Attached files

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EX-32.2 - EXHIBIT 32.2 - FLOWSERVE CORPa09302018exhibit322.htm
EX-32.1 - EXHIBIT 32.1 - FLOWSERVE CORPa09302018exhibit321.htm
EX-31.2 - EXHIBIT 31.2 - FLOWSERVE CORPa09302018exhibit312.htm
EX-31.1 - EXHIBIT 31.1 - FLOWSERVE CORPa09302018exhibit311.htm
EX-10.1 - EXHIBIT 10.1 - FLOWSERVE CORPa09302018exhibit101.htm

 
 
 






UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2018
OR

¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM           to          .
Commission File No. 1-13179
FLOWSERVE CORPORATION
(Exact name of registrant as specified in its charter)

flslogoa02.gif
New York
 
31-0267900
(State or other jurisdiction of incorporation or organization)
 
 (I.R.S. Employer Identification No.)
 
 
 
5215 N. O’Connor Blvd., Suite 2300, Irving, Texas
 
75039
(Address of principal executive offices)
 
 
 (Zip Code)

 
(972) 443-6500
 
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. þ Yes ¨ No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). þ Yes ¨ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
Accelerated filer ¨
Non-accelerated filer ¨ 
Smaller reporting company ¨
Emerging growth company ¨
 
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
As of November 1, 2018 there were 130,856,957 shares of the issuer’s common stock outstanding.


 
 
 








FLOWSERVE CORPORATION
FORM 10-Q
TABLE OF CONTENTS

 
Page
 
No.
 
 
 
 
 
 EX-31.1
 
 EX-31.2
 
 EX-32.1
 
 EX-32.2
 
 EX-101 INSTANCE DOCUMENT
 
 EX-101 SCHEMA DOCUMENT
 
 EX-101 CALCULATION LINKBASE DOCUMENT
 
 EX-101 LABELS LINKBASE DOCUMENT
 
 EX-101 PRESENTATION LINKBASE DOCUMENT
 
 EX-101 DEFINITION LINKBASE DOCUMENT
 
i



PART I — FINANCIAL INFORMATION
Item 1.
Financial Statements.
FLOWSERVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
(Amounts in thousands, except per share data)
Three Months Ended September 30,
 
2018
 
2017
Sales
$
952,716

 
$
883,380

Cost of sales
(644,215
)
 
(615,368
)
Gross profit
308,501

 
268,012

Selling, general and administrative expense
(241,878
)
 
(206,001
)
(Loss) gain on sale of businesses
(7,727
)
 
9,864

Net earnings from affiliates
3,295

 
2,918

Operating income
62,191

 
74,793

Interest expense
(13,826
)
 
(15,043
)
Interest income
1,269

 
1,108

Other (expense) income, net
(5,283
)
 
7,511

Earnings before income taxes
44,351

 
68,369

Provision for income taxes
(14,912
)
 
(19,628
)
Net earnings, including noncontrolling interests
29,439

 
48,741

Less: Net earnings attributable to noncontrolling interests
(1,234
)
 
(1,136
)
Net earnings attributable to Flowserve Corporation
$
28,205

 
$
47,605

Net earnings per share attributable to Flowserve Corporation common shareholders:
 
 
 
Basic
$
0.22

 
$
0.36

Diluted
0.21

 
0.36

Cash dividends declared per share
$
0.19

 
$
0.19


CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
(Amounts in thousands)
Three Months Ended September 30,
 
2018
 
2017
Net earnings, including noncontrolling interests
$
29,439

 
$
48,741

Other comprehensive (loss) income:
 
 
 
Foreign currency translation adjustments, net of taxes of $3,246 and $(5,209), respectively
(19,669
)
 
17,674

Pension and other postretirement effects, net of taxes of $(311) and $(557), respectively
2,599

 
(444
)
Cash flow hedging activity
52

 
12

Other comprehensive (loss) income
(17,018
)
 
17,242

Comprehensive income, including noncontrolling interests
12,421

 
65,983

Comprehensive income attributable to noncontrolling interests
(1,578
)
 
(1,090
)
Comprehensive income attributable to Flowserve Corporation
$
10,843

 
$
64,893


See accompanying notes to condensed consolidated financial statements.

1



FLOWSERVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Unaudited)
 
 
 
 
(Amounts in thousands, except per share data)
Nine Months Ended September 30,
 
2018
 
2017
Sales
$
2,845,798

 
$
2,626,762

Cost of sales
(1,979,807
)
 
(1,844,303
)
Gross profit
865,991

 
782,459

Selling, general and administrative expense
(711,845
)
 
(680,305
)
(Loss) gain on sale of businesses
(7,727
)
 
141,158

Net earnings from affiliates
7,908

 
9,027

Operating income
154,327

 
252,339

Interest expense
(43,645
)
 
(44,689
)
Interest income
4,237

 
2,373

Other expense, net
(17,206
)
 
(13,971
)
Earnings before income taxes
97,713

 
196,052

Provision for income taxes
(37,028
)
 
(85,836
)
Net earnings, including noncontrolling interests
60,685

 
110,216

Less: Net earnings attributable to noncontrolling interests
(4,117
)
 
(1,682
)
Net earnings attributable to Flowserve Corporation
$
56,568

 
$
108,534

Net earnings per share attributable to Flowserve Corporation common shareholders:
 
 
 
Basic
$
0.43

 
$
0.83

Diluted
0.43

 
0.83

Cash dividends declared per share
$
0.57

 
$
0.57


CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
 
 
 
(Amounts in thousands)
Nine Months Ended September 30,
 
2018
 
2017
Net earnings, including noncontrolling interests
$
60,685

 
$
110,216

Other comprehensive (loss) income:
 
 
 
Foreign currency translation adjustments, net of taxes of $8,034 and $(17,380), respectively
(61,217
)
 
85,777

Pension and other postretirement effects, net of taxes of $(898) and $(1,669), respectively
8,106

 
(1,102
)
Cash flow hedging activity, net of taxes of $(34) in 2017
177

 
96

Other comprehensive (loss) income
(52,934
)
 
84,771

Comprehensive income, including noncontrolling interests
7,751

 
194,987

Comprehensive income attributable to noncontrolling interests
(5,270
)
 
(2,169
)
Comprehensive income attributable to Flowserve Corporation
$
2,481

 
$
192,818


See accompanying notes to condensed consolidated financial statements.


2



FLOWSERVE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(Amounts in thousands, except par value)
September 30,
 
December 31,
 
2018
 
2017
ASSETS
Current assets:
 
 
 
Cash and cash equivalents
$
529,942

 
$
703,445

Accounts receivable, net of allowance for doubtful accounts of $54,481 and $59,113, respectively
780,408

 
856,711

Contract assets, net
261,417

 

Inventories, net
655,652

 
884,273

Prepaid expenses and other
97,248

 
114,316

Total current assets
2,324,667

 
2,558,745

Property, plant and equipment, net of accumulated depreciation of $952,293 and $968,033, respectively
608,739

 
671,796

Goodwill
1,203,768

 
1,218,188

Deferred taxes
61,153

 
51,974

Other intangible assets, net
195,864

 
210,049

Other assets, net
210,873

 
199,722

Total assets
$
4,605,064

 
$
4,910,474

 
 
 
 
LIABILITIES AND EQUITY
Current liabilities:
 
 
 
Accounts payable
$
400,281

 
$
443,113

Accrued liabilities
398,285

 
724,196

Contract liabilities
174,245

 

Debt due within one year
67,269

 
75,599

Total current liabilities
1,040,080

 
1,242,908

Long-term debt due after one year
1,436,746

 
1,499,658

Retirement obligations and other liabilities
497,511

 
496,954

Shareholders’ equity:
 
 
 
Common shares, $1.25 par value
220,991

 
220,991

Shares authorized – 305,000
 
 
 
Shares issued – 176,793
 
 
 
Capital in excess of par value
489,066

 
488,326

Retained earnings
3,505,051

 
3,503,947

Treasury shares, at cost – 46,240 and 46,471 shares, respectively
(2,049,535
)
 
(2,059,558
)
Deferred compensation obligation
7,025

 
6,354

Accumulated other comprehensive loss
(559,559
)
 
(505,473
)
Total Flowserve Corporation shareholders’ equity
1,613,039

 
1,654,587

Noncontrolling interests
17,688

 
16,367

Total equity
1,630,727

 
1,670,954

Total liabilities and equity
$
4,605,064

 
$
4,910,474


See accompanying notes to condensed consolidated financial statements.

3



FLOWSERVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Amounts in thousands)
Nine Months Ended September 30,
 
2018
 
2017
Cash flows – Operating activities:
 
 
 
Net earnings, including noncontrolling interests
$
60,685

 
$
110,216

Adjustments to reconcile net earnings to net cash provided (used) by operating activities:
 
 
 
Depreciation
72,668

 
75,177

Amortization of intangible and other assets
12,548

 
12,767

Loss (gain) on disposition of businesses
7,727

 
(141,158
)
Stock-based compensation
14,130

 
20,291

Foreign currency, asset impairments and other non-cash adjustments
31,678

 
24,696

Change in assets and liabilities:
 
 
 
Accounts receivable, net
(9,481
)
 
63,835

Inventories, net
(46,699
)
 
(20,355
)
Contract assets, net
(54,822
)
 

Prepaid expenses and other assets, net
(16,340
)
 
22,456

Accounts payable
(29,963
)
 
(68,012
)
Contract liabilities
3,410

 

Accrued liabilities and income taxes payable
(13,690
)
 
(6,702
)
Retirement obligations and other
(1,480
)
 
(18,720
)
       Net deferred taxes
(4,033
)
 
(2,131
)
Net cash flows provided by operating activities
26,338

 
72,360

Cash flows – Investing activities:
 
 
 
Capital expenditures
(49,976
)
 
(40,620
)
Proceeds from disposal of assets and other
4,062

 
2,977

(Payments) proceeds from disposition of businesses
(3,663
)
 
208,775

Net cash flows (used) provided by investing activities
(49,577
)
 
171,132

Cash flows – Financing activities:
 
 
 
Payments on long-term debt
(45,000
)
 
(45,000
)
Proceeds under other financing arrangements
2,720

 
6,234

Payments under other financing arrangements
(9,093
)
 
(12,560
)
Payments related to tax withholding for stock-based compensation
(2,972
)
 
(6,287
)
Payments of dividends
(74,548
)
 
(74,412
)
Other
(4,333
)
 
(4,189
)
Net cash flows used by financing activities
(133,226
)
 
(136,214
)
Effect of exchange rate changes on cash
(17,038
)
 
27,703

Net change in cash and cash equivalents
(173,503
)
 
134,981

Cash and cash equivalents at beginning of period
703,445

 
367,162

Cash and cash equivalents at end of period
$
529,942

 
$
502,143


See accompanying notes to condensed consolidated financial statements.

4



FLOWSERVE CORPORATION
(Unaudited)
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1.
Basis of Presentation and Accounting Policies
Basis of Presentation
The accompanying condensed consolidated balance sheet as of September 30, 2018, the related condensed consolidated statements of income and comprehensive income for the three and nine months ended September 30, 2018 and 2017 and the condensed consolidated statements of cash flows for the nine months ended September 30, 2018 and 2017 of Flowserve Corporation are unaudited. In management’s opinion, all adjustments comprising normal recurring adjustments necessary for fair statement of such condensed consolidated financial statements have been made. Where applicable, prior period information has been updated to conform to current year presentation.
The accompanying condensed consolidated financial statements and notes in this Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2018 ("Quarterly Report") are presented as permitted by Regulation S-X and do not contain certain information included in our annual financial statements and notes thereto. Accordingly, the accompanying condensed consolidated financial information should be read in conjunction with the audited consolidated financial statements presented in our Annual Report on Form 10-K for the year ended December 31, 2017 ("2017 Annual Report").
Argentina Highly Inflationary - Effective July 1, 2018, Argentina was designated as hyperinflationary, and as a result, we began using the U.S. dollar as our functional currency in Argentina. Our Argentinian subsidiary's sales for the three and nine months ended September 30, 2018 and total assets at September 30, 2018 represented approximately 1% of our consolidated sales and total assets.
Accounting Developments
Pronouncements Implemented
In May 2014, the FASB issued Accounting Standards Update ("ASU") No. 2014-09, "Revenue from Contracts with Customers (Topic 606)" (the "New Revenue Standard" or "ASC 606"), which supersedes most of the revenue recognition requirements in "Revenue Recognition (Topic 605)" ("Topic 605"). On January 1, 2018, we adopted the New Revenue Standard using the modified retrospective method for transition, applying the guidance to those contracts which were not completed as of that date. According to our method of transition we adjusted for the cumulative effect of the changes made to our condensed consolidated balance sheet and recorded a cumulative effect adjustment to increase retained earnings by approximately $20 million, mostly associated with the increase in percentage of completion ("POC") method revenue, as a result of initially applying the standard. We have modified our accounting policies and practices, business processes, systems and controls to support compliance with the standard requirements. Revenue recognition and related financial information for this Quarterly Report are based on the requirements of ASC 606. Accordingly, periods prior to January 1, 2018 are presented in accordance with Topic 605. Refer to Note 2 of this Quarterly Report for a discussion on our adoption of the New Revenue Standard.
In January 2016, the FASB issued ASU No. 2016-01, "Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities." The ASU requires entities to measure equity investments that do not result in consolidation and are not accounted for under the equity method at fair value with changes in fair value recognized in net income. The ASU also requires an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. The requirement to disclose the method(s) and significant assumptions used to estimate the fair value for financial instruments measured at amortized cost on the balance sheet has been eliminated by this ASU. In February 2018, the FASB issued ASU No. 2018-03, "Technical Corrections and Improvements to Financial Instruments-Overall (Subtopic 825-10)" to clarify certain aspects of ASU No. 2016-01. Our adoption of ASU No. 2016-01 and ASU No. 2018-03 effective January 1, 2018 did not have an impact on our consolidated financial condition and results of operations.
In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments - A consensus of the FASB Emerging Issues Task Force.” The update was issued with the objective of reducing the existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows under Topic 230 and other topics. Our adoption of ASU No. 2016-15 effective January 1, 2018 did not have a material impact on our consolidated statement of cash flows.
In October 2016, the FASB issued ASU No. 2016-16, "Income Taxes (Topic 740) Intra-Entity Transfers of Assets Other Than Inventory." The ASU guidance requires the recognition of the income tax consequences of an intercompany asset transfer, other than transfers of inventory, when the transfer occurs. For intercompany transfers of inventory, the income tax effects will continue

5



to be deferred until the inventory has been sold to a third party. Our adoption of ASU No. 2016-16 effective January 1, 2018 did not have a material impact on our consolidated financial condition and results of operations.
In November 2016, the FASB issued ASU No. 2016-18, "Statement of Cash Flows (Topic 230): Restricted Cash." The amendments in this ASU require that a statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. Our adoption of ASU No. 2016-18 effective January 1, 2018 did not have a material impact on our consolidated statement of cash flows.
In January 2017, the FASB issued ASU No. 2017-01, "Business Combinations (Topic 805): "Clarifying the Definition of a Business." The ASU clarifies the definition of a business and provides guidance on evaluating as to whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. The definition clarification as outlined in this ASU affects many areas of accounting including acquisitions, disposals, goodwill, and consolidation. Our adoption of ASU No. 2017-01 effective January 1, 2018 did not have a material impact on our consolidated financial condition and results of operations.
In February 2017, the FASB issued ASU No. 2017-05, "Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20): Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets." The FASB issued this ASU to clarify the scope of subtopic 610-20, which the FASB had failed to define in its issuance of ASU No. 2014-09, "Revenue from Contracts with Customers (Topic 606)." We adopted ASU No. 2017-05 effective January 1, 2018, concurrently with ASU No. 2014-09. Our adoption of ASU No. 2017-05 effective January 1, 2018 did not have a material impact on our consolidated financial condition and results of operations.
In March 2017, the FASB issued ASU No. 2017-07, "Compensation-Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost." The ASU requires entities to disaggregate the current service cost component from the other components of net benefit cost and present it with other current compensation costs for related employees in the income statement and present the other components of net benefit cost elsewhere in the income statement and outside of operating income. Entities are required to retrospectively apply the requirement for a separate presentation in the income statement of service costs and other components of net benefit cost. We adopted the income statement presentation aspects of this new guidance on a retrospective basis. The following is a reconciliation of the effect of the reclassification of the net post-retirement benefit cost from cost of sales ("COS") and selling, general and administrative expenses ("SG&A") to other expense, net in our condensed consolidated statement of income for the three and nine months ended September 30, 2017:
(Amounts in thousands)
As Previously Reported
 
Adjustments(1)
 
As Reported
Three Months Ended September 30, 2017
 
 
 
 
 
Cost of sales
$
(615,848
)
 
$
480

 
$
(615,368
)
Gross profit
267,532

 
480

 
268,012

Selling, general and administrative expense
(206,295
)
 
294

 
(206,001
)
Operating income
74,019

 
774

 
74,793

Other income, net
8,285

 
(774
)
 
7,511

 
 
 
 
 
 
Nine Months Ended September 30, 2017
 
 
 
 
 
Cost of sales
$
(1,845,796
)
 
$
1,493

 
$
(1,844,303
)
Gross profit
780,966

 
1,493

 
782,459

Selling, general and administrative expense
(681,181
)
 
876

 
(680,305
)
Operating income
249,970

 
2,369

 
252,339

Other expense, net
(11,602
)
 
(2,369
)
 
(13,971
)
_______________________________________
(1) We elected the practical expedient that allows us to use the amounts disclosed in prior comparative periods’ pension and postretirement plan footnotes as the basis for the retrospective application of the new income statement presentation requirements. See Note 11 of this Quarterly Report for additional information on the components of the net periodic cost for retirement and postretirement benefits plans.
In May 2017, the FASB issued ASU No. 2017-09, "Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting." The ASU provides guidance on the types of changes to the terms or conditions of share-based payment awards, to which an entity would be required to apply modification accounting. The ASU is applied prospectively to awards modified on or

6



after the effective date. Our adoption of ASU No. 2017-09 effective January 1, 2018 did not have an impact on our consolidated financial condition and results of operations.
 
Pronouncements Not Yet Implemented
In February 2016, the FASB issued ASU No. 2016-02, “Leases (Topic 842)”.  The ASU requires that organizations that lease assets recognize assets and liabilities on the balance sheet for the rights and obligations created by those leases.  The ASU will affect the presentation of lease related expenses on the income statement and statement of cash flows and will increase the required disclosures related to leases.  This ASU is effective for annual periods beginning after December 15, 2018, including interim periods within those fiscal years with early adoption permitted.  We are currently evaluating the impact of ASU No. 2016-02 and all related ASU's on our consolidated financial condition and results of operations. We have formed a project team and are in the process of assessing critical components of this new guidance and the potential impact that the guidance will have on our financial position, results of operations and cash flows.   This evaluation process includes a review of our leasing contracts and a completeness assessment over our lease population.  We are implementing a software tool and are concurrently identifying changes to our business processes, systems and controls to support adoption of the new standard.  Based on the preliminary work completed and our initial qualitative evaluation, we believe a key change upon adoption of the standard will be the balance sheet recognition of leased assets and liabilities.  Also, based on the same qualitative evaluation, we believe that any changes in income statement recognition will not be material.
In June 2016, the FASB issued ASU No. 2016-13, "Financial Instruments-Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments." The ASU requires, among other things, the use of a new current expected credit loss ("CECL") model in order to determine our allowances for doubtful accounts with respect to accounts receivable and contract assets. The CECL model requires that we estimate our lifetime expected credit loss with respect to our receivables and contract assets and record allowances that, when deducted from the balance of the receivables, represent the net amounts expected to be collected. We will also be required to disclose information about how we developed the allowances, including changes in the factors that influenced our estimate of expected credit losses and the reasons for those changes. The amendments of the ASU are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. We are currently evaluating the impact of ASU No. 2016-13 on our consolidated financial condition and results of operations.
In January 2017, the FASB issued ASU No. 2017-04, "Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment." The amendments in this ASU allow companies to apply a one-step quantitative test and record the amount of goodwill impairment as the excess of a reporting unit’s carrying amount over its fair value, not to exceed the total amount of goodwill allocated to the reporting unit. The amendments of the ASU are effective for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. We are currently evaluating the impact of ASU No. 2017-04 on our consolidated financial condition and results of operations.
On July 13, 2017, the FASB issued ASU No. 2017-11, “Earnings Per Share (Topic 260); Distinguishing Liabilities from Equity (Topic 480); Derivatives and Hedging (Topic 815): (Part I) Accounting for Certain Financial Instruments with Down Round Features, (Part II) Replacement of the Indefinite Deferral for Mandatory Redeemable Financial Instruments of Certain Nonpublic Entities and Certain Mandatory Redeemable Noncontrolling Interests with a Scope Exception.” The ASU amends guidance in FASB Accounting Standards Codification ("ASC") 260, Earnings Per Share, FASB ASC 480, Distinguishing Liabilities from Equity, and FASB ASC 815, Derivatives and Hedging. The amendments in Part I of this ASU change the classification analysis of certain equity-linked financial instruments (or embedded features) with down round features. The amendments in Part II of the ASU re-characterize the indefinite deferral of certain provisions of Topic 480 that now are presented as pending content in the codification, to a scope exception. The amendments in this ASU must be applied to annual reporting periods beginning after December 15, 2018. Early adoption is permitted. We are currently evaluating the impact of ASU No. 2017-11 on our consolidated financial condition and results of operations.
On August 28, 2017, the FASB issued ASU No. 2017-12, "Derivatives and Hedging (Topic 815): Targeted improvements of Accounting for Hedging Activities." The purpose of this ASU is to better align a company’s risk management activities and financial reporting for hedging relationships. Additionally, the ASU simplifies the hedge accounting requirements and improve the disclosures of hedging arrangements. The amendments in this ASU must be applied to annual reporting periods beginning after December 15, 2019. Early adoption is permitted. We are currently evaluating the impact of ASU No. 2017-12 on our consolidated financial condition and results of operations.
In February 2018, the FASB issued ASU No. 2018-02, "Income Statement - Reporting Comprehensive Income (Topic 220): Reclassification of Certain Tax Effects from Accumulated Comprehensive Income (“AOCI”)." The ASU and its amendments were issued as a result of the enactment of the U.S. Tax Cuts and Jobs Act of 2017. The amendments of this ASU address the available options to reclassify stranded tax effects within AOCI to retained earnings in each period in which the effect of the change (or portion thereof) is recorded. Additionally, the ASU outlines the disclosure requirements for releasing income tax effects from

7



AOCI. The ASU is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. Early adoption is permitted. The ASU should be applied either in the period of adoption or retrospectively to each period (or periods) in which the effect of the change in the U.S. federal corporate income tax rate in the Tax Cuts and Jobs Act is recognized. We are currently evaluating the impact of ASU No. 2018-02 on our consolidated financial condition and results of operations.
In July 2018, the FASB issued ASU No. 2018-07, "Compensation - Stock Compensation (Topic 718) - Improvements to Non-employee Share-based Payment Accounting." The amendments of this ASU apply to all share-based payment transactions to non-employees, in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations, accounted under ASC 505-50, Equity-Based Payments to Non-Employees. Under the amendments of ASU 2018-07, most of the guidance on compensation to nonemployees would be aligned with the requirements for shared based payments granted to employees, Topic 718. The ASU is effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. Early adoption is permitted. We are currently evaluating the impact of ASU No. 2018-07 on our consolidated financial condition and results of operations.
In August 2018, the FASB issued ASU No. 2018-13, "Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement." The amendments of the ASU modify the disclosure requirements for fair value measurements by removing, modifying, or adding certain disclosure information requirements for assets and liabilities measured at fair value in the statement of financial position or disclosed in the notes to financial statements. The ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019, with early adoption permitted for the removed disclosures and delayed adoption until fiscal year 2020 permitted for the new disclosures. The removed and modified disclosures will be adopted on a retrospective basis and the new disclosures will be adopted on a prospective basis. We are currently evaluating the impact of ASU No. 2018-13 on our consolidated financial condition and results of operations.
In August 2018, the FASB issued ASU No. 2018-14, "Compensation-Retirement Benefits-Defined Benefit Plans-General (Subtopic 715-20): Disclosure Framework-Changes to the Disclosure Requirements for Defined Benefit Plans." The ASU amends the disclosure requirements by adding, clarifying, or removing certain disclosures for sponsor defined benefit pension or other postretirement plans. The amendments are effective for fiscal years ending after December 15, 2020 and the amendments should be applied retrospectively to all periods presented. We are currently evaluating the impact of ASU No. 2018-14 on our consolidated financial condition and results of operations.
In August 2018, the FASB issued ASU No. 2018-15, "Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract." The ASU addresses how entities should account for costs associated with implementing a cloud computing arrangement that is considered a service contract. Per the amendments of the ASU, implementation costs incurred in a cloud computing arrangement that is a service contract should be accounted for in the same manner as implementation costs incurred to develop or obtain software for internal use as prescribed by guidance in ASC350-40. The ASU requires that implementation costs incurred in a cloud computing arrangement be capitalized rather than expensed. Further, the ASU specifies the method for the amortization of costs incurred during implementation, and the manner in which the unamortized portion of these capitalized implementation costs should be evaluated for impairment. The ASU also provides guidance on how to present such implementation costs in the financial statements and also creates additional disclosure requirements. The amendments are effective for fiscal years beginning after December 15, 2019, including interim periods. Early adoption of the ASU requirements is permitted, including adoption in any interim period. The amendments in this ASU should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. We are currently evaluating the impact of ASU No. 2018-15 on our consolidated financial condition and results of operations.
2.
Revenue Recognition
We enter into contracts with customers typically having multiple commitments of goods and services including any combination of designing, developing, manufacturing, modifying, installing and commissioning of flow management equipment and providing services and parts related to the performance of such products. We evaluate the commitments in our contracts with customers to determine if the commitments are both capable of being distinct and distinct in the context of the contract in order to identify performance obligations.
We recognize revenue when (or as) we satisfy a performance obligation by transferring control of the performance obligation to a customer. Control of a performance obligation may transfer to the customer either over time or at a point in time depending on an evaluation of the specific facts and circumstances for each contract, including the terms and conditions of the contract as agreed with the customer, as well as the nature of the products or services to be provided. Our larger contracts are typically completed within a one to three-year period, while many other contracts, such as “short cycle” contracts, have a shorter timeframe for revenue recognition.

8



Control transfers over time when the customer is able to direct the use of and obtain substantially all of the benefits of our work as we perform. This typically occurs when products have no alternative use and we have a right to payment for performance completed to date, including a reasonable profit margin. Our contracts often include cancellation provisions that require the customer to reimburse us for costs incurred up to the date of cancellation, and some contracts also provide for reimbursement of profit upon cancellation in addition to costs incurred to date.
Our primary method for recognizing revenue over time is the POC method.  We measure progress towards completion by applying an input measure based on costs incurred to date relative to total estimated costs at completion (i.e., the cost-to-cost method).  This method provides a reasonable depiction of the transfer of control of products and services to customers as it ensures our efforts towards satisfying a performance obligation, as reflected by costs incurred, are included in the measure of progress used for recognition of revenue. Costs generally include direct labor, direct material and manufacturing overhead.  Costs that do not contribute towards control transfer are generally immaterial, but are excluded from the measure of progress in the event they are significant.
Historically, revenue recognized under the POC method has been 5% to 10% of our consolidated sales. Under the New Revenue Standard, we have experienced an increase in the amount of revenue recognized over time.  This increase is primarily due to the application of the new “transfer of control” model for revenue recognition. Under this model, revenue for performance obligations subject to contractual transfer of control during the manufacturing process are recognized over time. This includes contracts with cancellation provisions that require reimbursement for costs incurred plus a reasonable margin and for which the performance obligation has no alternative use.  Revenue from products and services transferred to customers over time accounted for approximately 21% and 5% of total revenue for the three month periods ended September 30, 2018 and 2017, respectively, and 22% and 4% of total revenue for the nine month periods ended September 30, 2018 and 2017, respectively.
If control does not transfer over time, then control transfers at a point in time. We recognize revenue at a point in time at the level of each performance obligation based on the evaluation of certain indicators of control transfer, such as title transfer, risk of loss transfer, customer acceptance and physical possession. Revenue from products and services transferred to customers at a point in time accounted for approximately 79% and 95% of total revenue for the three month periods ended September 30, 2018 and 2017, respectively, and 78% and 96% of total revenue for the nine month periods ended September 30, 2018 and 2017, respectively.
A contract modification, or “change order,” occurs when the existing enforceable rights and obligations of a contract change, such as a change in the scope, price or terms and conditions. We account for a change order as a new accounting contract when the change order is limited to adding new, distinct products and services that are priced in an amount consistent with standalone selling price. Other change orders are accounted for as a modification of the existing accounting contract. When a change order occurs for a contract having in-process over time performance obligations, the effect of the change order on the transaction price and the measure of progress for the performance obligations to which it relates is recognized as an adjustment to revenue (either as an increase in or a reduction of revenue) on a cumulative catch-up basis.
Freight charges billed to customers are included in sales and the related shipping costs are included in cost of sales in our consolidated statements of income. If shipping activities are performed after a customer obtains control of a product, we apply a policy election to account for shipping as an activity to fulfill the promise to transfer the product to the customer.
We apply a policy election to exclude transaction taxes collected from customers from sales when the tax is both imposed on and concurrent with a specific revenue-producing transaction.
In certain instances, we provide guaranteed completion dates under the terms of our contracts. Failure to meet contractual delivery dates can result in late delivery penalties or liquidated damages. In the event that the transaction price of such a contract is probable of experiencing a significant reversal due to a penalty, we constrain a portion of the transaction price. This reduction to the transaction price could potentially cause estimated total contract costs to exceed the transaction price, in which case we record a provision for the estimated loss in the period the loss is first projected. In circumstances where the transaction price still exceeds total projected costs, the estimated penalty generally reduces profitability of the contract at the time of subsequent revenue recognition.
Our incremental costs to obtain a contract are limited to sales commissions. We apply the practical expedient to expense commissions as incurred for contracts having a duration of one year or less. Sales commissions related to contracts with a duration of greater than one year are immaterial to our financial statements and are also expensed as incurred.
We have not identified any material costs to fulfill a contract that qualify for capitalization under ASC 340-40.
Performance Obligations
A performance obligation is a promise in a contract to transfer a distinct good or service to the customer, and is the unit of account for recognition of revenue. Many of our contracts have multiple performance obligations as the promise to transfer the individual goods or services, or certain groups of goods and services, is separately identifiable from other promises in the contract.

9



We allocate the transaction price of each contract to the performance obligations on the basis of standalone selling price and recognize revenue when, or as, control of each performance obligation transfers to the customer. For standard products, we identify the standalone selling price based on directly observable information. For customized or unique products and services, we apply the cost plus margin approach to estimate the standalone selling price. Under this method, we forecast our expected costs of satisfying a performance obligation and then add an appropriate standalone market margin for that distinct good or service.
We have elected to use the practical expedient to not adjust the transaction price of a contract for the effects of a significant financing component if, at the inception of the contract, we expect that the period between when we transfer a promised good or service to a customer and when the customer pays for that good or service will be one year or less.
A material product warranty exists when a customer has specifically requested or negotiated a warranty period that is significantly longer than our standard warranty period (i.e., a “service-type warranty”) and where the warranty obligation is material in the context of the contract. It is not common for our contracts to contain material product warranties. However, when such a warranty exists, we account for it as a separate performance obligation. We estimate the standalone selling price of the warranty obligation utilizing a cost plus margin approach and allocate a portion of the transaction price to the warranty performance obligation on the basis of estimated standalone selling price. We recognize revenue for warranty performance obligations over time on a straight line basis over the extended warranty period.
A material right option is a benefit provided to a customer in a current contract, such as an option to receive future products or services for free or at a significant discount, that is incremental to benefits widely available to similar customers that do not enter into a specific contract. It is not common for our contracts to contain material right options. However, when a material right option exists, it is accounted for as a separate performance obligation and a portion of the transaction price is allocated to the performance obligation based on the estimated standalone selling price of the option. Revenue is recognized when (or as) the customer exercises the right to acquire future products and/or services.
On September 30, 2018, the aggregate transaction price allocated to unsatisfied (or partially unsatisfied) performance obligations was approximately $1,354 million. We estimate recognition of approximately $658 million of this amount as revenue in the remainder of 2018 and an additional $696 million in 2019 and thereafter.
Revenue recognized for performance obligations satisfied (or partially satisfied) in prior periods for the three and nine months ended September 30, 2018 was not material.

10



ASC 606 Adoption Impact
We applied ASC 606 only to contracts that were not substantially complete as of January 1, 2018 and reflected the aggregate impact of all contract modifications (“change orders”) that occurred before the beginning of the earliest period presented when accounting for modified contracts at transition. The following table presents the cumulative effect of the changes made to our condensed consolidated balance sheet as of January 1, 2018 related to the adoption of the New Revenue Standard:
 
December 31,
2017
 
Adjustments due to adoption of New Revenue Standard
 
January 1,
2018
(Amounts in thousands)
 
 
Accounts receivable, net of allowance for doubtful accounts(1)
856,711

 
(49,247
)
 
807,464

Contract assets, net(2)

 
219,361

 
219,361

Inventories, net(3)
884,273

 
(238,573
)
 
645,700

Prepaid expenses and other
114,316

 
(4,457
)
 
109,859

Total current assets
2,558,745

 
(72,916
)
 
2,485,829

Deferred taxes
51,974

 
(2,706
)
 
49,268

Other assets, net
199,722

 
2,004

 
201,726

Total assets
4,910,474

 
(73,618
)
 
4,836,856

Accounts payable
443,113

 
11,784

 
454,897

Accrued liabilities(4)
724,196

 
(290,445
)
 
433,751

Contract liabilities(5)

 
178,515

 
178,515

Total current liabilities
1,242,908

 
(100,146
)
 
1,142,762

Retirement obligations and other liabilities
496,954

 
6,568

 
503,522

Retained earnings
3,503,947

 
19,642

 
3,523,589

Total equity
1,670,954


19,960

 
1,690,914

Total liabilities and equity
4,910,474


(73,618
)
 
4,836,856

_____________________________________
(1) Adjusted for contract assets accounted for under delivery based methods, previously reported in receivables, net.
(2) Represents our right of payment in advance of our contractual right to bill the customer.
(3) Adjusted for contract assets accounted under the over time method, previously reported in inventories, net.
(4) Adjusted for deferred revenue previously reported in accrued liabilities and reclassified to contract assets and contract liabilities.
(5) Represents contractual billings in excess of revenue recognized at the contract level, previously reported in accrued liabilities.



11



The modified retrospective approach requires a dual reporting presentation to be disclosed in the year of adoption. The dual reporting requirement outlines the impact amount by which a financial statement line is affected in the current reporting period by the adoption of the New Revenue Standard as compared with the previous standard in effect before the adoption.
The following tables present the dual reporting requirements:
 
Three Months Ended September 30, 2018
(Amounts in thousands, except percentages)
Balances without Adoption of New Revenue Standard
 
Effect of Change
 
As Reported
Sales
$
929,037

 
$
23,679

 
$
952,716

Cost of sales
(635,505
)
 
(8,710
)
 
(644,215
)
Gross profit
293,532

 
14,969

 
308,501

Gross profit margin
31.6
%
 

 
32.4
%
Selling, general and administrative expense
(241,877
)
 
(1
)
 
(241,878
)
Loss on sale of business
(7,727
)
 

 
(7,727
)
Net earnings from affiliates
3,295

 

 
3,295

Operating income
47,223

 
14,968

 
62,191

Operating income as a percent of sales
5.1
%
 

 
6.5
%
Interest expense
(13,826
)
 

 
(13,826
)
Interest income
1,269

 

 
1,269

Other expense, net
(5,494
)
 
211

 
(5,283
)
Earnings before income taxes
29,172

 
15,179

 
44,351

Provision for income taxes
(8,081
)
 
(6,831
)
 
(14,912
)
Net earnings, including noncontrolling interests
21,091

 
8,348

 
29,439

Less: Net earnings attributable to noncontrolling interests
(1,234
)
 

 
(1,234
)
Net earnings attributable to Flowserve Corporation
$
19,857

 
$
8,348

 
$
28,205


 
Nine Months Ended September 30, 2018
(Amounts in thousands, except percentages)
Balances without Adoption of New Revenue Standard
 
Effect of Change
 
As Reported
Sales
$
2,740,895

 
$
104,903

 
$
2,845,798

Cost of sales
(1,904,728
)
 
(75,079
)
 
(1,979,807
)
Gross profit
836,167

 
29,824

 
865,991

Gross profit margin
30.5
%
 

 
30.4
%
Selling, general and administrative expense
(711,845
)
 

 
(711,845
)
Loss on sale of business
(7,727
)
 

 
(7,727
)
Net earnings from affiliates
7,908

 

 
7,908

Operating income
124,503

 
29,824

 
154,327

Operating income as a percent of sales
4.5
%
 

 
5.4
%
Interest expense
(43,645
)
 

 
(43,645
)
Interest income
4,237

 

 
4,237

Other expense, net
(17,116
)
 
(90
)
 
(17,206
)
Earnings before income taxes
67,979

 
29,734

 
97,713

Provision for income taxes
(29,039
)
 
(7,989
)
 
(37,028
)
Net earnings, including noncontrolling interests
38,940

 
21,745

 
60,685

Less: Net earnings attributable to noncontrolling interests
(4,117
)
 

 
(4,117
)
Net earnings attributable to Flowserve Corporation
$
34,823

 
$
21,745

 
$
56,568


12




 
September 30, 2018
(Amounts in thousands)
Balances without Adoption of New Revenue Standard
 
Effect of Change
 
As Reported
Accounts receivable, net
840,975

 
(60,567
)
 
780,408

Contract assets, net

 
261,417

 
261,417

Inventories, net
969,941

 
(314,289
)
 
655,652

Prepaid expenses and other
111,753

 
(14,505
)
 
97,248

Total current assets
2,452,611

 
(127,944
)
 
2,324,667

Deferred taxes
63,859

 
(2,706
)
 
61,153

Other assets, net
209,536

 
1,337

 
210,873

Total assets
4,734,377

 
(129,313
)
 
4,605,064

Accounts payable
385,209

 
15,072

 
400,281

Accrued liabilities
764,575

 
(366,290
)
 
398,285

Contract liabilities

 
174,245

 
174,245

Total current liabilities
1,217,053

 
(176,973
)
 
1,040,080

Retirement obligations and other liabilities
494,002

 
3,509

 
497,511

Retained earnings
3,460,482

 
44,569

 
3,505,051

Total equity
1,586,576

 
44,151

 
1,630,727

Total liabilities and equity
4,734,377

 
(129,313
)
 
4,605,064


Disaggregated Revenue
We conduct our operations through three business segments based on the type of product and how we manage the business:
Engineered Product Division ("EPD") for long lead time, custom and other highly-engineered pumps and pump systems, mechanical seals, auxiliary systems and replacement parts and related services;
Industrial Product Division ("IPD") for engineered and pre-configured industrial pumps and pump systems and related products and services; and
Flow Control Division ("FCD") for engineered and industrial valves, control valves, actuators and controls and related services.
Our revenue sources are derived from our original equipment manufacturing and our aftermarket sales and services. Our original equipment revenues are generally related to originally designed, manufactured, distributed and installed equipment that can range from pre-configured, short-cycle products to more customized, highly-engineered equipment ("Original Equipment"). Our aftermarket sales and services are derived from sales of replacement equipment, as well as maintenance, advanced diagnostic, repair and retrofitting services ("Aftermarket"). Each of our three business segments generate Original Equipment and Aftermarket revenues.

13



The following table presents our customer revenues disaggregated by revenue source:
 
Three Months Ended September 30, 2018
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
Original Equipment
$
137,177

 
$
118,523

 
$
239,864

 
$
495,564

Aftermarket
319,656

 
71,942

 
65,554

 
457,152

 
$
456,833

 
$
190,465

 
$
305,418

 
$
952,716

 
 
 
 
 
 
 
 
 
Three Months Ended September 30, 2017(1)
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
Original Equipment
$
116,723

 
$
112,332

 
$
214,355

 
$
443,410

Aftermarket
299,308

 
68,015

 
72,647

 
439,970

 
$
416,031

 
$
180,347

 
$
287,002

 
$
883,380

 
Nine Months Ended September 30, 2018
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
Original Equipment
$
407,761

 
$
348,483

 
$
689,331

 
$
1,445,575

Aftermarket
977,038

 
225,524

 
197,661

 
1,400,223

 
$
1,384,799

 
$
574,007

 
$
886,992

 
$
2,845,798

 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2017(1)
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
Original Equipment
$
365,383

 
$
331,887

 
$
646,746

 
$
1,344,016

Aftermarket
887,158

 
201,415

 
194,173

 
1,282,746

 
$
1,252,541

 
$
533,302

 
$
840,919

 
$
2,626,762

_____________________________________
(1) Prior periods are presented in accordance with Topic 605.

Our customer sales are diversified geographically. The following table presents our revenues disaggregated by geography, based on the shipping addresses of our customers:
 
Three Months Ended September 30, 2018
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
North America(1)
$
169,378

 
$
82,102

 
$
140,898

 
$
392,378

Latin America(1)
69,121

 
7,090

 
4,461

 
80,672

Middle East and Africa
51,800

 
10,058

 
33,908

 
95,766

Asia Pacific
96,021

 
23,271

 
65,858

 
185,150

Europe
70,513

 
67,944

 
60,293

 
198,750

 
$
456,833

 
$
190,465

 
$
305,418

 
$
952,716

 
 
 
 
 
 
 
 
 
Three Months Ended September 30, 2017(2)
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
North America(1)
$
160,661

 
$
70,259

 
$
112,483

 
$
343,403

Latin America(1)
36,790

 
7,752

 
5,976

 
50,518

Middle East and Africa
56,846

 
10,796

 
43,964

 
111,606

Asia Pacific
90,510

 
19,820

 
59,002

 
169,332

Europe
71,224

 
71,720

 
65,577

 
208,521

 
$
416,031

 
$
180,347

 
$
287,002

 
$
883,380



14



 
Nine Months Ended September 30, 2018
(Amounts in thousands)
EPD
 
IPD
 
FCD
 
Total
North America (1)
$
536,936

 
$
237,659

 
$
398,872

 
$
1,173,467

Latin America(1)
139,968

 
21,392

 
15,454

 
176,814

Middle East and Africa
175,980

 
37,559

 
99,954

 
313,493

Asia Pacific
316,392

 
69,590

 
198,437

 
584,419

Europe
215,523

 
207,807

 
174,275

 
597,605

 
$
1,384,799

 
$
574,007

 
$
886,992

 
$
2,845,798

 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2017(2)
 
EPD
 
IPD
 
FCD
 
Total
North America (1)
$
485,973

 
$
215,593

 
$
345,591

 
$
1,047,157

Latin America(1)
99,905

 
21,813

 
25,273

 
146,991

Middle East and Africa
175,968

 
37,191

 
101,346

 
314,505

Asia Pacific
270,726

 
66,278

 
160,632

 
497,636

Europe
219,969

 
192,427

 
208,077

 
620,473

 
$
1,252,541

 
$
533,302

 
$
840,919

 
$
2,626,762

_____________________________________
(1) North America represents United States and Canada; Latin America includes Mexico.
(2) Prior periods are presented in accordance with Topic 605.

Contract Balances
We receive payment from customers based on a contractual billing schedule and specific performance requirements as established in our contracts. We record billings as accounts receivable when an unconditional right to consideration exists. A contract asset represents revenue recognized in advance of our right to receive payment under the terms of a contract. A contract liability represents our right to receive payment in advance of revenue recognized for a contract.
The following table presents opening and closing balances of contract assets and contract liabilities, current and long-term, for the nine months ended September 30, 2018:
( Amounts in thousands)
Contract Assets, net (Current)
 
Long-term Contract Assets, net(1)
 
Contract Liabilities (Current)
 
Long-term Contract Liabilities(2)
Beginning balance, January 1, 2018
$
219,361

 
3,990

 
$
178,515

 
$
3,925

Revenue recognized that was included in contract liabilities at the beginning of the period

 

 
(125,046
)
 
(1,154
)
Increase due to revenue recognized in the period in excess of billings
591,725

 
1,335

 

 

Increase due to billings arising during the period in excess of revenue recognized

 

 
134,583

 
(30
)
Amounts transferred from contract assets to receivables
(531,944
)
 
(2,488
)
 

 

Currency effects and other, net
(17,725
)
 
(175
)
 
(13,807
)
 
(858
)
Ending balance, September 30, 2018
$
261,417

 
$
2,662

 
$
174,245

 
$
1,883

_____________________________________
(1) Included in other assets, net.
(2) Included in retirement obligations and other liabilities.
 
3.
Dispositions
IPD Business Divestiture
On June 29, 2018, pursuant to a plan of sale approved by management, we executed an agreement to divest two IPD locations and associated product lines, including the related assets and liabilities.  This transaction did not meet the criteria for

15



classification of assets held for sale as of June 30, 2018 due to a contingency that could have potentially impacted the final terms and/or timing of the divestiture. The sale transaction was completed on August 9, 2018. In the nine months ended September 30, 2018, we recorded a pre-tax charge of $25.1 million, including a pre-tax charge of $17.4 million in the second quarter of 2018 and a loss on sale of the business of $7.7 million in the third quarter of 2018. The second quarter of 2018 pre-tax charge related to write-downs of inventory and long-lived assets to their estimated fair value, of which $7.7 million was recorded in COS and $9.7 million was recorded in SG&A.  The third quarter of 2018 pre-tax charge primarily related to working capital changes since the second quarter of 2018 and net cash transferred at the closing date of $3.7 million. The sale included a manufacturing facility in Germany and a related assembly facility in France. In 2017, net sales related to the business totaled approximately $42 million, although the business produced an operating loss in each of the last two fiscal years.
Vogt
Effective July 6, 2017, we sold our FCD's Vogt product line and related assets and liabilities to a privately held company for $28.0 million of cash received at closing. The sale resulted in a pre-tax gain of $11.1 million recorded in gain on sale of business in the condensed consolidated statements of income in the third quarter of 2017. In 2016, net sales related to the Vogt business totaled approximately $17 million, with earnings before interest and taxes of approximately $4 million.
Gestra AG
Effective May 2, 2017, we sold our FCD's Gestra AG ("Gestra") business to a leading provider of steam system solutions for $203.6 million (€178.3 million), which included $180.8 million (€158.3 million) of cash received (net of divested cash and subsequent working capital adjustments). The sale resulted in a pre-tax gain of $130.2 million ($79.4 million after-tax) recorded in gain on sale of business in the consolidated statements of income in 2017. The sale included Gestra’s manufacturing facility in Germany as well as related operations in the U.S., the United Kingdom ("U.K."), Spain, Poland, Italy, Singapore and Portugal. In 2016, Gestra recorded revenues of approximately $101 million (€92 million) with earnings before interest and taxes of approximately $17 million (€15 million).

4.
Stock-Based Compensation Plans
We maintain the Flowserve Corporation Equity and Incentive Compensation Plan (the "2010 Plan"), which is a shareholder-approved plan authorizing the issuance of up to 8,700,000 shares of our common stock in the form of restricted shares, restricted share units and performance-based units (collectively referred to as "Restricted Shares"), incentive stock options, non-statutory stock options, stock appreciation rights and bonus stock. Of the 8,700,000 shares of common stock authorized under the 2010 Plan, 2,061,105 were available for issuance as of September 30, 2018. In 2016 the long-term incentive program was amended to allow Restricted Shares granted after January 1, 2016 to employees who retire and have achieved at least 55 years of age and 10 years of service to continue to vest over the original vesting period ("55/10 Provision"). As of September 30, 2018, 114,943 stock options were outstanding, with a grant date fair value of $2.0 million, which is expected to be recognized over a weighted-average period of approximately two years. No stock options were granted during the nine months ended September 30, 2018, compared to 114,943 stock options granted for the same period in 2017. No stock options vested during the nine months ended September 30, 2018 and 2017.
 Restricted Shares – Awards of Restricted Shares are valued at the closing market price of our common stock on the date of grant. The unearned compensation is amortized to compensation expense over the vesting period of the restricted shares, except for awards related to the 55/10 Provision which are expensed in the period granted. We had unearned compensation of $30.7 million and $16.7 million at September 30, 2018 and December 31, 2017, respectively, which is expected to be recognized over a weighted-average period of approximately one year. These amounts will be recognized into net earnings in prospective periods as the awards vest. The total fair value of Restricted Shares vested was $0.2 million for both the three months ended September 30, 2018 and 2017. The total fair value of Restricted Shares vested during the nine months ended September 30, 2018 and 2017 was $14.0 million and $28.1 million, respectively.
We recorded stock-based compensation expense of $4.4 million ($5.7 million pre-tax) and $3.0 million ($4.6 million pre-tax) for the three months ended September 30, 2018 and 2017, respectively. We recorded stock-based compensation expense of $10.9 million ($14.1 million pre-tax) and $13.4 million ($20.3 million pre-tax) for the nine months ended September 30, 2018 and 2017, respectively. Performance-based shares granted in 2015 did not vest due to unachievement of performance targets resulting in 100,033 forfeited shares and a $5.4 million reduction of stock-based compensation expense for the nine months ended September 30, 2018.

16



The following table summarizes information regarding Restricted Shares:
 
Nine Months Ended September 30, 2018
 
Shares
 
Weighted Average
Grant-Date Fair
Value
Number of unvested shares:
 
 
 
Outstanding - January 1, 2018
1,203,852

 
$
47.10

Granted
918,782

 
44.14

Vested
(302,065
)
 
46.45

Forfeited
(265,591
)
 
49.55

Outstanding as of September 30, 2018
1,554,978

 
$
45.06


Unvested Restricted Shares outstanding as of September 30, 2018 included approximately 766,000 units with performance-based vesting provisions. Performance-based units are issuable in common stock and vest upon the achievement of pre-defined performance targets. Performance-based units granted prior to 2017 have performance targets based on our average annual return on net assets over a three-year period as compared with the same measure for a defined peer group for the same period. Performance-based units granted in 2017 and 2018 have performance targets based on our average return on invested capital and our total shareholder return ("TSR") over a three-year period. Most units were granted in three annual grants since January 1, 2016 and have a vesting percentage between 0% and 200% depending on the achievement of the specific performance targets. Except for shares granted under the 55/10 Provision, compensation expense is recognized ratably over a cliff-vesting period of 36 months, based on the fair value of our common stock on the date of grant, as adjusted for actual forfeitures. During the performance period, earned and unearned compensation expense is adjusted based on changes in the expected achievement of the performance targets for all performance-based units granted except for the TSR-based units. Vesting provisions range from 0 to approximately 1,531,000 shares based on performance targets. As of September 30, 2018, we estimate vesting of approximately 613,000 shares based on expected achievement of performance targets.

5.
Derivative Instruments and Hedges
Our risk management and foreign currency derivatives and hedging policy specifies the conditions under which we may enter into derivative contracts. See Notes 1 and 7 to our consolidated financial statements included in our 2017 Annual Report and Note 7 of this Quarterly Report for additional information on our derivatives. We enter into foreign exchange forward contracts to hedge our cash flow risks associated with transactions denominated in currencies other than the local currency of the operation engaging in the transaction.
Foreign exchange contracts with third parties had a notional value of $266.6 million and $235.6 million at September 30, 2018 and December 31, 2017, respectively. At September 30, 2018, the length of foreign exchange contracts currently in place ranged from one day to 24 months.
We are exposed to risk from credit-related losses resulting from nonperformance by counterparties to our financial instruments. We perform credit evaluations of our counterparties under foreign exchange contracts agreements and expect all counterparties to meet their obligations. We have not experienced credit losses from our counterparties.
The fair values of foreign exchange contracts are summarized below:
 
September 30,
 
December 31,
(Amounts in thousands)
2018
 
2017
Current derivative assets
$
778

 
$
2,489

Noncurrent derivative assets
13

 
177

Current derivative liabilities
2,271

 
284

Noncurrent derivative liabilities
68

 
56

Current and noncurrent derivative assets are reported in our condensed consolidated balance sheets in prepaid expenses and other and other assets, net, respectively. Current and noncurrent derivative liabilities are reported in our condensed consolidated balance sheets in accrued liabilities and retirement obligations and other liabilities, respectively.

17



The impact of net changes in the fair values of foreign exchange contracts are summarized below:
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
(Amounts in thousands)
2018
 
2017
 
2018
 
2017
(Loss) gain recognized in income
$
(1,157
)
 
$
548

 
$
(2,384
)
 
$
219

Gains and losses recognized in our condensed consolidated statements of income for foreign exchange contracts are classified as other expense, net.
In March 2015, we designated €255.7 million of our €500.0 million Euro senior notes discussed in Note 6 as a net investment hedge of our investments in certain of our international subsidiaries that use the Euro as their functional currency. We used the spot method to measure the effectiveness of our net investment hedge. Under this method, for each reporting period, the change in the carrying value of the Euro senior notes due to remeasurement of the effective portion is reported in accumulated other comprehensive loss on our condensed consolidated balance sheet and the remaining change in the carrying value of the ineffective portion, if any, is recognized in other expense, net in our condensed consolidated statement of income. We evaluate the effectiveness of our net investment hedge on a prospective basis at the beginning of each quarter. We did not record any ineffectiveness for the nine months ended September 30, 2018 and 2017.

6.
Debt
Debt, including capital lease obligations, consisted of:
 
September 30,
 
  December 31,  
(Amounts in thousands, except percentages)
2018
 
2017
1.25% EUR Senior Notes due March 17, 2022, net of unamortized discount and debt issuance costs of $4,265 and $5,335
$
576,135

 
$
594,465

4.00% USD Senior Notes due November 15, 2023, net of unamortized discount and debt issuance costs of $2,293 and $2,590
297,707

 
297,410

3.50% USD Senior Notes due September 15, 2022, net of unamortized discount and debt issuance costs of $2,751 and $3,230
497,249

 
496,770

Term Loan Facility, interest rate of 3.89% at September 30, 2018 and 3.19% at December 31, 2017, net of debt issuance costs of $321 and $585
119,679

 
164,415

Capital lease obligations and other borrowings
13,245

 
22,197

Debt and capital lease obligations
1,504,015

 
1,575,257

Less amounts due within one year
67,269

 
75,599

Total debt due after one year
$
1,436,746

 
$
1,499,658

Senior Credit Facility

As discussed in Note 10 to our consolidated financial statements included in our 2017 Annual Report, our credit agreement provides for an initial $400.0 million term loan (“Term Loan Facility”) and a $800.0 million revolving credit facility (“Revolving Credit Facility” and, together with the Term Loan Facility, the “Senior Credit Facility”) with a maturity date of October 14, 2020. As of September 30, 2018 and December 31, 2017, we had no amounts outstanding under the Revolving Credit Facility. We had outstanding letters of credit of $74.8 million and $94.8 million at September 30, 2018 and December 31, 2017, respectively, which together with financial covenant limitations based on the terms of our Senior Credit Facility, contributed to the reduction of our borrowing capacity to $416.5 million and $644.8 million, respectively. Our compliance with applicable financial covenants under the Senior Credit Facility is tested quarterly, and we complied with all applicable covenants as of September 30, 2018.
We may prepay loans under our Senior Credit Facility in whole or in part, without premium or penalty, at any time. A commitment fee, which is payable quarterly on the daily unused portions of the Senior Credit Facility, was 0.20% (per annum) during the period ended September 30, 2018. During the nine months ended September 30, 2018, we made scheduled repayments of $45.0 million under our Term Loan Facility. We have scheduled repayments of $15.0 million due in each of the next four quarters on our Term Loan Facility.


18



7.
Fair Value
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters. Where observable prices or inputs are not available, valuation models may be applied. Assets and liabilities recorded at fair value in our condensed consolidated balance sheets are categorized by hierarchical levels based upon the level of judgment associated with the inputs used to measure their fair values. Recurring fair value measurements are limited to investments in derivative instruments. The fair value measurements of our derivative instruments are determined using models that maximize the use of the observable market inputs including interest rate curves and both forward and spot prices for currencies, and are classified as Level II under the fair value hierarchy. The fair values of our derivatives are included in Note 5.
Our financial instruments are presented at fair value in our condensed consolidated balance sheets, with the exception of our long-term debt. The estimated fair value of our long-term debt, excluding the Senior Notes, approximates the carrying value and is classified as Level II under the fair value hierarchy. The carrying value of our debt is included in Note 6. The estimated fair value of our Senior Notes at September 30, 2018 was $1,364.1 million compared to the carrying value of $1,371.1 million. The estimated fair value of the Senior Notes is based on Level I quoted market rates. The carrying amounts of our other financial instruments (e.g., cash and cash equivalents, accounts receivable, net, accounts payable and short-term debt) approximated fair value due to their short-term nature at September 30, 2018 and December 31, 2017.

8.
Inventories
Inventories, net consisted of the following:
 
September 30,
 
  December 31,  
(Amounts in thousands)
2018
 
2017
Raw materials
$
326,408

 
$
358,827

Work in process
220,789

 
548,250

Finished goods
182,668

 
215,849

Less: Progress billings

 
(160,044
)
Less: Excess and obsolete reserve
(74,213
)
 
(78,609
)
Inventories, net
$
655,652

 
$
884,273


During the second quarter of 2018, we recorded a $7.7 million inventory charge related to the divestiture of two IPD locations and related product lines, and resulted in a decrease to finished goods. Refer to Note 3 of this Quarterly Report for further discussion.
 
As a result of our adoption of the New Revenue Standard as of January 1, 2018, progress billings and work in process amounts associated with contracts accounted under the over time method were either recognized as COS or reclassified into contract assets, net or contract liabilities. Refer to Note 2 of this Quarterly Report for a discussion on our adoption of the New Revenue Standard.


19



9.
Earnings Per Share
The following is a reconciliation of net earnings of Flowserve Corporation and weighted average shares for calculating net earnings per common share. Earnings per weighted average common share outstanding was calculated as follows:
 
Three Months Ended September 30,
(Amounts in thousands, except per share data)
2018
 
2017
Net earnings of Flowserve Corporation
$
28,205

 
$
47,605

Dividends on restricted shares not expected to vest

 

Earnings attributable to common and participating shareholders
$
28,205

 
$
47,605

Weighted average shares:
 
 
 
Common stock
130,823

 
130,681

Participating securities
20

 
79

Denominator for basic earnings per common share
130,843

 
130,760

Effect of potentially dilutive securities
507

 
636

Denominator for diluted earnings per common share
131,350

 
131,396

Earnings per common share:
 
 
 
Basic
$
0.22

 
$
0.36

Diluted
0.21

 
0.36

 
Nine Months Ended September 30,
(Amounts in thousands, except per share data)
2018
 
2017
Net earnings of Flowserve Corporation
$
56,568

 
$
108,534

Dividends on restricted shares not expected to vest

 

Earnings attributable to common and participating shareholders
$
56,568

 
$
108,534

Weighted average shares:
 
 
 
Common stock
130,784

 
130,574

Participating securities
32

 
111

Denominator for basic earnings per common share
130,816

 
130,685

Effect of potentially dilutive securities
408

 
653

Denominator for diluted earnings per common share
131,224

 
131,338

Earnings per common share:
 
 
 
Basic
$
0.43

 
$
0.83

Diluted
0.43

 
0.83


Diluted earnings per share above is based upon the weighted average number of shares as determined for basic earnings per share plus shares potentially issuable in conjunction with stock options and Restricted Shares.

10.
Legal Matters and Contingencies
Asbestos-Related Claims
We are a defendant in a substantial number of lawsuits that seek to recover damages for personal injury allegedly caused by exposure to asbestos-containing products manufactured and/or distributed by our heritage companies in the past. While the overall number of asbestos-related claims has generally declined in recent years, there can be no assurance that this trend will continue, or that the average cost per claim will not further increase. Asbestos-containing materials incorporated into any such products were encapsulated and used as internal components of process equipment, and we do not believe that any significant emission of asbestos fibers occurred during the use of this equipment.
Our practice is to vigorously contest and resolve these claims, and we have been successful in resolving a majority of claims with little or no payment. Historically, a high percentage of resolved claims have been covered by applicable insurance or indemnities from other companies, and we believe that a substantial majority of existing claims should continue to be covered by insurance or indemnities. Accordingly, we have recorded a liability for our estimate of the most likely settlement of asserted claims and a related receivable from insurers or other companies for our estimated recovery, to the extent we believe that the

20



amounts of recovery are probable and not otherwise in dispute. While unfavorable rulings, judgments or settlement terms regarding these claims could have a material adverse impact on our business, financial condition, results of operations and cash flows, we currently believe the likelihood is remote.
Additionally, we have claims pending against certain insurers that, if resolved more favorably than reflected in the recorded receivables, would result in discrete gains in the applicable quarter. We are currently unable to estimate the impact, if any, of unasserted asbestos-related claims, although future claims would also be subject to then existing indemnities and insurance coverage.
United Nations Oil-for-Food Program
In mid-2006, the French authorities began an investigation of over 170 French companies, of which one of our French subsidiaries was included, concerning suspected inappropriate activities conducted in connection with the United Nations Oil for Food Program. As previously disclosed, the French investigation of our French subsidiary was formally opened in the first quarter of 2010, and our French subsidiary filed a formal response with the French court. In July 2012, the French court ruled against our procedural motions to challenge the constitutionality of the charges and quash the indictment. Hearings occurred on April 1-2, 2015, and the Company presented its defense and closing arguments. On June 18, 2015, the French court issued its ruling dismissing the case against the Company and the other defendants. However, on July 1, 2015, the French prosecutor lodged an appeal and we anticipate that the hearing for the appeal will be held in 2018. We currently do not expect to incur additional case resolution costs of a material amount in this matter. However, if the French authorities ultimately take enforcement action against our French subsidiary regarding its investigation, we may be subject to monetary and non-monetary penalties, which we currently do not believe will have a material adverse financial impact on our company.
Other
We are currently involved as a potentially responsible party at five former public waste disposal sites in various stages of evaluation or remediation. The projected cost of remediation at these sites, as well as our alleged "fair share" allocation, will remain uncertain until all studies have been completed and the parties have either negotiated an amicable resolution or the matter has been judicially resolved. At each site, there are many other parties who have similarly been identified. Many of the other parties identified are financially strong and solvent companies that appear able to pay their share of the remediation costs. Based on our information about the waste disposal practices at these sites and the environmental regulatory process in general, we believe that it is likely that ultimate remediation liability costs for each site will be apportioned among all liable parties, including site owners and waste transporters, according to the volumes and/or toxicity of the wastes shown to have been disposed of at the sites. We believe that our financial exposure for existing disposal sites will not be materially in excess of accrued reserves.
As previously disclosed in our 2017 Annual Report, we terminated an employee of an overseas subsidiary after uncovering actions that violated our Code of Business Conduct and may have violated the Foreign Corrupt Practices Act.  We completed our internal investigation into the matter, self-reported the potential violation to the United States Department of Justice (the “DOJ”) and the SEC, and continue to cooperate with the DOJ and SEC.  We previously received a subpoena from the SEC requesting additional information and documentation related to the matter and have completed our response to the subpoena.  We currently believe that this matter will not have a material adverse financial impact on the Company, but there can be no assurance that the Company will not be subjected to monetary penalties and additional costs. 
We are also a defendant in a number of other lawsuits, including product liability claims, that are insured, subject to the applicable deductibles, arising in the ordinary course of business, and we are also involved in other uninsured routine litigation incidental to our business. We currently believe none of such litigation, either individually or in the aggregate, is material to our business, operations or overall financial condition. However, litigation is inherently unpredictable, and resolutions or dispositions of claims or lawsuits by settlement or otherwise could have an adverse impact on our financial position, results of operations or cash flows for the reporting period in which any such resolution or disposition occurs.
Although none of the aforementioned potential liabilities can be quantified with absolute certainty except as otherwise indicated above, we have established reserves covering exposures relating to contingencies, to the extent believed to be reasonably estimable and probable based on past experience and available facts. While additional exposures beyond these reserves could exist, they currently cannot be estimated. We will continue to evaluate and update the reserves as necessary and appropriate.


21



11.
Retirement and Postretirement Benefits
Components of the net periodic cost for retirement and postretirement benefits for the three months ended September 30, 2018 and 2017 were as follows:
 
U.S.
Defined Benefit Plans
 
Non-U.S.
Defined Benefit Plans
 
Postretirement
Medical Benefits
(Amounts in millions) 
2018
 
2017
 
2018
 
2017
 
2018
 
2017
Service cost
$
5.5

 
$
5.6

 
$
1.7

 
$
1.7

 
$

 
$

Interest cost
3.9

 
4.3

 
2.2

 
2.2

 
0.2

 
0.3

Expected return on plan assets
(6.4
)
 
(6.2
)
 
(2.1
)
 
(2.1
)
 

 

Amortization of prior service cost

 

 

 

 

 

Amortization of unrecognized net loss (gain)
1.3

 
1.5

 
0.9

 
0.9

 
(0.2
)
 
(0.1
)
Net periodic cost recognized
$
4.3

 
$
5.2

 
$
2.7

 
$
2.7

 
$

 
$
0.2


Components of the net periodic cost for retirement and postretirement benefits for the nine months ended September 30, 2018 and 2017 were as follows:


U.S.
Defined Benefit Plans
 
Non-U.S.
Defined Benefit Plans
 
Postretirement
Medical Benefits
(Amounts in millions) 
2018
 
2017
 
2018
 
2017
 
2018
 
2017
Service cost
$
16.6

 
$
16.7

 
$
5.3

 
$
5.1

 
$

 
$

Interest cost
11.8

 
12.7

 
6.6

 
6.6

 
0.6

 
0.7

Expected return on plan assets
(19.3
)
 
(18.4
)
 
(6.4
)
 
(6.3
)
 

 

Amortization of prior service cost
0.1

 
0.1

 

 

 
0.1

 
0.1

Amortization of unrecognized net loss (gain)
4.1

 
4.5

 
2.7

 
2.6

 
(0.6
)
 
(0.2
)
Net periodic cost recognized
$
13.3

 
$
15.6

 
$
8.2

 
$
8.0

 
$
0.1

 
$
0.6


Effective January 1, 2018 we adopted ASU No. 2017-07, "Compensation-Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost." Refer to Note 1 included in this Quarterly Report for a discussion on the adoption of the standard.
The components of net periodic cost for retirement and postretirement benefits other than service costs are included in other expense, net in our condensed consolidated statement of income.

12.
Shareholders’ Equity
Dividends – Generally, our dividend date-of-record is in the last month of the quarter, and the dividend is paid the following month. Any subsequent dividends will be reviewed by our Board of Directors and declared in its discretion dependent on its assessment of our financial situation and business outlook at the applicable time. Dividends paid per share were $0.19 for the three months ending September 30, 2018 and 2017 and $0.57 for the nine months ending September 30, 2018 and 2017. Dividends paid for the three months ended September 30, 2018 and 2017 were $24.9 million and $24.8 million, respectively, and $74.5 million and $74.4 million for the nine months ended September 30, 2018 and 2017, respectively.
Share Repurchase Program – On November 13, 2014, our Board of Directors approved a $500.0 million share repurchase authorization. Our share repurchase program does not have an expiration date, and we reserve the right to limit or terminate the repurchase program at any time without notice. We had no repurchases of shares of our outstanding common stock for both of the three and nine months ended September 30, 2018 and 2017. As of September 30, 2018, we had $160.7 million of remaining capacity under our current share repurchase program.


22



13.
Income Taxes
On December 22, 2017, the U.S. enacted the Tax Cuts and Jobs Act of 2017 (the “Act”), which significantly changed U.S. tax law. The Act, among other things, lowered the Company’s U.S. statutory federal income tax rate from 35% to 21% effective January 1, 2018, while imposing a deemed repatriation tax on deferred foreign income and implementing a modified territorial tax system. While the Act provides for a territorial tax system, beginning in 2018, it provides for two new anti-base erosion provisions, the global intangible low-taxed income (“GILTI”) provision and the base-erosion and anti-abuse tax (“BEAT”) provision which effectively creates a new minimum tax on certain future foreign earnings.
The Company included reasonable estimates of the income tax effects in applying the provisions of the Act in accordance with Accounting Standards Codification Topic 740, Income Taxes (ASC Topic 740) and following the guidance in SEC Staff Accounting Bulletin No. 118 (“SAB 118”). As a result, the impacts from the Act may differ, primarily related to deemed repatriated earnings and associated withholding taxes, from these provisional amounts, possibly materially, due to, among other things, additional analysis, changes from interpretations enacted and assumptions the Company has made, additional regulatory guidance that may be issued, and actions the Company may take as a result of the Act. Due to the timing of the Act and the substantial changes it brings, SAB 118 provides registrants a measurement period to report the impact of the new U.S. tax law. The financial reporting impact of the Act is expected to be completed no later than the fourth quarter of 2018. The impacts of these changes were reflected in the 2017 provisional tax expense, as discussed in Note 15 to our consolidated financial statements included in our 2017 Annual Report. The Company has elected to account for the GILTI provision in the period in which it is incurred.
For the three months ended September 30, 2018, we earned $44.4 million before taxes and provided for income taxes of $14.9 million resulting in an effective tax rate of 33.6%. For the nine months ended September 30, 2018, we earned $97.7 million before taxes and provided for income taxes of $37.0 million resulting in an effective tax rate of 37.9%. The effective tax rate varied from the U.S. federal statutory rate for the three and nine months ended September 30, 2018 primarily due to the net impact of foreign operations, including losses in certain foreign jurisdictions for which no tax benefit was provided.
For the three months ended September 30, 2017, we earned $68.4 million before taxes and provided for income taxes of $19.6 million resulting in an effective tax rate of 28.7%. For the nine months ended September 30, 2017, we earned $196.1 million before taxes and provided for income taxes of $85.8 million resulting in an effective tax rate of 43.8%. The effective tax rate varied from the U.S. federal statutory rate for the three and nine months ended September 30, 2017 primarily due to the net impact of foreign operations, losses in certain foreign jurisdictions for which no tax benefit was provided and taxes related to the sale of the Gestra and Vogt businesses.
As of September 30, 2018, the amount of unrecognized tax benefits decreased by $3.2 million from December 31, 2017. With limited exception, we are no longer subject to U.S. federal income tax audits for years through 2016, state and local income tax audits for years through 2012 or non-U.S. income tax audits for years through 2011. We are currently under examination for various years in Austria, Canada, France, Germany, India, Indonesia, Italy, Japan, Mexico, Philippines, Saudi Arabia, Singapore, the U.S. and Venezuela.
It is reasonably possible that within the next 12 months the effective tax rate will be impacted by the resolution of some or all of the matters audited by various taxing authorities. It is also reasonably possible that we will have the statute of limitations close in various taxing jurisdictions within the next 12 months. As such, we estimate we could record a reduction in our tax expense of approximately $14 million within the next 12 months.


23



14.
Segment Information
The following is a summary of the financial information of the reportable segments reconciled to the amounts reported in the condensed consolidated financial statements:
Three Months Ended September 30, 2018
 (Amounts in thousands)
EPD
 
IPD
 
FCD
 
Subtotal–Reportable Segments
 
Eliminations and All Other
 
Consolidated Total
Sales to external customers
$
456,833

 
$
190,465

 
$
305,418

 
$
952,716

 
$

 
$
952,716

Intersegment sales
9,377

 
8,673

 
761

 
18,811

 
(18,811
)
 

Segment operating income (loss)
57,416

 
(2,460
)
 
56,430

 
111,386

 
(49,195
)
 
62,191

 
 
 
 
 
 
 
 
 
 
 
 
Three Months Ended September 30, 2017(1)
 (Amounts in thousands)
EPD
 
IPD
 
FCD
 
Subtotal–Reportable Segments
 
Eliminations and All Other
 
Consolidated Total
Sales to external customers
$
416,031

 
$
180,347

 
$
287,002

 
$
883,380

 
$

 
$
883,380

Intersegment sales
8,157

 
9,388

 
686

 
18,231

 
(18,231
)
 

Segment operating income (loss)
52,078

 
(3,500
)
 
48,827

 
97,405

 
(22,612
)
 
74,793

_______________________________________

(1) Prior period is presented in accordance with Topic 605.

Nine Months Ended September 30, 2018
 (Amounts in thousands)
EPD
 
IPD
 
FCD
 
Subtotal–Reportable Segments
 
Eliminations and All Other
 
Consolidated Total
Sales to external customers
$
1,384,799

 
$
574,007

 
$
886,992

 
$
2,845,798

 
$

 
$
2,845,798

Intersegment sales
29,773

 
28,977

 
2,890

 
61,640

 
(61,640
)
 

Segment operating income (loss)
147,830

 
(25,181
)
 
136,741

 
259,390

 
(105,063
)
 
154,327

 
 
 
 
 
 
 
 
 
 
 
 
Nine Months Ended September 30, 2017(1)
 (Amounts in thousands)
EPD
 
IPD
 
FCD
 
Subtotal–Reportable Segments
 
Eliminations and All Other
 
Consolidated Total
Sales to external customers
$
1,252,541

 
$
533,302

 
$
840,919

 
$
2,626,762

 
$

 
$
2,626,762

Intersegment sales
24,022

 
26,640

 
2,608

 
53,270

 
(53,270
)
 

Segment operating income (loss)
107,780

 
(45,760
)
 
255,086

 
317,106

 
(64,767
)
 
252,339

_______________________________________
(1) Prior period is presented in accordance with Topic 605.


24



15.
Accumulated Other Comprehensive Loss
The following table presents the changes in accumulated other comprehensive loss ("AOCL"), net of tax for the three months ended September 30, 2018 and 2017:
 
2018
 
2017
(Amounts in thousands)
Foreign currency translation items(1)
 
Pension and other post-retirement effects
 
Cash flow hedging activity
 
Total(1)
 
Foreign currency translation items(1)
 
Pension and other post-retirement effects
 
Cash flow hedging activity
 
Total(1)
Balance - July 1
$
(426,327
)
 
$
(110,248
)
 
$
(965
)
 
$
(537,540
)
 
$
(415,506
)
 
$
(137,188
)
 
$
(1,154
)
 
$
(553,848
)
Other comprehensive (loss) income before reclassifications
(19,669
)
 
771

 
52

 
(18,846
)
 
17,674

 
(2,004
)
 
12

 
15,682

Amounts reclassified from AOCL

 
1,828

 

 
1,828

 

 
1,560

 

 
1,560

Net current-period other comprehensive (loss) income
(19,669
)
 
2,599

 
52

 
(17,018
)
 
17,674

 
(444
)
 
12

 
17,242

Balance - September 30
$
(445,996
)
 
$
(107,649
)
 
$
(913
)
 
$
(554,558
)
 
$
(397,832
)
 
$
(137,632
)
 
$
(1,142
)
 
$
(536,606
)
_______________________________________
(1) Includes foreign currency translation adjustments attributable to noncontrolling interests of $4.7 million and $3.9 million for July 1, 2018 and 2017, respectively, and $5.0 million and $3.9 million at September 30, 2018 and 2017, respectively. Includes net investment hedge gains of $1