UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

Quarterly Report Pursuant to Section 13 or 15(d)

of the Securities Exchange Act of 1934

For the quarterly period ended September 30, 2017

Commission File No.: 001-12933

 

AUTOLIV, INC.

(Exact name of registrant as specified in its charter)

 

 

+46 8 587 20 600

(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.    Yes:  ☒    No:  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes:  ☒    No:  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

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:  ☒

Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date: As of October 19, 2017, there were 86,953,143 shares of common stock of Autoliv, Inc., par value $1.00 per share, outstanding.  

 

 

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FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains statements that are not historical facts but rather forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements include those that address activities, events or developments that Autoliv, Inc. (“Autoliv,” the “Company” or “we”) or its management believes or anticipates may occur in the future. All forward-looking statements, including without limitation, statements related to the Company’s strategic review of the terms, timing, or structure of any such transaction as a result of such review, if any, management’s examination of historical operating trends and data as well as estimates of future sales, operating margin, cash flow, effective tax rate or other future operating performance or financial results are based upon our current expectations, various assumptions and/or data available from third parties. Our expectations and assumptions are expressed in good faith and we believe there is a reasonable basis for them. However, there can be no assurance that such forward-looking statements will materialize or prove to be correct as forward-looking statements are inherently subject to known and unknown risks, uncertainties and other factors which may cause actual future results, performance or achievements to differ materially from the future results, performance or achievements expressed in or implied by such forward-looking statements.

In some cases, you can identify these statements by forward-looking words such as “estimates,” “expects,” “anticipates,” “projects,” “plans,” “intends,” “believes,” “may,” “likely,” “might,” “would,” “should,” “could,” or the negative of these terms and other comparable terminology, although not all forward-looking statements contain such words.

Because these forward-looking statements involve risks and uncertainties, the outcome could differ materially from those set out in the forward-looking statements for a variety of reasons, including without limitation: changes in light vehicle production; fluctuation in vehicle production schedules for which the Company is a supplier; changes in general industry and market conditions or regional growth or decline; changes in and the successful execution of our capacity alignment, restructuring and cost reduction initiatives and the market reaction thereto; loss of business from increased competition; higher raw material, fuel and energy costs; changes in consumer and customer preferences for end products; customer losses; changes in regulatory conditions; customer bankruptcies; consolidations, restructuring or divestiture of customer brands; unfavorable fluctuations in currencies or interest rates among the various jurisdictions in which we operate; component shortages; market acceptance of our new products; costs or difficulties related to the integration of any new or acquired businesses and technologies; continued uncertainty in pricing negotiations with customers; successful integration of acquisitions and operations of joint ventures; successful implementation of strategic partnerships and collaborations; our ability to be awarded new business; product liability, warranty and recall claims and investigations and other litigation and customer reactions thereto (including the resolution of the Toyota Recall (defined below)); higher expenses for our pension and other postretirement benefits including higher funding requirements for our pension plans; work stoppages or other labor issues; possible adverse results of pending or future litigation or infringement claims; our ability to protect our intellectual property rights; negative impacts of antitrust investigations or other governmental investigations and associated litigation relating to the conduct of our business; tax assessments by governmental authorities and changes in our effective tax rate; dependence on key personnel; legislative or regulatory changes impacting or limiting our business; political conditions; dependence on and relationships with customers and suppliers; and other risks and uncertainties identified in Item 1A “Risk Factors” of this Quarterly Report on Form 10-Q, Item 1A “Risk Factors” in our Form 10-K and Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report for the year ended December 31, 2016 filed with the SEC on February 23, 2017.

For any forward-looking statements contained in this or any other document, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, and we assume no obligation to update publicly or revise any forward-looking statements in light of new information or future events, except as required by law.

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CONSOLIDATED STATEMENTS OF NET INCOME (UNAUDITED)

(Dollars in millions, except per share data)

 

 

See “Notes to unaudited condensed consolidated financial statements.”

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CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)

(Dollars in millions)

 

 

See “Notes to unaudited condensed consolidated financial statements.”

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CONDENSED CONSOLIDATED BALANCE SHEETS

(Dollars in millions)

 

 

See “Notes to unaudited condensed consolidated financial statements.”

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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(Dollars in millions)

 

 

See “Notes to unaudited condensed consolidated financial statements.”

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unless otherwise noted, all amounts are presented in millions of dollars, except for per share amounts)

September 30, 2017

1 Basis of Presentation

The accompanying interim unaudited condensed consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles (U.S. GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, the unaudited condensed consolidated financial statements have been prepared on the same basis as the prior year audited financial statements and all adjustments considered necessary for a fair presentation have been included in the financial statements. All such adjustments are of a normal recurring nature. The result for the interim period is not necessarily indicative of the results to be expected for any future period or for the fiscal year ending December 31, 2017.

The Condensed Consolidated Balance Sheet at December 31, 2016 has been derived from the audited financial statements at that date, but does not include all the information and footnotes required by U.S. GAAP for complete financial statements.

Statements in this report that are not of historical fact are forward-looking statements that involve risks and uncertainties that could affect the actual results of the Company. A description of the important factors that could cause Autoliv's actual results to differ materially from the forward-looking statements contained in this report may be found in this report and Autoliv's other reports filed with the Securities and Exchange Commission (the “SEC”). For further information, refer to the consolidated financial statements, footnotes and definitions thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on February 23, 2017.

2 Recently Issued Accounting Pronouncements

In May 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2017-09, Compensation-Stock Compensation (Topic 718) – Scope of Modification Accounting, which provides guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. An entity should account for the effects of a modification unless (a) the fair value of the modified award is the same as the fair value of the original award, (b) the vesting conditions of the modified award are the same as the vesting conditions of the original award and (c) the classification of the modified award as an equity instrument or a liability instrument is the same as the classification of the original award immediately before the original award is modified. The amendments in ASU 2017-09 are effective for public business entities for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted, including adoption in any interim period, for public business entities for reporting periods for which financial statements have not been issued. The amendments in ASU 2017-09 should be applied prospectively to an award modified on or after the adoption date. The Company early adopted ASU 2017-09 in the second quarter beginning April 1, 2017. As this standard is prospective in nature, the impact to our financial statements will depend on the nature of our future award modifications. There have been no modifications to awards to date in 2017.

In March 2017, the FASB issued ASU 2017-07, Compensation-Retirement Benefits (Topic 715) - Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost, which requires the service cost component to be reported in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit cost are required to be presented in the consolidated statements of net income separately from the service cost component and outside operating income. The amendments in ASU 2017-07 are effective for public business entities for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted as of the beginning of an annual period for which financial statements (interim or annual) have not been issued or made available for issuance. The amendments in ASU 2017-07 should be applied retrospectively for the presentation of the service cost component and the other components of net periodic pension cost and net periodic postretirement benefit cost in the consolidated statements of net income. At the expected adoption as of January 1, 2018, the Company estimates that approximately $5-7 million of the net benefit cost will be reclassified from Operating Income to Other non-operating items, net in the consolidated statements of net income.

In January 2017, the FASB issued ASU 2017-04, Intangibles – Goodwill and Other (Topic 350) – Simplifying the Test for Goodwill Impairment, which simplifies how an entity is required to test goodwill for impairment by eliminating step 2 from the goodwill impairment test, which measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount. Instead, entities should perform annual or interim goodwill impairment tests by comparing the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the excess of carrying amount over the fair value of the respective reporting unit. The amendments in ASU 2017-04 are effective for public business entities for annual or interim goodwill impairment tests in annual periods beginning after December 15, 2019. Early adoption is permitted for interim or annual goodwill

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impairment tests performed on testing dates after January 1, 2017. The Company early adopted ASU 2017-04 effective January 1, 2017. As this standard is prospective in nature, the impact to our financial statements by not performing step 2 to measure the amount of any potential goodwill impairment will depend on various factors. However, the elimination of step 2 will reduce the complexity and cost of the subsequent measurement of goodwill.

In January 2017, the FASB issued ASU 2017-01, Business Combinations (Topic 805) – Clarifying the Definition of a Business, which provides a screen to determine when an integrated set of assets and activities is not a business. The screen requires that when substantially all of the fair value of the gross assets acquired (or disposed of) is concentrated in a single identifiable asset or a group of similar identifiable assets, the set is not a business. The amendments in ASU 2017-01 are effective for public business entities for annual periods beginning after December 15, 2017, and interim periods within those periods. ASU 2017-01 should be applied prospectively. Early adoption is permitted. The Company early adopted ASU 2017-01 effective January 1, 2017 for new transactions that have not been reported in financial statements that have been issued or made available for issuance. As this standard is prospective in nature, the impact to our financial statements will depend on the nature of our future acquisitions. This new standard was applied in conjunction with the Zenuity AB joint venture as discussed in Note 7 to the unaudited condensed consolidated financial statements.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230) – Restricted Cash, which requires 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. The amendments in ASU 2016-18 are effective for public business entities for annual periods beginning after December 15, 2017, and interim periods within those annual periods. Early adoption is permitted, including adoption in an interim period. The amendments in ASU 2016-18 should be applied using a retrospective transition method to each period presented. The Company early adopted ASU 2016-18 effective January 1, 2017. The adoption of ASU 2016-18 did not have a material impact on our consolidated financial statements for any period presented.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740) – Intra-Entity Transfers of Assets Other Than Inventory, which requires an entity to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. Current GAAP prohibits the recognition of current and deferred income taxes for an intra-entity asset transfer until the asset has been sold to an outside party. Consequently, the amendments in this ASU 2016-16 eliminate the exception for an intra-entity transfer of an asset other than inventory. Two common examples of assets included in the scope of ASU 2016-16 are intellectual property and property, plant, and equipment. The amendments in ASU 2016-16 are effective for public business entities for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted as of the beginning of an annual reporting period for which financial statements (interim or annual) have not been issued or made available for issuance. The amendments in ASU 2016-16 should be applied on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. The Company is currently evaluating the impact of our pending adoption of ASU 2016-16 on our consolidated financial statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230) – Classification of Certain Cash Receipts and Cash Payments, which provides guidance on reducing the diversity in practice on eight cash flow classification issues and how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The amendments in ASU 2016-15 are effective for public business entities for annual periods beginning after December 15, 2017, and interim periods within those annual periods. Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the annual period that includes that interim period. The amendments in ASU 2016-15 should be applied using a retrospective transition method to each period presented. The Company early adopted ASU 2016-15 effective January 1, 2017. The adoption of ASU 2016-15 did not have a material impact on our consolidated financial statements for any period presented.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments – Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments, which requires measurement and recognition of expected credit losses for financial assets held and requires enhanced disclosures regarding significant estimates and judgments used in estimating credit losses. ASU 2016-13 is effective for public business entities for annual periods beginning after December 15, 2019, and early adoption is permitted for annual periods beginning after December 15, 2018. The Company is currently evaluating the impact of our pending adoption of ASU 2016-13 on our consolidated financial statements.

In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718), which simplifies the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. For public business entities, the amendments in ASU 2016-09 are effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Amendments related to the timing of when excess tax benefits are recognized, minimum statutory withholding requirements, forfeitures, and intrinsic value

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should be applied using a modified retrospective transition method by means of a cumulative-effect adjustment to equity as of the beginning of the period in which the guidance is adopted. Amendments related to the presentation of employee taxes paid on the statement of cash flows when an employer withholds shares to meet the minimum statutory withholding requirement should be applied retrospectively. Amendments requiring recognition of excess tax benefits and tax deficiencies in the income statement and the practical expedient for estimating expected term should be applied prospectively. An entity may elect to apply the amendments related to the presentation of excess tax benefits on the statement of cash flows using either a prospective transition method or a retrospective transition method. The Company adopted ASU 2016-09 effective January 1, 2017 and has elected to recognize forfeitures as they occur. The adoption of ASU 2016-09 did not have a material impact on the consolidated financial statements for any period presented.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), to increase transparency and comparability among organizations by recognizing lease liabilities on the balance sheet and disclosing key information about leasing arrangements. ASU 2016-02 affects any entity that enters into a lease, with some specified scope exceptions. For public business entities, the amendments in ASU 2016-02 are effective for annual periods beginning after December 15, 2018, and interim periods within those annual periods. Early adoption is permitted. The Company is currently evaluating the impact of adopting ASU 2016-02 on its consolidated financial statements, which will require right of use assets and lease liabilities to be recorded in the consolidated balance sheet for finance and operating leases.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330), which requires an entity to measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. Subsequent measurement is unchanged for inventory measured using LIFO or the retail inventory method. For public business entities, ASU 2015-11 is effective for interim and annual periods beginning after December 15, 2016 and should be applied prospectively. The adoption of ASU 2015-11 did not have a material impact on the consolidated financial statements for any periods presented.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which outlines a single, comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance issued by the FASB, including industry specific guidance. In 2016, the FASB issued accounting standard updates to address implementation issues and to clarify guidance on identifying performance obligations, licenses and determining if a company is a principal or an agent. The core principle of the guidance is that an entity should recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the Company expects to receive in exchange for those goods or services. In addition, ASU 2014-09 requires certain additional disclosure around the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. ASU 2014-09 was initially effective for interim and annual periods beginning after December 15, 2016. The FASB subsequently deferred the effective date of this standard to December 15, 2017 with early adoption permitted as of December 15, 2016. The Company intends to adopt ASU 2014-09 in the annual period beginning January 1, 2018. The standard permits the use of either the full retrospective or modified retrospective (cumulative effect) transition method. The Company intends to apply the modified retrospective transition method through a cumulative adjustment to equity. The Company is currently evaluating the impact of this standard on its operations, consolidated financial statements and footnote disclosures and is finalizing the overall assessment of the impact of the standard to the Company.

The Company’s implementation of this standard includes a project management framework that includes a dedicated lead project manager and a cross-functional project steering committee responsible for assessing the impact that the new standard will have on the Company’s accounting, financial statement presentation and disclosure for contracts with customers. The assessment phase of the project has included the identification of the key revenue streams and the comparison of historical accounting policies and practices to the requirements of the new standard by revenue stream. The assessment has resulted in the identification of accounting differences that may arise from the application of the new standard. The Company anticipates that the adoption of ASU 2014-09 will primarily impact the timing of revenue recognition for certain production parts contracts and will result in some changes to revenue related disclosures and financial statement presentation. For certain contracts, the production parts are highly customized products with no alternative use and the Company has an enforceable right to payment (with a reasonable margin) for performance completed to date. As a result, for these contracts, the Company will recognize revenue over time as the parts are being produced against firm orders received from the customer. Consistent with current treatment, shipping and handling costs associated with outbound shipments, after control of the product has transferred to a customer, will be accounted for as a fulfillment cost and included in cost of sales. In addition, certain payments made to customers in connection with future contracts may be deferred and amortized over future periods. While the Company has made substantial progress in identifying the likely impacts of the new standard, it has not yet determined a range of the potential quantitative impact.

In addition, during the third quarter, the team continued to identify changes to business processes, systems and controls to support recognition, presentation and disclosure under the new standard. A detailed implementation plan for the last quarter of 2017 has been refined and includes tasks around data gathering, identification of the new journal entries, training, design of new processes and controls as well as testing of the controls. The Company is progressing in accordance with the implementation plan to assess the overall impact the adoption of ASU 2014-09 will have on our consolidated financial statements and is continuing to test our processes designed to comply with ASU 2014-09 to permit adoption by January 1, 2018.

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3 Business Combinations

Autoliv-Nissin Brake Systems

On March 31, 2016, the Company acquired a 51% interest in the entities that formed Autoliv-Nissin Brake Systems (ANBS) for $262.5 million in cash. ANBS designs, manufactures and sells products in the brake control and actuation systems business. Nissin Kogyo retained a 49% interest in the entities that formed ANBS. The Company has management and operational control of ANBS and has consolidated the results of operations and balance sheet from ANBS from the date of the acquisition forward. The transaction was accounted for as a business combination (for further information, see the Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC on February 23, 2017).

Total ANBS acquisition related costs were approximately $0.1 million for the first nine months ended September 30, 2017 and approximately $2.0 million for the year ended December 31, 2016. These costs were reflected in Selling, General and Administrative expenses in the Consolidated Statements of Net Income.

The acquisition date fair value of the consideration transferred for the Company’s 51% interest in the entities that formed ANBS was $262.5 million in a cash transaction.

The following table summarizes the finalized fair values of identifiable assets acquired and liabilities assumed as of March 31, 2016:

Amounts recognized as of acquisition date of March 31, 2016 (in millions)

 

 

Acquired Intangibles primarily consist of the fair value of customer contracts of $50.7 million and certain technology of $61.4 million. The customer contracts will be amortized straight-line over 7 years and the technology will be amortized straight-line over 10 years.

The recognized goodwill of $234.7 million reflects expected synergies from combining Autoliv's global reach and customer base with Nissin Kogyo's world leading expertise (including workforce) and technology in brake control and actuation systems. A significant portion of the goodwill is deductible for tax purposes.

The allocation of the purchase price consideration to the assets acquired and the liabilities assumed as of the acquisition date was finalized in the first quarter of 2017.

4 Fair Value Measurement

Assets and liabilities measured at fair value on a recurring basis

The carrying value of cash and cash equivalents, accounts receivable, accounts payable, other current liabilities and short-term debt approximate their fair value because of the short term maturity of these instruments.

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The fair value of the contingent consideration relating to the M/A-COM acquisition is re-measured on a recurring basis (for further information, see the Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on February 23, 2017). The Company has determined that this contingent consideration resides within Level 3 of the fair value hierarchy. The Company adjusted the fair value of the earn-out liability to $14 million in the first quarter of 2017 based on actual revenue levels as well as changes in the estimated probability of different revenue scenarios for the remaining contractual earn-out period. Income of $13 million was recognized within Other income (expense), net in the Consolidated Statements of Net Income in the first quarter of 2017 due to the decrease in the contingent consideration liability. The reduced earn-out liability was largely offset by the impairment charge for a customer contract related to the M/A-COM acquisition as discussed below. The fair value of the earn-out liability remains unchanged at $14 million as of September 30, 2017.

The Company uses derivative financial instruments, “derivatives”, as part of its debt management to mitigate the market risk that occurs from its exposure to changes in interest and foreign exchange rates. The Company does not enter into derivatives for trading or other speculative purposes. The Company’s use of derivatives is in accordance with the strategies contained in the Company’s overall financial risk policy. The derivatives outstanding at September 30, 2017 were foreign exchange swaps and forward contracts. All swaps principally match the terms and maturity of the underlying debt and no swaps have a maturity beyond six months. The forward contracts are designated as cash flow hedges of certain external purchases. All derivatives are recognized in the consolidated financial statements at fair value. Certain derivatives are from time to time designated either as fair value hedges or cash flow hedges in line with the hedge accounting criteria. For certain other derivatives, hedge accounting is not applied either because non-hedge accounting treatment creates the same accounting result or the hedge does not meet the hedge accounting requirements, although entered into applying the same rationale concerning mitigating market risk that occurs from changes in interest and foreign exchange rates.

When a hedge is classified as a fair value hedge, the change in the fair value of the hedge is recognized in the Consolidated Statements of Net Income along with the off-setting change in the fair value of the hedged item. When a hedge is classified as a cash flow hedge, any change in the fair value of the hedge is initially recorded in equity as a component of Other comprehensive income (OCI) and reclassified into the Consolidated Statements of Net Income when the hedge transaction affects net earnings. The Company uses the forward rate with respect to the measurement of changes in fair value of cash flow hedges when revaluing foreign exchange forward contracts.

The Company’s derivatives are all classified as Level 2 of the fair value hierarchy and there have been no transfers between the levels during this or comparable periods (for further information, see Annual Report on Form 10-K for the year ended December 31, 2016).

The tables below present information about the Company’s financial assets and liabilities measured at fair value on a recurring basis as of September 30, 2017 and December 31, 2016. The carrying value is the same as the fair value as these instruments are recognized in the consolidated financial statements at fair value. Although the Company is party to close-out netting agreements (ISDA agreements) with all derivative counterparties, the fair values in the tables below and in the Condensed Consolidated Balance Sheet at September 30, 2017 and in the Consolidated Balance Sheet at December 31, 2016, have been presented on a gross basis. The amounts subject to netting agreements that the Company chose not to offset are presented below. According to the close-out netting agreements, transaction amounts payable to a counterparty on the same date and in the same currency can be netted.

 

 

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Derivatives designated as hedging instruments

The derivatives designated as hedging instruments outstanding at September 30, 2017 and at December 31, 2016 were foreign exchange forward contracts, classified as cash flow hedges.

For the three and nine months ended September 30, 2017, the cumulative gains and losses recognized in OCI on the cash flow hedges were a loss of $2.5 million (net of taxes) and a loss of $5.5 million (net of taxes), respectively. For the three and nine months ended September 30, 2016, the cumulative gains and losses recognized in OCI on the cash flow hedges were a gain of $1.3 million (net of taxes) and a gain of $4.0 million (net of taxes), respectively.

For the three and nine months ended September 30, 2017, the gains and losses reclassified from OCI and recognized in the Consolidated Statements of Net Income were a gain of $1.4 million (net of taxes) and a gain of $4.6 million (net of taxes), respectively. For the three and nine months ended September 30, 2016, the gains and losses reclassified from OCI and recognized in the Consolidated Statements of Net Income were a gain of $0.1 million (net of taxes) and a gain of $0.3 million (net of taxes), respectively. Any ineffectiveness in the first nine months of 2017 and 2016 were not material.

The estimated net amount of the existing gains or losses at September 30, 2017 that is expected to be reclassified from OCI and recognized in the Consolidated Statements of Net Income within the next twelve months is a loss of $2.0 million (net of taxes).

Derivatives not designated as hedging instruments

Derivatives not designated as hedging instruments relate to economic hedges and are marked to market with all amounts recognized in the Consolidated Statements of Net Income. The derivatives not designated as hedging instruments outstanding at September 30, 2017 and December 31, 2016 were foreign exchange swaps.

For the three and nine months ended September 30, 2017, the gains and losses recognized in other non-operating items, net were a loss of $0.9 million and a loss of $0.5 million, respectively, for derivative instruments not designated as hedging instruments. For the three and nine months ended September 30, 2016, the gains and losses recognized in other non-operating items, net were a loss of $1.3 million and a loss of $0.2 million, respectively, for derivative instruments not designated as hedging instruments.

For the three and nine months ended September 30, 2017 and September 30, 2016, the gains and losses recognized as interest expense were immaterial.

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Fair Value of Debt

The fair value of long-term debt is determined either from quoted market prices as provided by participants in the secondary market or for long-term debt without quoted market prices, estimated using a discounted cash flow method based on the Company’s current borrowing rates for similar types of financing. The fair value and carrying value of debt is summarized in the table below. The Company has determined that each of these fair value measurements of debt reside within Level 2 of the fair value hierarchy.

 

 

Assets and liabilities measured at fair value on a non-recurring basis

In addition to assets and liabilities that are measured at fair value on a recurring basis, the Company also has assets and liabilities in its balance sheet that are measured at fair value on a non-recurring basis. Assets and liabilities that are measured at fair value on a non-recurring basis include long-lived assets, including equity method investments, typically as it relates to impairment.

The Company has determined that the fair value measurements included in each of these assets and liabilities rely primarily on Company-specific inputs and the Company’s assumptions about the use of the assets and settlements of liabilities, as observable inputs are not available. The Company has determined that each of these fair value measurements reside within Level 3 of the fair value hierarchy. To determine the fair value of long-lived assets, the Company utilizes the projected cash flows expected to be generated by the long-lived assets, then discounts the future cash flows over the expected life of the long-lived assets.

At the end of the first quarter of 2017 the Company received information related to a contract with an OEM customer of M/A-COM products that resulted in an impairment trigger of the customer intangible asset as well as a renewed assessment of the earn-out liability. In the first quarter of 2017, the Company recognized an impairment charge to amortization of intangibles in the Consolidated Statements of Net Income for a customer contract of $12 million related to the M/A-COM acquisition (for further information, see the Annual Report on Form 10-K for the year ended December 31, 2016, filed with the SEC on February 23, 2017). As of September 30, 2017, the remaining fair value of $1 million related to this customer contract will be amortized straight-line over the remaining 3 months in 2017. The impairment charge was largely offset by the reduced earn-out liability discussed above and the net impact was a gain of $1 million in the first quarter of 2017.

5 Income Taxes

The effective tax rate in the third quarter of 2017 was 33.4% compared to 26.8% in the same quarter of 2016. Discrete tax items, net in the third quarter of 2017 had an unfavorable impact of 3.3%. In the third quarter of 2016, discrete tax items, net had a favorable impact of 1.1%. 

The effective tax rate in the first nine months of 2017 was 30.7% compared to 27.5% for the first nine months of 2016. In the first nine months of 2017, the net impact of discrete tax items caused a 3.6% increase to the effective tax rate. These discrete items are primarily valuation allowances on specific deferred tax assets. The net impact of discrete tax items in the first nine months of 2016 caused a 0.2% decrease to the effective tax rate.  

The Company files income tax returns in the United States federal jurisdiction, and various states and non-U.S. jurisdictions. At any given time, the Company is undergoing tax audits in several tax jurisdictions covering multiple years. The Company is no longer subject to income tax examination by the U.S. federal income tax authorities for years prior to 2014. With few exceptions, the Company is no longer subject to income tax examination by U.S. state or local tax authorities or by non-U.S. tax authorities for years before 2009.

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As of September 30, 2017, the Company is not aware of any proposed income tax adjustments resulting from tax examinations that would have a material impact on the Company’s condensed consolidated financial statements. The conclusion of such audits could result in additional increases or decreases to unrecognized tax benefits in some future period or periods.

During the third quarter of 2017, the Company recorded a net increase of $0.9 million to income tax reserves for unrecognized tax benefits based on tax positions related to the current year, including accruing additional interest related to unrecognized tax benefits of prior years. During the third quarter of 2017, the Company recorded a $8.7 million adjustment to income tax reserves for unrecognized tax benefits of prior years due to the settlement of several tax audits. Of the total unrecognized tax benefits of $26.9 million recorded at September 30, 2017, $1.9 million is classified as current tax payable and $25.0 million is classified as non-current tax payable on the Condensed Consolidated Balance Sheet.

6 Inventories

Inventories are stated at the lower of cost (principally FIFO) and net realizable value. The components of inventories were as follows:

 

 

7 Equity Method Investments

On April 18, 2017, Autoliv and Volvo Cars completed the formation of their joint venture, Zenuity AB. Autoliv made a cash contribution of SEK 1 billion and also contributed intellectual property, lab equipment and an assembled workforce. Autoliv and Volvo Cars each have a 50% ownership of Zenuity and neither entity has the ability to exert control over the joint venture, in form or in substance. Autoliv has accounted for its investment in Zenuity under the equity method and the investment is shown in the line item Investments and other non-current assets in the Condensed Consolidated Balance Sheet. The contributed intellectual property, lab equipment, and an assembled workforce have been assessed to constitute a business as defined by ASU 2017-01, Business Combinations (Topic 805) – Clarifying the Definition of a Business. FASB ASC Topic 810, Consolidation states that when a group of assets that constitutes a business is derecognized, the carrying amounts of the assets and liabilities are removed from the consolidated balance sheet. The investor would recognize a gain or loss based on the difference between the sum of the fair value of any consideration received less the carrying amount of the group of assets and liabilities contributed at the date of the transaction. The enterprise value of Zenuity on the date of the closing of the transaction of approximately $250 million has been calculated using the discounted cash flow method of the income approach. Autoliv’s 50% share of the enterprise value, approximately $125 million, represents its investment in Zenuity, including its cash contribution at inception. The Company recorded an immaterial gain based on the difference between Autoliv’s share of Zenuity’s enterprise value less the carrying value of the group of assets and liabilities derecognized. Autoliv believes that the calculated fair value represents its best estimate of the enterprise value of Zenuity considering the expected synergies to be achieved with the joint venture from the contributed assets including synergies of future combined Research & Development leading to the next generation of autonomous driving software. The profit and loss attributed to the investment is shown in the line item (Loss) income from equity method investments in the Consolidated Statements of Net Income. Autoliv’s share of Zenuity’s loss for the three and nine months ended September 30, 2017 were approximately $10 million and $18 million, respectively. As of September 30, 2017, the Company’s equity investment in Zenuity amounted to approximately $112 million.

8 Goodwill

 

 

The goodwill amount change in the first quarter of 2017 was a result of the finalization of the purchase price allocation for the ANBS acquisition (see Note 3 above).

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9 Restructuring

Restructuring provisions are made on a case-by-case basis and primarily include severance costs incurred in connection with headcount reductions and plant consolidations. The Company expects to finance restructuring programs over the next several years through cash generated from its ongoing operations or through cash available under existing credit facilities. The Company does not expect that the execution of these activities will have a material adverse impact on its liquidity position. The majority of restructuring activities relate to the Passive Safety segment. The changes in the employee-related reserves have been charged against Other income (expense), net in the Consolidated Statements of Net Income.

The majority of the reserve balance as of September 30, 2017 pertains to restructuring activities initiated in Western Europe in the past few years. The Company anticipates that its restructuring initiatives in Western Europe for a number of plants, none of which are individually or in the aggregate material as of September 30, 2017, will continue through dates ranging from 2017 through 2021. The total amount of costs expected to be incurred in connection with these restructuring activities ranges from approximately $10 million to $28 million for each individual activity. In the aggregate, the cost for these Western European restructuring initiatives is approximately $102 million and the remaining restructuring liability as of September 30, 2017 is approximately $36.5 million out of the $43.8 million total reserve balance.

Three months ended September 30, 2017

The employee-related restructuring provisions and cash payments for the three months ended September 30, 2017 mainly related to headcount reductions in high-cost countries in Europe. The table below summarizes the change in the balance sheet position of the restructuring reserves from June 30, 2017 to September 30, 2017.

 

 

Nine months ended September 30, 2017

The employee-related restructuring provisions and cash payments for the nine months ended September 30, 2017 mainly related to headcount reductions in high-cost countries in Europe. The table below summarizes the change in the balance sheet position of the restructuring reserves from December 31, 2016 to September 30, 2017.

 

 

Three months ended September 30, 2016

The employee-related restructuring provisions and cash payments for the three months ended September 30, 2016 mainly related to headcount reductions in high-cost countries in Europe and Asia. The table below summarizes the change in the balance sheet position of the restructuring reserves from June 30, 2016 to September 30, 2016.

 

 

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Nine months ended September 30, 2016

The employee-related restructuring provisions and cash payments for the nine months ended September 30, 2016 mainly related to headcount reductions in high-cost countries in Europe and Asia. The table below summarizes the change in the balance sheet position of the restructuring reserves from December 31, 2015 to September 30, 2016.

 

 

10 Product-Related Liabilities

The Company has reserves for product risks. Such reserves are related to product performance issues including recalls, product liability and warranty issues. For further explanation, see Note 13 Contingent Liabilities below.

The table below summarizes the change in the balance sheet position of the product-related liabilities. The provisions and cash paid for the three months ended September 30, 2017 mainly related to warranty related issues. The provisions for the nine months ended September 30, 2017 mainly related to warranty related issues and the cash paid for the nine months ended September 30, 2017 mainly related to recall related issues. The provisions and cash paid for the three and nine months ended September 30, 2016 mainly related to warranty related issues. The increase in the reserve balance as of September 30, 2017 compared to the prior year is mainly due to recall related issues in the fourth quarter of 2016, a majority of which were covered by insurance. Insurance receivables are included within Other current assets in the Condensed Consolidated Balance Sheet.

 

 

11 Retirement Plans

The Company has contributory and non-contributory defined benefit pension plans covering employees at most operations in the U.S. and in certain other countries. The main plan is the U.S. plan for which the benefits are based on an average of the employee’s earnings in the years preceding retirement and on credited service. Certain supplemental funded and unfunded plan arrangements also provide retirement benefits to specified groups of participants.

The Company has frozen participation in the U.S. pension plans to include only those employees hired as of December 31, 2003. The U.K. defined benefit plan is the most significant individual non-U.S. pension plan and the Company has frozen participation to include only those employees hired as of April 30, 2003.

The Net Periodic Benefit Costs related to Other Post-retirement Benefits were not significant to the condensed consolidated financial statements of the Company for the three and nine month periods ended September 30, 2017 and September 30, 2016 and are not included in the table below.

The components of total Net Periodic Benefit Cost associated with the Company’s defined benefit retirement plans are as follows:

 

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12 Controlling and Non-Controlling Interest

 

 

 

Stock Repurchase Program

The Company did not repurchase any shares in the third quarter of 2017. In the second quarter of 2017, the Company repurchased 1.4 million common shares for cash at an aggregate amount of $157 million. The Company is authorized to repurchase an additional 2,986,288 shares under the program at September 30, 2017. The stock repurchases made in the second quarter of 2017 were the first stock repurchases made under the program since March 2015.

 

13 Contingent Liabilities

Legal Proceedings

Various claims, lawsuits and proceedings are pending or threatened against the Company or its subsidiaries, covering a range of matters that arise in the ordinary course of its business activities with respect to commercial, product liability and other matters. Litigation is subject to many uncertainties, and the outcome of any litigation cannot be assured. After discussions with counsel, and

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with the exception of losses resulting from the antitrust proceedings described below, it is the opinion of management that the various legal proceedings and investigations to which the Company currently is a party will not have a material adverse impact on the consolidated financial position of Autoliv, but the Company cannot provide assurance that Autoliv will not experience material litigation, product liability or other losses in the future.

In October 2014, one of the Company’s Brazilian subsidiaries received a notice of deficiency from the state tax authorities from the state of São Paulo, Brazil which, primarily, alleged violations of ICMS (VAT) payments and improper warehousing documentation. The aggregate assessment for all alleged violations was R$75.7 million (approximately $23.8 million), inclusive of fines, penalties and interest. The Company believes the full amount assessed is baseless and that it has reasonable legal and factual defenses to the assessment and, consequently, plans to defend its interests vigorously. However, the Company believes that a loss is probable with respect to at least a portion of the assessed amount and accrued an amount in 2015, which amount remains accrued as of September 30, 2017, that was not material to the Company’s results of operations. The Company cannot predict or estimate the duration or ultimate outcome of this matter.

In March 2015, the Company was informed of an investigation being conducted in Turkey by the Directorate of Kocaeli Customs Custody, Smuggling and Enquiry into the Company’s import and customs payment structure and the associated import taxes and fees for the period of 2006–2012. The Company cannot predict the duration, scope or ultimate outcome of this investigation and is unable to estimate the financial impact it may have, or predict the reporting periods in which any such financial impacts may be recorded. Consequently, the Company has made no provision for any expenses as of September 30, 2017 with respect to this investigation.

ANTITRUST MATTERS

Authorities in several jurisdictions are currently conducting broad, and in some cases, long-running investigations of suspected anti-competitive behavior among parts suppliers in the global automotive vehicle industry. These investigations include, but are not limited to, segments in which the Company operates. In addition to concluded and pending matters, authorities of other countries with significant light vehicle manufacturing or sales may initiate similar investigations. It is the Company’s policy to cooperate with governmental investigations.

On June 7-9, 2011, representatives of the European Commission (“EC”), the European antitrust authority, visited two facilities of a Company subsidiary in Germany to gather information for an investigation of anti-competitive behavior among suppliers of occupant safety systems.  

During the third quarter of 2017, the Company concluded that the EC is likely to finalize a discrete portion of its investigation and impose a fine with respect to this portion of the EC’s overall investigation while it continues the more significant portion of its investigation. The Company accrued EUR 8.3 million (approximately $9.8 million) in the period ended September 30, 2017 with respect to this discrete portion of the investigation.

Management does not believe the outcome of this discrete portion of the EC’s investigation as noted above provides an indication of the total probable loss associated with the EC investigation as a whole. The Company remains unable to estimate the financial impact of what the Company believes to be the substantially more significant, continuing portion of the investigation or predict the reporting periods in which such financial impact may be recorded. Consequently, the Company has not recorded a provision for loss as of September 30, 2017 other than as noted above for the discrete portion of the investigation. However, management believes it is probable that the Company’s operating results and cash flows will be materially adversely impacted for the reporting periods in which the continuing portion of the investigation is resolved or becomes estimable.

In August 2014, the Competition Commission of South Africa (the “CCSA”) contacted the Company regarding an investigation into the Company’s sales of occupant safety systems in South Africa. In September 2017, the Company entered into a settlement agreement with the CCSA in which the Company agreed to pay an administrative penalty of R150 million (approximately $11 million). The agreement is subject to the approval of the competition tribunal in South Africa. The Company had previously accrued a total of approximately $6 million as of year-end 2016 for this matter, and accrued an additional amount of approximately $5 million during the period ended September 30, 2017 with respect to the proposed settlement.

On July 6, 2015, the Company learned that the General Superintendence of the Administrative Council for Economic Defense (“CADE”) in Brazil had initiated an investigation of an alleged cartel involving sales in Brazil of seatbelts, airbags, and steering wheels by the Company’s Brazilian subsidiary and the Brazilian subsidiary of a competitor. In November 2016, the Company and the CADE entered into a settlement agreement with respect to this matter for an amount that is not material to the Company’s results of operations. Settlement amounts were accrued for this matter during the periods ended December 31, 2015 and December 31, 2016, and final payment of the accrued amounts was made during the period ended March 31, 2017.

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The Company is also subject to civil litigation alleging anti-competitive conduct in the U.S. and Canada. Specifically, the Company, several of its subsidiaries and its competitors were named as defendants in a total of nineteen purported antitrust class action lawsuits filed between June 2012 and June 2015. Fifteen of these lawsuits were filed in the U.S. and were consolidated in the Occupant Safety Systems (OSS) segment of the Automobile Parts Antitrust Litigation, a Multi-District Litigation (MDL) proceeding in the United States District Court for the Eastern District of Michigan.  Plaintiffs in the U.S. cases sought to represent four purported classes - direct purchasers, auto dealers, end-payors, and, as of the filing of the last class action in June 2015, truck and equipment dealers - who purchased occupant safety systems or components directly from a defendant, indirectly through purchases or leases of new vehicles containing such systems, or through purchases of replacement parts.

In May 2014, the Company, without admitting any liability, entered into separate settlement agreements with representatives of the three classes of plaintiffs then pending in the MDL. Pursuant to the settlement agreements, the Company agreed to pay $40 million to the direct purchaser settlement class, $6 million to the auto dealer settlement class, and $19 million to the end-payor settlement class, for a total of $65 million. This amount was expensed during the second quarter of 2014. In January 2015, the MDL court granted final approval of the direct purchaser class settlement, which had been reduced to approximately $35.5 million because of opt-outs; in December 2015, the MDL court granted final approval of the auto dealer class settlement; and in June 2016, the MDL court granted final approval of the end-payor class settlement, over the objections of several individual class members, some of whom appealed the MDL court’s approval of the Company’s end-payor settlement and several other defendants’ settlements that were approved at the same time. These appeals have been voluntarily dismissed, and the MDL court’s approval of the Company’s settlement with the end-payor class became final as of the last such dismissal, on September 20, 2017. In addition, several individuals and one insurer (and its affiliated entities) have opted-out of the pending end-payor class settlements, including the Company’s settlement. The class settlements do not resolve any claims of settlement class members who opt-out of the settlements or the unasserted claims of any purchasers of occupant safety systems who are not otherwise included in a settlement class, such as states and municipalities.

In September 2016, the insurer (and its affiliated entities) that opted out of the end-payor class settlement filed an antitrust lawsuit in the United States District Court for the Eastern District of Michigan, the venue for the MDL, against the Company and the other settling defendants in the end-payor class settlement. The defendants’ motion to dismiss the complaint on various grounds is pending. The Company cannot predict or estimate the duration or ultimate outcome of this matter.

In March 2015, the Company, without admitting any liability, reached agreements regarding additional settlements to resolve certain direct purchasers’ global (including U.S.) or non-U.S. antitrust claims that were not covered by the direct purchaser class settlement described above. The total amount of these additional settlements was $81 million. Autoliv expensed during the first quarter of 2015 approximately $77 million as a result of these additional settlements, net of existing amounts that had been accrued in 2014.

In April 2016, the Company entered into a settlement agreement with the truck and equipment dealers class for an amount that is not material to the Company’s results of operations. In November 2016, the MDL court granted final approval of the settlement and on February 3, 2017, the MDL court entered a final judgment dismissing the case against the Company.

The remaining four antitrust class action lawsuits are pending in Canada (Sheridan Chevrolet Cadillac Ltd. et al. v. Autoliv, Inc. et al., filed in the Ontario Superior Court of Justice on January 18, 2013; M. Serge Asselin v. Autoliv, Inc. et al., filed in the Superior Court of Quebec on March 14, 2013; Ewert v. Autoliv, Inc. et al., filed in the Supreme Court of British Columbia on July 18, 2013; and Cindy Retallick and Jagjeet Singh Rajput v. Autoliv ASP, Inc. et al., filed in the Queen’s Bench of the Judicial Center of Regina in the province of Saskatchewan on May 14, 2014). The Canadian cases assert claims on behalf of putative classes of both direct and indirect purchasers of occupant safety systems. In February 2017, the Company entered into a settlement agreement with plaintiffs in three of the four class actions to settle on a nationwide class basis for an amount that is not material to the Company’s results of operations. The Company accrued amounts for the period ended December 31, 2016 in connection with these claims. The settlement has received the required court approvals and is final, with amounts being paid in 2017. This national settlement includes the claims of the putative members of the fourth class action.

PRODUCT WARRANTY, RECALLS AND INTELLECTUAL PROPERTY

Autoliv is exposed to various claims for damages and compensation if products fail to perform as expected. Such claims can be made, and result in costs and other losses to the Company, even where the product is eventually found to have functioned properly. Where a product (actually or allegedly) fails to perform as expected, the Company faces warranty and recall claims. Where such (actual or alleged) failure results, or is alleged to result, in bodily injury and/or property damage, the Company may also face product-liability claims. There can be no assurance that the Company will not experience material warranty, recall or product (or other) liability claims or losses in the future, or that the Company will not incur significant costs to defend against such claims. The Company may be required to participate in a recall involving its products. Each vehicle manufacturer has its own practices regarding product recalls and other product liability actions relating to its suppliers. As suppliers become more integrally involved in the vehicle design process and assume more of the vehicle assembly functions, vehicle manufacturers are increasingly looking to their suppliers for contribution when faced with recalls and product liability claims. Government safety regulators may also play a role in warranty and recall

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practices. A warranty, recall or product-liability claim brought against the Company in excess of its insurance may have a material adverse effect on the Company’s business. Vehicle manufacturers are also increasingly requiring their outside suppliers to guarantee or warrant their products and bear the costs of repair and replacement of such products under new vehicle warranties. A vehicle manufacturer may attempt to hold the Company responsible for some, or all, of the repair or replacement costs of products when the product supplied did not perform as represented by us or expected by the customer. Accordingly, the future costs of warranty claims by the customers may be material. However, the Company believes its established reserves are adequate. Autoliv’s warranty reserves are based upon the Company’s best estimates of amounts necessary to settle future and existing claims. The Company regularly evaluates the adequacy of these reserves, and adjusts them when appropriate. However, the final amounts actually due related to these matters could differ materially from the Company’s recorded estimates.

In addition, as vehicle manufacturers increasingly use global platforms and procedures, quality performance evaluations are also conducted on a global basis. Any one or more quality, warranty or other recall issue(s) (including those affecting few units and/or having a small financial impact) may cause a vehicle manufacturer to implement measures such as a temporary or prolonged suspension of new orders, which may have a material impact on the Company’s results of operations.

The Company carries insurance for potential recall and product liability claims at coverage levels based on our prior claims experience. Autoliv cannot assure that the level of coverage will be sufficient to cover every possible claim that can arise in our businesses, now or in the future, or that such coverage always will be available should we, now or in the future, wish to extend, increase or otherwise adjust our insurance.

On June 29, 2016, the Company announced that it is cooperating with Toyota Motor Corp. in its recall of approximately 1.4 million vehicles equipped with a certain model of the Company’s side curtain airbag (the “Toyota Recall”). Toyota has informed the Company that there have been eight reported incidents where a side curtain airbag has partially inflated without a deployment signal from the airbag control unit. The incidents have all occurred in parked, unoccupied vehicles and no personal injuries have been reported. The root cause analysis of the issue is ongoing.  However, at this point in time the Company believes that a compromised manufacturing process at a sub-supplier may be a contributing factor and, as no incidents have been reported in vehicles produced by other OEMs with the same inflator produced during the same period as those recalled by Toyota, that vehicle-specific characteristics may also contribute to the issue. The sub-supplier’s manufacturing process was changed in January 2012, and the vehicles now recalled by Toyota represent more than half of all inflators of the relevant type manufactured before the sub-supplier process was changed.

As previously disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016, the Company determined pursuant to ASC 450 that a loss with respect to this issue is reasonably possible. If the Company is obligated to indemnify Toyota for the costs associated with the Toyota Recall, the Company expects that its insurance will generally cover such costs and liabilities and estimates that the Company’s loss, net of expected insurance recoveries, would be less than $20 million.  However, the ultimate costs of the Toyota Recall could be materially different. The main variables affecting the ultimate cost for the Company are: the determination of proportionate responsibility (if any) among Toyota, the Company, and any relevant sub-suppliers; the ultimate number of vehicles repaired; the cost of repair per vehicle; and the actual recoveries from sub-suppliers and insurers. The Company’s insurance policies generally include coverage of the costs of a recall, although costs related to replacement parts are generally not covered.

In its products, the Company utilizes technologies which may be subject to intellectual property rights of third parties. While the Company does seek to procure the necessary rights to utilize intellectual property rights associated with its products, it may fail to do so. Where the Company so fails, the Company may be exposed to material claims from the owners of such rights. Where the Company has sold products which infringe upon such rights, its customers may be entitled to be indemnified by the Company for the claims they suffer as a result thereof. Such claims could be material.

The table in Note 10 Product-Related Liabilities above summarizes the change in the balance sheet position of the product related liabilities for the three and nine month periods ended September 30, 2017 and September 30, 2016.

14 Stock Incentive Plan

Commencing with grants in February 2016, employees receive 50% of their long-term incentive (LTI) grant value in the form of performance shares (PSs) and 50% in the form of restricted stock units (RSUs).

The grantee may earn 0%-200% of the target number of PSs based on the Company’s achievement of specified targets. The performance targets are for: 1) the Company’s compound annual growth rate (CAGR) for sales and 2) the Company’s CAGR in earnings per share relative to an established benchmark growth rate. Each performance target is weighted 50% and results are measured at the end of the three-year performance period. Each PS represents a promise to transfer a share of the Company’s common stock to the employee following completion of the performance period, provided that the performance goals mentioned above are met

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and provided, further, that the grantee remains employed through the performance period, subject to certain limited exceptions. The RSUs granted on February 15, 2016 and May 9, 2016 vest in three approximately equal annual installments beginning on the first anniversary of the grant date, and the RSUs granted on February 19, 2017 will vest in one installment on the third anniversary of the grant date, in each case subject to the grantee’s continued employment with the Company on each vesting date, subject to acceleration of vesting in certain circumstances. The RSUs and PSs granted in 2017 entitle the grantee to receive dividend equivalents in the form of additional RSUs and PSs subject to the same vesting conditions as the underlying RSUs and PSs, respectively.

The fair value of the RSUs and PSs granted under the LTI program are calculated as the grant date fair value of the shares expected to be issued. For the grants made during 2017, the fair value of a PS and a RSU is calculated by using the closing stock price at grant date. For the grants made during 2016 and earlier, the fair value of a RSU and a PS was estimated using the Black Scholes valuation model. The grant date fair value for the RSUs at February 19, 2017 was $7.9 million. This cost will be amortized straight line over the vesting period. The grant date fair value of the PSs at February 19, 2017 was also $7.9 million. For PSs, the grant date fair value of the number of awards expected to vest is based on the Company’s best estimate of ultimate performance against the respective targets and is recognized as compensation cost on a straight-line basis over the requisite vesting period of the awards. The Company assesses the expected achievement levels at the end of each quarter. As of September 30, 2017, the Company believes it is probable that the performance conditions for the two grants will be met, although at a different level, and has accrued for the compensation expense accordingly. The cumulative effect of the change in estimate is recognized in the period of change as an adjustment to compensation expense.

The Company’s non-employee directors historically received grants of fully-vested shares of the Company’s common stock as payment of 50% of their annual base retainer, which shares were granted in arrears following a year of service.  The Company’s non-employee directors received their last grant of fully-vested shares of the Company’s common stock pursuant to the prior program on the date of the 2017 annual general meeting of stockholders (AGM). The grant date fair value for the fully-vested shares of the Company’s common stock granted to the Company’s non-employee directors at May 9, 2017 was $1.2 million. Pursuant to the Company’s new director compensation policy, commencing May 2017, the Company’s non-employee directors receive RSUs as payment of 50% of their annual base retainer, which RSUs vest in one installment on the earlier of the date of the next AGM or the first anniversary of the grant date, in each case subject to the grantee’s continued service as a non-employee director on the vesting date. The RSUs granted to the Company’s non-employee directors entitle the grantee to receive dividend equivalents in the form of additional RSUs subject to the same vesting conditions as the underlying RSUs. The grant date fair value for the RSUs granted to the Company’s non-employee directors at May 9, 2017 was $1.0 million.

15 Earnings per share

The Company calculates basic earnings per share (EPS) by dividing net income attributable to controlling interest by the weighted-average number of shares of common stock outstanding for the period (net of treasury shares). The diluted EPS reflects the potential dilution that could occur if common stock were issued for awards under the Company’s Stock Incentive Plan.

For the three and nine months ended September 30, 2017, approximately 0.1 million shares and 0.1 million shares of common stock, respectively, were not included in the computation of the diluted EPS, however these could potentially impact EPS in the future. For the three and nine months ended September 30, 2016, approximately 0.2 million shares of common stock, respectively, were not included in the computation of the diluted EPS, which could potentially dilute basic EPS in the future.  

During the three months ended September 30, 2017 and September 30, 2016, approximately 30 thousand and 7 thousand shares of common stock, respectively, from the treasury stock have been utilized by the Company’s Stock Incentive Plan. During the nine months ended September 30, 2017 and September 30, 2016, approximately 0.1 million and 0.1 million shares of common stock, respectively, from the treasury stock have been utilized by the Company’s Stock Incentive Plan.

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The computation of basic and diluted EPS under the two-class method were as follows:

 

 

16 Segment Information

The Company has two segments, Passive Safety and Electronics. Passive Safety includes the Company’s airbag and seatbelt products and related expertise, while Electronics combines all of the Company’s electronics resources and expertise in restraint control and sensing, brake systems and active safety.

 

 

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17 Subsequent Events

There were no reportable events subsequent to September 30, 2017.

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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with our Consolidated Financial Statements and accompanying Notes thereto included elsewhere herein and with our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the United States Securities and Exchange Commission (the “SEC”) on February 23, 2017. Unless otherwise noted, all dollar amounts are in millions.

Autoliv, Inc. (“Autoliv” or the “Company”) is a Delaware corporation with its principal executive offices in Stockholm, Sweden. It was created in 1997 from the merger of Autoliv AB (“AAB”) and the automotive safety products business of Morton International, Inc. The Company functions as a holding corporation and owns two principal subsidiaries, AAB and Autoliv ASP, Inc.

Autoliv is a leading developer, manufacturer and supplier of automotive safety systems to the automotive industry with a broad range of product offerings, including passive safety systems and active safety systems. Passive safety systems are primarily meant to improve vehicle safety. Passive safety products include modules and components for passenger and driver-side airbags, side-impact airbag protection systems, seatbelts, steering wheels, whiplash protection systems and child seats, and components for such systems. Active safety systems are designed to assist the driver and ultimately to avoid any crashes by intervening before a collision can occur. Active safety products include automotive radars, night vision systems, cameras with driver assist systems, positioning systems, passive safety electronics, active seatbelts and brake control systems. Autoliv has combined all of Autoliv’s electronics resources and expertise in both passive safety electronics and active safety systems into its Electronics segment while its Passive Safety segment includes all of its other passive safety systems.

Autoliv’s filings with the SEC, including this Quarterly Report on Form 10-Q, annual reports on Form 10-K, current reports on Form 8-K, proxy statements and all of our other reports and statements, and amendments thereto, are available free of charge on our corporate website at www.autoliv.com as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC (i.e. generally the same day as the filing).

Shares of Autoliv common stock trade on the New York Stock Exchange under the symbol “ALV”. Swedish Depository Receipts representing shares of Autoliv common stock (“SDRs”) trade on NASDAQ Stockholm under the symbol “ALIV SDB”, and options in SDRs trade on the same exchange under the name “Autoliv SDB”. Options in Autoliv shares trade on NASDAQ OMX PHLX and NYSE Amex Options under the symbol “ALV”. Our fiscal year ends on December 31.

EXECUTIVE OVERVIEW

 

Autoliv’s third quarter turned out essentially as expected. The Company is in the midst of an intense period of preparing for its future growth, while delivering at the high end of its guided margin range for the quarter.

 

These preparations will continue into the fourth quarter, when the Company expects to see the first step-up in growth in Passive Safety, before gaining momentum early on in 2018. Passive Safety is planning for a total of around 340 product launches in the October 1, 2017 to March 31, 2018 time frame, compared to a total of 285 product launches in the same period a year earlier. This is supporting the anticipated 8% CAGR from 2017 to 2020 that the Company outlined at its Capital Markets Day on September 14. In the fourth quarter, Autoliv expects the ramp-up of these product launches to add more than two percentage points to organic sales growth (non-U.S. GAAP measure) in Passive Safety, although this is offset in the fourth quarter by a temporary unfavorable model mix. Order intake continued to be strong in Passive Safety, while the Company is looking at a more back-end loaded order intake year for Electronics.

 

On September 14, Autoliv announced that it will undertake a strategic review of its operating structure with the intent to create two separate publicly listed companies of Autoliv’s current business segments, Passive Safety and Electronics. The review process is continuing according to plan and the Company expects to be able to provide an update before year end.

 

At Autoliv’s Capital Markets Day, it outlined new financial targets, including that Passive Safety as a standalone entity is expected to surpass $10 billion in sales in 2020, reaching around 13% adjusted operating margin (non-U.S. GAAP measure).  Electronics is projected to reach approximately $3 billion in sales by 2020, including more than $1 billion in Active Safety sales.

 

Electronics continues to build a stronger position by entering several partnerships and agreements, including with Seeing Machines, a leader in driver monitoring systems and through an agreement to acquire certain assets and competence from LiDAR specialist Fotonic. Passive Safety entered a collaboration with Adient to address the vehicle seating opportunities presented by the future car and autonomous driving.

 

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Autoliv continues to focus on execution. Quality first, the robustness of its products and focus on operations are more important than ever as the Company deals with accelerating future business volumes.

Non-U.S. GAAP financial measures

Some of the following discussions refer to non-U.S. GAAP financial measures: see reconciliations for "Organic sales", "Operating working capital", "Net debt" and “Leverage ratio” provided below. Management believes that these non-U.S. GAAP financial measures provide supplemental information to investors regarding the performance of the Company’s business and assist investors in analyzing trends in the Company's business. Additional descriptions regarding management’s use of these financial measures are included below. Investors should consider these non-U.S. GAAP financial measures in addition to, rather than as substitutes for, financial reporting measures prepared in accordance with U.S. GAAP. These historical non-U.S. GAAP financial measures have been identified as applicable in each section of this report with a tabular presentation reconciling them to the most directly comparable U.S. GAAP financial measures. It should be noted that these measures, as defined, may not be comparable to similarly titled measures used by other companies.

RESULTS OF OPERATIONS

Overview

The following table shows some of the key ratios management uses internally to analyze the Company's current and future financial performance and core operations as well as to identify trends in the Company’s financial conditions and results of operations. We have provided this information to investors to assist in meaningful comparisons of past and present operating results and to assist in highlighting the results of ongoing core operations. These ratios are more fully explained below and should be read in conjunction with the consolidated financial statements in our Annual Report on Form 10-K and the unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q.

KEY RATIOS

(Dollars in millions, except per share data)

 

 

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THREE MONTHS ENDED SEPTEMBER 30, 2017 COMPARED WITH THREE MONTHS ENDED SEPTEMBER 30, 2016

Market overview

Light Vehicle Production Development

Change vs. same quarter last year

 

 

Consolidated Sales

The Company has substantial operations outside the U.S. and at the present time approximately 75% of its sales are denominated in currencies other than the U.S. dollar. This makes the Company and its performance in regions outside the U.S. sensitive to changes in U.S. dollar exchange rates when translated. The measure “Organic sales” presents the increase or decrease in the Company’s overall U.S. dollar net sales on a comparative basis, allowing separate discussion of the impacts by segment, of acquisitions/divestitures and exchange rate fluctuations and our ongoing core operations and results. The tabular reconciliations below presents the change in “Organic sales” reconciled to the change in the total net sales as can be derived from our unaudited condensed consolidated financial statements.

The following table shows the Company’s consolidated net sales by segment and other for the third quarter of 2017 and 2016, respectively:

 

 

Despite inflator replacement sales impacting organic sales growth (non-U.S. GAAP measure) negatively by 1.0pp, consolidated net sales increased by 1.6% compared to the same quarter of 2016 with an organic growth (non-U.S. GAAP measure, see reconciliation table below) of 0.5% and positive currency translation of 1.1%. All regions except Americas grew organically (non-U.S. GAAP measure). Europe, China and South Korea were the key drivers while North America’s sales declined 11.7% organically (non-U.S. GAAP measure), including around 2.0pp negative impact from lower inflator replacement sales, reflecting an 11.2% decline in LVP according to IHS.

Passive Safety Sales

 

 

 

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Consolidated Passive Safety segment sales increased by 2.8% to $1,952 million. Excluding positive currency translation effects, the organic sales growth (non-U.S. GAAP measure, see reconciliation table above) was 1.3%, which can be compared to an LVP growth of 2.1% according to IHS. Inflator replacement sales affected the segment’s organic sales growth (non-U.S. GAAP measure) negatively by around 1.4pp, mainly affecting North America and Japan.

 

Airbag sales declined organically (non-U.S. GAAP measure) mainly due to replacement inflators in North America and Japan, side airbags in North America, passenger airbags in China and North America and driver airbags in North America. The main organic sales growth (non-U.S. GAAP measure) contributors were passenger airbags in Japan and Rest of Asia, inflatable curtains in Rest of Asia and side airbags in China.

 

Seatbelt sales grew organically (non-U.S. GAAP measure) in Europe, China, Japan and Rest of Asia, while Americas sales declined. The trend of higher sales for more advanced and higher value-added seatbelt systems continued globally.

Electronics Sales

 

 

 

Consolidated Electronics segment sales decreased by 1.8% to $567 million compared to the same quarter 2016. Excluding positive currency translation effects, the organic sales decline (non-U.S. GAAP measure, see reconciliation table above) was 1.9%, primarily driven by timing of new model launches in Restraint Control Systems and Brake Systems, which more than offset the positive Active Safety growth.

 

Restraint Control Systems sales (mainly airbag control modules and remote sensing units) declined organically (non-U.S. GAAP measure) largely due to GM and Nissan in North America and Mazda in Japan, partly offset by increases to Nissan and Volvo in China and Ford and Volvo in Europe.

 

The organic sales increase (non-U.S. GAAP measure) for Active Safety (mainly automotive radars, night vision systems, cameras with driver assist systems and positioning systems) was positively impacted by almost 10% sales growth  of core active safety products (radar and camera systems and ADAS ECUs), especially with models from Honda, Mercedes and FCA. This was partly offset by declines for camera systems with Mercedes and BMW. Active Safety was negatively impacted by sales declines for positioning systems in North America as well as the ramp-down of the internally developed brake control system in China.

 

Brake Systems organic sales (non-U.S. GAAP measure) were adversely affected by reclassification of certain revenues from gross to net basis, as outlined in Autoliv’s Financial Report for October – December 2016 (furnished as Exhibit 99.1 to Autoliv’s Current Report on Form 8-K filed with SEC on February 2, 2017) as well as by lower sales to Honda in North America and Japan.

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Sales by Segment/Product

Reconciliation of the change in “Organic sales” to U.S. GAAP financial measure

Components of net sales increase (decrease)

Three months ended September 30, 2017

(Dollars in millions)

The following tables show the organic change for the three months ended September 30, 2017 compared to the same period last year:

 

 

 

Sales by Region

The tables below reconciles the reported change by geographic region to organic change for the three months ended September 30, 2017 compared to the same period last year:

 

 

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Reconciliation of the change in “Organic sales” to U.S. GAAP financial measure

Components of net sales increase (decrease)

Three months ended September 30, 2017

(Dollars in millions)

 

 

 

The organic sales growth (non-U.S. GAAP measure, see reconciliation table above) of 0.5% in the quarter was mainly driven by the organic growth (non-U.S. GAAP measure) in Europe, Rest of Asia and China, partly offset by the decline in North America. The inflator replacement sales impacted organic growth (non-U.S. GAAP measure) negatively by about 1.0pp. Light vehicle production grew by 2.1%, according to IHS.

 

The organic sales increase (non-U.S. GAAP measure) from Autoliv’s companies in China was mainly driven by Japanese and European OEMs. Organic growth (non-U.S. GAAP measure) for the domestic OEMs is mainly driven by Geely and Great Wall.

 

Organic sales growth (non-U.S. GAAP measure) from Autoliv’s companies in Japan was driven by the Japanese OEMs, in particular Nissan, Toyota and Subaru, partly offset by lower inflator replacement sales.

 

Organic sales growth (non-U.S. GAAP measure) from Autoliv’s companies in the Rest of Asia was driven by strong sales development in South Korea, mainly to Hyundai/Kia but also to Renault. India and Other Asia also grew double digit organically (non-U.S. GAAP measure).

 

Sales from Autoliv’s companies in Americas declined organically (non-U.S. GAAP measure, see reconciliation table above) by 10.0%. North America declined by 11.7% organically (compared to an LVP decline of 11.2% according to IHS), driven primarily by unfavorable platform shifts with GM as well as about 2.0pp negative organic growth (non-U.S. GAAP measure) impact from lower inflator replacement sales. South America grew organically (non-U.S. GAAP measure) by 58.5%.

 

Autoliv’s companies in Europe grew organically (non-U.S. GAAP measure, see reconciliation table above) by 4.7%. This was mainly driven by Mercedes, Volvo, VW and Toyota, partly offset by BMW and Opel.

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Earnings

 

 

 

The gross profit for the third quarter of 2017 was $9 million higher than in the same quarter of 2016, a record for a third quarter. The gross margin improved by 0.1pp to 20.2%, from 20.1% in the same quarter of 2016. Improved operational performance was largely offset by costs related to investments for capacity and growth, negative impacts from currencies as well as raw material prices.

 

Research, Development & Engineering (R, D&E) expenses net, increased by $17 million compared to the same quarter in the prior year as we continued to invest in technology, competence and capacity.

 

The decrease in amortization expense is driven by the M/A-COM impairment charge reported in our first quarter 2017 Quarterly Report on Form 10-Q.

 

Other income (expense), net, primarily includes costs for capacity alignments and antitrust related matters. The change compared to the same quarter in 2016, is related to the Company accruing approximately $15 million related to antitrust matters in the EU and South Africa (for further information see Note 13 – Contingent Liabilities to our unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q) as well as around $20 million in capacity alignment costs in Europe in the third quarter of 2017.

 

Operating income decreased by $32 million to $159 million, corresponding to a reported operating margin of 6.3% of sales, compared to 7.8% in the same quarter of 2016. The slight gross margin improvement was more than offset by increased investments in R, D&E, net.

 

Income before taxes decreased by $53 million compared to the same quarter of the previous year, driven primarily by $29 million in higher costs relating to capacity alignments and antitrust related matters, our share of the equity method loss in Zenuity of about negative $10 million as well as less favorable non-operating currency effects. Net income attributable to controlling interest was $91 million, a decrease of $47 million from the third quarter of 2016.

 

The effective tax rate in the third quarter of 2017 was 33.4% compared to 26.8% in the same quarter of 2016. Discrete tax items, net had an unfavorable impact of 3.3pp whereas in the same quarter of 2016 discrete tax items, net had a favorable impact of 1.1pp. The tax rate in the third quarter of 2017 was negatively impacted by the antitrust accruals, which are not deductible for tax purposes, compared to the third quarter of 2016.

 

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Earnings per share (EPS) assuming dilution decreased by 33% to $1.04 compared to $1.56 for the same period one year ago. The main negative items affecting EPS were 36 cents from capacity alignments and antitrust related matters, 11 cents from our share of loss in Zenuity and 7 cents from discrete tax items.

 

The weighted average number of shares outstanding assuming dilution was 87.2 million compared to 88.5 million in the third quarter of 2016.

Segment Performance

The Company reports its results in two segments, Passive Safety and Electronics. Corporate sales and income, capital expenditures and depreciation and amortization for the reportable segments can be found in Note 16 Segment Information to our unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q.

Passive Safety

 

 

Compared to the same period last year, the operating margin declined due to increased net impact from capacity alignments and antitrust related matters. The operating margin effects from increased volumes and lower S,G&A costs were offset by higher R, D&E, net costs for supporting near term growth.  

 

The Company is gearing up to manage the increase in new launches that will continue into 2018. At the Company’s Capital Markets Day, the Company outlined that Passive Safety expects to grow sales by around 8% per year from 2017 to 2020, based on around 2.5% annual LVP growth. In the time frame October of 1, 2017 to March 31, 2018, the Company plans for a total of around 340 product launches, compared to around 285 launches in the same period a year earlier. In the fourth quarter, the Company expect the ramp-up of these product launches to add more than 2pp to organic sales growth (non-U.S. GAAP measure) in Passive Safety. In the fourth quarter, sales growth is still limited as step-up in growth is in an early phase and is negatively impacted by a temporary unfavorable model mix and lower inflator replacement sales.

 

The Company estimates that R,D&E, net, in relation to sales are at peak levels for Passive Safety. Order intake continued on a high level.

 

Despite adding direct headcount to prepare for the new launches, Passive Safety was able to maintain a total headcount basically in line with the previous quarter, as it reduced the indirect headcount. Passive Safety continues to work on improving efficiencies in its processes, both in the production areas and in the indirect support functions.

 

The reported operating margin for Passive Safety was negatively impacted by capacity alignments and antitrust related matters, but the underlying performance was in line with the Company’s expectations for the quarter.

 

The Company remains focused on being agile and is taking proactive measures when it sees indications of volume changes in specific markets or customers. As Passive Safety manage the growth projects during the rest of 2017 and in 2018, the Company stay focused on delivering these launches within the targeted cost and quality parameters.

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Electronics

 

 

The operating margin increased primarily due to an improved gross margin partially offset by higher R, D&E investments, net supporting long term growth. Headcount increased by 536.  

 

The Company continues the on-boarding of engineers in the Electronics segment, assigning them to product and customer projects, especially within radar, vision and software. Active Safety won its first radar order in China, demonstrating our competitiveness in the growing market for active safety in China.

 

Electronics continued building on its strong position by entering several new agreements and co-operations, including with Seeing Machines in driver monitoring systems. Electronics also entered an agreement to acquire certain assets from LiDAR specialist Fotonic, including about 35 specialist engineers building further LiDAR competence to the Company’s Velodyne co-operation. Electronics signed a research agreement with MIT AgeLab, focused on human centered artificial intelligence. The Company, together with Ericsson, Volvo Cars, the Volvo Group and Zenuity opened MobilityXlab at Lindholmen Science Park, in Gothenburg, Sweden, to collaborate with start-ups to develop safer and more efficient transportation. Zenuity teamed up with Ericsson to develop the Zenuity reference cloud and accelerate the speed to market of new vehicle safety technologies.

NINE MONTHS ENDED SEPTEMBER 30, 2017 COMPARED WITH NINE MONTHS ENDED SEPTEMBER 30, 2016

Market overview

Light Vehicle Production Development

Change vs. same period last year

 

Consolidated Sales

The Company has substantial operations outside the U.S. and at the present time approximately 75% of its sales are denominated in currencies other than the U.S. dollar. This makes the Company and its performance in regions outside the U.S. sensitive to changes in U.S. dollar exchange rates when translated. The measure “Organic sales” presents the increase or decrease in the Company’s overall U.S. dollar net sales on a comparative basis, allowing separate discussion of the impacts by segment, of acquisitions/divestitures and exchange rate fluctuations and our ongoing core operations and results. The tabular reconciliations below presents the change in “Organic sales” reconciled to the change in the total net sales as can be derived from our unaudited condensed consolidated financial statements.

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The following table shows the Company’s consolidated net sales by segment and other for the nine months ended September 30, 2017 and September 30, 2016, respectively:

 

 

Consolidated net sales increased by 2.5% compared to the same period of 2016 with an organic growth (non-U.S. GAAP measure, see reconciliation table below) of 1.7%, positive acquisition effects of 1.6% and negative currency translation of around 0.8%. All regions except Americas grew organically (non-U.S. GAAP measure), with Europe, Japan and China as key drivers while North America’s sales declined organically (non-U.S. GAAP measure).

Passive Safety Sales

 

 

Consolidated Passive Safety segment sales increased by 1.6% to $5,976 million. Excluding negative currency translation effects, the organic sales growth (non-U.S. GAAP measure, see reconciliation table below) was 2.3%.

 

Airbag sales had solid organic growth (non-U.S. GAAP measure) in the first nine months in Asia, especially in Japan, China and India. Also Europe, South America and South Korea showed organic growth (non-U.S. GAAP measure), while North American sales declined organically (non-U.S. GAAP measure).

 

Seatbelt sales grew organically (non-U.S. GAAP measure) in the first nine months in all regions except in North America and South Korea, with Europe and Japan as the largest growth drivers.

 

Inflator replacement sales affected the segment’s organic sales growth (non-U.S. GAAP measure) for the first nine months negatively by around 0.3pp.

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Electronics Sales

 

 

Consolidated Electronics segment sales increased for the first nine months of 2017 by 6.0% to $1,729 million compared to the same period 2016. Excluding acquisition effects and negative currency translation effects, the organic sales decline (non-U.S. GAAP measure, see reconciliation table below) was 0.3%.

 

Restraint Control Systems sales (mainly airbag control modules and remote sensing units) declined organically (non U.S. GAAP measure) in Japan and North America but increased in China, South Korea and India.

 

The organic sales increase (non-U.S. GAAP measure) for Active Safety (mainly automotive radars, night vision systems, cameras with driver assist systems and positioning systems) was positively impacted by double-digit organic sales growth of core active safety products, and negatively impacted by sales declines for positioning systems in North America as well as the ramp-down of our internally developed brake control system in China.

 

Brake Systems organic sales (non-U.S. GAAP measure) was adversely affected by model changes, notably with Honda, and the reclassification of certain revenues from gross to net basis, as outlined in Autoliv’s Financial Report for October – December 2016, furnished as Exhibit 99.1 to Autoliv’s Current Report on Form 8-K filed with SEC on February 2, 2017.

Sales by Segment/Product

Reconciliation of the change in “Organic sales” to U.S. GAAP financial measure

Components of net sales increase (decrease)

Nine months ended September 30, 2017

(Dollars in millions)

The following tables show the organic change for the nine months ended September 30, 2017 compared to the same period last year:

 

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Sales by Region

The tables below reconciles the reported change by geographic region to organic change for the nine months ended September 30, 2017 compared to the same period last year:

 

Reconciliation of the change in “Organic sales” to U.S. GAAP financial measure

Components of net sales increase (decrease)

Nine months ended September 30, 2017

(Dollars in millions)

 

 

The organic sales growth (non-U.S. GAAP measure, see reconciliation table above) of 1.7% in the first nine months of 2017 was mainly driven by the organic growth (non-U.S. GAAP measure) in Europe, Japan and China while North America declined. The inflator replacement sales impacted organic growth (non-U.S. GAAP measure) negatively by about 0.3pp. Light vehicle production grew by 2.7%, according to IHS.

 

The organic sales increase (non-U.S. GAAP measure) from Autoliv’s companies in China was mainly driven by the global OEMs, primarily Renault/Nissan and Mercedes, partly offset by Hyundai/Kia. Organic sales to the domestic OEMs was roughly unchanged, with increases to models from Geely and Great Wall, offset by decreases to models from Baojun and Haima. Replacement inflator sales contributed positively to organic sales growth (non-U.S. GAAP measure).

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Organic sales growth (non-U.S. GAAP measure) from Autoliv’s companies in Japan was driven by Nissan, Toyota and Mitsubishi. Offsetting effects are mainly from decreasing inflator replacement sales.

 

Organic sales growth (non-U.S. GAAP measure) from Autoliv’s companies in the Rest of Asia was driven by strong sales development in India, mainly to Suzuki and Hyundai/Kia. Sales in South Korea increased, driven by Hyundai/Kia and Renault.

 

Sales from Autoliv’s companies in Americas declined organically (non-U.S. GAAP measure, see reconciliation in table above) by 4.7%. North America declined by 5.8% organically (non-U.S. GAAP measure), driven primarily by D-3, especially GM. South America grew organically (non-U.S. GAAP measure) by 45.6%. Inflator replacement sales had a 0.2pp negative impact on organic growth (non-U.S. GAAP measure) in North America.

 

The 4.3% organic sales growth (non-U.S. GAAP measure, see reconciliation in table above) from Autoliv’s companies in Europe was mainly driven by Mercedes, where Active Safety products were a strong contributor to growth, and Volvo. Offsetting effects were mainly from Opel and BMW.

Earnings

 

 

The gross profit for the first nine months of 2017 increased by around $60 million to $1,582 million, mainly due to higher sales and improved operational performance, partly offset by costs related to investments for capacity and growth and negative impacts from raw material prices. This resulted in the gross margin increasing by 0.3pp to 20.7% from 20.4%, in the same period of 2016.

 

Selling, General and Administration (S,G&A) expenses increased virtually in line with sales. Research, Development & Engineering (R,D&E) expenses net, increased by $70 million, or 14%, compared to the same period prior year, amounting to 7.5 % of sales compared to 6.7% of sales in the same period in 2016.

 

The increase in amortization expense is driven by the M/A-COM impairment charge reported in our first quarter 2017 Quarterly Report on Form 10-Q.

 

Other income (expense), net in 2017 was mainly negatively impacted by capacity alignment in Europe and antitrust related matters while the main positive impact was from a reduced earn-out liability, compared to the same period prior year consisting primarily of capacity alignment charges and antitrust related matters.

 

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Operating income decreased by $16 million to $593 million. Reported operating margin was 7.7% for the first nine months of the year, a decrease of 0.5pp compared to the same period in the prior year. The positive effect from the improved gross margin was more than offset by higher costs mainly related to investments in R,D&E, net.

 

Income before taxes decreased by $59 million compared to the same period the previous year, primarily due to less favorable non-operating currency effects, our share of the equity method loss in Zenuity and lower operating income. Net income attributable to controlling interest was $365 million, a decrease of $55 million from the same period 2016.

 

The effective tax rate in the first nine months of 2017 was 30.7% compared to 27.5% in the same period in 2016. Discrete tax items, net had an unfavorable impact of 3.6pp whereas in the same period of 2016 discrete tax items, net had a favorable impact of 0.2pp. The tax rate in the first nine months of 2017 was negatively impacted by recording valuation allowances on specific deferred tax assets, and antitrust accruals, which are not deductible for tax purposes, compared to the same period of 2016.

 

Earnings per share (EPS) assuming dilution decreased by 12% to $4.15 compared to $4.74 for the same period the prior year. The main negative items affecting EPS were 22 cents from discrete tax items, net, 20 cents from Autoliv’s share of Zenuity’s loss, 11 cents from capacity alignment and antitrust related matters and 10 cents from currency translations.

 

The weighted average number of shares outstanding assuming dilution declined to 87.9 million compared to 88.4 million in the first nine months 2016 mainly due to share repurchases.

Segment Performance

The Company reports its results in two segments, Passive Safety and Electronics. Corporate sales and income, capital expenditures and depreciation and amortization for the reportable segments can be found in Note 16 Segment Information to our unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q.

Passive Safety

 

 

Compared to the same period last year, the operating income was negatively impacted by higher investments in R,D&E, net, as well as other costs supporting near term growth and increased raw material costs, only partly offset by the effects of higher sales.  

Electronics

 

 

The operating margin was unchanged compared to the same period in 2016, positively impacted by improved gross margin and offset primarily by higher investments in R,D&E, net. Headcount increased by 536 compared to the same period last year, of which virtually all were within R,D&E.  

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LIQUIDITY AND SOURCES OF CAPITAL

 

Cash flow from operations in the third quarter of 2017 amounted to $218 million compared to $271 million in the same quarter of 2016. The decrease was primarily related to the lower net income. Cash flow from operations in the first nine months of 2017 amounted to $547 million compared to $574 million in the first nine months of 2016.

 

Net cash flow from operations less net cash used for investing activities declined to $74 million in the third quarter of 2017 compared to $153 million during the same quarter of 2016. Capital expenditures, net, of $142 million were $38 million more than depreciation and amortization expense during the third quarter of 2017 and $24 million more than capital expenditures, net during the third quarter of 2016. For the first nine months of 2017, net cash flow from operations less net cash used for investing activities was $32 million compared to $7 million during the same period 2016. Capital expenditures, net, of $402 million were $83 million more than depreciation and amortization expense during the first nine months of 2017 and $62 million more than capital expenditures, net during the first nine months 2016. Cash used in financing activities for the first nine months of 2017 amounted to $354 million compared to $152 million for the same period last year. The increase in cash used in financing activities was primarily driven by the second quarter share repurchases of $157 million.

The Company uses the non-U.S. GAAP measure “Operating working capital,” as defined in the table below, in its communications with investors and for management’s review of the development of the working capital cash generation from operations. The reconciling items used to derive this measure are, by contrast, managed as part of the Company’s overall cash and debt management, but they are not part of the responsibilities of day-to-day operations’ management.

Reconciliation of “Operating working capital” to U.S. GAAP financial measure

(Dollars in millions)

 

 

Working capital decreased to 14% of sales from 17% of sales on September 30, 2016 and operating working capital (non-U.S. GAAP measure, see reconciliation table above) as a percentage of sales was 7.2%, up from 6.6% on September 30, 2016. The Company targets that operating working capital in relation to the last 12-month sales should not exceed 10%.

 

Accounts receivable in relation to sales was 77 days outstanding, compared to 70 days outstanding on December 31, 2016 and 74 days outstanding on September 30, 2016. The increase of three days compared to a year ago was mainly due to reduced factoring volumes and unfavorable geographical sales mix.

 

Days inventory outstanding was 34 days, compared to 31 days on December 31, 2016 and 34 days on September 30, 2016.

As part of efficiently managing the Company's overall cost of funds, the Company routinely enters into "debt-related derivatives" (DRD) as part of its debt management. Creditors and credit rating agencies use net debt adjusted for DRD in their analyses of the Company's debt. DRD are fair value adjustments to the carrying value of the underlying debt. Included in the DRD is also the unamortized fair value adjustment related to a discontinued fair value hedge which will be amortized over the remaining life of the debt. By adjusting for DRD, the total financial liability of net debt is disclosed without grossing debt up with currency or interest fair values.

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Reconciliation of “Net debt” to U.S. GAAP financial measure

(Dollars in millions)

 

 

The Company’s net debt position (non-U.S. GAAP measure, see reconciliation table above) decreased by $42 million during the third quarter to $545 million at September 30, 2017. Gross interest-bearing debt decreased during the third quarter by $7 million to $1,505 million. The Company’s net debt position (non-U.S. GAAP measure, see reconciliation table above) increased by $232 million to $545 million compared to December 31, 2016, mainly due to share repurchases and the Company’s investment in Zenuity. Gross interest-bearing debt decreased by $38 million to $1,505 million compared to December 31, 2016.

The non-U.S. GAAP measure net debt is also used in the non-U.S. GAAP measure “Leverage ratio”. Management uses this measure to analyze the amount of debt the Company can incur under its debt policy. Management believes that this policy also provides guidance to credit and equity investors regarding the extent to which the Company would be prepared to leverage its operations. For details on leverage ratio refer to the table.

Calculation of “Leverage ratio”

(Dollars in millions)

 

 

Autoliv’s policy is to maintain a leverage ratio (non-U.S. GAAP measure, see calculation in table above) commensurate with a strong investment grade credit rating. The Company measures its leverage ratio as net debt (non-U.S. GAAP measure, see reconciliation table above) adjusted for pension liabilities in relation to EBITDA (earnings before interest, taxes, depreciation and amortization). The long-term target is to maintain a leverage ratio of around 1x within a range of 0.5x to 1.5x. As of September 30, 2017, the Company had a leverage ratio of 0.7x.

 

During the third quarter, total equity increased by $97 million to $4,209 million as of September 30, 2017, mainly due to $88 million from net income and positive currency translations of $58 million. The increase was partly offset by $52 million in dividends. Total parent shareholders’ equity as of September 30, 2017 was $3,959 million corresponding to $45.55 per share. For the first nine months, total equity increased by $283 million to $4,209 million, mainly due to $359 million from net income and positive currency translations of $232 million. The increase was partly offset by share repurchases of $157 million and $157 million in dividends.

 

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Headcount

 

 

Compared to June 30, 2017, total headcount (permanent employees and temporary personnel) increased by 165 as of September 30, 2017, including increasing by 176 in R,D&E. Compared to a year ago, headcount increased by 1,612, about two thirds of the increase in R,D&E.

 

Outlook

 

Mainly based on customer call-offs, Autoliv expects organic sales (non-U.S. GAAP measure) for the fourth quarter of 2017 to be virtually flat compared to the same quarter of 2016. Currency translations are expected to have a positive effect of around 4%, resulting in a consolidated sales growth of around 4%. The adjusted operating margin (non-U.S. GAAP measure), excluding costs for capacity alignments and antitrust related matters, is expected to be more than 9%.

 

The expectation for the full year 2017 adjusted operating margin (non-U.S. GAAP measure) remains around 8.5%, excluding costs for capacity alignments and antitrust related matters. Mainly due to a weaker North American market, unfavorable model mix and lower inflator replacement sales, the indication for the full year organic sales growth (non-U.S. GAAP measure) is now more than 1%, compared to the previous indication of around 2%. Currency translations and M&A activities are expected to have a combined positive effect of around 1.5%, resulting in a consolidated sales increase of around 3%.

 

The projected tax rate, excluding any discrete items, for the full year 2017, is expected to be around 30% and is subject to change due to any discrete or nonrecurring events that may occur.

Autoliv expects the operational cash flow for the full year 2017 to remain strong and continues to expect it to be more than $0.8 billion, excluding antitrust related matters and any other discrete items. Supporting Autoliv’s growth strategy, capital expenditures are expected to be in the range of 5-6% of sales for the full year, and R,D&E investments, net are expected to be more than 7.0% of sales for the full year.

 

The forward looking non-U.S. GAAP financial measures above are provided on a non-U.S. GAAP basis. Autoliv has not provided a U.S. GAAP reconciliation of these measures because items that impact these measures, such as costs related to capacity alignments and antitrust matters, cannot be reasonably predicted or determined. As a result, such reconciliation is not available without unreasonable efforts and Autoliv is unable to determine the probable significance of the unavailable information.

OFF-BALANCE SHEET ARRANGEMENTS

The Company does not have any off-balance sheet arrangements that have, or are reasonably likely to have, a material current or future effect on its financial position, results of operations or cash flows.

CONTRACTUAL OBLIGATIONS AND COMMITMENTS

Other than as noted below, as of September 30, 2017, the Company’s future contractual obligations have not changed materially from the amounts reported in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC on February 23, 2017.

On June 30, 2017, Autoliv committed to make a $15 million investment in Autotech Fund I, L.P. pursuant to a limited partnership agreement, and will periodically make capital contributions toward this total investment amount. This fund focuses broadly on the automotive industry and complements the Company’s innovation strategy, particularly in the areas of active safety and autonomous driving.

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OTHER RECENT EVENTS

Launches in the Third Quarter of 2017

Honda Accord

Passenger airbag, side airbag, seatbelt with pretensioner, brake system and radar system.

Genesis G70

Driver airbag, passenger airbag, knee airbag, side airbag, inflatable curtain, seatbelt with pretensioner and safety electronics.

Citroën C5 Aircross

Driver airbag, passenger airbag, side airbag, inflatable curtain, seatbelt with pretensioner and safety electronics.

Volkswagen Polo

Driver airbag with steering wheel and active seatbelt with pretensioner.

Honda N Box

Passenger airbag, seatbelt with pretensioner and brake system.

Porsche Cayenne

Seatbelt, night vision camera and cable cutter.

Hyundai Accent

Driver airbag, passenger airbag, side airbag, inflatable curtain and safety electronics.

Mitsubishi Eclipse Cross

Driver airbag with steering wheel, passenger airbag, side airbag and seatbelt with pretensioner.

Lincoln Navigator

Driver airbag with steering wheel, side airbag, inflatable curtain and safety electronics.

Other Events

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Dividend

On August 14, 2017, the Company declared a quarterly dividend to shareholders of 60 cents per share for the fourth quarter of 2017, with the following payment schedule:

 

 

Next Report

Autoliv intends to publish the quarterly earnings report for the fourth quarter of 2017 on Tuesday, January 30, 2018.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As of September 30, 2017, there have been no material changes to the information related to quantitative and qualitative disclosures about market risk that was provided in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC on February 23, 2017.

ITEM 4. CONTROLS AND PROCEDURES

An evaluation has been carried out, under the supervision and with the participation of the Company's management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the period covered by this report. Based on such evaluation, the Company's Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company's disclosure controls and procedures are effective.

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

Various claims, litigation and proceedings are pending or threatened against the Company or its subsidiaries, covering a range of matters that arise in the ordinary course of its business activities with respect to commercial, product liability and other matters.

For a description of our material legal proceedings, see Note 13 Contingent Liabilities – Legal Proceedings to our unaudited condensed consolidated financial statements in this Quarterly Report on Form 10-Q.

ITEM 1A. RISK FACTORS

Other than as set forth below, as of September 30, 2017, there have been no material changes to the risk factors that were previously disclosed in Item 1A in the Company’s Form 10-K for the year ended December 31, 2016 filed with the SEC on February 23, 2017.

Our review of our operating structure with the intent to create separate companies of our current business segments is subject to various risks and uncertainties, and there is no assurance that the review will result in any transaction, including a separation or listing of the electronics business

On September 14, 2017, the Company announced that the board of directors of the Company has instructed management to conduct a strategic review of the Company’s operating structure with the intent to create separate companies of its current business segments, Passive Safety and Electronics. The intent is to create two publicly traded companies capable of addressing two distinct, growing markets with leading product offerings and thereby create additional value for shareholders, customers and other stakeholders. The strategic review process will evaluate this and other options. If the board of directors of the Company approves a separation, the process is estimated to take around one year under most separation scenarios.

To execute a transaction, a substantial amount of work is required on structure, governance, corporate finance strategy, compensation, tax planning, acquiring any necessary regulatory approvals and other significant matters. A separation is subject to a number of conditions, including final approval by the board of directors of the Company of transaction specifics. In addition, external events beyond the control of the Company could impact the timing or occurrence of a separation. Although the strategic review has been initiated there is no guarantee that the review will result in any transaction, including a separation or listing of the electronics business, or, if one does occur, there can be no assurance as to its form, terms or timing.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Stock repurchase program

During the quarter ended September 30, 2017, Autoliv made no stock repurchases. The Company is authorized to purchase up to 47.5 million shares of common stock under its stock repurchase program, which was first approved by the board of directors of the Company on May 9, 2000. Under the existing authorizations, another 2,986,288 shares may be repurchased. The stock repurchase program does not have an expiration date.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

Not applicable.

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ITEM 6. EXHIBITS

 

 

 

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Date: October 26, 2017

AUTOLIV, INC.

(Registrant)

 

 

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