American Axle & Manufacturing Holdings, Inc.
Q2 2017 Earnings Call Transcript

Published: 28 Jul 2017

[Operator:]

Good morning. My name is Jack, and I’ll be your conference facilitator today. At this time, I’d like to welcome everyone to the American Axle & Manufacturing Second Quarter 2017 Earnings Conference Call. All lines have been placed to mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. [Operator Instructions] As a reminder, today’s call is being recorded. I’d now like to turn the call over to Mr. Jason Parsons, Director of Investor Relations. Please go ahead, Mr. Parsons.

[Jason Parsons:]

Thank you and good morning. I would like to welcome everyone who’s joining us on AAM’s second quarter of 2017 earnings call. Earlier this morning, we released our second quarter of 2017 earnings announcement. You can access this announcement on the Investor Relations page of our website, www.aam.com, and through the PR Newswire services. You can find supplemental slides for this conference call on the Investors page of our website as well. To listen to a replay of this call, you can dial 1-855-859-2056, reservation number 87956025. This replay will be available beginning at 1

[David Dauch:]

Thank you, Jason, and good morning, everyone. Joining me on the call today are Mike Simonte, AAM's President; and Chris May, our Vice President and Chief Financial Officer. To begin my comments today, I'll provide some highlights of our second quarter activity. The first major accomplishment of the second quarter of 2017 was the completion of AAM's acquisition of Metaldyne Performance Group back in April 6. Since then we've been working very hard on integration activities while continuing to focus on flawless and anonymous support of customer program launches and daily operational performance. I'd like to personally thank the 25,000-plus AAM associates across the globe for all their hard work, dedication and determination during this busy and exciting time for AAM. Our second quarter financial results reflect the impact of the MPG acquisition, and as a result, AAM’s sales for the quarter were $1.76 billion, easily a quarterly record and significantly higher compared to the $1.03 billion in the second quarter of 2016. A key element of the MPG acquisition was accelerated customer diversification, and we began to realize this benefit in a meaningful way in the second quarter. Our non-GM sales for the second quarter were over 55% of total sale at $969.7 million. This marks the first quarter in AAM's history that the non-GM sales were over 50% of our total sales. This compared to $333.9 million or 33% of our total sales in the second quarter of 2016. We look forward to continuing this diversification through the launch of our new business backlog over the next couple of years. The second quarter also represented another strong performance for AAM as it relates to profitability. Adjusted EBITDA for the second quarter of 2017 was $325.7 million or 18.5% of sales, both quarterly records for AAM by a wide margin. This compared to adjusted EBITDA of $164.8 million or 16.1% of sales in the second quarter of 2016. Adjusted earnings per share for the second quarter of 2017 was $0.99 as compared to $0.89 in the second quarter of 2016. AAM's profitability in the second quarter of 2017 shows the power of the strong product mix, global operations that are delivering productivity, operational excellence worldwide and attainment of planned cost reduction synergies. I'll provide you more progress in details as we go forward in the presentation on our cost reduction synergies. From a cash flow perspective, AAM generated a $141.6 million of adjusted free cash flow in second quarter and over $200 million during the first half of 2017. As a result of delivering EBITDA performance and free cash flow generation, AAM has reduced its net leverage ratio since closing of MPG acquisition to $3.1 times as of June 30. AAM's operational performance has put us in a great position to meet our objectives in the future. As you can see, our financial results in the second quarter of 2017 demonstrates the favorable impact of AAM’s recent strategic acquisition and our ability to deliver operational excellence, technology leadership, the world-class quality on a larger and more diverse scale. With the acquisition of MPG, we are now running the business under four separate operating segments

[Chris May:]

Okay. Thank you, David, and good morning, everyone. I will cover the financial details of our second quarter of 2017 results with you today. I will also refer to the earnings slide deck as part of my prepared comments. So let's go ahead and start with sales. As David mentioned, sales increased over $732 million on a year-over-year basis primarily as a result of the MPG acquisition. Excluding the impact of MPG, AAM sales also benefited from higher global light truck volumes and new business backlog launches related primarily to product supporting crossover vehicle platforms. Slide 13 shows a walk-down of pro forma second quarter 2016 sales with the second quarter of 2017 sales. As you can see, you need to adjust or MPG exiting the KBI business and eliminate the five stages (00

[Jason Parsons:]

Thank you, Chris and David. We reserve some time to take questions. I would ask that you please limit your questions to no more than two. So at this time, please feel free to proceed with any questions you may have.

[Operator:]

[Operator Instructions] Your first question comes from the line of Rod Lache with Deutsche Bank. Your line is open.

[Rod Lache:]

I’ll try to limit it to two. Just first of all, pretty impressive level of SG&A as a percentage of revenue in the quarter. Could you just give us a sense of how you’re thinking about that going forward?

[Chris May:]

Rod, this is Chris. Good morning. Yes, you saw a 6% level here in the second quarter, obviously a little higher than the first quarter as we blend these two companies together. I would think about that sort of in the mid-6% range for the full year as we level up from the sales in the third and fourth quarters.

[Rod Lache:]

Okay. And then I’d like to ask about how we should be thinking about the EBITDA going forward just in light of some of these production cuts that we’re seeing from General Motors. Three might be somewhat instructive since it’s a quarter of pretty low run rate of K2 production, and then for next year GM is talking about something like a 100,000-unit decline year-over-year for that platform. Any high level thoughts there? Is that somewhat weaker than you’ve been expecting? The number obviously this quarter is quite strong and there is some speculation out there that basically the upside from this quarter is offsetting some modest downside maybe for the back half?

[Chris May:]

Yes, Rod, this is Chris again. First of all, no, nothing different than from what we were expecting. I guess, from a macro level, I would think about it from that perspective. Our full year guide for the year on an EBITDA margin is 17% to 18%. On a year-to-date basis, we’re right to that high end of the range. We continue to be focused on performing as a company in the second half, and we expect to fall in that range and are quite frankly driving towards the higher end of that leverage. We see continued strong performance in the second half of the year. In addition, our synergies continued to grow and take whole through the third and fourth quarter are also key consideration in that factor.

[Rod Lache:]

So Q3, in light of where the production for General Motors is coming in, I presume would be below that range, though?

[Chris May:]

Well, I mean, in terms of -- it will fall within our overall guide, but we do see some lower K2 production in the third and fourth quarter compared to the first half, and as you know, that’s a stronger margin profile product for us but you’ll see a little bit associated to that growth.

[Rod Lache:]

Right. So it could be below -- when you see that’s the range, 17%, 18% that’s the range for the year, but you’re saying that the quarters are also going to fall within that range, some quarters at the lower end and some at the upper end?

[Chris May:]

Yes. I mean, think about range again for full year, first half performed -- we’re focused on the top half of that range. I expect we will fall full year within that range and we will continue to perform going forward.

[Rod Lache:]

Right. Okay. And do you believe that -- I mean, is that expectation for next year, about 100,000-unit decline, that’s in line with expectations and synergies and other factors are sufficient to mitigate that?

[David Dauch:]

Rod, this is David. Absolutely, what GM communicated is in line with what plan had been. Clearly, they got some scheduled downtime because of the transition from the K2XX to T1XX. And the whole supply base, included the AAM, is going to feel a little bit of that impact. But it's not a surprise for us. It’s known and has been planned and contemplated in our numbers.

[Operator:]

Your next question comes from the line of Brian Johnson with Barclays. Your line is open.

[Brian Johnson:]

A couple of housekeeping question than a more strategic question. The housekeeping question is can you remind us on the restructuring, a couple of questions. One, what's the accrual versus cash payouts to-date? Kind of second as you roll that forward, you mentioned a number in the deck. I'm not sure if that's accrual or cash, but just how is the cash payout against those accruals going to work?

[Chris May:]

Yes. In terms of how we think about cash payments for the first half of the year, in terms of all the restructuring payments, we're about $40 million in terms of expense. The cost related to the closing the acquisition and the cash payments are very similar. Same with the restructuring side in terms of guidance going forward, as I mentioned, will be about $45 million to $60 million in the second half of the year, and I would think of those very similar to cash payments and equal to the expense, very similar.

[Brian Johnson:]

Okay. But first half run the cash payments were ahead of expense?

[Chris May:]

Pretty close -- net, net close, very close to expense.

[Brian Johnson:]

Second. We were on the call with Mr. Marchionne yesterday and he talked about a portfolio review and kind of not doing things that suppliers could be doing better. Any hope or possibility that FCA, or perhaps Ford, with the new CEO could return to the age-old issues of outsourcing their in-house operations, or with some of their declines in car production, need to labor busy is that just not something we should be thinking about?

[David Dauch:]

Brian, this is David. You're clearly where you need to look at is their portfolio and identify what's core and what's non-core. At the same time, they've got to assess what their capital needs and uses they’re going to be going forward in the future. Clearly, the supply base is capable on the axle and driveline side. I was supporting that that they made a decision to divest those assets. And as Ford, or FCA, had an interest in divesting that, maybe we have an interest in having discussions with them.

[Brian Johnson:]

Okay. And then final question just kind of thinking of beyond 2018. How are you thinking about GM’s share of the large pickup truck market now and kind of it's been a bit up and down, maybe down in the last few months, and whether that's something they're going to pull out of, whether they’re sort of going stingy on the incentive side just to make sure they have enough inventory? Or just how you're thinking about that?

[Chris May:]

GM's product has gotten a little bit longer than compared to some of its competitors, As Ford came our with some new product, clearly FCA is coming out with some new product as well. Typically, when you get along on the two, it tend to lose a little bit of share. As the same time, the competitors have been aggressive in regards to some of the incentives that they put forward there. GM has been very disciplined on their transaction pricing. But, I expect GM will fight their way and maintain their portion of their market share and there'll be some percentage gains here and there or percentage losses across the three, but that's typically historically has what has happened based on the new models they introduced and based on where the product portfolio stands in this life cycle. Overall, I think that GM will be able to protect and maintain their share going forward.

[Brian Johnson:]

And I guess just final question. Hybrids, any kind of update in terms of signings, backlog, discussions? We heard again from BorgWarner this week that the pace of discussions around the hybrid programs and various flavors maybe are increasing model years 2020-ish. We have certainly point that out when we look at upcoming competition in Tesla. But how are your discussions going?

[David Dauch:]

Well as we communicate to you all before, we’ve got electrification programs built into our backlog. They’ll be launched in starting next year and then ramping up from there. At the same time, in the market advancement, what we are quoting on right now, there are some significant opportunities there and we need deepened discussions on those. So hope we will have some further updates for you in the near future.

[Brian Johnson:]

Okay, thanks.

[Operator:]

Your next question comes from the line of Joseph Spak with RBC Capital Markets. Your line is open.

[Joseph Spak:]

Thanks. Good morning, everyone.

[David Dauch:]

Good morning, Joe.

[Joseph Spak:]

Just – well, first of all, I appreciate the bridges on sales and EBITDA. I guess I just wanted to get a little bit more familiar with how you are doing these a little bit. So in the 65 – in the sales log, 65, plus from backlog volume mix, other, I mean it would actually seem like a good chunk of that is backlog, because I know it was still a strong K2 quarter but it wasn’t that many units year-over-year, and then conversely, G charity which was down pretty massively. So is that, a, an accurate assessment? And related, is that a net number, so you’re putting the roll-offs in that bucket as well?

[Chris May:]

Joe, you’re thinking about it perfectly. Yes, it’s in that number. So you had some net of attrition. And as you mentioned, Q2 of last year to Q2 of this year, K2 is up very slightly and we do have a decline on the charity program. So if you think about this, almost is of a net backlog piece for the second quarter of 2017. You get this – and this is on the core but some of the key pieces that you mentioned. Or also, as you know, the backlog driving a lot of this, the new D2 platform for General Motors, which is key and has been a significant launch activity and of course in the second quarter.

[Joseph Spak:]

Okay, that’s helpful. And I guess related, I heard you talk a little bit about no change form -- on the K2 from what sort of GM said just it was expected, but can you – are going to sort of give exactly or around about to the units embedded in full year forecast for 2017?

[David Dauch:]

Joe, this is David. I mean, we have got roughly 1.267 units built into our forecast going forward, especially the full year, which is slightly under where the GMM schedules are and the HIS. We feel very comfortable…

[Joseph Spak:]

Okay, that’s helpful. And then one last one. This one is, I guess, sort of housekeeping. But if I go back to the bridges, it’s like MPG acquisition synergies plus 6%, which I know this is simple math. But if you just annualize it, that’s 24%. So how does -- and then I think you said the annualize rate is higher 38%. So what’s discrepancy there?

[Chris May:]

Yes. So, Joe, think about it this way. As we closed just at the beginning of the second quarter, and it continued to grow through the quarter, the synergies realized, they’re exiting through the higher pace when you started. While 6% was that’s when dollar blend for the quarter, you have an exit, means that’s higher. So you’re continuing to see that build as we go forward.

[Joseph Spak:]

Perfect. Thanks a lot.

[David Dauch:]

Okay, Joe. Thanks.

[Operator:]

Your next question comes from the line of Emmanuel Rosner with Guggenheim. Your line is open.

[Emmanuel Rosner:]

Hi, good morning, everybody.

[David Dauch:]

Good morning. Emmanuel. How are you?

[Emmanuel Rosner:]

Good. So first question on the reiterated guidance. In light of the low SAAR assumption, what are some of the offsetting positive factors that sort of prompt you to be confident with the guidance?

[David Dauch:]

Emmanuel, this is David. Clearly, we are looking at the macro assumption, and based on historical sales over the last couple of months, we felt that compelling to bring the US SAAR down to 17 million. But what’s clearly and say in our favorite right now, and I said this for the last couple of quarters, is the mix is very favorable to American Axle. The sweet spot for us is trucks and SUVs and crossover vehicles and luxury passenger cars, and each of those segments continue to again market share going forward, and we expect them to gain market share going forward for quarters to come as well. So that’s really what allows us to maintain our guidance for the year.

[Emmanuel Rosner:]

Okay. And then sort of going back to sort of the initial question about 2018 view, so in light of GM’s comments, we use them to be in this sort of like on same -- onboard for the production decline next year maybe double digits or so in the light trucks. What are sort of like some of the offsets to sort of look for in 2018? Obviously, large synergies from the MPG acquisition, some backlog, and anything else to in terms of big bucket to think about?

[David Dauch:]

Yes. The only other thing was we’re seeing an upswing in regards to some of the industrial and commercial markets as well, so -- but you hit the key points in regards the backlog in new business. As we had a strong backlog over the next three years, obviously launching 500 million this year, 450 million next year and 550 million year up for that. But you hit the main items. The one thing I guess that I’d add would be the upstream in some of the industrial and commercial market for us.

[Operator:]

Your next question comes from the line of Ryan Brinkman, JPMorgan. Your line is open.

[Ryan Brinkman:]

Obviously, you’re doing a really good job on margin. So I would have not been surprised to see you perhaps maintain to EBITDA while cutting sales and increasing margin outlook today. So I guess I’m just a little bit surprised, though, that you’re lower the SAAR outlook but not the revenue outlook. Can you talk about what’s contributing to your ability to maintain the revenue guide? Is it that the GM has said that the lower SAARs led by pass cars and daily rental in your under index there, and then I know you’re reiterating the guide. But would you say that, if you had to say if risk puts the upside or downside, that maybe risk on revenue is to the downside in the back half, but risk to margin is on the upside?

[David Dauch:]

Ryan, quite the opposite. I mean, I just answered earlier. I mean, we lowered the SAAR because of the macro conditions. At the same time, we’re benefiting significantly from the mix. North American full-size truck and SUV continue to show gains quarter to quarter and continue to show that going forward here. You’re seeing a big swing in demand to crossover vehicles from mid-size and small passenger cars, which are down. At the same time, our global light vehicle business continues to grow. Our commercial vehicle, as I just mentioned, the industrial commercial is growing. And then we’re going feeling a little bit of the impact on the passenger car coming down through some of the MPG assets that we took over. But the net of everything is up for us, and therefore, with lower SAAR, we can still hold our guidance-ing forecast for the year. So we feel very confident about where we are.

[Ryan Brinkman:]

And then just finally sort of sticking with margin, it looks like the first half was kind of 18% and the full year 17% to 18%. It looks like maybe the implication is more like 17% margin in the back half, and I know that K2XX is kind of inordinately profitable and soft during the back half, but I now you got less exposure there now with MPG. So I guess I was just trying to understand, again, sort of if the lower K2 -- is that sufficient enough to drive the margin difference? Or is there some other factor contributing to it, you called that metals, but -- or again, if the margin guide, if there's any conservatism there, because the synergy just continue to come on a little bit more each quarter?

[Chris May:]

Ryan, this is Chris. I'll reiterate our guidance is 17% to 18%, and again, driving towards the higher end of that range. Some elements to think about in the second half, obviously, you mentioned the K2 piece, which does obviously work on our margin a little bit. But as we're getting ready to launch some of these new significant platforms next year, especially on the full-size truck for both FCA and K2, we'll experience some higher project-type related expenses in the second half. Metal market continuing to work up in the second quarter of this year, which generally has a little bit of a following quarter trail to it, so you put a little bit of pressure on our margins associated with that. The level of some of our stock comp that started in the kind of mid second quarter through our acquired entity, and that picks up a little bit in terms of just a run rate perspective. But some of that is all being offset by our continued and demonstrated improvements and implementations of our synergy achievements. So we're pretty excited to offset a lot of that through that process. And obviously we work through the FX side as well. The peso has been strengthening a little bit against us. So we have a little bit margin roll on that but not whole a lot. But those are some of the things I would think about for the second half.

[Operator:]

Your next question comes from the line of Itay Michaeli with Citi. Your line is open.

[Itay Michaeli:]

Just on Slide 13, just can you talk a little bit about the pricing of $7 million? I think you kind of implied actually a pretty small impact relative to what we see typically from suppliers. Is that kind of sustainable quarterly pricing impact? And do you think, maybe on Slide 14, that you can keep on getting a net benefit of EBITDA from productivity net of pricing?

[Chris May:]

Itay, this is Chris. First, in terms of a pricing perspective, that's a little less than a 0.5%. And you may recall, historically we sit anywhere from 0.5% to 1% is what we would experience. It’s pretty much in line with that. We believe we'll be able to continue to hold that into the foreseeable future. And yes, our productivity initiates throughout the company, in addition to our synergy actions that we're taking, should continue offset pricing. I mean that's one of our main objectives is to continue to grow margin, offset any negative declines whether it'd through pricing or economic inflation. So that is a core of our company in terms of our operational excellence.

[Itay Michaeli:]

That’s helpful, and just a follow-up housekeeping. With the post MPG, can you just remind us of through company's commodity impact, how the [indiscernible] this year just as relative to your contracts and pass-throughs and things like that?

[David Dauch:]

Yes, think about – we both as a combined entity, we've pretty good coverage there. Think about the 85% to 90% of what we would pass through, and you can see a little bit of that element and dynamic on the whats we provided from the sales and between Pages 13 and 14, you can see that impact. But yes, so think about 85% to 90% covered on the commodity side.

[Operator:]

Your next question comes from the line of John Murphy with Bank of America. Your line is open.

[John Murphy:]

Just a first question here. I mean I know it's early days, but as you're talking to customers, I’m just curious what kind of revenue synergies you're digging up here with the MPG acquisition? I mean, we’re focusing on costs a lot here, but just curious what you're hearing out there from your customers as opportunities?

[David Dauch:]

John, this is David. First of all, we’ve met with most of the major customers that we've had already, and first of all, they're very supportive of the transaction that we did the integration. The clear focus that they have right now is just making sure were production, daily production as well as protecting the customer launches going forward. From a pricing and from an opportunity standpoint, there is clearly some cross-selling opportunities because of the relations that MPG had, let’s say the likes of BMW or some other European or Asian customers that maybe American Axle didn’t have. So we see opportunities that way and then clearly we are looking at other opportunities with respect what we can do from a pricing standpoint. But the customers have been very respective to the acquisition. They understand our commitment to support their programs. At the same time, they’re clearly going to look for some sort of benefit as we go forward based on the synergy attainment, and we’re working with each of the customers on a case-by-case basis not only today but going forward in the future.

[John Murphy:]

Okay. And then just a second question. I mean, obviously, you have schedules from GM, you got outlooks from IHS on where the GM truck buying is going to next year. Things can change obviously for the positive and the negative. I am just curious, as you think about the variability in the schedule and the potential risk to the downside, where you kind of see the real material increment and how do you respond to potential declines in the schedule? I mean, the 10,000 units something that you need react to in a big way, or is it 50,000 units, and how do you react, David?

[David Dauch:]

John, as you know, we have been very good about flux in our business both upward when the schedules go up as well bringing them downward. And we have got a discipline in place, the management team in place. At the same time, MPG had a good capability of doing a similar type of things. So we welcome incremental volumes. We will find a way to make that product. Especially with in the capacity that we have today, we are really driving hard of the utilization of that capacity and hopefully trying to free up some capacity to go after new business. But in the even that they go the other way, then we understand what we need to do from an operational standpoint. Clearly, we will adjust our variable costs and our manpower in line with what the market demand would be. Chris, I don’t know if there is anything else you want to add financially.

[Chris May:]

No, just as David said, you look at the variable elements of our business in the ability to accommodate whatever the market -- highly variable in terms of the labor side, highly variable in terms of purchase material components, over 60% of our cost relate to that. So we are prepare to, again, accommodate whatever comes our way.

[John Murphy:]

Okay, it’s helpful. And then just one last housekeeping. D&A running sort of roughly annualized 500 million, is that sound about right?

[Chris May:]

Yes, it’s about right. Correct.

[John Murphy:]

Great. Thank you very much.

[David Dauch:]

Thank, John.

[Operator:]

Your last question comes from the line of [Alrina Hudakowski] with KeyBanc. Your line is open.

[Unidentified Analyst:]

Thank you. Good morning. Actually, all of my questions have been answered. I appreciate the time.

[Chris May:]

Good to hear your voice. Thank you.

[Jason Parsons:]

We thank all of you who are participating on this call and appreciate your interest in AAM. We certainly look forward to talking with you in the future.

[Operator:]

This concludes today’s call. Thank you for your participation. All participants may now disconnect.