Fair Value of Financial Instruments

9 Months Ended

Sep. 30, 2020

Fair Value of Financial Instruments

Fair Value of Financial Instruments

6.    Fair Value of Financial Instruments

The Company applies the following hierarchy to determine the fair value of financial instruments, which prioritizes the inputs used to measure fair value into three levels and bases the categorization within the hierarchy upon the lowest level of input that is available and significant to the fair value measurement. The levels in the hierarchy are defined as follows:

● Level 1:  Inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

● Level 2:  Inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

● Level 3:  Inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The valuation techniques that may be used by the Company to determine the fair value of Level 2 and Level 3 financial instruments are the market approach, the income approach and the cost approach. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. The income approach uses valuation techniques to convert future amounts to a single present value based on current market expectations about those future amounts, including present value techniques, option-pricing models and the excess earnings method. The cost approach is based on the amount that would be required to replace the service capacity of an asset (replacement cost).

The following tables set forth the Company's financial instruments that are measured at fair value on a recurring basis and presents them within the fair value hierarchy using the lowest level of input that is significant to the fair value measurement (dollars in millions):

			Quoted Prices		Significant
			in Active		Other		Significant
			Markets		Observable		Unobservable
			Available		Inputs		Inputs
September 30, 2020	Total		(Level 1)		(Level 2)		(Level 3)
Assets:
Time deposits and money market funds	$	208.3	$	—	$	208.3	$	—
Interest rate and cross currency swap agreements		9.0		—		9.0		—
Forward currency contracts		0.3		—		0.3		—
Embedded derivatives in purchase and delivery contracts		0.4		—		0.4		—
Fixed price commodity contracts		2.1		—		2.1		—
Total assets recorded at fair value	$	220.1	$	—	$	220.1	$	—
Liabilities:
Contingent consideration	$	6.2	$	—	$	—	$	6.2
Hybrid instrument liability		11.7		—		—		11.7
Interest rate and cross currency swap agreements		38.2		—		38.2		—
Forward currency contracts		0.2		—		0.2		—
Total liabilities recorded at fair value	$	56.3	$	—	$	38.4	$	17.9

			Quoted Prices		Significant
			in Active		Other		Significant
			Markets		Observable		Unobservable
			Available		Inputs		Inputs
December 31, 2019	Total		(Level 1)		(Level 2)		(Level 3)
Assets:
Time deposits and money market funds	$	15.6	$	—	$	15.6	$	—
Interest rate and cross currency swap agreements		10.1		—		10.1		—
Forward currency contracts		0.9		—		0.9		—
Embedded derivatives in purchase and delivery contracts		0.1		—		0.1		—
Fixed price commodity contracts		0.3		—		0.3		—
Total assets recorded at fair value	$	27.0	$	—	$	27.0	$	—
Liabilities:
Contingent consideration	$	15.8	$	—	$	—	$	15.8
Hybrid instrument liability		10.6		—		—		10.6
Interest rate and cross currency swap agreements		16.9		—		16.9		—
Forward currency contracts		0.4		—		0.4		—
Embedded derivatives in purchase and delivery contracts		0.6		—		0.6		—
Total liabilities recorded at fair value	$	44.3	$	—	$	17.9	$	26.4

The Company's financial instruments consist primarily of cash equivalents, short-term investments, restricted cash, derivative instruments consisting of forward foreign exchange contracts, cross-currency interest rate swap agreements, commodity contracts, derivatives embedded in certain purchase and sale contracts, derivatives embedded within noncontrolling interests, accounts receivable, accounts payable, contingent consideration and long-term debt. The carrying amounts of the Company's cash equivalents, short-term investments and restricted cash, accounts receivable, borrowings under a revolving credit agreement and accounts payable approximate fair value because of their short-term nature. The Company's long-term debt consists principally of a note purchase agreement entered into in 2012 and a revolving credit agreement, long term loan agreement and note purchase agreement entered into in 2019.

The Company has evaluated the estimated fair value of financial instruments using available market information and management’s estimates. The use of different market assumptions and/or estimation methodologies could have a significant effect on the estimated fair value amounts.

The Company measures certain assets and liabilities at fair value with changes in fair value recognized in earnings. Fair value treatment may be elected either upon initial recognition of an eligible asset or liability or, for an existing asset or liability, if an event triggers a new basis of accounting. The Company did not elect to remeasure any of its existing financial assets or liabilities and did not elect the fair value option for any financial assets or liabilities which originated during the nine months ended September 30, 2020 or 2019.

The fair value of the long-term fixed interest rate debt, which has been classified as Level 2, was $530.3 million and $517.4 million at September 30, 2020 and December 31, 2019, respectively, based on market and observable sources with similar maturity dates.

On a quarterly basis, the Company reviews its short-term investments to determine if there have been any events that could create an impairment. None were noted for the nine months ended September 30, 2020 or 2019.

Contingent consideration recorded within other current liabilities represents the estimated fair value of future payments to the former shareholders as part of certain acquisitions. These contingent considerations are primarily based on the applicable acquired company achieving annual revenue and gross margin targets in certain years as specified in the relevant purchase and sale agreement. The Company initially values the contingent consideration on acquisition date by using a Monte Carlo simulation or an income approach method. The Monte Carlo method models future revenue and costs of goods sold projections and discounts the average results to present value. The income approach method involves calculating the earnout payment based on the forecasted cash flows, adjusting the future earnout payment for the risk of reaching the projected financials, and then discounting the future payments to present value by the counterparty risk. The counterparty risk considers the risk of the buyer having the cash to make the earnout payments and is commensurate with a cost of debt over an appropriate term.

The following table sets forth the changes in contingent consideration liabilities (dollars in millions):

Balance at December 31, 2019	$	15.8
Current period additions		1.2
Current period adjustments		(3.6)
Current period settlements		(7.4)
Foreign currency effect		0.2
Balance at September 30, 2020	$	6.2

As part of the Mestrelab acquisition, the Company entered into an agreement with the noncontrolling interest holders that provides the Company with the right to purchase, and the noncontrolling interest holders with the right to sell, the remaining 49% of Mestrelab for cash at a contractually defined redemption value. These rights (an embedded derivative) are exercisable beginning in 2022 and can be accelerated, at a discounted redemption value, upon certain events related to post combination services. As the option is tied to continued employment, the Company classified the hybrid instrument (noncontrolling interest with an embedded derivative) as a long-term liability on the consolidated balance sheet. Subsequent to the acquisition, the carrying value of the hybrid instrument is remeasured to fair value with changes recorded to stock-based compensation expense in proportion to the requisite service period vested. The hybrid instrument is classified as Level 3 in the fair value hierarchy.

The following table sets forth the changes in hybrid instrument liability (dollars in millions):

Balance at December 31, 2019	$	10.6
Current period adjustments		1.0
Foreign currency effect		0.1
Balance at September 30, 2020	$	11.7