March 17, 2016

Top 100 Warranty Providers of 2015:

Most of the major warranty providers have published their annual reports in the past few weeks. By comparing their most recent warranty claims, accrual, and reserve metrics against the same expense figures from a year ago, we can make a series of top 10 lists of the most improved and the most injured warranty providers.

Because no two companies count up their warranty expenses in precisely the same way, we can't really compare their expense rates. However, we definitely can compare every company against itself over time, and then compare the magnitude of the changes.

For multiple years, we've been taking the warranty metrics of the 100 largest U.S.-based companies and looking for the 10 biggest annual changes among them. We look for both the 10 largest increases and the 10 largest decreases, in the belief that the companies with the biggest changes are distinguishing themselves from their peers, in either a good sense or a bad sense.

All the data for this week's analysis comes from the annual reports and the quarterly financial statements of the manufacturers themselves. Most of that data collection has been done in just the past few weeks, because this is the season for the publication of many companies' annual reports.

However, some companies are late, and others are gone. Among the companies that have yet to disclose their warranty expenses for the quarter ended December 31, 2015 are: Cameron International Corp.; Eastman Kodak Co.; Itron Inc.; Medtronic plc; Mettler-Toledo International Inc.; Ply Gem Holdings Inc.; and Tecumseh Products Co. And among the companies that have ceased reporting, because of mergers, acquisitions, bankruptcies, or other reasons are: Broadcom Corp.; CareFusion Corp.; Dresser-Rand Group Inc.; Shea Homes LP; Thoratec Corp.; and TRW Automotive Holdings Corp.

A special mention is in order for FCA US LLC, the new name of the Chrysler Group. The company began reporting its warranty expenses in 2009, but it ceased reporting them late in 2015. We believe it ceased to have a duty to report them when it redeemed some corporate bonds last year.

Of all the companies that failed to report their year-end warranty expenses, FCA US is the one we can say would definitely have made the top 100 list. TRW and Medtronic probably would have, but we'll never know for sure. Ply Gem could have made the tail end of the list, but maybe not.

Top 100 Methodology

To create our top 100 lists, we selected the companies with the largest amount of claims, accruals, and reserves in 2015. Specifically, we selected the 100 U.S.-based companies that paid more than $26 million in claims in 2015; the 100 U.S.-based companies that made more than $26 million in accruals last year; and the 100 companies that had a balance of $36 million or more in their warranty reserve fund at year's end.

Because a company could be above the cut-off for one warranty metric but below it for another, there are actually 120 companies on our top 100 this year. A total of 75 companies made the cut for all three metrics: claims, accruals, and reserves. Another 30 made it onto two of the three top 100 lists. And 15 made it onto just one, primarily the top 100 warranty reserves list.

These are companies such as Ciena Corp.; Meritor Inc.; Owens Corning; V.F. Corp.; and Valspar Corp.; which for one reason or another keep relatively large balances in their warranty reserve funds but don't pay as much in claims or set aside as much in accruals as do their peers. Owens Corning, for instance, ended 2015 with $43 million in warranty reserves but it paid out only $12 million in claims. Valspar had $83 million in reserves but paid out only $7.2 million in claims.

The fourth metric we gathered was a figure for product sales. But rather than create a list for the top 100 warranted product companies, we used the sales figures to turn the claims and accrual totals into percentage rates. In other words, if a company had $30 million in claims and $30 million in accruals, and its product sales total was $1 billion, then both its claims and accrual rates were 3.0%. If a company spent $100 million on claims and had sales of $5 billion, its claims rate was 2.0%. And so on.

We did this for both the 2015 and 2014 warranty metrics. And then we measured the change between them. In this way, rather than comparing all these companies to each other, we compared each to itself over the space of a year's time. If a company's claims rate went from 3.0% to 1.5% during that period, that would be a very good thing. But if it went from 3.0% to 5.0%, that would be a very bad thing.

Good and Bad Lists

The six tables below spotlight the 10 biggest changes within each group. Figures 1 and 3 list the biggest downward changes, which makes them the "good" lists. Figures 2 and 4 measure the 10 biggest upward changes, which makes them the "bad" lists. Figures 5 and 6 measure changes in the top 100's warranty reserve balances, but we're not sure which is "good" and which is "bad."

This year, the bias was definitely on the "bad" side. Out of the top 100 warranty claims payers of 2015, 57 saw their claims rates rise over the past year's time, while 43 saw them fall. Of the top 100 warranty accrual companies of 2015, 55 saw their accrual rates rise while 45 saw them fall. Of the top 100 warranty reserve fund balances of 2015, 52 saw their year-ending balances rise, while 48 saw them fall.

Figure 1 is one of the "good" charts. Any company on this list has distinguished itself by cutting its claims rate by more than its peers in the past year. The largest decline was a 47% claims rate reduction by KB Home. The smallest was a 13% reduction by Harman International.

Figure 1
Top 100 U.S.-based Warranty Providers:
Top Ten Claims Rate Reductions,
Calendar Year 2015 vs. 2014
(claims as a % of product sales)

   Claims   Latest  Rate
  Paid ($m) Claims Year
  Company  in 2015   Rate   Ago 
  KB Home $26 0.9% 1.7%
  Boeing Co. $323 0.5% 0.7%
  KLA-Tencor Corp. $37 1.3% 1.9%
  NVR Inc. $54 1.1% 1.4%
  Navistar International $385 3.9% 4.7%
  EMC Corp. $183 1.4% 1.6%
  Ingersoll-Rand $129 1.1% 1.3%
  Danaher Corp. $124 0.6% 0.7%
  Rockwell Automation $27 0.5% 0.6%
  Harman Int'l Industries $63 0.8% 0.9%

    Source: Warranty Week from SEC data

Navistar distinguished itself by cutting its claims rate from a painful 4.7% level a year ago to a more manageable 3.9% level by the end of 2015. It's also the only company on the Figure 1 list that had a claims rate above 2.0% a year ago, which makes this warranty cost reduction all the more dramatic.

Textron and Paccar initially looked like they'd also made massive cuts to their claims and accruals in 2015. But upon closer inspection, it turned out that they both simply unbundled their limited warranty and extended warranty expenses, or what Textron calls "product maintenance liabilities." So now they're reporting the two separately. Once we revised the year-ago figures to match the new methodology they're using, those massive actually cuts turned into slight increases.

Increasing Claims Rates

But then there were plenty of large increases as well. Figure 2 is a list of the 10 companies that saw the biggest percentage increases in cost. For instance, Toll Brothers, Diebold, and BorgWarner saw their claims rates rise by about a third in the past year. Homebuilders Hovnanian and Beazer Homes saw their claims rates more than double.

However, keep in mind that only Diebold and coffeemaker Keurig Green Mountain were above 2.0% a year ago, and only they plus Sirona Dental Systems, Hovnanian, and Beazer Homes were above 2.0% at the end of 2015. In other words, the degree of pain should be measured not just in the size of the increase, but also in the level of the percentage rate. Going from 2.4% to 3.4% is much more painful than going from 0.5% to 0.7%.

Figure 2
Top 100 U.S.-based Warranty Providers:
Top Ten Claims Rate Increases,
Calendar Year 2015 vs. 2014
(claims as a % of product sales)

   Claims   Latest  Rate
  Paid ($m) Claims Year
  Company  in 2015   Rate   Ago 
  Hovnanian Enterprises $49 2.4% 0.9%
  Beazer Homes $37 3.6% 1.8%
  General Dynamics $120 1.7% 1.1%
  Keurig Green Mountain $30 3.4% 2.4%
  Westinghouse Air Brake $29 0.9% 0.6%
  Harley-Davidson Inc. $97 1.9% 1.4%
  Sirona Dental Systems $26 2.2% 1.6%
  BorgWarner Inc. $55 0.7% 0.5%
  Diebold Inc. $49 4.8% 3.6%
  Toll Brothers Inc. $31 0.8% 0.6%

    Source: Warranty Week from SEC data

Figure 3 is another one of those "good" lists. However, accruals are a bit different from claims, in that a company can choose to raise or cut its accrual rate, while its claims rate is more or less determined by its repair and replacement costs and its sales totals. And a company can choose to cut its accruals for reasons that have little to do with product quality gains or repair cost reductions. It can cut accruals simply to burn off some excess reserves accumulated in years past. Or it can choose to cut accruals simply because earnings need a boost.

One way of telling the difference is looking for confirmation in the other warranty metrics. For instance, a company that makes a massive reduction in its accruals might do so because it also saw a massive reduction in claims. And indeed, five of the companies on the Figure 3 list are also on the Figure 1 list: Harman International, Navistar, Boeing, Ingersoll-Rand, and NVR.

Reducing Warranty Accruals

Reducing warranty accruals is usually a good thing. However, two of the companies on the list below were also part of the top 10 in Figure 2. Although both Diebold and BorgWarner saw their claims rates rise significantly, they nevertheless cut their accrual rates significantly as well. This would seem to be contradictory.

Figure 3
Top 100 U.S.-based Warranty Providers:
Top Ten Accrual Rate Reductions,
Calendar Year 2015 vs. 2014
(accruals as a % of product sales)

   Accruals   Latest  Rate
  Made ($m) Accrual Year
  Company  in 2015   Rate   Ago 
  Harman Int'l Industries $76 0.9% 1.6%
  Diebold Inc. $36 3.5% 5.8%
  BorgWarner Inc. $29 0.4% 0.6%
  General Motors $3,311 2.3% 3.6%
  Navistar International $190 1.9% 2.8%
  Boeing Co. $421 0.6% 0.9%
  Ingersoll-Rand $128 1.1% 1.4%
  NVR Inc. $47 0.9% 1.2%
  IBM Corp. $173 2.3% 2.9%
  Lam Research Corp. $126 1.8% 2.3%

    Source: Warranty Week from SEC data

Figure 4 is the list that nobody wants to be on. These are the 10 companies that saw their accrual rates rise the most, which immediately and directly impacts net income, because those additional funds had to be set aside during 2015, which reduced 2015 earnings. Sometimes, the reductions in earnings per share are so significant that they need to be mentioned in the financial press releases and in the annual reports. But usually, companies depend on investors to not do the math.

In order to get on the list below, a company had to raise its accrual rate by half or more in 2015, compared to 2014. And although 55 of the top 100 companies had to raise their accrual rates in 2015, only these 10 had to raise their rates by half or more. So these are among the 10 most painful of all.

Figure 4
Top 100 U.S.-based Warranty Providers:
Top Ten Accrual Rate Increases,
Calendar Year 2015 vs. 2014
(accruals as a % of product sales)

   Accruals   Latest  Rate
  Made ($m) Accrual Year
  Company  in 2015   Rate   Ago 
  Visteon Corp. $32 1.0% 0.2%
  Valmont Industries $29 1.1% 0.4%
  SunPower Corp. $26 1.8% 0.9%
  NetApp Inc. $38 1.6% 0.9%
  Sirona Dental Systems $28 2.6% 1.6%
  Oshkosh Corp. $48 0.8% 0.5%
  Whirlpool Corp. $560 3.6% 2.2%
  Keurig Green Mountain $34 7.3% 4.6%
  Johnson Controls Inc. $308 1.2% 0.8%
  B/E Aerospace Inc. $66 2.4% 1.6%

    Source: Warranty Week from SEC data

Further confirming the pain, Keurig Green Mountain and Sirona Dental Systems were also on the "bad" list of Figure 2. That means both their claims rate and their accrual rate were up by more than all but the companies above them on the lists. However, B/E Aerospace, Johnson Controls, and Oshkosh Corp., just missed out on making the top 10 of Figure 2. So while their claims rates weren't up by as much as some of their peers, their accrual rates were. And that's the more painful of the two, because changes in accruals immediately and directly impact earnings.

The only company that made the list in Figure 4 that saw its claims rate decline was Whirlpool. The appliance market leader raised its accruals from $322 million in 2014 to $560 million in 2015, even though its claims rate fell slightly from 1.9% to 1.8%.

Good Acquisition Gone Bad?

In its annual report, Whirlpool attributes the rise to "EMEA legacy product warranty costs." It acquired a European clothes dryer maker called Indesit in October 2014. However, some of that company's dryers have a habit of bursting into flames. And so, in September 2015, Whirlpool set aside an additional $274 million to cover costs. "We expect the corrective action affecting these dryers to have future cash expenditures in 2016 of approximately $155 million," the company added. "In addition, we intend to seek indemnity under the terms of the Indesit acquisition agreements."

Whirlpool also made it onto the top 10 list in Figure 5, which measures warranty reserve fund balance increases. That's no surprise -- when you boost accruals by hundreds of millions of dollars, your reserve fund balance is also likely to rise, especially if the claims have not yet begun to pour in.

Others on the top 10 lists of both Figures 4 and 5 include B/E Aerospace and utility pole manufacturer Valmont Industries Inc. But most of the others also saw reserve balance increases. In fact, of the 10 members of the Figure 4 list, only NetApp and Visteon saw their reserve balance fall.

We're not sure whether a warranty reserve balance increase is good or bad, in and of itself. Out of our top 100 companies, 52 saw their reserves increase while 48 saw their reserves decline. So that's almost evenly split.

Increasing Reserves

However, in Figure 5, most of the 10 companies increased their reserves by a third or more. This is unusual, in the sense that 42 of their peers raised their reserves by less than a third, and 48 of their peers reduced their reserves.

At the top of the list, Whirlpool, American Axle, and CalAtlantic Group more than doubled their reserve balances. However, we should mention that CalAtlantic did so only because it was formed in October 2015 through a merger between the homebuilders Standard Pacific Corp. and The Ryland Group. And so, Ryland's $27 million in reserves were added to Standard Pacific's $14 million, and the company name was changed to CalAtlantic.

Next on the list, American Axle also nearly tripled its warranty reserve balance last year, but it didn't provide much of an explanation as to why. "During 2015 and 2014, we also made adjustments to our warranty accrual to reflect revised estimates regarding our projected future warranty obligations," the company said. But that's about all it said.

Figure 5
Top 100 U.S.-based Warranty Providers:
Top Ten Warranty Reserve Increases,
Calendar Year 2015 vs. 2014
(reserves in US dollars)

   Warranty   Warranty  vs.
  Reserve Reserve Year
  Company  12/31/14   12/31/15   Ago 
  CalAtlantic Group Inc. $14 $41 +200%
  American Axle $12 $37 +195%
  Whirlpool Corp. $235 $493 +110%
  Valmont Industries $20 $37 +85%
  Herman Miller Inc. $26 $41 +56%
  General Electric Co. $1,199 $1,723 +44%
  Infinera Corp. $27 $39 +44%
  Tesla Motors Inc. $129 $181 +40%
  B/E Aerospace Inc. $75 $100 +32%
  Middleby Corp. $29 $38 +32%

    Source: Warranty Week from SEC data

As much as we can't say that an increase in warranty reserves is good or bad, neither can we say that a decrease is good or bad either. A company could reduce its warranty reserves simply because its products are more reliable, or warranty work costs less, or claims cost reductions are lagging a bit behind accrual reductions.

However, the 10 companies on the list in Figure 6 are there because the size of their warranty reserve balance reductions are the largest among their peers. And that can't be a good thing, especially when it's not the only list a company is on. Again, Diebold and BorgWarner are reinforcing the contradiction: their claims rates soared, their accruals were cut, and their reserves plummeted. That can't be good.

Figure 6
Top 100 U.S.-based Warranty Providers:
Top Ten Warranty Reserve Decreases,
Calendar Year 2015 vs. 2014
(reserves in US dollars)

   Warranty   Warranty  vs.
  Reserve Reserve Year
  Company  12/31/14   12/31/15   Ago 
  Agilent Technologies $81 $31 -62%
  Diebold Inc. $113 $74 -35%
  Arris International $74 $49 -34%
  SPX Corp. $56 $40 -29%
  Colfax Corp. $51 $37 -27%
  Hovnanian Enterprises $178 $135 -24%
  Joy Global Inc. $67 $52 -22%
  Seagate Technology $282 $223 -21%
  AGCO Corp. $285 $230 -19%
  BorgWarner Inc. $132 $108 -18%

    Source: Warranty Week from SEC data

Another way for a company to make it onto the list in Figure 6 is simply to not react to a rise in claims. For instance, Hovnanian saw its claims cost rise from $18 million in 2014 to $40 million in 2015, and that qualified it for inclusion on the Figure 2 list. But in response it increased its accruals from $30 million to only $33 million. The predictable result was a top 10 decline in its warranty reserves.

The Final Score

BorgWarner and Diebold made it onto three lists each -- the maximum number possible. Eleven companies made it onto two lists apiece. Five companies were on two "bad" lists: B/E Aerospace Inc.; Keurig Green Mountain Inc.; Sirona Dental Systems Inc.; Valmont Industries Inc.; and Whirlpool Corp. In other words, the companies saw that claims were rising quickly so they quickly increased accruals to compensate.

Five companies were on two "good" lists: Boeing Co.; Harman International Industries Inc.; Ingersoll-Rand plc; Navistar International Corp.; and NVR Inc. They saw claims were falling quickly, so they cut accruals too. Congratulations to them all.

There were 15 companies that made just one appearance on a "good" list, while 17 companies made just one appearance on a "bad" list. General Motors, General Electric, IBM, and Johnson Controls were the largest warranty providers among them.

And then finally, there were 75 companies that made no appearances at all on any of the top 10 lists. This means that while their claims and accrual rates and warranty reserves went up or down, they didn't change by enough to make them stand out among their peers. And there's something to be said for that kind of consistency and stoicism.

Among the largest of them are the following 10 companies: Apple Inc.; Caterpillar Inc.; Cisco Systems Inc.; Cummins Inc.; Deere & Co.; Ford Motor Co.; Hewlett-Packard Co.; Honeywell International Inc.; Paccar Inc.; and United Technologies Corp. They and the others that made no lists at all should be congratulated for keeping their warranty metrics so well under control.

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