Navistar International Corporation
Q4 2015 Earnings Call Transcript

Published: 17 Dec 2015

[Operator:]

Good day, ladies and gentlemen and welcome to the Navistar’s Fourth Quarter 2015 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder this call is being recorded. I would now like to introduce your host for today's conference Kevin Sadowski, Vice President of Investor Relations. You may begin.

[Kevin Sadowski:]

Good morning, everyone and thank you for joining us for Navistar's fourth quarter 2015 conference call. With me today are Troy Clarke, our President and Chief Executive Officer; and Walter Borst, our Executive Vice President and Chief Financial Officer. Before we begin I'd like to cover a few items. A copy of this morning's press release and the presentation slides that we’ll be using today have been posted on our Investor Relation website for your reference. The non-GAAP financial measures discussed in the call are reconciled to the U.S. GAAP equivalents, as part of the appendix in the slide deck. Finally, today's presentations include some forward-looking statements about our expectations for future performance. Actual results could differ materially from those suggested by our comments made here. For additional information concerning factors that could cause actual results to differ materially from those projected in today's presentation, please refer to our most recent reports on Form 10-K and 10-Q, and our other SEC filings. We would also refer you to the Safe Harbor statement and other cautionary notes disclaimer presented in today's material for more information on the subject. With that, I'll turn the call over to Troy Clarke for his opening remarks.

[Troy Clarke:]

Okay. Hey, thank you, Kevin, and good morning everyone. 2015 is in the books, and it has been a year of continuous and consistent progress, setting the stage for what we expect to be profit and positive free cash flow in 2016. Our 2015 progress included the following

[Walter Borst:]

Thank you, Troy. Good morning everyone. Now let’s turn our attention to the financial results for Q4. Consolidated revenue was $2.5 billion and core chargeouts were 15,800 units. Adjusted EBITDA margin in the fourth quarter of 2015 was 8.4% reflecting $209 million of adjusted EBITDA, increasing $93 million year-over-year driven largely by lower costs, favorable product mix and record commercial parts profits, compared to last year, our loss from continuing operations net of tax improved by $21 million. As shown on Slide 8, the results for the quarter included certain adjustments including an adjustment to pre-existing warranty. Pre-existing warranty adjustments in the quarter can be broken into three pieces. First, a warranty issue related to certain engines surfaced in the quarter. The issue primarily relates to a supplier-provided part, and we believe this issue has been contained. We are working with the supplier to recover costs associated with this warranty item. Second, we determined that we had been misclassifying certain warranty claims. The claims were paid, but not properly classified in all instances between our standard and extended warranty pools. The warranty accrual model process differs between standard and extended warranties. We made the necessary adjustments, which are reflected in the warranty entries. We conducted an internal controls assessment at the end of the quarter, and determined we have a material weakness in this area of our financial reporting process for warranties and are implementing the appropriate remediation actions. Third, we have favorable performance related to Big Bore engines and other warranty-related claims. Taken together, we recorded a net adjustment to pre-existing warranty of $40 million in the quarter. Even with the Q4 adjustments, we only had $4 million of net adjustments to pre-existing warranty for the year, a dramatic improvement over recent years, and a testament to the improved quality of our products. We also had a few one-time charges in the quarter. $54 million of restructuring charges related to cost reduction actions as we drive our breakeven point lower. $50 million of charges related to the impairment of certain intangible and long-lived assets primarily related to our Brazil truck operations and $14 million of charges related to fees and costs associated with the refinancing of the term loan in August. The adjusted EBITDA margin for the quarter was 8.4% achieving the target of more than 8% of the Company laid out three years ago for the fourth quarter of 2015. This margin is up 330 basis points from Q3 and 450 basis points from Q4 of last year. The EBITDA margin growth is evidence that our plans to improve the business are working. Our results in the fourth quarter as well as during the past few years reflect the hard work and dedication of our employees to think differently, eliminate waste, and deliver high quality products to our customers. And this is not the end just another milestone that demonstrates our ability to do what we say we will do. We expect EBITDA to continue to grow in 2016 and we remain committed to take the actions necessary to further improve our results. Now let’s turn to Slide 10 and review the Q4 results for our operating segments. The Truck segment improved $4 million for the quarter despite lower chargeouts. Excluding the impact of pre-existing warranty and one-time charges Truck segment results improved more than $54 million year-over-year and would have been profitable for the quarter. This improvement reflects improved product margins, the impact from our cost reduction actions and increased profitability in the defense business. The Part segment profit grew to $163 million a record quarter increasing 9% compared to a year ago. Results continue to reflect margin improvements and savings from our cost reduction actions. We’ve taken a number of actions to lower the cost structure of our global operations. As a result the segment loss was halved versus last year despite the poor economic conditions in Brazil and [$17] [ph] million of charges in the quarter related to restructuring actions and asset impairments. The Financial Services segment continues to perform well and Q4 profits were flat compared to last year. As you can see on Slide 11, our cost reduction metrics continue to trend favorably. Structural cost continues to track lower declining $140 million year-over-year. In addition to the structural action taken over the last few years, we kicked off a zero-based budgeting initiative last quarter that will take our cost performance to the next level. In combination, gross material and manufacturing saving came in better than expected with material cost savings of 2.2% of manufacturing revenue rather and $44 million of manufacturing cost savings. Warranty expense continued to decline year-over-year. For 2015, warranty expense as a percentage of manufacturing revenue was 3% compared to 3.7% in 2014. Throughout the year, we continue to experience lower warranty costs related to our Big Bore engine products and the quality of our new SCR products continues to track favorably. Turning to Slide 12, let me update you on our used truck business. During Q4, we saw our gross used truck inventory increase. We ended the period with an inventory balance of $390 million up $40 million from the end of Q3. The increase in the quarter is partly driven by higher used truck receipts and the slowing of export markets where we had been finding recent success. Also this quarter the used truck inventory reserve increased $50 million as we mark-to-market our used truck inventory for expected lower sales prices related to longer holding periods. The used truck inventory reserve adjustment has continue to trend lower compared to the first half of 2015 and we’ve recorded a reserve of 28% against these assets. Liquidity as shown on Slide 13 remains strong. We ended the quarter with over $1 billion of manufacturing cash. Adjusted EBITDA more than offset the cash used for capital expenditures, interest payments, pension and OPEB contributions and warranty payments. Warranty cash payments continue to exceed warranty expense as both declined year-over-year. And as we discussed in the last call we completed the refinancing of our term loan in August, which added a net $340 million of liquidity to our balance sheet and extended the debt maturity to August 2020. In turn we repaid $91 million against the used truck intercompany loan with NFC. If one excludes the term loan refinancing and intercompany loan repayment we still had positive net cash flow of $60 million in the quarter. Now let’s shift our focus to 2016 and our expectations for the year ahead. As the year progresses we will provide progress towards our annual targets and less quarterly guidance. First let's look at revenues. We believe 2016 revenues will be consistent with 2015 after adjusting for the termination of the Blue Diamond Truck JV and our exit from the foundry operations. Despite a lower Class 8 industry forecast in North America as well as continued economic headwinds in Brazil and other export markets. We project 2016 Class 8 industry volumes to range between 240,000 and 270,000 trucks and have factored lower production volumes into our forecast. We do however see Class 6/7 and bus industry volumes increasing in 2016. We see our overall market share growing next year due to our strong position in Class 6/7 and bus and continuing customer receptivity to our new Class 8 products. We also forecast another strong year in parts revenues notably via increases coming from Fleetrite, our all-makes brand. Taken together, we forecast revenues in 2016 to be $9.5 billion to $10 billion. Near-term we face the softer market with higher stock inventories. We also foresee lower year-over-year revenues from parts Brazil and export. As a result we’re expecting consolidated revenues in Q1 of around $2 billion. Turning to costs we have significantly improved our cost structure and believe these cost savings will continue in 2016. We expect to take more than $200 million of additional costs out of our operations. The majority of the cost savings are expected to come from further actions to reduce material costs and improve manufacturing efficiencies. Additionally, we remain focused on driving structural cost lower. During the fourth quarter we undertook actions to reduce our salaried headcount further that will yield additional savings, once complete. However, we expect these savings will partially offset by strategic investments in the business and higher pension and OPEB related legacy costs. Finally, with efforts related to our SCR engine transition coming to a close we will have less associated engine related product development activities. As a result we foresee lower engineering spend in 2016. As you can see on Slide 16 over the past three years we have increased our annual adjusted EBITDA by roughly $200 million each year. We expect this positive trend to continue in 2016. Similar to 2015 our plan is primarily based on the execution of cost reduction initiatives. However we also expect higher market share and see another strong year in our North America commercial parts business. We expect Q1 2016 adjusted EBITDA to be consistent with Q1 2015 results due to lower revenue year-over-year offset by improved margins. Thereafter improving market share together with a lower cost base should allow us to grow profitably over the balance of 2016 to improve adjusted EBITDA to $600 million to $700 million for the year as a whole. Turning to Slide 17, we expect improved adjusted EBITDA to allow us to generate positive free cash flow for the year based on our current industry projections. Let me elaborate on some of our major uses of manufacturing cash in 2016. We expect pension contributions to exceed expense by $50 million. Capital expenditures are forecast to be $125 million. Manufacturing interest expense and cash taxes are expected to be approximately $240 million and $335 million respectively. Warranty cash payments should exceed warranty expense by $150 million and used truck inventory should remain around current levels. Taken together these cash uses total approximately $600 million in 2016. Quarterly, we expect our manufacturing cash balances to reflect seasonal fluctuations. The business tends to consume cash in our fiscal first quarter due to unfavorable changes in working capital resulting from less production days, as well as seasonally higher cash interest payments. Historically, Q1 [ending] manufacturing cash balances have tended to be approximately $300 million to $400 million lower than fiscal year end. Directionally, we would expect this to occur again this year. And we would also expect to rebuild our cash balance during the remainder of 2016 and end the year with nearly $1 billion of manufacturing cash. As I reflect back on 2015, we achieved a lot. We achieved approximately $200 million of adjusted EBITDA growth. We increased our core North America truck and parts sales. We delivered over $300 million of savings from cost reduction actions and we remained focused on improving the overall health of our balance sheet ending the year with over $1 billion in manufacturing cash. We continue to make great progress on our journey to create a great America truck company. I'll stop here and return the call back to Troy.

[Troy Clarke:]

Okay. Thanks, Walter. Okay, in 2015 we demonstrated we’re taking the actions that we need to succeed and in 2016 we are going to build on that progress. On the revenue side, we’re set to grow volumes and gain market share. We believe this will be the case for several reasons. First, both our quality metrics and customer responses confirm we are making the best trucks ever. We have made strong inroads with important fleet customers, truck equipment manufacturers and critical leasing and rental customers. For the last six months, our order share has been greater than our market share for Class 6/7 and 8. Simply we are quoting and winning more deals than we were this time last year. We now have the right products to win. Last year, we completed the launch of SCR across our entire truck portfolio. We expanded our bus portfolio with a propane fuel offering, and our plan is to continue this new product cadence into 2016 with the launch of our new premium severe service product. We will roll out our OnCommand Connection over-the-air product in the first half of the New Year and we will introduce more new products in the second half of the year. With regard to the market, we see the market in 2016 lower than 2015. Our planning is based on a Class 6 through 8, including bus, market of between 350,000 and 380,000 units. Specifically to Class 8, we are forecasting a market between 240,000 and 270,000 units. Given the finished inventory condition of the industry, we think our first quarter will be slower as the trucking industry works through the capacity added in 2015. The recent ACT market forecast is basically in line with ours, we expect 2016 to be as good as or better than 2014, which I think most will agree was a good year. On our way to profitability, I also expect to see another strong year from our parts business. We will continue to improve uptime which is differentiating the international brand in the marketplace. We will continue to right size costs, and as Walter noted, our goal is to deliver an additional $200 million in 2016. We expect to achieve net material cost savings again in 2016. And our strategy of open technology integration is enabling us to work even closer with our supplier. And we anticipate the economic headwinds will continue in Brazil and our export markets, but we have taken additional restructuring actions to reduce the impact of these operations on our 2016 results. In closing, for the third straight year, we have made the strong progress in virtually every area of our business. We are building the best products we’ve ever built, and they are winning back customers. It’s going to require some more hard work, but I believe we are well-positioned to deliver on our 2016 business goals and guidance. And I expect given our current assumptions about the market that this will be the year we become profitable and free cash flow positive, setting the stage for an even better future. Let me turn it back over to Kevin, and we will entertain some of your questions.

[Kevin Sadowski:]

Thanks, Troy. That concludes our prepared remarks. Before we go to questions, I would like to let you know that in addition to Troy and Walter also joining us today is Persio Lisboa, our President of Operations and Bill Kozek, our President of Truck and Parts. To be fair, we ask that each of you limit yourself to one question including an optional follow-up. Operator, we are now ready to open the lines for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from the line of Jeff Kauffman with Buckingham Research. Your line is open. Please go ahead.

[Jeffrey Kauffman:]

Thank you very much. Congratulations, guys. I know it's been a tough battling to get the margins to these levels. Walter, could you talk a little bit – you gave us a good idea of the cash dip in 1Q, and then getting better the rest of the year. You mentioned renegotiating your credit line. How much additional liquidity is out there? And are you comfortable if cash comes in at $650 million to $700 million in the first quarter?

[Walter Borst:]

Yes. So historically we’ve said that we need about $500 million to run the business. Our biggest dip is in the first quarter and so we’re in the $600 million to $700 million range coming out of the quarter we’re in great shape, because the biggest drain on our cash actually would then be behind us for the year. We did do the term loan back in August and that's propped up our liquidity balances here and that gives us additional comfort that we have, the cash balances that we need to reinvest in the business and to get us through any downturn that we might face.

[Jeffrey Kauffman:]

Okay. And then one follow-up and I'll let it go. If I heard your commentary correctly on the warranty reserve, were it not for the adjustment for the weakness in the reporting that you identified, were you saying that that balance would have actually been better in terms of your experience on what was there previously? And does this adjustment take into account most of the issues you identified?

[Walter Borst:]

Yes. So the items that I mentioned all included in the pre-existing warranty amount of $40 million for the quarter without the misclassification issue that would've been lower and we would've net-net for the year, had a release of our pre-existing warranty reserves versus the flattish number $4 million that I mentioned.

[Jeffrey Kauffman:]

Okay. And then going forward?

[Walter Borst:]

Going forward it’s like I say every quarter, it’s properly reserved at the end of the quarter. So I'm very proud of the team in terms of the progress we've made on quality improvements and that has allowed us to get our warranty costs as a percentage of revenue down to where they are much closer to industry now versus where they were a couple of years ago as you see in the graphics that we provided to you. So just tremendous progress on quality by the company, warranty spend continues to track down. Expense continues to track down, warranty cash continues to be an excessive expense because both are tracking down, but it’s been a great year on warranty improvements for the Company.

[Jeffrey Kauffman:]

All right, guys. Well, congratulations. I know it's a tough environment out there. Thank you.

[Walter Borst:]

Thanks Jeff.

[Operator:]

Thank you. Our next question comes from the line of David Leiker with Robert W. Baird. Your line is open. Please go ahead.

[David Leiker:]

Hi, good morning everyone.

[Troy Clarke:]

Good morning Dave.

[Walter Borst:]

Good morning.

[David Leiker:]

I wanted to start and talk a little bit on the market share. I don't think I heard you put a target out on where you think your market share can go during the year. And then, secondly, within that, if Troy, you do a great job of kind of talking about where you have incremental wins, or where you are still lagging on wins. If you could just give us an update in terms of the recent order pace, what you’re seeing in terms of your win activity?

[William Kozek:]

Hi, David this is Bill Kozek. On the medium duty side the last – as Troy mentioned in the last six months we’ve had increased order intake and we’ve been over 25% and for Class 8 we’ve been above 16%, which as you know that portends well for retail here in the next couple of months. As Troy, said market share is strategically important to us and we are out in front of customers every day to improve the market share numbers. I don’t know that we give a target for market share, but we anticipate growth in both volume and growth in market share in all segments for 2016. And our dealers are engaged, and the customer conversations are very different today than they were two years ago

[Troy Clarke:]

Hey, David I know what you're referencing, you and I talked about this couple of times. So I’ll just put the same thing that Bill said to you and the color that I usually add medium bus and dealer led sales all gained significant traction, dealer led sales six through eight not just in the Class 6 and 7 categories. Two things feel different to us as we’ve been active in the selling season, as have our competitors have been. One is an uptake or an uptake on those accounts that we sell to directly and part of that is, whereas last year we might have sold somebody 25 units, this year we’re selling that same customer 300 units or 400 units. So we call it share of wallet, so I think what we see – I’m looking to Bill for the right nod here, but look I think what we see is a higher share of wallet on the customer targets that we identified. And then the last thing is and I may be you know Bill I may be premature, but a lot of the math around where we’re at on our Class 8 or our heavy market share can be attributed to a couple of deals, and also the penetration of the 13-liter in the heavy portfolio. And I think there is - I think I believe the numbers that I'm looking at tells us that there's a pickup in interest on our 13-liter engine, in the orders that we’ve been collecting since the July and August timeframe.

[William Kozek:]

That’s right. And in the quoting activity as well.

[David Leiker:]

Great. And then, Walter, just one quick follow-up here on the cash flow. Manufacturing cash flow positive for the year. If you look at non-operating, non-manufacturing items, that $1 billion of cash liquidity you have right now, does that mean that's where you think that number is, a year from now or are there some non-manufacturing things that we need to be aware of?

[Walter Borst:]

No, we expect cash to be at about $1 billion at the end of the year as well, we may take the opportunity to repay back some of the intercompany debt that we have with NFC, but that's more intercompany you know we probably get some dividends from them as well as we do typically year-over-year, but in terms of external maturities, we just don't have much for the next few years. So we’re in great position on our debt stack, the first real maturity there is in 2018 and that's $200 million as one of our converts comes due then. Not a lot on the debt side that we need to attend to in terms of maturities here in the short-term.

[David Leiker:]

What about cash restructuring?

[Walter Borst:]

We’ll see how that goes. We've had some restructuring, charges you saw those in the fourth quarter, we still think that there is more cost that we can take out of the business and if we do that then we’ll have – we’ll take the charges for that if you are referring to the charges that we took in the quarter and the cash related to them you know I think the fourth quarter action that we took here was a charge of $37 million and so that would be a cash outflow over time for us most of that would occur in 2016.

[David Leiker:]

Okay, great. Thank you much.

[Walter Borst:]

That’s kind of all embedded in our overall numbers of where we would plan to end, year end and that's still going to be in that billion dollar range as I see it today.

[David Leiker:]

Okay. Thank you much.

[Operator:]

Thank you. Our next question comes from the line of Brian Sponheimer with Gabelli. Your line is open. Please go ahead.

[Brian Sponheimer:]

Hi, good morning, guys.

[Troy Clarke:]

Good morning.

[Brian Sponheimer:]

Congratulations on hitting the 8% target. Can you hear me?

[Troy Clarke:]

Yes, we can Brian, go ahead.

[Brian Sponheimer:]

Just as far as thinking about the 60,000 used truck population on the EGR side, if you are 30,000, 32,000 through it right now, Troy, where would you expect to be 12 months from now on that?

[Troy Clarke:]

Yes, somewhere between I mean right now we’re kind of predicting that we may process about half of that 60,000 so about 30,000 of that. We are kind of at the peak of it right now, so I would say a year from now we should be about two-thirds let’s just say more than halfway through it certainly in the neighborhood of two-thirds of the way through it. I think we have discussed previously and we look at this all the time. We think the major impacts of this start to significantly diminished 15 months to 20 months that’s a little bit different I think when we probably referenced you in the past - about 15 months to 20 months or 21 months from today. So we’re getting up on this and we’re getting over it. One of the things that Walter noted is that the adjustments that we make for reserves is less than the second half than in the first half of the year part of that is just the fact that as the trucks get older they just work closer – the values just work closer to where they’ll transact in used market and at some point in time six or seven-year old truck is kind of a six or seven-year old used truck and so even though at the end of that 15 month to 20 month period of time that I referenced to you we may still have inventory in terms of number of trucks that we’re still trying to dispose of. The value of that inventory and the impact that it has on our earnings will be significantly diminished from where it’s at today.

[Brian Sponheimer:]

Understood and just two real quick ones. Any conversation with used truck customers about the impact of reimplementation of bonus depreciation, if that comes back? And then finally, I noticed in the footnotes on the K that you are at least down the line of ending the Wells notice issue with the SEC. Can you comment on that?

[Troy Clarke:]

Bill, you want to talk about the used trucks?

[William Kozek:]

Sure. Yes, in terms of the used truck I mean it’s a benefit to the customers. We haven’t had a whole lot of conversation about that to date, but with the used truck market it could be another advantage for us and we think with the capability that we’ve got, our dealers and us, we expect to have a pretty good year in used truck sales.

[Walter Borst:]

Hey Brian, we just happen to have our General Counsel sitting with us at the table as well so I’ll just push the SEC question over to him.

[Steven Covey:]

Good morning, Brian it’s Steve Covey and I’m Navistar’s General Counsel and unfortunately I can't add anything in response to your question other than what we put in our 10-K. We have reached agreement with the staff of the SEC that will end their investigation and we are fully accrued in the financial statements that you're looking at for the fourth quarter for the amount that we've agreed to pay. And beyond that we’re not making any announcement right now, we will when the agreement is finalized.

[Brian Sponheimer:]

All right. Thank you very much.

[Walter Borst:]

Thanks Brian.

[Operator:]

Thank you. Our next question comes from the line of Ann Duignan with JPMorgan. Your line is open. Please go ahead.

[Ann Duignan:]

Hi, good morning guys. It’s Ann Duignan.

[Troy Clarke:]

Good morning Ann.

[Walter Borst:]

Good morning Ann.

[Ann Duignan:]

Good morning. Again, just a lot of my questions have been answered, so I appreciate that. But you did say also, in the 10-K, that there is some risk to your parts business on the back of the diminishing parts sales from the Blue Diamond and the Ford business. Can you just talk a little bit about that, and when you might expect that to start impacting the parts business?

[William Kozek:]

Well, our parts business, as Troy said and Walter reiterated was we had a record 2015, the Blue Diamond piece of that is a small piece of the total. Revenues for the fourth quarter were flat in the U.S. and down slightly in Canada and Mexico in our export markets, but we think that’s primarily due to the strong U.S. dollar and the energy sector, and some of the government spending, but we're anticipating modest growth in 2016 across all regions and early results are showing that, yes it’s going to be a good year in parts. So while the Blue Diamond parts are projected to be down, we don't think that that’s going to impact the total for 2016.

[Troy Clarke:]

Ann, this is Troy, if I could just add, because I know that you have raised this before. The Blue Diamond parts thing is basically – it sells parts for what were the Ford Power Stroke diesel engines. And I know that you and others we have chatted with there is a point in time when those trucks get into the hands of their second owners that they may not come back to the channel that we’re supporting with the Blue Diamond parts. And so we have been looking at this thing in the last couple of years kind of anticipating that there might be kind of a step function falloff in demand and we really haven't seen that. As a matter of fact, we kind of recalibrated ourselves that eventually this vehicle part just stops demanding parts, but we believe at this point in time it will be a gradual runoff. So we don't anticipate that there is a step function, at least we certainly don't see that in 2016. Okay, so it'll just continue to kind of roll-off and it was a significant population so and it’s still – again, still a good business and the cost structure is very scalable so even at a slightly lower revenue or declining revenue it still represents a profit opportunity for us.

[Ann Duignan:]

Okay. I appreciate the color. And then I was just recently down in Brazil, and nothing to really cheer about down there. Could you just talk a little bit about everything you're doing in Brazil, and how much of a headwind could that be for your total performance in 2016?

[Persio Lisboa:]

Hi Ann, this is Persio Lisboa. Yes, as I indicated in our previous call, we’ve developed a solid plan to rightsize the business in Brazil to really – as a countermeasure off the drastic downturn that we saw in the economy there. We have implemented in 2015 a lot of – kind of several steps that were tough, but they were very effective and that's why I think Walter alluded that we managed to lower the losses in our global business and 59% despite of the drop of the revenue based on the market conditions. We still have another step to take there; we have a plan of further consolidating the footprint. We still have two engine plants in a country, there is one in the south that we are basically – they’re no shutdown and move the production – all the products that we have in the south to the Santo Amaro facility in São Paulo, so that’s taking place now. And other restructuring charges that we have already accrued in the fourth quarter. So we feel good about what we are doing I think actually the fact that economy is in the situation that it is basically forced us to think differently and we believe that Santo Amaro facility will be a high productive facility when we are out of this. So we have good expectations of that if the market bounces back, MWM is prepared to be very successful and deliver good profit to us. From an impact to this fiscal year 2016, we still have this – actually the final restructuring taking place in the first quarter, but in the second half we see the operations in Brazil basically at breakeven.

[Ann Duignan:]

Okay. That's great color. I appreciate it. Good luck to all of you.

[Walter Borst:]

Thank you.

[William Kozek:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Alex Potter with Piper Jaffray. Your line is open. Please go ahead.

[Alexander Potter:]

Hi guys, congratulations.

[Troy Clarke:]

Good morning Alex.

[Alexander Potter:]

I had a question on inventory in the channel of trucks, people talking about how there's an elevated level of stock inventory out there. I'm wondering if you think this is an industry-wide issue that all the brands had approximately equal exposure to or do you think that the inventory headwind is concentrated more for certain brands than for others?

[William Kozek:]

Alex, this is Bill Kozek. The total industry inventory is up. I don’t know the other brands situation, but everybody was producing at very high levels in the third and fourth quarter of this year. So we in some ways predicted that this was going to happen. Our inventory is in pretty decent shape, it’s little bit higher than I'd like it to be, but we’ve got some plans to take that down in the first quarter and just a dealer channel check, they are feeling pretty good about the inventory because it's not aged at all its in pretty good shape and we’ve got plans to lower. So yes that the total industry is high and I think that will impact our competitors in the first quarter, but we are not anticipating it be a major headwind at this point.

[Alexander Potter:]

Okay. Very good and then I had one other question here. Just on the surface of things, it looks like ASP for trucks came down in the quarter. If you take the revenue from the truck business divided by the units, optically it looks like there was a step down sequentially. I'm just wondering if that's a function of mix, more medium duty, or maybe I'm calculating things incorrectly. Just any color you could give there?

[William Kozek:]

Yes, that is a function of mix more buses in the fourth quarter typically and more medium duty as well.

[Alexander Potter:]

Okay. So not necessarily something that persists in the Q1 and Q2. It's a seasonal mix issue?

[William Kozek:]

Correct.

[Alexander Potter:]

Okay.

[Walter Borst:]

Other than as we get into 2016, we do expect medium and bus industry volumes to rise, Class 8 to be somewhat lower and since we participate more fully and medium and bus we should continue to see mix benefits for us in over time which will then also impact the average selling price. So there is seasonal aspects, but as we see the different parts of the – different segments in the truck industry developing we should see some of that continuing.

[Alexander Potter:]

Okay. Good, makes sense. Thanks very much guys.

[William Kozek:]

Thanks.

[Operator:]

Thank you. Our next question comes from the line of Andy Casey with Wells Fargo. Your line is open. Please go ahead.

[Andrew Casey:]

Thanks a lot. Good morning everybody.

[Walter Borst:]

Good morning.

[William Kozek:]

Good morning.

[Troy Clarke:]

Good morning Andy.

[Andrew Casey:]

I'd like to go back to the revenue guidance for flattish, if you exclude the impact of the Blue Diamond JV. I'm kind of trying to reconcile that with the Q1 guidance for a decrease, and then Bill's comments about the order share improvement helping retail in the next couple of months. It kind of seems like you expect share gain to offset industry Class 8 weakness and some potential, continued Brazil declines. First, is that a correct read? And then, second, does your visibility extend beyond Q1?

[William Kozek:]

Okay. Yes, let me I’ll take the first part of that or maybe the second part of it. Yes our visibility is in the second quarter today as we sit here and we've seen some really strong order intake in the month of December. So that’s a positive trend as well I don’t know if you want to address the other one.

[Walter Borst:]

Yes, in the first quarter – the first quarter is a relatively strong comp from a year ago. So we did have strong bus volumes I recall in the first quarter of last year, there was a program that have been run at that time that's not repeating itself this year. So there are some differences year-over-year in the first quarter that factor their way into this estimate that we provided as well, but in particular we don't have the Blue Diamond Truck JV this year that we had for the first half actually of last year.

[Troy Clarke:]

And then Andy this is Troy. Just one other thing I don’t know how significant this is in your calculations or how you are looking at it. But you commented - you just made a brief comment there, said, offsetting Brazil declines. I think what Persio was trying to comment on is we don’t anticipate further declines in Brazil. We think we’re - be able to have that as a…

[Walter Borst:]

Revenues will be lower. Revenues will be lower year-over-year Troy - weakness that we saw in the second half of 2015.

[Andrew Casey:]

Okay. Thanks for that. And then if I could follow up a little bit, there has been some accounting changes for some other industrial companies related to pension and OPEB. Have you guys looked at that? And, if so, is any of that included in the guidance?

[Walter Borst:]

Yes, so we have looked at it here in 2015 and we’ve included that in our guidance for 2016 that's one of the headwinds that I alluded to in my comments. So we'll keep pushing on the structural cost side to get those costs lower but we do have some offsetting amounts in pension and OPEB as we took a look at our mortality assumptions in particular. So that'll be impacting our earnings in 2016 and beyond from a funding perspective I think that still another year or so out, before that has any impact on us.

[Andrew Casey:]

Okay. Thank you very much.

[Troy Clarke:]

Okay. Thank you.

[Operator:]

Thank you. Our next question comes from the line of Nicole DeBlase with Morgan Stanley. Your line is open. Please go ahead.

[Nicole DeBlase:]

Yes, thanks guys. How are you?

[Troy Clarke:]

Hi, Nicole.

[Walter Borst:]

Hi, Nicole.

[Nicole DeBlase:]

So my first question is around used truck inventory. You guys talked about how gross inventory stepped up, and gave some of the reasons for that. I'm just wondering why you have confidence in flattish used truck inventory in 2016, especially since it's possible that export sales will remain weak. So it would be great if you could just walk through that.

[William Kozek:]

Sure, as we said, the used truck inventory is up and we anticipated that there has been some slowdown in export as you mentioned but we are looking at a number of different export opportunities as well. So I don't – I think we’re going to end up, our goal is to grow the export business for this year. We did have a strong year in sales of our MaxxForce 13 and we know and we are anticipating, some receipts this year and we also have our plan to increase our capabilities to sell more of the used vehicles. The retail activity has been stable and we’re gaining some acceptance of our Diamond Renewed program, which I’ve discussed in previous call. And I will say the uptime on our Diamond Renewed program is excellent based on the data we’re seeing from our OnCommand Connection system. So you put all that stuff together, what we expect to get in, what we expect to sell and we think we’re going to be pretty closer flattish on inventory for 2016.

[Nicole DeBlase:]

Okay, got it. That's helpful. Thank you. And then my second question is the only thing on the free cash flow walk that I didn't see is net working capital. If you guys could comment on what you are expecting for working capital inflow or outflow for 2016?

[Walter Borst:]

Yes, it’s not that significant for 2016, but I’ll let you run that through your own model based on your volume assumptions for us and you probably have a good idea where that needs to be. We try to provide some guidance on items that are may be less clear but I think all you guys have models that calculate working capital so – but it shouldn't be a big driver one way or the other in 2016?

[Nicole DeBlase:]

Okay. Thanks Walter.

[Operator:]

Thank you. Our next question comes from the line of Ted Grace with Susquehanna. Your line is open. Please go ahead.

[Ted Grace:]

Thank you. Good morning gentlemen.

[Troy Clarke:]

Good morning.

[Walter Borst:]

Good morning Ted.

[Ted Grace:]

Troy or Walter, I was wondering if you could maybe walk through the $200 million of savings expected next year. I know you've talked about materials, manufacturing at least, I thought you said being the lion's share of that. But is there any way you could bucket kind of materials, manufacturing efficiencies, incremental/structural opportunities, and the opportunities in Brazil, just so we have a little more granular understanding? And then could you also just comment on what the 2016, the carryover of savings into 2016 is, so we know the level of visibility on that?

[Walter Borst:]

Yes, so let me take the latter one first. Our material savings during the course of the year, really, at a high level, were about a quarter each quarter; we continue to track very nicely over the whole year towards that overall goal. So I think you should – therefore you can roll it into 2016 similarly because that was pretty much of a straight line function over the course of the year. Look, we've done a great job on the cost reduction side here over the last few years. We’ve hit or exceeded all of our targets. As we have provided some of that additional color in the past, I don’t really think it's helped us a lot with you guys. So we have an overall cost target, we are very comfortable in our ability to get another $200 million or more costs out of the business this year. The costs are principally on the material side of the business so that will be a big contributor to that, but I gave you some color in our prepared remarks I think in terms of where you should expect that – expected across the board and it will be another big cost reduction year for Navistar in 2016.

[Ted Grace:]

Okay. And I realize that's baked into your EBITDA guidance of $600 million to $700 million, but maybe, Bill, could you talk about the degree to which you plan on using some of those savings kind of strategically to drive sales? I know you talked about better quality and things of that sort, but do you expect that $200 million to be net? Or is part of that going back into the business to help drive market share gains?

[William Kozek:]

Well, we’re going to be very aggressive in the market in 2016 and with the new products, that’s really a discussion between Walter and I how much I get to use for my deal, but with the new products and with the improvements and features that we’re adding, we do like I’ve said before we expect our share to grow and certainly our volumes to grow as well. So I don’t know how much Walter is going to give me, but that is certainly a discussion we’ll have on a pretty regular basis.

[Troy Clarke:]

Well, I think – this is Troy. I mean we've worked really hard over the last two years that really, we don’t share this data with you guys, but the significantly improved the margin on a per unit basis. We really know these numbers and we’re moving in the right direction and I would look at this coming year, we’re going to continue to move in that direction.

[Ted Grace:]

Okay. Then my second question was a follow-up to Nicole's question on the used truck inventory side. I know you commented that export sales had slowed. Could you talk about the domestic success you've had? I think I heard somebody just say retail activity is stable in used trucks. But just help us understand what you are facing into 2016 on the domestic kind of distribution side, versus exporting the used trucks. Any kind of clarity there would be helpful.

[William Kozek:]

Yes, in the market I get a wide range of feelings about 2016. There's some people that are very bullish, there is others that are not as bullish, but I would tell you our situation is a little bit different than most, but the key for us is going to be getting the vehicle in the customers hand and giving them the confidence that that vehicle will perform and that's why I'm bullish about 2016 and it's really all about our Diamond Renewed program and then following and monitoring that vehicle with OnCommand Connection. So we’ve had some success, there is a couple of different things we’re looking at in terms of lease programs, financing and owner operator programs and looking at a number of different ways to grow our throughput and like I said, we expect 2016 to be a stronger year than 2015.

[Troy Clarke:]

I would say also that inside those numbers I mean much, much, much higher percent this past year of MaxxForce engine sales than the previous year. So, to increase our domestic sales year-over-year as Bill has noted through our used channel is significant and the fact that it’s running stable here as we are in that second half of the year, but also the mix of product has really swung to much higher MaxxForce and this is where Diamond Renewed the uptime proposition is really developing their brand, improving into the market is really what has supported the swing in mix away from all brands that we sold towards our MaxxForce 13 product. I think that’s part of what gives us some confidence as well.

[Ted Grace:]

Okay.

[William Kozek:]

The proof for us has been in the repeat customers so some of the bigger customers coming in and re-upping and we’ve had a number of those here in the fourth quarter, so that gives us a lot of confidence heading into 2016.

[Ted Grace:]

All right. Well, I wish you the best of luck, this forward year. Thanks, guys.

[Troy Clarke:]

Thank you, Ted

[Walter Borst:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Adam Uhlman with Cleveland Research. Your line is open. Please go ahead.

[Adam Uhlman:]

Hi guys, good morning.

[Troy Clarke:]

Good morning.

[Walter Borst:]

Good morning.

[Adam Uhlman:]

Actually, just to follow-up on the order trend comments – I might've missed it, but I think that you had mentioned that December was running pretty strong. Were your orders up year-over-year, in addition to the share improvement that you've seen? Or did I hear that wrong?

[William Kozek:]

Well, the numbers that I gave were the last six months where we were at on the medium side over 25% of the market and then on the Class 8 side over 16% of the market. I don't have the year-over-year number in front of me based on 2014 being in the last half or the last quarter of 2014 being a huge order intake for not only us, but the entire industry I would guess for the full-year our order intake is down, probably up in medium, up in bus, but Class 8 down.

[Adam Uhlman:]

Okay, got you. Thanks for the clarification.

[Troy Clarke:]

Yes, in our particular case, though, whenever the percentage of orders runs higher than market share for a period as long as six months and I think it was same thing for our competitor’s right that’s just a good time. Right, there is upward points beyond those numbers.

[Adam Uhlman:]

Right. Okay, got you. And then, Walter, could you maybe just talk through the sensitivity to the EBITDA margin guidance that you provided to the market assumptions that you've given us? If the market turns around, and is better than expected or worse than expected, any kind of framework that you could provide for us on how you’d expect EBITDA to unfold?

[Walter Borst:]

Well, the EBITDA is really a function of our $9.5 billion to $10 billion of revenue guidance so that gives us some idea of the range of volume movements that we could see, like others we see the Class 8 volumes declining, we think there will be 240,000 to 270,000 units in 2016 and medium bus will be up so that the total Class 6 to 8 bus will be 350,000 to 380,000 units and obviously we’ll get our share, within that we expect share to grow not providing any share targets today, but we will also benefit from mix and share for the reasons I decided earlier. So I’m not sure we want to go beyond that today, but the EBITDA guidance we gave is a function of the revenue guidance that we gave earlier.

[Adam Uhlman:]

Okay, thank you.

[Operator:]

Thank you. Our next question comes from the line of Seth Weber with RBC Capital. Your line is open. Please go ahead.

[Seth Weber:]

Hey good morning everybody.

[Troy Clarke:]

Good morning.

[Seth Weber:]

Most of the questions have been asked and answered. But maybe just from an industry perspective

[William Kozek:]

Yes, we have not seen an uptick or really any measurable cancellations this year and really for a pretty long period of time. I know some of our competitors have seen some of that I think that just there was a function of the enormous number of orders that went in late 2014, but again I anticipate December, we all thought November orders I anticipate December to bounce back from that number not to the numbers we saw on late 2014, but based on our order intake - and our order intake has been really pretty good, and it’s all sold customer deals. So I’m pretty optimistic about what we’re seeing in the market right now.

[Troy Clarke:]

I think, just anecdotally - and you guys are more aware of this; as much aware of this as we are that some of the high order intake in the past was from multi-year deals that kind of guarantee carryover pricing and as the industry I think some portions of the heavy industry believe that they created too much capacity, trucking capacity, here in the second half of the year and so they’re pulling back a little bit - make sure that that capacity gets absorbed before they put those orders back in so to speak. So again we’re not seeing it exactly that way because we don’t go to market exactly that way and obviously we still have some gains to just make as a share of wallet so to speak, as a portion of a person’s buy and so I think we’re still benefiting a little bit from that and how that same phenomenon might or might not be impacting – some color on that.

[Seth Weber:]

That's great. Thank you. That's very helpful. Just maybe a quick follow-up for Walter. With the new GM arrangement, the agreement that you signed, will you be absorbing any extra costs in 2016 for that new agreement?

[Walter Borst:]

Well we do have capital expenditures that we’re sharing for that program as well as engineering expense and that will start in 2016 they’re not large amounts for us, but they're embedded in the numbers that I’ve provided for overall CapEx of $125 million next year and the balance would be included in our engineering budget and I provided some color on structural cost for next year as well, which would include those amounts.

[Seth Weber:]

Okay.

[Walter Borst:]

So the short answer is yes, but it's not that significant in the scheme of things.

[Seth Weber:]

And you would expect that to rise I guess in 2017?

[Walter Borst:]

Yes.

[Seth Weber:]

Okay, great. Thank you very much guys.

[Troy Clarke:]

Thank you.

[Operator:]

Thank you. Our next question comes from the line of Kirk Ludtke with CRT. Your line is open. Please go ahead.

[Kirk Ludtke:]

Good morning everyone.

[Troy Clarke:]

Good morning, Kirk.

[Walter Borst:]

Good morning.

[Kirk Ludtke:]

With respect to the used trucks - and you touched on it earlier, and I missed it - why do you think that you only need to deal with 50% of the 60,000 trucks?

[William Kozek:]

That's really been our historical - the number we've historically used or we've experienced not used it.

[Troy Clarke:]

Actually, it’s been a little bit less right, so it’s all how we go to market right, so there's a number of trucks that we sell directly to large fleets or in cooperation with some of our dealers in large fleet. So we kind of know when the truck goes out in its sale mode that it's probably going to come back to us largely because the dealers can handle that volume of truck, okay. But fully half of those trucks are sold through dealers in twos and threes and fours and tens. We I’d say, figure of speech, don't know those customers they go to, they tend to be in their hands for a little bit longer and those are totally processed by the dealers when they come back. Historically, again we can forecast how many we’re going to take back and it’s really a mix of the way we go to market. Historically, I would think we would typically take maybe a third of the total Class 8s that we sell. We are anticipating again in an effort to manage the market and help manage the residual values of these products it would be in our best interest to take it’s going to be higher than the third, we say 50% I think that's a good conservative planning assumption as we get further into this I think the number will – we’ll be able to forecast the number far more accurately but I think 50% would be a very conservative or expansive view of that, at this time.

[Kirk Ludtke:]

Okay. Thanks helpful.

[Walter Borst:]

Just to add to that, I mean we don't have any obligation, per se, to take those units back, that’s our choice. But obviously it helps us sell new trucks. So at 50% as Troy indicated that’s a higher percentage that we would have historically seen but we think that’s more appropriate for this population of trucks.

[Troy Clarke:]

And I think what we’re trying to reflect is that we have a - we believe we have very realistic expectations that we have put into our business plan with regards to size of the market, with regards to revenue growth, with regards to both the time and quantity of processing these used. There is upside opportunities as the market might be bigger, as our efforts might have more success okay, but we think that what we’ve explained - or what’s basically reflected as the basis for the guidance that Walter provided are very realistic assumptions on how we manage our way through these issues.

[Kirk Ludtke:]

Great. And I just - the 50% has been the number now for a while. And it sounds like you are tracking that based on where you are, and what's happening in the marketplace on a real-time basis, and that's still the number.

[Troy Clarke:]

Yes I mean we know every customer who owns these trucks, basically, in any significant quantity. We are in constant contact with them. We are working with them to make sure that we get share of their wallet going forward and so I’d tell you I think we have a pretty good line of sight on most of these and the timing of them.

[Kirk Ludtke:]

Great. And then I just have a couple of follow-ups on the cash requirements for next year. Walter, you mentioned that the fourth-quarter charge for restructuring will - most of it will be a cash item in 2016. Is that the total cash requirement for restructuring next year, is the $54 million?

[Walter Borst:]

It’s on that order.

[Kirk Ludtke:]

Okay. And I know you can't talk about litigation, but is there any potential that there could be a meaningful legal settlement next year?

[Walter Borst:]

You are right we can’t talk about that. And we - probably good that projecting that, either but we've had good success here recently and we’re obviously on top of that as well.

[Kirk Ludtke:]

Okay. And then the intercompany loan, I guess it's now down to about $100 million. Do you need to repay any more NFC debt? Is there anything that's beyond your control there? I know obviously you control NFC, but is there anything with the creditors at NFC that require you to repay more of that debt?

[Walter Borst:]

No, on the way we've done it historically we try to keep as much flexibility for the NFC operations. So, some of the cash that we’ve streamed upstairs has been via loans, as opposed to dividends. Some folks strip that out, and just assume that that would come back in the way of dividends. So, we obviously manage our interactions with NFC within our covenants, both for the parent, and as well as for NFC and our debt arrangements.

[Kirk Ludtke:]

Great. And if there are other intercompany advances between manufacturing and NFC, you don't expect those to change, going forward?

[Walter Borst:]

Nothing substantial there to report we have brought the intercompany loans down as you highlighted and as I indicated earlier, if we get an opportunity over the course of the year we would like to continue to repay some of those probably in conjunction with taking some dividends from NFC based on their strong profitability this past year.

[Kirk Ludtke:]

Fantastic. I appreciate it. Thank you very much.

[Walter Borst:]

You’re welcome.

[Operator:]

Thank you. Our next question comes from the line of Jerry Revich with Goldman Sachs. Your line is open. Please go ahead.

[Jerry Revich:]

Hi, good morning. It sounds like we should be thinking about structurally lower engineering expense, going forward, from your prepared remarks. Can you just give us a little more context relative to the $300 million in engineering expense in 2015? What kind of a runway should we be thinking about, exiting 2016?

[Walter Borst:]

Jerry, as I indicated, we’re not going to dig into each of the elements of cost this year like we’ve done in the past. I think our track records speaks for itself. It will be lower. It will be lower because we’ve completed the SCR conversions and you can take that to the bank.

[Jerry Revich:]

Okay. On the trade-in program, so your gross receivables were up $70 million this past year. And so, to maintain that balance at flat for 2016, I think it implies that the pace of your trade-ins will slow in 2016, unless you've found a major new export market. Can you just flesh out the assumptions there? And are you running at about 2,000 units trade-ins per quarter, on a trailing basis? Is that how we should be thinking about it?

[Walter Borst:]

Should be a little bit less than that, Jerry, but the other side of that is as time goes on the value of the trucks coming in is going to continue to be less and less just because they continue to operate and depreciate in our customers fleet.

[Jerry Revich:]

Sorry, can you just provide a little more context? Because $70 million inventory build, off of the base of $320 million, and now we're entering 2016 with a stronger dollar and weaker truck markets. Are you able to provide any more context around how you can maintain that balance without slowing the trade-ins?

[William Kozek:]

It’s really all about selling the used truck and as I mentioned the key for us is and there will be export markets, there is a number of export markets we are currently investigating, but also it’s the domestic market and getting the trucks, getting the trucks Diamond Renewed, and then getting them into the hands of the customers so they can experience the quality to gain the confidence and then and kind of move forward and buy more of the vehicle. That's our formula for 2016.

[Troy Clarke:]

Yes, I think we have a pretty good line of side on the trades we’re taking for the first half of the year and some of the trades that we’re taking for the balance of the year. So I think Bill’s hit it correctly, it's really a matter of burning the units that we currently have in the inventory. So there is two things we are going to do. One, we are going to continue to increase sales domestically and we have a crew of folks, that's what they do everyday and then just finding more customers more ways to sell them, more relationships that we could create. And then the second thing is as one export market softens, we have some number of others that were in the process of developing, so we’re planning on having some success in finding and developing these markets. Now, this isn’t hope this is a result of people on the ground doing market studies, creating relationships with this type of folks that will distribute these products. Some of these by the way are relationships we’ve had over the years on and off so really, the whole used truck story is we have to sell used trucks this year just like we did this time last year and we’ll go out and find ways to both increase our domestic sales for all mean as well as covenant developed additional export opportunity.

[Walter Borst:]

Jerry, its Walter. This just suggest you take a look both at a gross and a net level we did provide some additional color there in terms of the amount of reserves that we've taken against the used. So as the residual values have come down on some of these trucks and as they get older as Bill alluded to the average value of the truck and the inventory has also declined because as we’ve explained I think in the prior calls when we take the units back from the customer, we put them on our books that where we would expect those residual values to be so the average amount for truck is going to be lower going forward than it’s been previously due to time.

[Jerry Revich:]

All right. Thank you for the color. Happy holidays, everyone.

[Troy Clarke:]

Thanks Jerry.

[Walter Borst:]

Thank you. End of Q&A

[Operator:]

Thank you. Ladies and gentlemen, that is all the time we have for questions for today. I would like to turn the call back over to Troy Clarke for any closing remarks.

[Troy Clarke:]

Okay. Hey, thanks to you all this morning for your interest in Navistar and participating in our year end earnings call. Hey, the good news is 2015 a lot of progress, the better news is in 2016 we are not done yet. Just want to take this opportunity to wish you all a Merry Christmas and happy holiday and we'll see you on the other side of the New Year. Thanks a lot.

[Operator:]

Ladies and gentlemen thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone have a great day.