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Leases | 6 Months Ended
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Mar. 31, 2020
Leases [Abstract] |
Leases | Note 5. Leases Woodward adopted ASC 842 on October 1, 2019 using the modified retrospective transition method under which prior periods were not restated and the cumulative effect of initial adoption was recognized in retained earnings on the date of initial application, October 1, 2019. Woodward is primarily a lessee in lease arrangements but has some embedded lessor arrangements. Lessee arrangements Woodward has entered into operating leases for certain facilities and equipment with terms in excess of one year under agreements that expire at various dates. Some leases require the payment of property taxes, insurance, maintenance costs, or other similar costs in addition to rental payments. Woodward has also entered into finance leases for equipment with terms in excess of one year under agreements that expire at various dates. Woodward determines if an arrangement for the use of property, plant and equipment is a lease at inception. Under ASC 842, an arrangement contains a lease if the arrangement conveys the right to control the use of plant, property or equipment (identified asset) for a period of time in exchange for consideration. For arrangements determined to be a lease under this criteria, Woodward assesses lease classification as either an operating or finance lease whenever the new lease is executed or an existing lease requires reclassification based on changes in the lease’s terms and conditions. Lease classification impacts the treatment of the lease on the income statement and amortization of the lease ROU asset. In determining lease classification, Woodward considers both qualitative and quantitative factors when performing the following classification tests: (i) transfer of ownership at the end of the lease term, (ii) existence of a bargain purchase option, (iii) the lease term, (iv) minimum lease payments, and (v) whether the leased asset is so customized to Woodward’s needs as to effectively have utility only to Woodward. Woodward applies the following thresholds when performing the classification tests: (i) 75% or greater is considered to be the majority of the asset’s remaining economic life, (ii) the exercise of the renewal option or the non-exercise of a termination option is reasonably certain if it has at least a 75% likelihood of occurring (in arriving at the percentage likelihood, Woodward considers its plans as to whether to renew the lease and the economic factors that may impact the decision to renew and Woodward will include a renewal option or non-exercise of a termination option in the lease term only if the Company has an economic incentive to extend the lease), (iii) the present value of the future minimum lease payments is considered to exceed substantially all of the fair value of the underlying asset if the payments exceed 90% of the asset’s fair value. Woodward considers the exercise of the option to purchase a leased asset as reasonably certain if it has at least a 75% likelihood of being exercised or, among other things, a significant economic incentive exists for exercising the option. Lease components are elements of an arrangement that provide the customer with the right to use an identified asset. The right to use an underlying asset is a separate lease component if: (i) the lessee can benefit from the right to use the underlying asset either on its own or together with other resources that are readily available, and (ii) the right to use the underlying asset is neither highly dependent on nor highly interrelated with other rights to use other underlying assets in the arrangement. Woodward may enter into lessee arrangements that contain a lease component but also contain other non-lease components. When the non-lease component in an arrangement relates to inventory, as inventory is outside the scope of ASC 842, the payment Woodward makes for inventory is accounted for and expensed separately and apart from lease expense, rather than as a lease component. For all other classes of underlying assets in lessee arrangements, Woodward has elected to combine lease and non-lease components and to account for them as lease expense. ROU assets represent Woodward’s right to use an underlying asset for the lease term, and lease liabilities represent Woodward’s obligation to make lease payments arising from the lease. ROU assets include any initial direct costs (incremental costs of a lease that would not have been incurred had the lease not been executed) and lease prepayments made, and are reduced by any lease incentives received. Leases with an initial term of 12 months or less and leases with only variable lease payments are not recorded on the balance sheet. ROU assets and lease liabilities are recognized at the lease commencement date based on the estimated present value of the remaining fixed lease payments over the lease term. In determining the estimated present value of lease payments, Woodward discounts the fixed lease payments using the rate implicit in the agreement or, if the implicit rate is not known, using the incremental borrowing rate. As of March 31, 2020, none of Woodward’s leases have been discounted using the implicit rate as it could not be readily determined. Woodward’s incremental borrowing rate is based on the information available at the lease commencement date, with consideration given to Woodward’s recent debt issuances as well as publicly available data for instruments with similar characteristics. When measuring lease liabilities, Woodward only uses lease payments remaining throughout the remainder of the lease term and only includes the amount that is probable of being owed under significant residual value guarantees, if any. Lease liabilities are subject to the same considerations as Woodward’s debt instruments in classifying them as current or noncurrent in the Condensed Consolidated Balance Sheets. For operating leases, lease expense is recognized over the expected lease term and classified as a cost of goods sold or selling, general and administrative expense based on the nature of the underlying leased asset. For finance leases, the ROU asset is recognized over the shorter of the useful life of the asset, consistent with Woodward’s normal depreciation policy, or the lease term, and is classified as a cost of goods sold, selling, general and administrative expense, or research and development expense, based on the nature and use of the underlying leased asset. Interest expense is recorded in connection with the finance lease liability using the effective interest rate method and is classified as interest expense. Certain of Woodward’s operating lease agreements include variable payments that are passed through by the landlord, such as insurance, taxes, and common area maintenance, payments based on the usage of the asset, and rental payments adjusted periodically for inflation. Pass-through charges, payments due to changes in usage of the asset, and payments due to changes in indexation are included within variable rent expense and are recognized in the period in which the variable obligation for the payments was incurred. None of Woodward’s lease agreements contain significant residual value guarantees, restrictions, or covenants. As of March 31, 2020, Woodward has not entered into any lease arrangements that have not yet commenced but would create significant rights and obligations. Woodward does not have any lease transactions between related parties. Lease-related assets and liabilities follows:
|  | Classification on the Condensed Consolidated Balance Sheets |  | March 31, 2020
Assets: |  |  |  |  |
Operating lease assets |  | Other assets |  | $ | 20,507
Finance lease assets |  | Property, plant and equipment, net |  |  | 1,467
Total lease assets |  |  |  |  | 21,974
Current liabilities: |  |  |  |  |
Operating lease liabilities |  | Accrued liabilities |  |  | 4,757
Finance lease liabilities |  | Current portion of long-term debt |  |  | 1,643
Noncurrent liabilities: |  |  |  |  |
Operating lease liabilities |  | Other liabilities |  |  | 15,706
Finance lease liabilities |  | Long-term debt, less current portion |  |  | 1,974
Total lease liabilities |  |  |  | $ | 24,080
In the first quarter of fiscal year 2020, Woodward determined that the approved plan to divest of the renewable power systems portfolio (as described more fully in Note 10, Impairment of assets held for sale, and defined therein as the “disposal groups”) represented a triggering event requiring the long-lived assets attributable to the disposal groups be assessed for impairment. Given the current facts and circumstances, Woodward determined that the remaining value of the ROU assets of the disposal groups were not recoverable and a $1,110 non-cash impairment charge was recorded during the six-months ended March 31, 2020. Supplemental lease-related information follows:
|  | March 31, 2020
Weighted average remaining lease term |  |  |  |
Operating leases |  |  | 6.1 | years
Finance leases |  |  | 2.5 | years
Weighted average discount rate |  |  |  |
Operating leases |  |  | 3.4 | %
Finance leases |  |  | 3.0 | %
Lease-related expenses for the three and six-months ended March 31, 2020 were as follows:
|  | Three-Months Ended |  | Six-Months Ended
|  | March 31, 2020 |  | March 31, 2020
Operating lease expense |  | $ | 1,532 |  | $ | 3,051
Amortization of financing lease assets |  |  | 101 |  |  | 248
Interest on financing lease liabilities |  |  | 20 |  |  | 40
Variable lease expense |  |  | 288 |  |  | 595
Short-term lease expense |  |  | 162 |  |  | 337
Sublease income 1 |  |  | (200) |  |  | (325)
Total lease expense |  | $ | 1,903 |  | $ | 3,946
1)Relates to two separate subleases Woodward has entered into for a leased manufacturing building in Niles, Illinois. Lease-related supplemental cash flow information for the six-months ended March 31, 2020 follows:
|  | Six-Months Ended
|  | March 31, 2020
Cash paid for amounts included in the measurement of lease liabilities: |  |  |
Operating cash flows for operating leases |  | $ | 2,701
Operating cash flows for finance leases |  |  | 40
Financing cash flows for finance leases |  |  | 787
Right-of-use assets obtained in exchange for recorded lease obligations: |  |  |
Operating leases |  |  | 5,345
Finance leases |  |  | 1,244
Maturities of lease liabilities as of March 31, 2020 follows:
Year Ending September 30: |  | Operating Leases |  | Finance Leases
2020 (remaining) |  |  | 2,509 |  |  | 853
2021 |  |  | 5,078 |  |  | 1,687
2022 |  |  | 3,904 |  |  | 738
2023 |  |  | 3,084 |  |  | 325
2024 |  |  | 2,397 |  |  | 137
Thereafter |  |  | 6,184 |  |  | -
Total lease payments |  |  | 23,156 |  |  | 3,740
Less: imputed interest |  |  | (2,693) |  |  | (123)
Total lease obligations |  | $ | 20,463 |  | $ | 3,617
Comparable future minimum rental payment under operating and finance leases that have initial or remaining non-cancelable lease terms in excess of one year as previously disclosed under ASC 840 as of September 30, 2019 follows:
Year Ending September 30: |  | Operating Leases |  | Finance Leases
2020 (full twelve months) |  | $ | 6,667 |  | $ | 213
2021 |  |  | 5,119 |  |  | 98
2022 |  |  | 3,823 |  |  | 33
2023 |  |  | 2,899 |  |  | 3
2024 |  |  | 2,378 |  |  | -
Thereafter |  |  | 6,033 |  |  | -
Total minimum lease payments under ASC 840 |  | $ | 26,919 |  | $ | 347
In the three and six months ended March 31, 2019, total rental payments charged to expense for operating leases under ASC 840 were $2,533 and $4,820, respectively. Lessor arrangements Woodward enters into various customer supply agreements, customer sales agreements, and/or product development agreements (collectively, “manufacturing contracts”) with customers to provide highly specialized products. In certain of these manufacturing contracts, the property, plant and equipment used to manufacture the products is used only for the benefit of one customer. This is primarily driven by the demand for customer products, which can be so great that it is economically beneficial to dedicate the plant and equipment to just one customer. Additionally, this can be driven by the set-up of the property, plant and equipment required to produce specified product and/or the specialized nature of the property, plant and equipment such that it is not economically feasible to use the plant, property and equipment to manufacture other products. Woodward has assessed its manufacturing contracts and concluded that certain of the contracts for the manufacture of customer products met the criteria to be considered a leasing arrangement (“embedded leases”) with Woodward as the lessor. The specific manufacturing contracts that met the criteria were those that utilized Woodward property, plant and equipment and which is substantially (more than 90%) dedicated to the manufacturing of the product(s) for a single customer. Woodward has dedicated manufacturing lines with three of its customers representing embedded leases, all of which qualified as operating leases with undefined quantities of future customer purchase commitments. Woodward’s customers for which embedded lessor arrangements have been identified do not have contractual long-term commitments to purchase specified quantities of related products or services from Woodward, although Woodward expects to continue selling to such customers into the future and is presently unaware of any economic penalties, or other factors, which would further define a lease term on such arrangements. Although Woodward expects to allocate some portion of future net sales to these customers to embedded lessor arrangements, it cannot provide expected future undiscounted lease payments from property, plant and equipment leased to customers as of March 31, 2020. If in the future customers reduce purchases of related products from Woodward, the Company believes it will derive additional value from the underlying equipment by repurposing its use to support other customer arrangements. Woodward will continue to assess its future manufacturing contracts and monitor its current manufacturing contracts for changes which may trigger additional embedded leases under ASC 842. A manufacturing contract with a customer that contains an embedded lease will generally include lease components, such as the equipment, and non-lease components, such as other inputs used in the manufacture of the customer’s product. In evaluating its embedded leases, Woodward first identified and separated its lease and non-lease components. Woodward has determined that for its current embedded leases, the property, plant and equipment used by Woodward represents lease components and all other inputs that Woodward uses to develop, manufacture and sell the customer product represents non-lease components. Woodward allocates revenue from contracts with customers between lease and non-lease components by imputing a reasonable rate of return based on the estimated fair value of the dedicated property, plant and equipment. Under ASC 842, consistent with the previous guidance, Woodward will continue to recognize property, plant and equipment in embedded lessor arrangements on its Condensed Consolidated Balance Sheets in property, plant and equipment, net. The property, plant and equipment will continue to be depreciated as normal. Woodward recognizes revenue from the embedded lessor arrangements based on the value of the underlying dedicated property, plant, and equipment. There are no fixed payments that the customers under the embedded lessor arrangements are obligated to pay. Therefore, all the customer payments under the embedded lessor arrangements are considered variable with the associated leasing revenue recognized when the revenue from underlying product sale related to variable lease payment is recognized. Revenue from contracts with customers that included embedded operating leases, which is included in “Net sales” at the Condensed Consolidated Statements of Earnings, was $1,561 for the three-months and $3,125 for the six-months ended March 31, 2020. Other than the embedded leases identified, Woodward is not the lessor in any other leasing arrangements. None of the embedded leases identified by Woodward qualify as a sales-type or direct finance lease. None of the operating leases for which Woodward is the lessor include options for the lessee to purchase the underlying asset at the end of the lease term or residual value guarantees, nor are any such operating leases with related parties. The carrying amount of property, plant and equipment leased to others through embedded leasing arrangements, included in “Property, plant and equipment, net” at the Condensed Consolidated Balance Sheets, follows:
|  | March 31, 2020
Property, plant and equipment leased to others through embedded leasing arrangements |  | $ | 67,941
Less accumulated depreciation |  |  | (25,454)
Property, plant and equipment leased to others through embedded leasing arrangements, net |  | $ | 42,487

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