Notes to Consolidated Financial Statements

(Unaudited)

NOTE A – Basis of Presentation

The consolidated financial statements include the accounts of Worthington Industries, Inc. and consolidated subsidiaries (collectively, “we,” “our,” “Worthington,” or the “Company”).  Investments in unconsolidated affiliates are accounted for using the equity method.  Significant intercompany accounts and transactions are eliminated.

The Company owns controlling interests in the following three joint ventures: Spartan Steel Coating, LLC (“Spartan”) (52%), TWB Company, L.L.C. (“TWB”) (55%), and Worthington Specialty Processing (“WSP”) (51%).  These joint ventures are consolidated with the equity owned by the other joint venture members shown as noncontrolling interests in our consolidated balance sheets, and their portions of net earnings and other comprehensive income (“OCI”) shown as net earnings or comprehensive income attributable to noncontrolling interests in our consolidated statements of earnings and consolidated statements of comprehensive income, respectively.  

These unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X of the United States Securities and Exchange Commission (“SEC”).  Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements.   In the opinion of management, all adjustments, which are of a normal and recurring nature except those which have been disclosed elsewhere in this Quarterly Report on Form 10-Q, necessary for a fair presentation of the consolidated financial statements for these interim periods, have been included .  Operating results for the three months ended August 31, 2018 are not necessarily indicative of the results that may be expected for the fiscal year ending May 31, 2019 (“fiscal 2019”). For further information, refer to the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the fiscal year ended May 31, 2018 (“fiscal 2018”) of Worthington Industries, Inc. (the “2018 Form 10-K”).

The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes.  Actual results could differ from those estimates.

Recently Adopted Accounting Standards

On June 1, 2018, the Company adopted new accounting guidance that replaces most existing revenue recognition guidance under U.S. GAAP.  See “NOTE B – Revenue Recognition” for further explanation related to this adoption, including newly required disclosures.  

Recently Issued Accounting Standards

In February 2016, new accounting guidance was issued that replaces most existing lease accounting guidance under U.S. GAAP.  Among other changes, the new guidance requires that leased assets and liabilities be recognized on the balance sheet by lessees for those leases classified as operating leases under previous guidance.  The new guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.  Early adoption is permitted, and the change is to be applied using a modified retrospective approach as of the beginning of the earliest period presented.  In July 2018, the FASB issued additional accounting standard updates clarifying certain provisions, as well as providing for a second transition method allowing entities to initially apply the standard at the adoption date and recognize a cumulative-effect adjustment to the opening balance sheet of retained earnings.  We are in the process of evaluating the effect this guidance will have on our consolidated financial position, results of operations and cash flows, and we have not determined the effect of the new guidance on our ongoing financial reporting.

In June 2016, amended accounting guidance was issued related to the measurement of credit losses on financial instruments. The amended guidance changes the impairment model for most financial assets to require measurement and recognition of expected credit losses for financial assets held.  The amended guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years.  We are in the process of evaluating the effect this guidance will have on our consolidated financial position and results of operations; however, we do not expect the new guidance to have a material impact on our ongoing financial reporting.

In August 2017, amended accounting guidance was issued that modifies hedge accounting by making more hedge strategies eligible for hedge accounting, amending presentation and disclosure requirements, and changing how companies assess effectiveness.  The intent is to simplify application of hedge accounting and increase transparency of information about an entity’s risk management

5

activities.  The amended guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.   It is to be applied using a modified retrospective transition approach for cash flow and net investment hedges existing at the date of adoption.  The presentation and disclosure guidance is only required prospectively.   Early adoption is permitted.  We are in the process of evaluating the effect this guidance will have on our consolidated financial position and results of operations, and have not determined the effect on our ongoing financial reporting.

NOTE B – Revenue Recognition

Through the fiscal year ended May 31, 2018, in accordance with the Company’s historical accounting policies for revenue recognition, the Company recognized revenue upon transfer of title and risk of loss, or in the case of toll processing revenue, upon delivery of the goods, provided persuasive evidence of an arrangement existed, pricing was fixed or determinable and collectability was reasonably assured.  We provided, through charges to net sales, for returns and allowances based on experience and current customer activities.  We also provided, through charges to net sales, for customer rebates and sales discounts based on specific agreements and recent and anticipated levels of customer activity.

On June 1, 2018, the Company adopted new accounting guidance that replaces most existing revenue recognition guidance under U.S. GAAP, Accounting Standards Update 2014-09, Revenue from Contracts with Customers (Topic 606) (“Topic 606”).  The new guidance was adopted using the modified retrospective approach as applied to customer contracts that were not complete at the date of adoption, with the cumulative effect recognized in retained earnings.  Comparative financial information for reporting periods beginning prior to June 1, 2018, has not been restated and continues to be reported under the previous accounting guidance.   The cumulative effect adjustment resulted from a change in the pattern of recognition for the Company’s toll processing and oil & gas equipment revenue streams, which previously were accounted for as point in time and now will be accounted for over time.  

The following table outlines the cumulative effect of adopting the new revenue guidance:

Under the new guidance, the Company recognizes revenue upon transfer of control of promised goods or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those goods or services, including any variable consideration.  Under the new revenue guidance, the Company applies the following five step approach:  (1) identify the contract with a customer, (2) identify the performance obligations in the contract, (3) determine the transaction price, (4) allocate the transaction price to the performance obligations in the contract and (5) recognize revenue when a performance obligation is satisfied.

Shipping and handling costs charged to customers are treated as fulfillment activities and are recorded in both net sales and cost of goods sold at the time control is transferred to the customer.  Due to the short term nature of our contracts with customers, we have elected to apply the practical expedients under Topic 606 to: (1) expense as incurred, incremental costs of obtaining a contract and (2) not adjust the consideration for the effects of a significant financing component for contracts with an original expected duration of one year or less.  When the Company satisfies (or partially satisfies) a performance obligation, prior to being able to invoice the customer, we recognize an unbilled receivable when the right to consideration is unconditional and a contract asset when the right to consideration is conditional.  Unbilled receivables and contract assets are included in receivables and prepaid and other current assets, respectively, on the consolidated balance sheets.  Additionally, we do not maintain contract liability balances, as performance obligations are satisfied prior to customer payment for product.  Payments from customers are generally due within 30 to 60 days of invoicing, which generally occurs upon shipment or delivery of the goods.

Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by the Company from a customer, are excluded from revenue.

The Company includes a warranty in connection with certain contracts with customers, which are not considered to be separate performance obligations.  The Company provides its customers with a manufacturer’s warranty and records, at the time of the sale, a corresponding estimated liability for potential warranty costs.

With the exception of the toll processing and oil & gas equipment revenue streams, the Company recognizes revenue at the point in time the performance obligation is satisfied and control of the product is transferred to the customer upon shipment or delivery.  

6

Generally, the Company receives and acknowledges purchase orders from its cus tomer s , which define the quantity, pricing, payment and other applicable terms and conditions.  In some cases, the Company receives a blanket purchase order from its customers, which includes pricing, payment and other terms and conditions, with quantities defined at the time each customer subsequently issues periodic releases against the blanket purchase order.

For the toll processing and oil & gas equipment revenue streams, the Company recognizes revenue over time.  Revenue is primarily measured using the cost-to-cost method, which the Company believes best depicts the transfer of control to the customer.  Under the cost-to-cost method, the extent of progress towards completion is measured based on the ratio of actual costs incurred to the total estimated costs expected upon satisfying the identified performance obligation. Revenues are recorded proportionally as costs are incurred. Under Topic 606, the Company has elected to not disclose the value of unsatisfied performance obligations for contracts with an original expected duration of one year or less.

Certain contracts contain variable consideration, which is not constrained, and primarily include estimated sales returns, customer rebates, and sales discounts which are recorded on an expected value basis.  These estimates are based on historical returns, analysis of credit memo data and other known factors.  The Company accounts for rebates by recording reductions to revenue for rebates in the same period the related revenue is recorded.  The amount of these reductions is based upon the terms agreed to with the customer.  The Company does not exercise significant judgments in determining the timing of satisfaction of performance obligations or the transaction price.  

The following table summarizes net sales disaggregated by product class and timing of revenue recognition for the period presented:

The following tables summarize the impacts of adopting Topic 606 on the Company’s consolidated financial statements as of and for the period ended August 31, 2018 as if the Company continued to follow its accounting policies under the previous revenue recognition guidance.

7

NOTE C – Investments in Unconsolidated Affiliates

Investments in affiliated companies that we do not control, either through majority ownership or otherwise, are accounted for using the equity method.  These include ArtiFlex Manufacturing, LLC (“ArtiFlex”) (50%), Clarkwestern Dietrich Building Systems LLC (“ClarkDietrich”) (25%), Samuel Steel Pickling Company (31.25%), Serviacero Planos, S. de R. L. de C.V. (“Serviacero Worthington”) (50%), Worthington Armstrong Venture (“WAVE”) (50%), and Zhejiang Nisshin Worthington Precision Specialty Steel Co., Ltd. (10%).  

We received distributions from unconsolidated affiliates totaling $19,989,000 during the three months ended August 31, 2018 .  We have received cumulative distributions from WAVE in excess of our investment balance, which resulted in an amount recorded within other liabilities on our consolidated balance sheets of $52,133,000 at August 31, 2018 .  In accordance with the applicable accounting guidance, we reclassified the negative investment balance to the liabilities section of our consolidated balance sheet.  We will continue to record our equity in the net income of WAVE as a debit to the investment account, and if the investment balance becomes positive, it will again be shown as an asset on our consolidated balance sheet.  If it becomes probable that any excess distribution may not be returned (upon joint venture liquidation or otherwise), we will recognize any negative investment balance classified as a liability as income immediately.

We use the “cumulative earnings” approach for determining cash flow presentation of distributions from our unconsolidated joint ventures.  Distributions received are included in our consolidated statements of cash flows as operating activities, unless the cumulative distributions received, less distributions received in prior periods that were determined to be returns of investment, exceed our portion of the cumulative equity in the net earnings of the joint venture, in which case the excess distributions are deemed to be returns of the investment and are classified as investing activities in our consolidated statements of cash flows.

8

The following tables summarize combined financial information for our unconsolidated affiliates as of, and for the periods presented:  

The amounts presented within the discontinued operations captions in the tables above reflect the international operations of our WAVE joint venture, which are being sold as part of a broader transaction between the joint venture partner, Armstrong World Industries, Inc. (“AWI”), and Knauf Group, a family-owned manufacturer of building materials headquartered in Germany.  WAVE’s portion of the total sales proceeds is expected to be approximately $90,000,000.  The transaction is subject to regulatory approvals and other customary closing conditions.  During the current quarter, the parties agreed to extend the date by which certain competition clearance conditions were to be satisfied per the original purchase agreement.  In exchange, Knauf Group irrevocably agreed to fund the purchase price which was received by AWI in two distributions, the first on August 1, 2018, and the balance on September 15, 2018.  Despite the realization of the sales proceeds, there has been no change in the parent-subsidiary relationship and therefore, no change in control.  As a result, WAVE’s balance sheet at August 31, 2018, includes a $70,000,000 receivable within current assets for its portion of the proceeds received by AWI prior to quarter end, with an offsetting current liability for deferred proceeds.  This $70,000,000 was received by WAVE in September 2018 and subsequently distributed to the joint venture partners in equal amounts.     

NOTE D – Impairment of Long-Lived Assets

As a result of changes in the facts and circumstances related to the planned sale of the Company’s cryogenics business in Turkey, Worthington Aritas, the Company lowered its estimate of fair value less cost to sell to $7,000,000 resulting in an impairment charge of $2,381,000 during the three months ended August 31, 2018.  Fair value was determined using observable (Level 2) inputs.

NOTE E – Restructuring and Other Expense (Income), net

We consider restructuring activities to be programs whereby we fundamentally change our operations such as closing and consolidating manufacturing facilities or moving manufacturing of a product to another location.  Restructuring activities may also involve substantial realignment of the management structure of a business unit in response to changing market conditions.

9

A progression of the liabilities associated with our restructuring activities, combined with a reconciliation to the r estructuring and other income, net financial statement caption, in our consolidated statement of earnings is summarized below for the period presented:

Severance and facility exit costs in the table above resulted primarily from activities related to the ongoing consolidation of the Company’s industrial gas operations in Portugal following the acquisition of AMTROL in the prior year.  During the three months ended August 31, 2018, the Company also completed the sale of two oil & gas manufacturing facilities resulting in a net gain of $1,962,000.  The total liability associated with our restructuring activities as of August 31, 2018 is expected to be paid in the next twelve months.

NOTE F – Contingent Liabilities and Commitments

We are defendants in certain legal actions.  In the opinion of management, the outcome of these actions, which is not clearly determinable at the present time, would not significantly affect our consolidated financial position or future results of operations.  We also believe that environmental issues will not have a material effect on our capital expenditures, consolidated financial position or future results of operations.

NOTE G – Guarantees

We do not have guarantees that we believe are reasonably likely to have a material current or future effect on our consolidated financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.  However, as of August 31, 2018 , we were party to an operating lease for an aircraft in which we have guaranteed a residual value at the termination of the lease. The maximum obligation under the terms of this guarantee was approximately $8,118,000 at August 31, 2018 .  Based on current facts and circumstances, we have estimated the likelihood of payment pursuant to this guarantee is not probable and, therefore, no amount has been recognized in our consolidated financial statements.

We also had in place $13,912,000 of outstanding stand-by letters of credit issued to third-party service providers at August 31, 2018.  No amounts were drawn against them at August 31, 2018.

NOTE H – Debt and Receivables Securitization

We maintain a $500,000,000 multi-year revolving credit facility (the “Credit Facility”) with a group of lenders.  On February 16, 2018, the Company amended the terms of the Credit Facility, extending the maturity by three years to February 2023.  Debt issuance costs of $805,000 were incurred as a result of the renewal.  These costs have been deferred and will be amortized over the life of the Credit Facility to interest expense.  Borrowings under the Credit Facility have maturities of up to one year.  We have the option to borrow at rates equal to an applicable margin over the LIBOR, Prime rate or Overnight Bank Funding Rate.  The applicable margin is determined by our credit rating.  There were no borrowings outstanding under the Credit Facility at August 31, 2018 .  As discussed in “ NOTE G – Guarantees,” we provided $13,912,000 in letters of credit for third-party beneficiaries as of August 31, 2018 .  While not drawn against at August 31, 2018 , $12,800,000 of these letters of credit were issued against availability under the Credit Facility, leaving $487,200,000 available at August 31, 2018 .

We also maintain a $50,000,000 revolving trade accounts receivable securitization facility (the “AR Facility”) which matures in January 2019.  Pursuant to the terms of the AR Facility, certain of our subsidiaries sell their accounts receivable without recourse, on a revolving basis, to Worthington Receivables Corporation (“WRC”), a wholly-owned, consolidated, bankruptcy-remote subsidiary.  In turn, WRC may sell without recourse, on a revolving basis, up to $50,000,000 of undivided ownership interests in this pool of accounts receivable to a third-party bank.  We retain an undivided interest in this pool and are subject to risk of loss based on the collectability of the receivables from this retained interest.  Because the amount eligible to be sold excludes receivables more than 90 days past due, receivables offset by an allowance for doubtful accounts due to bankruptcy or other cause, concentrations over certain limits with specific customers and certain reserve amounts, we believe additional risk of loss is minimal.   As of August 31, 2018, no undivided ownership interests in this pool of accounts receivable had been sold.

10