The
after-tax basis of each special item is determined using the jurisdictional tax
rate of where the expense or benefit occurred. "Adjusted income from continuing
operations per diluted share" (Adjusted EPS) is defined as adjusted income from
continuing operations divided by diluted weighted average common shares
outstanding. We
37
--------------------------------------------------------------------------------
believe that adjusted income from continuing operations and adjusted EPS are
useful to investors and other users of our financial statements in evaluating
ongoing operating profitability, as well as in evaluating operating performance
in relation to our competitors.
A reconciliation of income from continuing operations to adjusted income from
continuing operations, for the three and nine months ended September 30, 2020
and 2019 is provided below.
Three Months Nine Months
For the Periods Ended September 30 2020 2019 2020 2019
Income from continuing operations attributable to
Net asbestos-related costs (benefit), net of tax (benefit) expense
of (
107.6 (43.0) 88.3 (24.3)
Asset impairment charges, net of tax benefit of
and
- 0.7 16.2 0.7
Restructuring costs, net of tax benefit of
10.6 5.0 34.0 8.0
Acquisition-related costs, net of tax benefit of
and
0.1 2.2 0.8 5.0 Tax-related special items(b) (0.1) 2.2 (33.3) 1.7
Realignment costs and other, net of tax benefit of
and
1.3 0.4 3.2 1.9 Adjusted income from continuing operations$ 71.5 $ 86.2 $ 191.3 $ 249.9 Income from continuing operations attributable toITT Inc. per diluted share (EPS)$ (0.55) $ 1.34 $ 0.94 $ 2.90 Adjusted EPS(d)$ 0.82 $ 0.97 $ 2.19 $ 2.82 (a)Asset impairment charges in 2020 are related to a business within IP that primarily serves the global upstream oil and gas market. (b)Tax-related special items for the nine month period 2020 includes the release of a valuation allowance. Tax-related special items in 2019 includes tax expense on undistributed foreign earnings. (c)Realignment costs and other in 2020 include costs associated with the termination ofU.S. Qualified pension plan at Corporate. Realignment costs and other in 2019 primarily relate to costs associated with a legal matter at MT, a management reorganization at IP, as well as costs associated with a resolved DOJ civil matter at CCT. (d)Adjusted EPS is calculated using weighted-average dilutive shares outstanding of 86.9, including the dilutive effect of 0.5 equity awards that were excluded from GAAP diluted EPS due to a net loss for the three month period endedSeptember 30, 2020 . 38 -------------------------------------------------------------------------------- RECENT ACCOUNTING PRONOUNCEMENTS See Note 2, Recent Accounting Pronouncements , to the Consolidated Condensed Financial Statements for information on recent accounting pronouncements. CRITICAL ACCOUNTING ESTIMATES The preparation of ITT's financial statements, in conformity with accounting principles generally accepted inthe United States of America , requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. ITT believes the most complex and sensitive judgments, because of their significance to the Consolidated Condensed Financial Statements, result primarily from the need to make estimates about the effects of matters that are inherently uncertain. Management's Discussion and Analysis of Financial Condition and Results of Operations in the 2019 Annual Report describes the critical accounting estimates that are used in the preparation of the Consolidated Condensed Financial Statements. Actual results in these areas could differ from management's estimates. There have been no significant changes concerning ITT's critical accounting estimates as described in our 2019 Annual Report, other than those noted below. Asbestos Matters Our subsidiaries,ITT LLC andGoulds Pumps LLC , have been sued along with many other companies in product liability lawsuits alleging personal injury due to asbestos exposure. These claims generally allege that certain products sold by our subsidiaries prior to 1985 contained a part manufactured by a third party (e.g., a gasket) that contained asbestos. To the extent that these third-party parts may have contained asbestos, it was encapsulated in the gasket (or other) material and was non-friable. Estimating our exposure to pending asbestos claims and those that may be filed in the future is subject to significant uncertainty and risk as there are multiple variables that can affect the timing, severity, quality, quantity, and resolution of claims. The methodology used to project future asbestos costs is based largely on the Company's recent experience in resolving asbestos claims. To estimate the Company's exposure for pending claims, we use recent dismissal rates and settlement averages to calculate the expected cost of those cases. To estimate the unasserted claims, the Company relies on previously conducted epidemiological studies estimating the population ofU.S. workers across 11 different industry and occupation categories believed to have been exposed to asbestos. We use relevant information from those studies to calculate an estimate of the number of claims to be compensated by the Company and then apply our recent experience on settlement averages to calculate the estimated costs to be incurred to resolve those unasserted claims. In addition, the estimate is augmented for the costs of defending asbestos claims in the tort system. The asbestos liability has not been discounted to present value as the timing of future cash flows may vary. The Company retains a consulting firm to assist management in estimating our potential exposure to pending asbestos claims and for claims estimated to be filed in the future. The methodology to project future asbestos costs is one in which the underlying assumptions are separately assessed for their reasonableness and then each is used as an input to the liability estimate. Our assessment of the underlying assumptions concludes on one value for each assumption. The liability estimate is most sensitive to assumptions surrounding mesothelioma and lung cancer claims, as together, the estimated costs to resolve pending and estimated future mesothelioma and lung cancer claims represent approximately 98% of the indemnity liability, but only 33% of pending claims. The assumptions used by the Company are interdependent and no one factor predominates in estimating the asbestos liability. While there are other potential inputs to the model used to estimate our asbestos exposures for pending and estimated future claims, our methodology relies on the best input available for each individual assumption and, due to the interdependencies, does not create a range of reasonably possible outcomes. Projecting future asbestos costs is subject to numerous variables and uncertainties that are inherently difficult to predict. In addition to the uncertainties surrounding the key assumptions, additional uncertainty related to asbestos claims arise from the long latency period prior to the manifestation of an asbestos-related disease, changes in available medical treatments and associated medical costs, changes in plaintiff behavior resulting from bankruptcies of other companies that are potential defendants or co-defendants, uncertainties surrounding the litigation process from jurisdiction to jurisdiction, and the impact of potential legislative or judicial changes. The forecast period used to estimate our potential exposure to projected asbestos claims is a judgment based on a number of factors, including volatility in asbestos litigation in general, the number and type of claims filed, 39 -------------------------------------------------------------------------------- recent experience with claims activity, and whether our past experience is expected to continue into the future. During the third quarter of 2020, we extended our forecast period to include pending claims and claims expected to be filed through 2052, reflecting the full time period over which we expect asbestos-related claims to be filed against us. Previous estimates included pending claims and claims expected to be filed over the next 10 years. Our ability to reasonably estimate the liability over the full time horizon resulted from the culmination of various factors, including: •We have observed stability in our data, particularly our experience in the number of and percentage of claims compensated by the Company, the amounts paid to settle claims, and related defense costs, subsequent to the implementation of our one-firm defense strategy. •Recent favorable developments in our insurance coverage litigation, including a stipulation filed with the court in the third quarter of 2020 in which a group of insurers acknowledged and agreed on the remaining available and solvent limits of a significant coverage block, and our experience with insurance settlements, including settlements earlier this year, have provided additional certainty with respect to the availability of insurance to reimburse us for certain asbestos-related expenses and the overall net exposure of the Company. Overall, we believe there is greater predictability of outcomes from insurance settlements and stability of underlying inputs used in calculating the gross liability. As a result, we believe the uncertainty in calculating the net liability has been reduced and we now have sufficient reliability to transition to a full time horizon with the annual remeasurement. We record a corresponding asbestos-related asset that represents our best estimate of probable insurance recoveries related to the recorded asbestos liability. In developing this estimate, the Company considers coverage-in-place and other settlement agreements with its insurers, as well as a number of additional factors, including expected levels of future cost recovery, the financial viability of the insurance companies, the method by which losses will be allocated to the various insurance policies and the years covered by those policies, the extent to which settlement and defense costs will be reimbursed by the insurance policies, and interpretation of the various policy and contract terms and limits and their interrelationships. The asbestos-related asset has not been discounted to present value, consistent with the asbestos liability as the timing of the insurance recoveries, including those under coverage-in-place and other settlement agreements, is dependent on the timing of payments of the asbestos liability. The Company retains a consulting firm to assist management in estimating probable insurance recoveries related to pending and future asbestos claims. The analysis of policy terms and the likelihood of recovery from solvent insurers are provided by external legal counsel and includes a risk assessment where policy terms or other factors are not certain and allocates asbestos settlement and defense costs among our insurers. Based on the estimated undiscounted asbestos liability as ofSeptember 30, 2020 , we have estimated that we will be able to recover 43% of asbestos indemnity and defense costs from our insurers. However, actual insurance reimbursements may vary significantly from period to period and the anticipated recovery rate is expected to decline over time due to exhaustion of policies and the insolvency of certain insurers. Future recovery rates may be impacted (positively or negatively) by other factors, such as future insurance settlements, unforeseen insolvencies, and judicial determinations relevant to our coverage program, which are difficult to predict. Our estimated asbestos liability and related receivables are based on management's best estimate of future events largely based on past experience; however, past experience may not prove a reliable predictor of the future. Future events affecting the key assumptions and other variables for either the asbestos liability or the related receivables could cause actual costs and recoveries to be materially higher or lower than currently estimated. For example, a significant upward or downward trend in the number of claims filed, depending on the nature of the alleged injury, the jurisdiction where filed and the quality of the product identification could change the estimated liability, as would substantial adverse verdicts at trial. A legislative solution, structured settlement transaction, or significant change in relevant case law could also change the estimated liability. Further, the bankruptcy of an insurer or settlements with our insurers, whether through coverage-in-place agreements or policy buyouts, could change the estimated amount of recoveries. Due to these uncertainties, it is difficult to predict the ultimate cost of resolving all pending and estimated unasserted asbestos claims. We believe it is possible that the future events affecting the key factors and other variables in estimating our liability could have a material adverse effect on our financial statements. 40
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