Nature of Operations and Summary of Significant Accounting Policies

Nature of Operations

Continuing Operations

Kadant Inc. was incorporated in Delaware in November 1991 and currently trades on the New York Stock Exchange under the ticker symbol "KAI."

Kadant Inc. and its subsidiaries (collectively, the Company) is a leading global supplier of equipment and critical components used in process industries worldwide. In addition, the Company manufactures granules made from papermaking by-products. The Company has a diverse and large customer base, including most of the world's major paper, lumber and oriented strand board (OSB) manufacturers, and its products, technologies, and services play an integral role in enhancing process efficiency, optimizing energy utilization, and maximizing productivity in resource-intensive industries.

The Company's continuing operations include two reportable operating segments, Papermaking Systems and Wood Processing Systems, and a separate product line, Fiber-based Products. See Note 11, Business Segment and Geographical Information, for further details.

Discontinued Operation

In 2005, the Company's Kadant Composites LLC subsidiary sold substantially all of its assets to a third party. All activity related to this business is classified in the results of the discontinued operation in the accompanying consolidated financial statements.

Noncontrolling Interest

One of the Company's foreign subsidiaries that manufactures fluid-handling products is part of a joint venture agreement with an Italian company in which each holds a 50 percent ownership interest. The agreement provides the Company's subsidiary with the option to purchase the remaining 50 percent interest in the joint venture.

Principles of Consolidation

The accompanying consolidated financial statements of the Company include the accounts of its wholly and majority-owned subsidiaries. All material intercompany accounts and transactions have been eliminated.

Fiscal Year

The Company has adopted a fiscal year ending on the Saturday nearest to December 31. References to 2018, 2017, and 2016 are for the fiscal years ended December 29, 2018, December 30, 2017, and December 31, 2016, respectively.

Financial Statement Presentation

Certain reclassifications have been made to prior periods to conform with current reporting. As a result of the adoption of the Financial Accounting Standards Board's (FASB) Accounting Standards Update (ASU) No. 2017-07, Compensation - Retirement Benefits (Topic 715), Improving the Presentation of Net Periodic Pension Cost and Net Periodic Post-retirement Benefit Cost, certain components of net benefit cost have been reclassified from operating income to non-operating expenses and included in other expense, net in the accompanying consolidated statement of income in the 2017 and 2016 periods. In addition, as a result of the adoption of the FASB's ASU No. 2016-18, Statement of Cash Flows (Topic 230), Restricted Cash, the change in restricted cash has been reclassified from financing activities and exchange rate effect on cash and included in cash, cash equivalents, and restricted cash in the accompanying consolidated statement of cash flows in the 2017 and 2016 periods.

Effective at the beginning of fiscal 2018, the Company adopted ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606) (Topic 606), using the modified retrospective method. See Recently Adopted Accounting Pronouncements in this note for further discussion. Results for fiscal 2018 are presented under Topic 606, while prior period amounts are not adjusted and are reported under the Company's prior method of reporting revenue recognition in accordance with Accounting Standards Codification (ASC), Revenue Recognition (Topic 605) (Topic 605). The impact on any financial statement line item arising from the application of Topic 606 compared to Topic 605 on the Company's results for the 2018 period is not material.

Use of Estimates and Critical Accounting Policies

The preparation of financial statements in conformity with U.S. generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period.

Critical accounting policies are defined as those that entail significant judgments and estimates, and could potentially result in materially different results under different assumptions and conditions. The Company believes that the most critical accounting policies upon which its financial position depends, and which involve the most complex or subjective decisions or assessments, concern revenue recognition, income taxes, the valuation of goodwill and intangible assets, inventories, and pension obligations. A discussion of the application of these and other accounting policies is included in Notes 1 and 3.

Although the Company makes every effort to ensure the accuracy of the estimates and assumptions used in the preparation of its consolidated financial statements or in the application of accounting policies, if business conditions were different, or if the Company were to use different estimates and assumptions, it is possible that materially different amounts could be reported in the Company's consolidated financial statements.

Revenue Recognition

Effective at the beginning of fiscal 2018, the Company adopted Topic 606, using a modified retrospective method. See Recently Adopted Accounting Pronouncements in this note for further discussion. Results for fiscal 2018 are presented under Topic 606, while prior period amounts are not adjusted and are reported in accordance with Topic 605. The impact on any financial statement line item arising from the application of Topic 606 compared to Topic 605 on the Company's results for the 2018 period is not material.

In 2018, approximately 91% of the Company’s revenue was recognized at a point in time for each performance obligation under the contract when the customer obtains control of the goods or service. The majority of the Company’s parts and consumables products and capital products with minimal customization are accounted for at a point in time. The Company has made a policy election to not treat the obligation to ship as a separate performance obligation under the contract and, as a result, the associated shipping costs are accrued when revenue is recognized.

The remaining 9% of the Company’s revenue in 2018 was recognized on an over time basis based on an input method that compares the costs incurred to date to the total expected costs required to satisfy the performance obligation. Contracts are accounted for on an over time basis when they include products which have no alternative use and an enforceable right to payment over time. The majority of the contracts recognized on an over time basis are for large capital projects within the Company's Stock-Preparation product line and, to a lesser extent, its Fluid-Handling and Doctoring, Cleaning, & Filtration product lines. These projects are highly customized for the customer and, as a result, would include a significant cost to rework in the event of cancellation.

The following table presents revenue by revenue recognition method:



(In thousands)	December 29, 2018
Point in Time	$	577,506
Over Time	56,280
	$	633,786

The transaction price is typically based on the amount billed to the customer and includes estimated variable consideration where applicable. Such variable consideration relates to certain performance guarantees and rights to return the product. The Company estimates variable consideration as the most likely amount to which it expects to be entitled based on the terms of the contracts with customers and historical experience, where relevant. For contracts with multiple performance obligations, the transaction price is allocated to each performance obligation based on the relative stand-alone selling price.

The Company's contracts covering the sale of its products include warranty provisions that provide assurance to its customers that the products will comply with agreed-upon specifications. The Company negotiates the terms regarding warranty coverage and length of warranty depending on the products and applications.

The Company disaggregates its revenue from contracts with customers by product line, product type and geography as this best depicts how its revenue is affected by economic factors.

The following table presents the disaggregation of revenues by product type and geography:



(In thousands)	December 29, 2018		December 30, 2017		December 31, 2016
Revenues by Product Type:
Parts and Consumables	$	374,433	$	316,506	$	258,171
Capital	259,353		198,527		155,955
	$	633,786	$	515,033	$	414,126
Revenues by Geography:
North America	$	305,618	$	238,483	$	203,063
Europe	174,681		157,994		115,233
Asia	109,688		78,443		62,703
Rest of World	43,799		40,113		33,127
	$	633,786	$	515,033	$	414,126

See Note 11, Business Segment and Geographical Information, for information on how the Company disaggregates its revenue from contracts with customers by product line.

The following tables presents contract balances from contracts with customers:



(In thousands)	December 29, 2018		December 30, 2017
Accounts receivable	$	92,624	$	89,624
Contract assets	$	15,741	$	2,374
Contract liabilities	$	34,774	$	38,702

Contract assets represent unbilled revenues associated with revenue recognized on contracts accounted for on an over time basis, which will be billed in future periods based on the contract terms. Contract assets increased from $2,374,000 at December 30, 2017 to $15,741,000 at December 29, 2018 due to the timing of progress payments associated with the shipment of large capital projects in the second half of 2018. Contract liabilities consist of customer deposits and advanced billings, and deferred revenue which is included in other current liabilities in the accompanying consolidated balance sheet. Contract liabilities will be recognized as revenue in future periods once the revenue recognition criteria are met. The majority of the contract liabilities relate to advanced payments on contracts accounted for at a point in time. These advance payments will be recognized as revenue when the Company's performance obligations have been satisfied, which typically occurs when the product has been shipped and control of the asset has transferred to the customer. The Company recognized revenue of $36,556,000 in 2018 that was included in the contract liabilities balance at the beginning of fiscal 2018.

Customers in China will often settle their accounts receivable with a banker's acceptance draft, in which case cash settlement will be delayed until the banker's acceptance draft matures or is settled prior to maturity. For customers outside of China, final payment for the majority of the Company's products is received in the quarter following the product shipment. Certain of the Company's contracts include a longer period before final payment is due, which is typically within one year of final shipment or transfer of control to the customer.

The Company includes in revenue amounts invoiced for shipping and handling with the corresponding costs reflected in cost of revenues. Provisions for discounts, warranties, returns and other adjustments are provided for in the period in which the related sales was recorded. Sales taxes, value-added taxes and certain excise taxes collected from customers and remitted to governmental authorities are accounted for on a net basis and therefore are excluded from revenue.

In 2017 and 2016, the Company recognized revenue under ASC 605, "Revenue Recognition," (ASC 605) when the following criteria had been met: persuasive evidence of an arrangement existed, delivery had occurred or service had been rendered, the sales price was fixed or determinable, and collectability was reasonably assured. When the terms of the sale included customer acceptance provisions, and compliance with those provisions could not be demonstrated until customer acceptance, revenue was recognized upon such acceptance.

Most of the Company's revenue in 2017 and 2016 was recognized in accordance with the accounting policies in the preceding paragraph. However, when a sale arrangement involved multiple elements, such as equipment and installation, the Company considered the guidance in ASC 605. Such transactions were evaluated to determine whether the deliverables in the arrangement represented separate units of accounting based on the following criteria: the delivered item had value to the customer on a stand-alone basis, and if the contract included a general right of return relative to the delivered item, delivery or performance of the undelivered item was considered probable and substantially under the control of the Company. Revenue was allocated to each unit of accounting or element based on relative selling prices and was recognized as each element was delivered or completed. The Company determined relative selling prices by using either vendor-specific objective evidence (VSOE) if that existed, or third-party evidence of selling price. When neither VSOE nor third-party evidence of selling price existed for a deliverable, the Company used its best estimate of the selling price for that deliverable. In cases in which elements could not be treated as separate units of accounting, the elements were combined into a single unit of accounting for revenue recognition purposes.

In addition in 2017 and 2016, revenues and profits on certain long-term contracts were recognized using the percentage-of-completion method or the completed-contract method of accounting pursuant to ASC 605. Revenues recorded under the percentage-of-completion method were $27,676,000 in 2017 and $23,300,000 in 2016. The percentage of completion was determined by comparing the actual costs incurred to date to an estimate of total costs to be incurred on each contract. If a loss was indicated on any contract in process, a provision was made currently for the entire estimated loss. The Company's contracts generally provided for billing of customers upon the attainment of certain milestones specified in each contract. Revenues earned on contracts in process in excess of billings are classified as unbilled revenues and amounts billed in excess of revenues earned are classified as advanced billings.

For long-term contracts that did not meet the criteria under ASC 605 to be accounted for under the percentage-of-completion method in 2017 and 2016, the Company recognized revenue using the completed-contract method. When using the completed-contract method, the Company recognized revenue when the contract was substantially complete, the product was delivered and, if applicable, the customer acceptance criteria were met. Customer deposits included $2,945,000 at year-end 2017 of advance payments, net of accumulated costs, on long-term contracts accounted for under the completed-contract method.

Accounts Receivable

Accounts receivable are recorded at the invoiced amount and do not bear interest. The Company exercises judgment in determining its allowance for doubtful accounts, which is based on its historical collection experience, current trends, credit policies, specific customer collection issues, and accounts receivable aging categories. In determining this allowance, the Company looks at historical write-offs of its receivables. The Company also looks at current trends in the credit quality of its customer base as well as changes in its credit policies. The Company performs ongoing credit evaluations of its customers and adjusts credit limits based upon payment history and each customer's current creditworthiness. The Company continuously monitors collections and payments from its customers. Account balances are charged off against the allowance when the Company believes it is probable the receivable will not be recovered. In some instances, the Company utilizes letters of credit to mitigate its credit exposure.

The changes in the allowance for doubtful accounts are as follows:



(In thousands)	December 29, 2018			December 30, 2017			December 31, 2016
Balance at Beginning of Year	$	2,879		$	2,395		$	2,163
Provision charged to expense	355			436			453
Accounts written off	(165		)	(159		)	(128		)
Currency translation	(172		)	207			(93		)
Balance at End of Year	$	2,897		$	2,879		$	2,395

The Company's Chinese subsidiaries may receive banker's acceptance drafts from customers as payment for their trade accounts receivable. The drafts are noninterest-bearing obligations of the issuing bank and mature within six months of the origination date. The Company's subsidiaries may sell the drafts at a discount to a third-party financial institution or transfer the drafts to vendors in settlement of current accounts payable prior to the scheduled maturity date. These drafts, which totaled $7,976,000 at year-end 2018 and $15,960,000 at year-end 2017, are included in accounts receivable in the accompanying consolidated balance sheet until the subsidiary sells the drafts to a bank and receives a discounted amount, transfers the banker's acceptance drafts in settlement of current accounts payable prior to maturity, or obtains cash payment on the scheduled maturity date.

Warranty Obligations

The Company provides for the estimated cost of product warranties at the time of sale based on the historical occurrence rates and repair costs, as well as knowledge of any specific warranty problems that indicate projected warranty costs may vary from historical patterns. The Company typically negotiates the terms regarding warranty coverage and length of warranty depending on the products and applications. While the Company engages in extensive product quality programs and processes, the Company's warranty obligation is affected by product failure rates, repair costs, service delivery costs incurred in correcting a product failure, and supplier warranties on parts delivered to the Company. Should these factors or actual results differ from the Company's estimates, revisions to the estimated warranty liability would be required.

The changes in the carrying amount of accrued warranty costs included in other current liabilities in the accompanying consolidated balance sheet are as follows:



(In thousands)	December 29, 2018			December 30, 2017
Balance at Beginning of Year	$	5,498		$	3,843
Provision charged to expense	3,708			2,652
Usage	(3,140		)	(2,225		)
Acquisitions	—			790
Currency translation	(340		)	438
Balance at End of Year	$	5,726		$	5,498

Income Taxes

In accordance with ASC 740, "Income Taxes," (ASC 740), the Company recognizes deferred income taxes based on the expected future tax consequences of differences between the financial statement basis and the tax basis of assets and liabilities, calculated using enacted tax rates in effect for the year in which these differences are expected to reverse. A tax valuation allowance is established, as needed, to reduce deferred tax assets to the amount expected to be realized. In the period in which it becomes more likely than not that some or all of the deferred tax assets will be realized, the valuation allowance will be adjusted.

It is the Company's policy to provide for uncertain tax positions and the related interest and penalties based upon management's assessment of whether a tax benefit is more likely than not to be sustained upon examination by tax authorities. The Company recognizes accrued interest and penalties related to unrecognized tax benefits in the provision for income taxes. At December 29, 2018, the Company believes that it has appropriately accounted for any liability for unrecognized tax benefits. To the extent the Company prevails in matters for which a liability for an unrecognized tax benefit is established, the statute of limitations expires for a tax jurisdiction year, or the Company is required to pay amounts in excess of the liability, its effective tax rate in a given financial statement period may be affected.

Earnings per Share

Basic earnings per share (EPS) is computed by dividing net income attributable to Kadant by the weighted average number of shares outstanding during the year. Diluted EPS is computed using the treasury stock method assuming the effect of all potentially dilutive securities, including stock options, restricted stock units (RSUs) and employee stock purchase plan shares.

Cash and Cash Equivalents

At year-end 2018 and year-end 2017, the Company's cash equivalents included investments in money market funds and other marketable securities, which had maturities of three months or less at the date of purchase. The carrying amounts of cash equivalents approximate their fair values due to the short-term nature of these instruments.

Restricted Cash

The Company's restricted cash serves as collateral for bank guarantees primarily associated with providing assurance to customers that the Company will fulfill certain customer obligations entered into in the normal course of business. The majority of the bank guarantees will expire over the next twelve months.

The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the Company's consolidated balance sheet that are shown in aggregate in the consolidated statement of cash flows:



(In thousands)	December 29, 2018		December 30, 2017		December 31, 2016
Cash and cash equivalents	$	45,830	$	75,425	$	71,487
Restricted cash	287		1,421		2,082
Total Cash, Cash Equivalents, and Restricted Cash	$	46,117	$	76,846	$	73,569

Supplemental Cash Flow Information



(In thousands)	December 29, 2018		December 30, 2017			December 31, 2016
Cash Paid for Interest	$	7,550	$	2,624		$	1,183
Cash Paid for Income Taxes, Net of Refunds	$	25,654	$	20,559		$	15,632

Non-Cash Investing Activities:
Estimated post-closing adjustment (a)	$	397	$	—		$	—

Fair value of assets of acquired	$	—	$	242,048		$	84,969
Cash paid for acquired businesses	—		(206,950		)	(58,894		)
Liabilities Assumed of Acquired Businesses	$	—	$	35,098		$	26,075

Non-cash additions to property, plant, and equipment	$	917	$	4,620		$	379

Non-Cash Financing Activities:
Issuance of Company common stock upon vesting of RSUs	$	4,231	$	3,192		$	3,463
Dividends declared but unpaid	$	2,444	$	2,316		$	2,078

(a) Represents an estimated post-closing purchase price adjustment related to the 2017 acquisition of certain assets of Unaflex, LLC, which is expected to be settled in early 2019.

Inventories

Inventories are stated at the lower of cost (on a first-in, first-out; or weighted average basis) or net realizable value and include materials, labor, and manufacturing overhead. The Company regularly reviews its quantities of inventories on hand and compares these amounts to the historical and forecasted usage of and demand for each particular product or product line. The Company records a charge to cost of revenues for excess and obsolete inventory to reduce the carrying value of inventories to net realizable value.

The components of inventories are as follows:



(In thousands)	December 29, 2018		December 30, 2017
Raw Materials	$	44,522	$	38,952
Work in Process	15,876		18,203
Finished Goods (includes $494 and $1,883 at customer locations)	25,975		27,778
	$	86,373	$	84,933

Property, Plant, and Equipment

Property, plant, and equipment are stated at cost. The costs of additions and improvements are capitalized, while maintenance and repairs are charged to expense as incurred. The Company provides for depreciation and amortization primarily using the straight-line method over the estimated useful lives of the property as follows: buildings, 10 to 40 years; machinery and equipment, 2 to 10 years; and leasehold improvements, the shorter of the term of the lease or the life of the asset. For construction in progress, no provision for depreciation is made until the assets are available and ready for use.

Property, plant, and equipment consist of the following:



(In thousands)	December 29, 2018		December 30, 2017
Land	$	7,614	$	7,894
Buildings	58,866		48,094
Machinery, Equipment, and Leasehold Improvements	100,453		94,779
Construction in Progress	3,764		14,464
	170,697		165,231
Less: Accumulated Depreciation and Amortization	90,540		85,508
	$	80,157	$	79,723

At year-end 2017, construction in progress primarily related to the construction of a manufacturing facility in the U.S. that was completed in the first half of 2018. Following completion, the assets were transferred to building and machinery, equipment and leasehold improvements and depreciated over their estimated useful lives.

Property, plant, and equipment at year-end 2018 and year-end 2017 included assets under capital leases. The gross amount of property, plant, and equipment under capital leases was $5,674,000 at year-end 2018 and $6,038,000 at year-end 2017. Accumulated amortization associated with capital leases was $764,000 at year-end 2018 and $550,000 at year-end 2017. Depreciation and amortization expense, including amortization of assets under capital lease, was $9,386,000 in 2018, $7,418,000 in 2017, and $6,194,000 in 2016.

Intangible Assets, Net

Acquired intangible assets by major asset class are as follows:



(In thousands)	Gross		Currency Translation			Accumulated Amortization			Net
December 29, 2018
Definite-Lived
Customer relationships	$	113,283	$	(4,520	)	$	(38,160	)	$	70,603
Product technology	46,501		(1,677		)	(23,563		)	21,261
Tradenames	5,227		(390		)	(1,980		)	2,857
Other	13,744		(127		)	(11,476		)	2,141
	178,755		(6,714		)	(75,179		)	96,862
Indefinite-Lived
Tradenames	16,600		(115		)	—			16,485
Acquired Intangible Assets	$	195,355	$	(6,829	)	$	(75,179	)	$	113,347

December 30, 2017
Definite-Lived
Customer relationships	$	113,301	$	(621	)	$	(28,789	)	$	83,891
Product technology	46,501		(737		)	(19,841		)	25,923
Tradenames	5,227		(262		)	(1,504		)	3,461
Other	13,754		(35		)	(10,863		)	2,856
	178,783		(1,655		)	(60,997		)	116,131
Indefinite-Lived
Tradenames	16,600		305			—			16,905
Acquired Intangible Assets	$	195,383	$	(1,350	)	$	(60,997	)	$	133,036

Intangible assets are initially recorded at fair value at the date of acquisition. Definite-lived intangible assets are stated net of accumulated amortization and currency translation in the accompanying consolidated balance sheet. The Company amortizes definite-lived intangible assets over lives that have been determined based on the anticipated cash flow benefits of the intangible asset. Definite-lived intangible assets have a weighted average amortization period of 12 years. Amortization of definite-lived intangible assets was $14,182,000 in 2018, $11,957,000 in 2017, and $8,132,000 in 2016. The estimated future amortization expense of definite-lived intangible assets is $12,869,000 in 2019; $12,299,000 in 2020; $11,784,000 in 2021; $11,011,000 in 2022; $9,610,000 in 2023; and $39,289,000 in the aggregate thereafter.

Goodwill

Goodwill represents the excess of the cost of an acquisition over the fair value of the identifiable net assets of the acquired business at the date of acquisition. The Company’s acquisitions have historically been made at prices above the fair value of the acquired net assets, resulting in goodwill, due to the expectation of synergies from combining the businesses.

The changes in the carrying amount of goodwill by segment are as follows:



(In thousands)	Papermaking Systems Segment			Wood Processing Systems Segment			Total
Balance as of December 31, 2016
Gross balance	$	219,699		$	17,265		$	236,964
Accumulated impairment losses	(85,509		)	—			(85,509		)
Net balance	134,190			17,265			151,455
2017 Adjustments
Acquisitions (Note 2)	16,373			85,508			101,881
Currency translation	10,942			3,723			14,665
Total 2017 Adjustments	27,315			89,231			116,546
Balance at December 30, 2017
Gross balance	247,014			106,496			353,510
Accumulated impairment losses	(85,509		)	—			(85,509		)
Net balance	161,505			106,496			268,001
2018 Adjustments
Acquisitions (Note 2)	(17		)	(75		)	(92		)
Currency translation	(5,085		)	(4,650		)	(9,735		)
Total 2018 Adjustments	(5,102		)	(4,725		)	(9,827		)
Balance at December 29, 2018
Gross balance	241,912			101,771			343,683
Accumulated impairment losses	(85,509		)	—			(85,509		)
Net balance	$	156,403		$	101,771		$	258,174

Impairment of Long-Lived Assets

The Company evaluates the recoverability of goodwill and indefinite-lived intangible assets as of the end of each fiscal year, or more frequently if events or changes in circumstances, such as a significant decline in sales, earnings, or cash flows, or material adverse changes in the business climate, indicate that the carrying value of an asset might be impaired.

At year-end 2018, the Company performed a quantitative goodwill impairment assessment (Step 1) for all of its reporting units, which indicated that the fair value of each reporting unit exceeded its carrying value, and determined that the asset was not impaired.

At year-end 2017, the Company performed a qualitative impairment analysis (Step 0) of its goodwill and determined that the asset was not impaired. The impairment analysis included an assessment of certain qualitative factors including, but not limited to, the results of prior fair value calculations, the movement of the Company's share price and market capitalization, the reporting unit and overall financial performance, and macroeconomic and industry conditions. The Company considered the qualitative factors and weighed the evidence obtained, and determined that it was not more likely than not that the fair value of any of the assets was less than its carrying amount. Although the Company believes the factors considered in the impairment analysis are reasonable, significant changes in any one of the assumptions used could have produced a different result.

Goodwill by reporting unit is as follows:



(In thousands)	December 29, 2018		December 30, 2017
Stock-Preparation	$	58,142	$	60,275
Fluid-Handling	64,052		65,289
Doctoring, Cleaning, & Filtration	34,209		35,941
Wood Processing Systems	101,771		106,496
	$	258,174	$	268,001

At year-end 2018, the Company performed a quantitative impairment analysis on its indefinite-lived intangible assets and determined that the assets were not impaired. At year-end 2017, the Company performed a qualitative impairment analysis on its indefinite-lived intangible assets and determined that the assets were not impaired.

The Company assesses its long-lived assets, other than goodwill and indefinite-lived intangible assets, for impairment whenever facts and circumstances indicate that the carrying amounts may not be fully recoverable. To analyze recoverability, the Company projects undiscounted net future cash flows over the remaining lives of such assets or asset groups. If these projected cash flows were to be less than the carrying amounts, an impairment loss would be recognized, resulting in a write-down of the assets with a corresponding charge to earnings. The impairment loss would be measured based upon the difference between the carrying amounts of the assets and their fair values calculated using projected cash flows. No indicators of impairment were identified in 2018 or 2017.

Foreign Currency Translation and Transactions

All assets and liabilities of the Company's foreign subsidiaries are translated at fiscal year-end exchange rates, and revenues and expenses are translated at average exchange rates for each quarter in accordance with ASC 830, Foreign Currency Matters. Resulting translation adjustments are reflected in the "accumulated other comprehensive items" (AOCI) component of stockholders' equity (see Note 13). Foreign currency transaction gains and losses are included in the accompanying consolidated statement of income and are not material in the three years presented.

Stock-Based Compensation

The Company recognizes compensation cost for all stock-based awards granted to employees and directors based on the grant date estimate of fair value for those awards. The fair value of RSUs is based on the grant date price of the Company's common stock, reduced by the present value of estimated dividends foregone during the requisite service period. The fair value of stock options is based on the Black-Scholes option-pricing model. For stock options and time-based RSUs, compensation expense is recognized ratably over the requisite service period for the entire award and net of actual forfeitures recorded when they occur. For performance-based RSUs, compensation expense is recognized ratably over the requisite service period for each separately-vesting portion of the award based on the grant date fair value, net of actual forfeitures and remeasured at each reporting period until the total number of RSUs to be issued is known. Compensation expense related to any modified stock-based awards is based on the fair value for those awards as of the modification date with any remaining incremental compensation expense recognized ratably over the remaining requisite service period.

Derivatives

The Company uses derivative instruments primarily to reduce its exposure to changes in currency exchange rates and interest rates. When the Company enters into a derivative contract, the Company makes a determination as to whether the transaction is deemed to be a hedge for accounting purposes. If a contract is deemed a hedge, the Company formally documents the relationship between the derivative instrument and the risk being hedged. In this documentation, the Company specifically identifies the asset, liability, forecasted transaction, cash flow, or net investment that has been designated as the hedged item, and evaluates whether the derivative instrument is expected to reduce the risks associated with the hedged item. To the extent these criteria are not met, the Company does not use hedge accounting for the derivative. The change in the fair value of a derivative not deemed to be a hedge is recorded currently in earnings. The Company does not hold or engage in transactions involving derivative instruments for purposes other than risk management.

ASC 815, Derivatives and Hedging, requires that all derivatives be recognized on the balance sheet at fair value. For derivatives designated as cash flow hedges, the related gains or losses on these contracts are deferred as a component of AOCI. These deferred gains and losses are recognized in the statement of income in the period in which the underlying anticipated transaction occurs. For derivatives designated as fair value hedges, the unrealized gains and losses resulting from the impact of currency exchange rate movements are recognized in earnings in the period in which the exchange rates change and offset the currency gains and losses on the underlying exposures being hedged. The Company performs an evaluation of the effectiveness of the hedge both at inception and on an ongoing basis. The ineffective portion of a hedge, if any, and changes in the fair value of a derivative not deemed to be a hedge, are recorded in the accompanying consolidated statement of income.

Recent Accounting Pronouncements

Revenue from Contracts with Customers (Topic 606), Section A-Summary and Amendments That Create Revenue from Contracts with Customers (Topic 606) and Other Assets and Deferred Costs-Contracts with Customers (Subtopic 340-40). In May 2014, the FASB issued ASU No. 2014-09, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The Company adopted this ASU (as modified by subsequently issued clarifying guidance) using the modified retrospective transition approach effective at the beginning of fiscal 2018. The guidance applies to all new contracts initiated in fiscal 2018. For existing contracts that had remaining obligations as of the beginning of fiscal 2018, any difference between the recognition criteria in this ASU and the Company's previous revenue recognition practices under Topic 605 was recognized using a cumulative-effect adjustment that increased retained earnings by $119,000. The increase in retained earnings primarily related to contracts which met the over time criteria under the new revenue standard and, as a result, the portion of the contract completed as of the beginning of fiscal 2018 was recognized immediately in retained earnings. Partially offsetting this increase was a reduction of retained earnings associated with certain contracts which were previously accounted for under the percentage-of-completion method of accounting, but did not meet the requirements for over time recognition under Topic 606. Amounts previously recognized in fiscal 2017 based on the percentage-of-completion method of accounting were deferred at the beginning of fiscal 2018 and were recognized along with the remaining revenue and costs in fiscal 2018 when control of the asset was transferred to the customer.

The Company implemented certain modifications to its existing internal controls to support the recognition criteria and disclosure requirements of this ASU. See Revenue Recognition in this note for further disclosures required by this ASU.

Statement of Cash Flows (Topic 230), Classification of Certain Cash Receipts and Cash Payments. In August 2016, the FASB issued ASU No. 2016-15, which simplifies the diversity in practice related to the presentation and classification of certain cash receipts and cash payments in the statement of cash flows under Topic 230. The Company adopted this ASU at the beginning of fiscal 2018 with no impact on the Company's consolidated statement of cash flows.

Income Taxes (Topic 740), Intra-Entity Transfers of Assets Other Than Inventory. In October 2016, the FASB issued ASU No. 2016-16, 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 and eliminates the exception for an intra-entity transfer of an asset other than inventory. The Company adopted this ASU at the beginning of fiscal 2018 on a modified retrospective basis, which resulted in an immaterial adjustment to retained earnings. The impact of the adoption of this standard on future periods will be dependent on future asset transfers, which generally occur in connection with acquisitions and other business structuring activities.

Statement of Cash Flows (Topic 230), Restricted Cash. In November 2016, the FASB issued ASU No. 2016-18, which requires inclusion of restricted cash and restricted cash equivalents within cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The Company adopted this ASU at the beginning of fiscal 2018. Prior period amounts related to the Company's "cash flows from financing activities," "exchange rate effect on cash," and "cash, cash equivalents, and restricted cash" were restated as required by this ASU, which did not have a material effect on the Company's consolidated statement of cash flows. See Restricted Cash in this note for further disclosures required by this ASU.

Business Combinations (Topic 805), Clarifying the Definition of a Business. In January 2017, the FASB issued ASU No. 2017-01, which clarifies the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions or disposals of assets or businesses. The Company adopted this ASU on a prospective basis at the beginning of fiscal 2018. The adoption of this ASU will impact how the Company assesses acquisitions and disposals of businesses in the future.

Compensation - Retirement Benefits (Topic 715), Improving the Presentation of Net Periodic Pension Cost and Net Periodic Post-retirement Benefit Cost. In March 2017, the FASB issued ASU No. 2017-07, which requires employers to include only the service cost component of net periodic pension cost and net periodic post-retirement benefit cost within costs and operating expenses in the same income statement line item as the related employees' compensation costs. The other components of net benefit cost are required to be included within non-operating expenses. The Company adopted this ASU at the beginning of fiscal 2018 and prior period amounts were reclassified with no impact on the Company’s consolidated net income. As a result of the adoption, the Company reclassified $872,000 in 2017 and $1,069,000 in 2016 from operating income to other expense, net in the accompanying consolidated statement of income.

Compensation - Stock Compensation (Topic 718), Scope of Modification Accounting. In May 2017, the FASB issued ASU No. 2017-09, which provides clarity on which changes to the terms or conditions of share-based payment awards require entities to apply the modification accounting provisions required in Topic 718. The Company adopted this ASU on a prospective basis at the beginning of fiscal 2018. The adoption of this ASU did not have a material impact on the Company's consolidated financial statements.

Income Taxes (Topic 740), Amendments to SEC Paragraphs Pursuant to SEC Staff Accounting Bulletin No. 118. In March 2018, the FASB issued ASU No. 2018-05, an amendment to the December 2017 SEC Staff Accounting Bulletin No. 118 (SAB 118), which allowed SEC registrants to record provisional amounts in earnings due to the complexities involved in accounting for the December 22, 2017 enactment of The Tax Cuts and Jobs Act of 2017 (2017 Tax Act). Those provisional amounts would be subject to adjustment during the measurement period, which is limited to no more than one year beyond the enactment of the 2017 Tax Act. The Company recorded provisional amounts based on reasonable estimates in its 2017 consolidated financial statements and has made adjustments to those provisional amounts in its 2018 consolidated financial statements.

Intangibles - Goodwill and Other - Internal-Use Software (Subtopic 350-40), Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. In August 2018, the FASB issued ASU No. 2018-15, which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The Company elected to early adopt this ASU on a prospective basis in the third quarter of 2018. The adoption of this ASU did not have a material impact on the Company's consolidated financial statements.

Recent Accounting Pronouncements Not Yet Adopted

Leases (Topic 842). In February 2016, the FASB issued ASU No. 2016-02, which requires a lessee to recognize a right-of-use asset and a lease liability for operating leases, initially measured at the present value of the future lease payments, in its balance sheet. This ASU also requires a lessee to recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term, generally on a straight-line basis. In July 2018, the FASB issued ASU No. 2018-11, Leases (Topic 842), Targeted Improvements, which provides an additional transition method that allows entities to recognize a cumulative effect adjustment to the opening balance of retained earnings in the period of adoption. The Company elected this new transition method upon adoption of this ASU at the beginning of the first quarter of fiscal 2019. Consequently, financial information will not be updated, and disclosures required under the new standard will not be provided for dates and periods before the beginning of fiscal 2019.

The Company has completed the evaluation of its lease population and has implemented a third-party software solution to assist with the accounting under the new standard. The new standard provides for a number of optional practical expedients in transition. The Company elected the "package of practical expedients" upon adoption, which permits the Company to not reassess its prior conclusions about lease identification, lease classification and initial direct costs under the new standard. The Company did not elect the "use-of hindsight" practical expedient to determine the lease term or in assessing the likelihood that a lease purchase option will be exercised. The new standard also provides practical expedients for an entity's ongoing accounting. The Company elected the short-term lease recognition exemption for all leases that qualify that allows it not to recognize right-of-use assets or lease liabilities for short-term leases, including not recognizing right-of-use assets or lease liabilities for existing short-term leases in transition. The Company also elected the practical expedient, as a policy election, to not separate lease and non-lease components for all leases except vehicle leases. Based on its lease portfolio at year-end 2018, the Company anticipates recognizing a lease liability of approximately $15,500,000 to $17,500,000 and a related right-of-use asset of approximately $18,500,000 to $20,500,000 on its consolidated balance sheet upon adoption. When determinable, the Company will utilize the rate implicit in the lease as the discount rate to determine the lease liability. However, if this rate is not determinable, the Company will use its incremental borrowing rate as the discount rate, which is the rate the Company would incur to borrow over a similar term the funds needed to purchase the leased asset. The Company does not expect that the adoption of this standard will have a material impact on its results of operations or cash flows.

Financial Instruments - Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments. In June 2016, the FASB issued ASU No. 2016-13, which significantly changes the way entities recognize impairment of many financial assets by requiring immediate recognition of estimated credit losses expected to occur over their remaining lives. This new guidance is effective for the Company in fiscal 2020 with early adoption permitted beginning in fiscal 2019. The Company is currently evaluating the effects that the adoption of this ASU will have on its consolidated financial statements.

Derivatives and Hedging (Topic 815), Targeted Improvements in Accounting for Hedging Activity. In August 2017, the FASB issued ASU No. 2017-12, which provides improvements to current hedge accounting to better portray the economic results of an entity’s risk management activities and to simplify the application of current hedge accounting guidance. The Company will adopt this new guidance on a prospective basis at the beginning of the first quarter of fiscal 2019. The Company does not believe that adoption of this ASU will have a material effect on its consolidated financial statements.

Income Statement - Reporting Comprehensive Income (Topic 220), Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. In February 2018, the FASB issued ASU No. 2018-02, which allows a reclassification from AOCI to retained earnings for stranded tax effects resulting from the 2017 Tax Act. The reclassification is elective and would allow the income tax effects on items that were originally recorded in AOCI to be reclassified from AOCI to retained earnings. This ASU is effective for the Company in fiscal year 2019 and interim periods therein and should be applied either at the beginning of the period of adoption or retrospectively to each period in which the income tax effects of the 2017 Tax Act are recognized. The Company does not believe that adoption of this ASU will have a material effect on its consolidated financial statements.

Compensation-Retirement Benefits - Defined Benefit Plans - General (Subtopic 715-20), Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans. In August 2018, the FASB issued ASU 2018-14, which removes, adds and clarifies several disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans. This new guidance is effective on a retrospective basis for the Company beginning in fiscal 2021. Early adoption is permitted. The Company does not believe that the adoption of this ASU will have a material effect on its consolidated financial statements.