Q3 2019 Earnings Call
Earnings Conference call I will now turn the call averse to only should Davis senior Vice President of corporate development and Investor Relations. Please go ahead.
Thanks, Carmen good morning, everyone and thanks for joining us for many years third quarter 2019 earnings call presenting today are very Scott near as President and CEO , Jeff Banesto, Senior Vice President and CFO , and Jason hurting Vice president of for them.
Personally or senior management team, including Frank Orsini, President of our feeding Dervishes Karl Esposito President of these systems and John asked My <unk>, Our Chief Technology Officer also have joined US on the call. Following prepared remarks, well open the call for Q1 day, you can find the presentation that accompanies these remarks that IR.
Got a year dot com.
Before we begin I'd like to take this opportunity to remind you that as we conducted coal we will be making forward looking statements to assist you in understanding leers expectations for the future as detailed in our safe Harbor statement almost like too.
Our actual results could differ materially from these forward looking statements due to many factors discussed in our latest Kincaid and other periodic report I also want to remind you that during today's presentation. We will refer to non-GAAP financial metrics. You were directed it looks like in the appendix of our presentation, where the reconciliation of non.
non-GAAP items to the most directly comparable GAAP measures.
The agenda for today's call is on slide three first rate will review highlights for a quarter and provide a disciplined uptick.
Jason will review, our third quarter financial results. Finally, we will offer some concluding remarks. Following the formal presentation, we would be happy to take your questions now I'd like to invite weight to the gap.
Let me jump [laughter], thanks, everyone for joining us today.
This morning, we released our third quarter financial result, a summary of which appears on slide five.
Sales in the quarter were $4.8 billion adjusted operating margin was 7% and he P.S. was $3.54 adjusted operating margins in seating and each systems were 8.2% and 7.6% respectively.
For the last six weeks, our largest customer has been experiencing a labor strike.
The strike has had a significant effect north American auto supply chain.
Excluding layer.
Spiked to get back to the strike and other industry headwinds.
Delivered solid financial results in the quarter [noise].
Well global production was down 3% in the third quarter sales in our seating business business, excluding the impact of foreign exchange increased 3%.
Were six points above market.
And he systems third quarter margins, although lower on a year over year basis came in a bit better than what we are forecasting back in July .
Slide six provide some recent business highlights last month, Carlos Zito seasoned executive with expertise in electronics software development and conductivity join linear as the president of de systems.
Carl is a proven leader with the right skills to further enhance each systems products and performance.
On our second quarter earnings call. We told you we were accelerating our restructuring efforts to respond to the challenging production environment.
Driving efficiencies in all areas of our business is not new to us it's in our DNA.
We are executing our plan for further improvement.
We will provide a detailed update of our progress early next year.
Our second quarter call. We also laid out the framework for a comprehensive plan to improve our performance in these systems and position it for continued profitable growth [noise].
We have.
No most experienced east systems leadership team in our history. In addition to Carl like policy and automotive industry veteran recently joined the systems team, Mike leads our own electrical distribution business and area in which he has deep expertise. They played a pivotal role in driving improvements in.
Profitable growth in the division.
Last month, we welcome Cindy is our new had to be systems in Asia send isn't accomplish executive with extensive knowledge of the Asian automotive market. He is based in Shanghai and it's all the key role in our efforts to enhance growth and profitability in China.
Oh my concern as well other recent addition additions deepened he's already strong management team, we haven't place needs systems and position us well for the future.
In addition to having the right people. We also have the right organizational structure. We've reorganized these systems to ensure a greater visibility into profitability and financial returns by product segment region customer and program.
As I said in our last earnings call, we're committed to expanding in areas with growth and profit potential.
And it actually it low return and noncore product lines.
We continue to pursue opportunities in electronics software services and data that offer incremental sales and margin expansion potential.
I'm also very excited about the potential for increased vertical integration of our wire harness business.
Future of our business and terminal terminals and connectors and other engineered components is very promising.
As we increase our efforts to partner with our always young customers to meet their sourcing each and leverage our own manufacturing capabilities.
On the technology front I'm happy to report the Zibo has been named a finalist 2020 piece.
Prestigious award debt is recognized around the world as the industry benchmark for innovation.
Also Honda I recently agreed to launch vehicles markets in vehicle Commerce platform for Honda Nice key yacht club vehicles in United States and in Europe .
And with new partnerships such as the wall MOCON died that number will only continue to grow.
Finally.
There was awarded the JD power sleep quality award.
Sweeping the luxury vehicle categories for the second consecutive year in placing first into mass market vehicle segments I'm extremely proud of these awards are testament to our continued focused on operational excellence in quality.
But before handing over to Jeff I do want to express my sincere gratitude to him for his 20 years of leaders so.
Lear Corporation is outstanding leadership is wise counsel and most importantly to his friendship I will Miss you, Jeff you all Mitch you.
We should the best in retirement, you absolutely deserve it thanks Joe.
Thanks, Rick.
Thanks for the entire here team, it's been an honor and privilege to serve this clear CFO .
That's what worked for such a great company for most of my professional life.
I am proud and happy to transition the CFO role to Jason a person I have known and respected his whole professional life.
No that is like into retirement I beat the job it very capable hands.
Hi, Jason our next CFO provide a review of our third quarter financial results.
Thanks, Jeff Slide eight shows vehicle production for the third quarter and the quarter Global vehicle production was down approximately 700000 units or 3% from 2018.
There were stopped program for down greater than the market in each of our major regions with Europe down, 7% North America down 6%.
China down 14% from occurrences standpoint, all major currencies continue to weaken against the U.S. dollar in the quarter.
Turning now to slide nine.
For the quarter sales were $4.6 million down 67 million or 1% from last year.
By production declines in all our major markets and the negative impact of foreign exchange, partially offset by new business, excluding the impact of foreign exchange and the acquisition of zero sales were flat, reflecting three points of growth above market for operating earnings were $338 million down 61 million primarily due.
Due to lower production volumes on their platforms.
Core operating margins were 7% in the core.
Third quarter free cash flow was $193 million compared to 107 billion <unk> thousand 18.
Slide turned explains the third quarter year over year variance in sales and adjusted operating margins and see it exactly.
Despite the impact of the strike at our largest customer sales in quarter were $3.7 billion up 1% from the third quarter 2018.
Excluding the impact of foreign exchange sales increased 3%, representing six point growth above market.
The increase in sales was driven by growth from the backlog, partially offset by lower production on their platforms, including the strike related impact on North American sales.
See margins were 8.2% down 40 basis points from last year due to the impact of lower volumes, partially offset by strong operational performance.
Slide 11 provides the first quarter year over year sales and adjusted operating margin walk for our he says.
Sales in the third quarter were $1.1 billion down 8% from the third quarter 2018.
The decrease in sales was driven by volume declines on Lear platforms as well as currency headwinds.
Were partially offset by growth from backlog as well as zibo acquisition.
You systems margins were 7.6% and quarter.
Consistent with the first half of the year margins were impacted by lower volumes and unfavorable platform mix on key their programs.
No performance in the quarter was negatively impacted primarily by continuing effects from commercial agreements. We've reached in the second quarter as well investments to support our backlog elevated labor costs and other economics.
Slide 12 shows our return of capital to shareholders as a percentage of free cash flow since 2015.
Over the last five years, we've returned on average almost 70% of free cash flow in the form of dividends and share buybacks to our investors our capital allocation philosophy has not changed.
After first investing in the business to support our customers expand our product and process capabilities and improve our cost competitiveness second making focused strategic acquisitions that add to our product capabilities and offer sales diversification and third maintaining investment grade credit metrics, we're committed to returning.
So its cash to shareholders.
Slide 13 shows full your eyes checks global vehicle production volumes, our production assumptions for our top platforms and our currency assumptions.
Our adjusted forecast in 2019 global industry production to be down 6% year over year. This represents a reduction of approximately 1.9 billion units or 2% as compared to its July forecast.
We base our production outlook on several sources, including internal estimates customer production schedules and I just forecasts at the midpoint of our updated guidance our volume assumption for our top platforms and North America is down, 12% and Europe down, 9% and in China down more than 20%.
Slide 14 provides our updated financial outlook for 2019.
Primarily as a result of the strike as largest customer we are lowering our full year 2019 financial outlook at the midpoint of our outlook sales are estimated to be $919.25 billion down 9% from 2018, reflecting lower production on their platforms, including from the impact of the strike partially offset.
By the addition of new business.
Excluding the impact of foreign exchange and the acquisition of diesel sales are expected to be down 6% year over year core operating earnings at the midpoint of our 2015 outlook are expected to be $1.25 billion. Our updated free cash flow guidance, primarily reflects our outlook for lower earnings partially offset by lower.
Capital expenditures.
Slide 15 summarizes the changes in sales and earnings from the full year outlook, we provided in July .
Since our July outlook, we have experienced significant loss volume from the strike and other further declines in global vehicle production. These factors combined with the impact of weakening global currencies against the U.S. dollar results in the sales declined versus our prior outlook of approximately 4% operating earnings and margins have been impacted primarily by.
Our production volumes, partially offset by favorable about performance, which includes lower incentive compensation expense.
Segment basis, we now forecast full year seating margins in the mid 7% range down from approximately 8% in the prior outlook, primarily reflecting the impact of the strike.
And these systems are your margin outlook is unchanged at the mid 8% range.
The strike will materially affect our 2019 financial results were taken aggressive steps to mitigate the impact including instituting further reductions in discretionary spending.
Our updated outlook reflects the results of these efforts I will now I'll turn it back over to re for some concluding remarks. Thanks, Jason now turning to slide 17 in summary, we delivered solid financial results in the third quarter, despite the challenging macro environment.
Probably what we've accomplished without question challenges remain well, we have an experienced management team that can successfully navigate the current environment.
I'd be happy to take your questions.
Thank you and at this time, if you do have questions Press Star one on your telephone keypad and your first question comes from a line of Rod Lache with Wolfe Research. Please go ahead.
Good morning, everybody. Thanks for taking my question.
I was hoping first of all you could just clarify that change to your revenue guidance.
Your prior guidance for revenue was 90.8 to 20.3 billion in your now 19 to 19 and a half so I could see that 800 million taken off and it looks like FX is probably a 75 million dollar impact and it looks like you've adjusted some European platforms down about 1% or.
Or 90 million so it's a little over 600 million left.
Could you just give us a little bit more.
Insight into how much of that is the GM strike or the Hyundai strike and.
How does that kind of spread between Q3 Q4.
Sure.
Let me first but sorry, if I just sort of describing the thought process. We went through on providing our updated outlook. Obviously gets the vote has been completed the GM strike prior to.
Issuing our guidance this would have been a little bit different conversation and so given that Jim's our largest customer, particularly in North America, we have kind of a wider range than we ordinarily would at this time in the year.
And so what we've assumed at the top end of the range is that we would lose seven weeks of production to the GM strike and so thats two weeks in the third quarter and five weeks and the fourth quarter and so we're now completing the six weeks of the strike as we sit here today.
Here are the results of the the boat later today and what Weve, what we've assumed at the high end of the ranges. The third one additional week of lost production.
As a result of the time it takes you get ramped up now that's not what Jim has told us that that's simply our assumption that we used to set the top end of the range.
The bottom end of the range, we've assumed three additional weeks of lost production due to the GM strike. So yes, the boat work too.
Not pass today in the negotiations with continue we've protected for three additional downlinks. So at the middle of the range, we've assumed effectively eight and a half weeks of lost production and round Thats about 525 million of lost revenue. The weekly impact of the strike has kind of grown as the strikers content.
New diners more facilities are impacted as Mexico. Eventually became impacted so you know each week of the strike now is $70 million to $75 million of lost revenue. So that's that's the missing piece to your rewalk on on the revenue guidance.
Okay.
So just just to clarify if if the strike.
He is over.
Tonight I.
Thank you you basically lose a month in the quarter.
So maybe $280 million.
Of impact in the quarter, it looks like you're you're assuming quite a bit more than that even aside from the currency and the adjustments.
Missing something there.
Yes, so if that's the Boeing has passed today and GM is able to resume production next week.
That would represent an opportunity even to the high end of our range. We've assumed one additional week of lost production as they ramp production back up at the high end.
Our guidance range.
Okay.
Thanks for clarifying that and then.
Could you just spend a little bit of time talking about the prospects for recovery in that.
That productivity line item in your bridge and E systems.
How how are you expecting that to to look here is over the next couple of quarters. When would you start to expect that to turn and presumably that there's going to be some some benefit over the next year from.
This does 75 million of restructuring savings in vivo.
Becoming neutral to earnings could give give us little bit of color on the prospects there.
Yes, Hey, Rob one idea tenants take a step back here in.
You know thinking through each systems, I mean, I break this down into near term.
Medium term longer term and there's lots going on I mean, one.
In the near term obviously, it was establishing a strong management team and I'll tell you. The team we put into place is without question. The best team we've ever had these systems.
Variance standpoint, and the things that they're focused on the second part of the near to the more near term was putting in place of disciplines, which were focusing on return on invested capital and lot of these things that we're doing are very similar to what if you remember back in 2006, seven I was asked to go into systems and turned that business around it was about.
$1.8 billion and lost money in this back in 13 14, yes.
Go turn seating or improve seating and that was down about 200 basis points did very similar actions and so in the near term we're definitely on track as far as putting a strong management team driving disciplined return on invested investment capital invested capital looking at improving our China operations, we talked about as being an issue for us.
And retired.
An expert at looking at that business and staying focused our plants are running extremely well I mean, one thing that take note that the plants are running extremely well and we're doing a really nice job of launches or medium term term, it's what we've talked about the the transition to more.
Higher margin products, such as Paul electronics, and kind of activity and there is a really good opportunity and we're getting a lot of good traction right now with our customers on this.
Engineered products into agencies within the wire harness business and.
I'd say, one major change there and we've talked about the lack of really being able to.
Hi, good our engineered components on harnesses in the past because of catalogs and other restrictions are customers have a completely different mindset now.
The doors are open we're making very good progress now that will take some time, because there's theres debt design validation requirements that we have to go through testing rich sourcing that type of stuff, but nonetheless, we're getting and making some very good progress there.
The restructuring actions that you alluded to are on track and we're making some very good progress there longer term in the business we've done a nice job of looking at.
The overall product portfolio, we talked about we're going to stay focused on where we can generate really good returns and then obviously exit business that.
No considered to be.
You are making the type returns that.
Target and then the continuation of vertical integration I think the less when is the software and data platform. So I mean, we're really doing a nice job. One think I want to mention is under zibo platform run 33 million vehicles, and where it's up from what was just a short period of time and both of April 25 million in so those things are going to start paying dividends long.
Return, but when I look at where we're at any systems in thinking about the experiences I've had in the two different segments were well ahead of where we were in knee system to prior back in 2007, and then seeding and 13 14 with a strong management team in place.
And I think these these these issues that we're looking at as far as improving.
The overall margin takes some time, they're going to the traction will take will hit at different times too and I would tell you can tell you are in the room and can you kind of go through some of the wage getting that some of the differentiation of our product. So in that medium term a lot of new product launches, particularly around the electrification side.
Really strong portfolio of products and I think something or differentiates Lear is that that those broadband product offerings, we make everything from the outlet to the output of the.
Electronics and the power management.
Become broader systems and as we see further integration of those electronic components and power electronics and greater power density greater opportunity for their customers to have improved vehicles in terms of charging performance, we integrate those things since one the longer term, you'll see a deeper integration of the power electronics.
Thanks, and subsystems, we make today in terms to new business, 40% of the wins this year have been around electrification and connectivity. So we're playing right places curry, where the market's going.
As they take longer term around the software and data services as Ray mentioned connectivity is going to really transform automotive like gas and so many other industries and where there were for the first four point fiveg embedded connection will be there with the first fiveg embedded connection and we'll use that connectivity position helped deliver services and software help enable things.
That does he both services that growth in software Standalone services applications are in fact, we've received during the first our piece for Standalone software from our customers who were seeing interest there from a software perspective, and as we work on that product roadmaps. The portfolio, we're developing that only person for hardware.
But software and the services aspect, so really excited about both the mid term and longer term future for each systems have been the team thats great color need.
I wanted to go through all this because it's important theres a lot different aspects that we're going after hearing from my experience in before Jay said turnover JC Penney into your question in the financials.
I don't think we've ever been into better position. This this business I'm very confident in this business, it's amazing talking to customers and we'd won significant awards recently on some of the things I'm talking about with.
Paul Electronics, and conductivity and there is absolutely right for us to play in this vertical integration and the doors are open. It's an opportunity. We haven't had I think in the past that now is a real opportunity for us to continue to drive profitable business and you systems and with a software that we're developing it really is impressive in every case.
Customer I go and talked to about Zeeble, what we're doing with ekso or rather on that with ours.
Capabilities is really positive and we picked up some really nice contracts and so there's a lot of things, we're doing rod and why I want to go through all this is an explanation I've done this twice before we've never been in this type of position and then looking at the deep product line up the team that we haven't place a disciplined that we're focused on.
So I feel really good about the business and I want Jason to kind of give you an overview of how we see that business playing out over the next several years Synrad, maybe starting with I think part of your question was that not performance than these systems in the third quarter and similar to what we saw in the second quarter. Yeah. There was a margin compression is 285.
Placements in the third quarter year over year that we attributed to net performance and about 125 basis points of assets related to the price and agreements that we reached in the second quarter that have a full year effect, a two things that changed in the third quarter that were little bit different than second quarter first our launch costs and engineering.
Cost.
Were higher in the quarter and so that was about a 90 basis point headwind year over year commodity costs were a little bit higher similar to second quarter that was about 50 basis points and so the the remaining piece of the explanation.
As what what I saw an improvement on in the quarter. So our ability to offset the contractual price reductions that had been previously agreed to improve so our performance on cost reduction programs.
Commercial negotiations.
The plant cost savings all improved in the quarter and so that was less headwind.
Over here looking out and putting some numbers around.
And Carl's comments.
We've said this publicly already sort of see the near the medium term operating margin any systems sort of and thats, 7.5% to 10% range.
So looking out over the next 18 months or so it's likely more and the lower into that range in glut gradually increasing as we see the benefit of several things one the benefit of that vertical integration that rave referred to and too as we mature businesses with some of these new customers, we see opportunities to improve.
Is there and we also see opportunities on our some of our more mature programs that have finally finished the changeover cycle. Once you get through the launch cycle and you're able to deploy your cost reduction programs.
We see some margin benefit from that you can't besides the fact that we digested a massive reduction and production volumes on our core programs in that segment and so our restructuring program is partially designed to take some excess capacity out and improved margin profiles that business.
Overtime and you highlighted the restructuring program that certainly will help us.
In the near term improve margins there and then looking out longer term, we see this mix of business, allowing us to get back to that 10% plus operating margin.
Level and that's that's just a bit further out.
Okay. That's very helpful. I appreciate the detail.
Just to clarify the into in the next couple of quarters, though a lot of these things are.
Kind of longer term and mid term opportunities didn't look pretty attractive but in the next couple of quarters.
In terms of execution should we be focusing on that that 300 basis points or or so year over year bridge starting to compress as you start to get more internal efficiency productivity and restructuring.
Kind of mitigating some of the headwinds you mentioned.
Yes, it's it's a bit early to provide 2020 guidance at this stage and there's lots of moving parts and so we'll get into that in more detail.
In January on our fourth quarter earnings call when when we provide our formal guidance gotcha. Okay. Thank you.
Your next thanks.
Your next question comes from the line of Brian Johnson with Barclays.
Yes, good morning to set the questions one a little bit of housekeeping follow up on your production guidance.
Also recognizing you're not quite ready for 2020 I do you just have a broad sense of how your major customer could ramp up and the potential to catch up on production this quarter versus.
First half and if so in first half is going to be first quarter inventory rebuilds or spread through the year.
Yes, as far as the strike in how they're going to ramp back up obviously, we've been in limited conversations with general motors that I'd prefer to wait till they announce.
What they're going to do in respect to call back in accelerating their launch I mean, you Jason mentioned, how we've kind of looked at into our guidance and that would be a slower ramp up is obviously they come back quicker that thats. Good news for us and we really got into all the details of how they call it back in.
And Mike that volume back at this stage, Okay, and just a related follow up on that and then I'll ask exceeding question.
The issue BS were slated to change over the next year any sense of how the strikes can affect the timing of that changeover.
Okay.
Yes, we're not expecting a meaningful change and that's we've we've heard nothing about a change in the launch.
Plan for the yes, you were expecting that to happen in the second quarter of next year.
Okay second set of questions just really around the seating business and some some investors have been asking.
Given the price negotiations that happen mid summer with a major customer.
Tronics, our customers approaching Leer and frankly, your competitors pushing for price downs and the seating segment.
Either in just in time assembly, which enjoys higher I see or in some of the components or alternatively or is a major competitors still having to walk price up and that's benefiting the industry.
Well, let me, let me start with the productivity in the.
The.
Request from our customers for price Downs I haven't seen a changes both in east systems in seating I know, we made some decisions last quarter and new systems, which have already benefited us in our relationships with our customers in longer term growth. So that was a good decision to make too.
Grow our business longer term and create value for our shareholders in respect to.
How are customers are behaving with price downs with some of the pressures. They have now I will say this that see more of a willingness to look at things differently in respect to be in cost downs with design.
I have had really good conversations with our customers.
Hello can look at the whole some value chain and reduce cost, but nothing on the price downs, it's been more of a collaborative where can we help them. Other alternatives is or things that we can do too.
Really be more efficient as a system supplier and we pride ourselves on its something that we're very good Ed and we have something we work on internally, which is cost technology optimization, which I believe we are the benchmark.
We've been recognized by our customers for that and so I've seen that pickup and which I think is good for us because your share programs are things that we can work with our customers that help offset volume reductions those type of things that we're good at negotiating so I think thats a positive sign force.
And I do think that referring to Europe . Your other point, we have picked up some nice conquest business.
Even this week, we just rewards conquest business that I talked about in in seating area that that takes some time customers do not like resourcing during a product cycle more product life are driven timing. So we're starting to see the next generation awards coming in Thats been very positive for us.
So I hope to continue to see the happening.
Okay. Thank you.
Thanks, Brian .
Your next question is from the line of Emmanuel Rosner with Deutsche Bank.
One moment.
Emmanuel Your line is open.
Hi, good morning.
Good morning.
Good morning, So question couple of questions on E systems.
The the backlog in the revenue will cause a little bit on the the contribution was little bit on the low low side at $21 million and even sort of on the year to date pieces I think we're probably only around that 150 on that 60 million can you maybe.
Talk about what's sort of going on there is it sort of like the impact from the lower global production volume or some.
Business being pushed out so or delayed into into future quarters.
Yes, so our backlog for 2019 has come down we've talked about 1 billion for backlog in total for the company back in January and as we've seen that come down by about 350 million for this year and E systems has four of the brunt of those those reductions.
You look at the composition of their backlog about 60% of this year's backlog. These systems was slated for Asia, which is primarily in China in China's been hit harder than any other market in terms of lower production volumes and so what we've seen this year is really a combination of lower production volumes some programs that have ramp ups.
Slower and Thats impacted both segments.
And some programs that have been delayed and pushed out to next year.
As we look at 20 Twond in our backlog, we use that trend sort of contingent and we do expect.
The backlog for next year to be a bit lower than than this year. As a result, some of those same. So some of the same issues that we experienced this year lower volumes as the is the main contributor to that and if you kind of step back and look at what I just was calling for 2019 2020 production volumes globally.
Back in December when we established our backlog now they've cut their global outlook by 8% this year and 8% an extra they've cut China by 12% this year and 15% next year and that has had a meaningful impact on the backlog for both years.
And in addition to that we've had some programs.
We are delays that you're pushing the next year that will help next year. Unfortunately, we had further program delays out of $2020 into 2021, now that will help us as we look out into that third year of the backlog when we do formally update that.
In January .
Positive side can go as Ray mentioned, we've seen two two positive developments in the third quarter. We've seen the initial benefit of the commercial agreements that we negotiated in the second quarter starting to result in new business wins, you systems side side I'll be it.
Much of that is outside of our through your backlog window, but it's a positive development. Nonetheless, we've seen a really strong.
Build on the call pipeline on electrification connectivity and the amount of business Award there we've talked about a billion to of quote pipeline and electrification and connectivity for this year, that's actually grown to a billion three of which affiliates and sourced and we've continued to win consistent with our targeted share sort of 20.
The 35%.
So that extremely positive in the as Ray mentioned as well, we're starting to see an uptick in it and our conquest awards, we've had over 300 million of cluster Award.
In seating this year that will benefit the longer term growth that segment.
It gives you look at longer term in some of this data services and software aspects that will also decouple from the OEM production rates as well.
Services that are offered broadly to already field vehicles and so that's a get another exciting aspect as we look to two new areas of growth any systems.
Hi, I appreciate it will detail and then yes.
Secondly on the E systems margin so.
You give a lot of helpful color before I think 125 basis points was the impact from the commercial agreements.
In the quarter.
Can you just for that specific piece.
Look to us about how to think about on the go forward basis I understand that it probably goes through at least the end of the year in terms of.
You will be a walk so in the fourth quarter as well does that carried through 2020 or would that be part of the different discussions.
Yes, so the agreements that we reached earlier in the year.
Those are lifetime agreements, so they've they've been implemented in the purchase orders this year and so they will carry on into next year.
We've talked about this before sort of 2% to 3% has been the annual price down range and and the systems business historically and we're at the higher end of the range. This year I'm too early to tell us what next year looks like but yes. There is a carryover effect of that but also you know highlighted that in the third quarter. We've made some progress towards offsetting that.
With our cost reduction programs and we expect that to continue in the fourth quarter and into next year.
Great. Thank you.
Yeah.
Your next question will come from the line of Dan Baby with Credit Suisse.
Hi, good morning.
Good morning, Ponting, Thanks for taking the questions I wanted to ask a.
A couple of questions just on.
Decremental, we're just on margins in general.
At first just wanted to start on the GM Shrike I noticed.
In your slide.
Slide 15, highlighting.
The volume the margin impact from falling FX, that's 22% conversion I believe that that's probably something that's pretty typical I would have expected maybe larger decrementals given in this case the GM strike the production, presumably on your end literally crown to halt.
Thats going to be much worse than something where production is going from flat to.
To down too. So if you could just give some color on.
What the decremental margins have looked like on the GM piece of business and.
Subsequently.
As we potentially are looking at higher production in 2020 would you get typical incremental margins on that business or are they going to be any ramp inefficiencies do you have the capacity to handle that properly.
Yes first in terms of this year.
In similar to what we've described previously our variable margins and seeding, our 15% to 20%, 25% to 3% any systems and GM North America business with some of our most vertically integrated business. So it's going to skew sorted has a higher end of that range as a result of that.
And in addition, as you pointed out given the sudden nature of the losses as volume.
That pushes the caught the our ability to take variable costs out as a little bit more difficult in pushes the number up a bit there also in that and that bar on the chart that we do have FX and.
Thats sort of dilutive to the conversion and as well as volume reductions on other platforms with very end margin. So the way to think about the GM barge additives.
I mentioned sort of in our normal range.
And maybe a little higher on the seating side, just because of the level of vertical integration and in terms of how we made benefit next year from that to the extent that volume comes back on overtime.
Saturday or Sunday production, that's certainly the incremental margin would be slightly less as a result that we would have some training cost, but I'd say generally should be in line with the variable margin profiles of both business segments.
Great. Okay. Thank you and then just a second follow up on a on margins or I guess trying to gauge downside risks as we're looking into 2020, I know you're not providing 2020 guidance.
To the extent that we have maybe continued volatility in.
In China or Europe . Obviously, the question is what may arise related to the CEO to emission rags and how that could flow through to the industry just give us a sense of sort of your.
Typical decremental margins.
Bye.
There, whether it's in Europe , or a China and what options do you have to mitigate any downside pressure in either of those regions.
Yes, I think we've talked about in the past that in general our European margins are in line with our segment averages, maybe I'm seeing a little bit lower little bit less vertical integration.
And in Europe than we have globally.
Any systems, maybe a little bit higher because we are a little more vertically integrated and we had a strong.
Terminals and connectors business.
In Europe .
China, we've talked about the effect of lower volumes on some of our mature programs kind of skewed to the higher end of that range on these systems with a loss the Ford business. Another other mature business, there and what we're doing in response to that because his restructuring our footprint taking capacity out move into lower cost.
The facilities to try and sort of repair the or offset the effects of that.
Selling and then we'll continue to do that as we look into 2020 or we we took our restructuring program for this year up to 200 million increases our savings outlooks about 75 million annually of talks about that in the second quarter call and and 80% of that is expected to benefit US next year, a roughly 60 million and so we continue to expect.
With.
Then be pace next year at this stage and just a little bit.
More to what we can do and we were taken a very proactive approach to this and and you did.
Mentioned, a few different issues that could happen next year in some respects, we're assuming they can happen in were taken those steps to make sure we're countering.
Driving efficiency, what's great about having.
The two divisions both between seeding any systems for example, we're looking at in our consolidating in their manufacturing plants, where we can drive efficiencies between the two divisions were looking at all of our logistics lanes and where we can continue to consolidate in the event that volume gets reduced we're in negotiations right now with our custom.
There is a lever that we have obviously called productivity that we started negotiating in the event that the customers are hitting their contractual volumes and then we negotiate through our productivity the synergies that we have between the two divisions and be overlooked either we're looking at how we can share resources globally within the region.
And then down to a platform and so Thats program management sales engineering, we have a great opportunity for us to continue to drive.
On our cost and so you know in some respects handling uniqueness of this is the two divisions help us in in light of any type of reductions and so we're preparing for that right. Now we have continuous meetings. We've put together a team has dedicated to this we're looking at every line item was in our cost Jason talked.
About discretional spending, we're obviously getting at that aggressively but more mid to longer term, we have some really unique opportunities to drive between the two business divisions and we're taking advantage of that so there's a lot of different levers. We're pulling obviously were very sensitive to any changes within.
Volume and we're we're acting and reacting quickly.
Great. Thank you that's very helpful. Appreciate it.
Your next question comes from the line of I'm going to Us think of a vicious with Morgan Stanley .
Great. Thank you for taking the question.
Just just thinking a bit ahead here.
You know it seems like the conversation around electrification is picking up and Im just wondering if that creates an opportunity for you too.
You know accelerate the the.
Product portfolio transition.
Away from from wire harnesses, maybe more towards terminals and connectors as you talked about.
That'd be helpful.
I think the electrification.
She is very complimentary actually between the wiring.
Terminals connectors high voltage wiring FX that connect into our onboard Chargers and are charging systems is very complimentary. So when we look at those business opportunities going forward, we look at that very holistically at what what content per vehicle can we really capture across the broader portfolio. So I think it's it's very commentary.
In terms of the timeframe to our vince's.
This is more in the medium to long term. These programs are typically awarded between two and a half than three and a half years in advance of production and so we've had a lot of success this year and winning business in that side and we would expect the margin profile of the systems overall to improve as that ramps up but it's that's out there a little but it's not productive meetings.
Will impact that certainly next year, maybe a little less so ER or little more so in in 2021 would begin to watch some of that but Carl just walked in this morning and gave US a better news and we just want a nice but a business on the.
The electronic side power electronics side that has some very nice returns and so but to Jason's point, a little bit outside the window, but nonetheless.
Actually Collin I had been out meeting with all the customers and we've had some really good conversations and Thats why when I say I'm confident there theres a night fit for layer and we have and we are a niche.
In some respects supplier that we're not the mega tier with a black box design and they love our ability to be very flexible and agile when we come in with our design capabilities and so that's paying off really well and like I said, we've met with the customers has been really positive feedback very.
Confident that what does a nice position within power electronics and kind of activity, but to Jason's point. It does take a little bit more time and were very selective one thing to point out that we'll pull all business around the world. We're very selective with the customers who want to position ourselves with the vehicles, we want to be on because there's a lot of different quotes out there right now.
Electronics, and we're like I said looking at what what best position for us to be with the best customers with the best product and so but it has been.
Overall overwhelmingly positive from our customers perspective, I've had the opportunity to visit number of customers with Rand recruit impressed with the deep customer relationships that Lear has and I think the trust in the company.
Customers currently we are in their future vehicles and want to understand our product portfolio and roadmap and how we we aligned with their going and on the software side, our connectivity and deeper levels of integration into the vehicle. So it's really exciting.
Okay, and then maybe near term you had the commercial agreement there and last quarter that that weighed on E systems margins.
Mentioned that perhaps that would help the backlog in 2020 provided some nice color there on the backlog.
With regards to 2020, but.
It sounds like it will be lower than 19, so how do how do we get comfort that the commercial agreement.
Did in fact drive further business.
Yes, good first of all let me clarify that the agreements that we put in place this year with our customers.
Were for potential business that are outside of our backlog window and so it's not a 2020 effect. It was more of a relationship. If you want to think about it and this term near term, there's about continuing that relationship and a positive way to grow the business long term and that's already paid dividends for us we've already.
Established contracts. Unfortunately, like I said were outside the three year window.
But.
There's an element here, though too like Jay Jason mentioned, we're very good at offsetting our productivity, we do get through a lot of different levers, we pull internally there was a time element of how.
We are getting at some of our efficiencies and so it also opened the door on the sharing programs other things that will impact us more near term and help us improve our margin profile in those actions are still in place more work than those out with our customer today, but that that has changed from how we work with our customers, which will impact our margin.
For short term longer term grossing the benefits of cutting those deals are absolutely were the right thing to do.
And those are paying dividends already.
Great appreciate it.
Your next question is from the line of ESI Mccolley with Citi.
Great. Thanks, good morning.
Just had one revenue and in one margin question first going back to second half revenue, hoping you can quantify the GE on strike effective in the third quarter.
And then also what your revenue in the third quarter exit GM strike it looks like relative to your internal expectations.
Also whether some of the pressure you're seeing your guidance ex the GM strike is that some some of it in the third quarter or is that entirely happening in the fourth quarter.
Yeah, so the GM strike impact both the third in the fourth quarter, but so in the third quarter about 95 million revenue in the third quarter and margin impact is in a significant ended the third quarter because.
In the case of some of the component plants on the ecosystem set for example, we we continued to build some inventory and so that that offsets the impact a little bit.
Looking out to the fourth quarter. The impact is much more significant if you look at sort of the second half impact on margins, it's about 100 basis points impact on the seating margins a little more than that and about 50 on any system. So absent the GM strike, we would've been at 8% in the second.
Half of the era, and Cds going into the high Sevens mid Sevens.
He systems.
Got a little bit differently or the 725 million I think you mentioned earlier about 500 and change is GM. So the other kind of 200 million.
Entirely in the fourth quarter or some of that pressure also impact to you in the third quarter relative to your initial internal expectations.
Yeah, that's largely in the fourth quarter, the third quarter actually came at a little bit stronger than we had anticipated. So both of the foreign exchange impact in the volume impact or in the fourth quarter and and we were a bit conservative in our range just given all the certainty around the strike in how meaningful that impact as per week and so.
We do have built in some additional reductions and volume that have yet to be announced customers a factored into that low end of the range.
That's helpful mentioned my last question going back to incremental margins, if I look at that kind of the backlog incremental contribution margin. It has been declining in both segments over the last few quarters.
It's a function of the backlog itself being somewhat smaller and then how should we think about that backlog incremental margin.
Perhaps into 2020 and beyond.
In general we have been rolling on new business in line with our segment overall margins, yes, sometimes in a quarter it couldn't be skewed a bit just because as you.
You have the impact of business Rolling off you know that we've lost in business, that's rolling on and it's in that number and revenue for example in existence is 20 million in the quarter. It's it's not a real meaningful margin walk, but in general the business it's rolling on.
In line with the segment margins that we have.
In both business segments today.
Got it that's not a helpful. Thank you.
Your next question is from the line of Chris Mcnally with Evercore.
Okay.
Hi, guys. Thanks, so much for the question.
One real quick one it's been asked a couple of times I just wanted to diversify so the backlog comments that you're roughly making for for 2020.
That's roughly lower than the 1 billion adjusted number for for this year more or less I know, you're not going to give official guidance, but just I wanted to make sure it's lower than the adjusted number.
That's correct.
Okay.
Great and then.
On on E systems, and you know that's been something where the backlog.
Adjustments have been made can you talk about when we think about the the push I mean, we always have a question of our the volumes sort of lost verse moved.
In in Asia is it really that basically it's disappointing performance of these platforms. So it's not it's quantity last meeting of they havent been pushed to the right into law backlog. This year doesn't go into.
2020, or 2021, it's really more around the volume of those launches are just or just lower.
I'd say generally speaking it's more that then then delays in the case of Asia, but there has been other factors in Asia. There is a a program many systems in China that was lossmaking and we've decided to exit that that's a that program. That's part of what's impacting the backlog for that.
Negative to the 2020 backlog, but will be helpful to the margin profile that business going forward there have been.
A couple of modest programs that had been canceled as well whether it be zero volume and that's that's impacted the number but.
In general that roughly call. It a third of that it's probably just lower volume.
Continuing basis on the.
Business that is watching or has been launched.
Okay, Great and then just on the margin profile and essentially to if we think this sort of this base level is in the mid sevens and it sounds like things are going to be slow going you talked about 10% further out that's that's multi year, but do you mentioned some of the things that you're doing potentially about cost savings program is going to give us more detail.
On.
Some of the discretionary and items.
We can we expect in the sort of in 2020 that we get a movement.
You know you know back even if it's just below 8% range or is that sort of still unrealistic and we should kind of think about the restructuring is is a.
You are to out until we get volume and we're gonna stay in this sort of mid 7% range.
Yes for a lot of reasons I think it's still it's too early to try and guide to an operating margin for.
40 systems for for next year I mean, what we can point to is that we are I think we've stabilized in the second half of this year. We were encouraged by what we saw in the third quarter and what we see in our fourth quarter absent the GM strike sort of in the mid to high Sevens.
But you know you look out to next year and there's a lot of uncertainty on the production environment and I think we would be.
Foolish to try and call the number right now given all that uncertainty and I think we'll have a lot more clarity in January .
In terms of what our customers plans are and maybe even some.
Favorable developments on the macroeconomic side that give us.
More confidence in what the production environment looks like next year also as I mentioned, we do have some elevated engineering spending on that segment because of our success in growing electrification connectivity and I think we we want more business. This year than we had initially anticipated then and so there's a little bit of a headwind.
As a result of that to think about for next year and then just in terms of overall company margins thinking about next year, one factor that so that hasn't come up so far in the dialogue, but at this point you to that guidance the guidance walk that we provided.
In the formal presentation, you'll see that we had pretty significant reduction in discretionary spending and incentive compensation expense. It was about $30 million and half of that in each of those two buckets. Both of those are our headwinds as we think about 2020 margin profile a company.
Sure as well.
And then that's the last technical vivo drain on margins any systems in the second half I I think it was it was something 50 basis points or morbid him. Because obviously you get some of that will annualize that just how much was vivo a drag on E systems margins in the second half.
So for the full year, it's about 40 basis points, so that's a little bit better than what we originally anticipated.
Third quarter, we came in little bit better than anticipated and that's really just the timing of ramping up our hiring on the Austrian side and.
And so we did we did see that that the.
The outlook for Zebula improved slightly for this year from what we have initially anticipated.
Okay, great. Thank you so much.
Your next question will come from the line of Joseph Spak with RBC capital markets.
Okay.
Hey, good morning.
And you may have sort of just touched on part of part of my question, but.
You mentioned on that slide 15, 15 basis points of improvement.
Within the margin.
Guidance revision from from that performance and I think that's something that said incentive comp and.
And pull back and discretionary spending but is is that all of it or because you also talked about some underlying.
Performance improvement I think any system that sort of being masked. So is that also part of the 15 I. Just was wondering if you could break that down little bit further.
I would say half of that is incentive compensation and the other half you could split into two categories. One is performance improvements in the underlying businesses and the other half is sort of temporary measures that we've taken given the extra ordinary impact of the strike with GM another volume reductions.
And that that portion sort of comes back I think next year.
More so than the other that you have a portion of it.
Okay.
The.
One other quick one I mean, Mercedes has had a pretty I think visible a launch issue with one of their their key programs I mean, how how is that impacted your profit performance at all on the CV.
Yes, the machine these launches.
It's been it's a very complex.
It's great launch for us, but yeah, it's definitely hit us on the the.
Cost side.
And so I'm sure.
It's ramped up a little bit slower than what we had originally anticipated longer term that's a fantastic platform for us as Ray mentioned very complicated we have seen played out option of launch costs as a result in the slower ramp up but we're excited about prospects for that program next year once it gets up to full volume.
Okay, and then just last one bigger bigger picture.
On zero and I know you have like one of the customers as the GM marketplace and we saw this quarter they talked about putting in Android automotive into into infotainment struck a deal there what are the implications for zibo there.
Yes, John you want to give us yeah sure. So so there aren't actually any implications. If you. If you look in the press release from GM actually said, they're going to keep their unique services and applications in the platform one of those being equal commerce. So the underlying platform that is the zibo market. So we see it more as complementary services.
As making the ecosystem richer.
Okay. Thank you very much.
Okay.
Your next question is from the line of David Kelley with Jefferies.
Good morning, guys. Thanks for squeezing audience.
Just a quick question on the defeating backlog, which stepped up in the quarter. It's accelerated throughout the year was there anything customer specific or unique that's driving the ramp up this year, just trying to square that off with your comments related to the step down an industry volumes and impact on backlog.
Okay are you referred David so the impact Gonna mixtures backlog, yes, yes.
Yeah, and so in seating.
In fact, it's been a reduction of about 100, 3000 40 million from what we initially expected to begin to year. So more of the reduction in 2019 is really what you systems, but it's the biggest driver of that big a single driver relates to the ramp up.
In volume on Somebody's do programs in North America that we've talked about historically was as the ramp ups kind of slower than anticipated and so.
When it comes back next year, but also keep in mind that we've sort of taken a step back and looked at industry volumes overall, and we're a bit more cautious.
On on volumes globally and.
And in each region, specifically and on the programs in the backlog and so that will kind of offset the sort of carryover benefit of some of those programs that have had a slower ramp up.
Sure.
Okay, Great I appreciate and last one other quick one anything to call out from the systems portfolio review or is that still ongoing.
Yes.
Well, yeah, that's still ongoing right now I will come a well come back or the more detailed plan and the overall.
Product portfolio, but I'll tell you that we have just like I said some great areas, we have right to play in one of those business engineered components in the T's and C's and so the works on going in two weeks, we'll have more into later date.
Okay perfect. Thank you.
Thank you.
And our final question will come from a line of John Murphy with Bank of America Merrill Lynch. John . Please go ahead.
Good morning, I, just want to give a quick congrats Jeff and they might not seem like if it will definitely mission.
That's just the eight A. frist question.
You guys talked about some stress in sort of your tier supply basin with sort of the disruption in the gene schedules and the pressure and global volumes, we've been hearing more and more about that in North America and Europe is well just curious what you're seeing there what you're doing to mitigate risk and how we should think about I think going forward.
Yeah, certainly wouldn't be.
Surprised to see some distress given how much ministered volumes have come down.
But we have seen very little impact on on our supply base.
You know, it's held up very well, even with the massive impact of GE on strike we'd seen.
Very resilient supplier so in our portfolio. So we've done I'm pleasantly surprised I think by that we were preparing for four distress in the supply base, but it really hasn't hasn't been an issue for us.
I think in general the comment team has made a knee systems than we've seen some issues relative to the chip manufacturers and we were obviously very closely with our customers in getting alternative designs prude validated and give us the ability to have alternative sourcing and so we do people very closely.
And any type of distressed supplier or other related items within the supply base in.
Particular cases loves to take those for your customers at Viking some optional construction or engineered components that we can move quickly too. So that's got Ryan it like Jason said that that that's significant issues due to the strike, but probably more just general issues relative relative and probably more significant within these systems.
On the chip manufacturers.
Okay. That's very helpful. And then just a second question when you're looking at the seven and a half 10% range, you're kind of talked down Eastmans margins for the next 18 months I know, you're not giving exact guidance, but if we were talking about sort of the major swing factors. We're looking at 12 18 months out why you would have hit 7.5% or why you would have hit 10% I mean is it mostly.
You know macro or there's some other key factors, we can focus on say stay on top of that we should think about.
I think there's three or four factors that are going to determine the the where we find ourselves on that range over the coming couple of years once the success rate.
I had mentioned the vertical integration side, we're already seeing some opportunities there. It does take 12 18 months to ramp that up and so it'll take a little bit of time, that's going to be a driver. We are seeing out an opportunity to improve margins with some of our new customers in the portfolio back that takes time, but the level of success we have.
With that it's going to be a key factor.
Our restructuring program is going to be a key factor combining capacity across seating and these systems as Ray mentioned earlier, taking capacity out in other cases, specifically the systems to adjust to the lower production volumes will also be a factor and then longer term.
The penetration and software.
Penetration and electric rectification connectivity or power electronics and connectivity I won't be a significant factor those are the key because that that we're focused on and then maybe a little further out the effects on the management of the portfolio. Overall I mentioned, one example, where we're exit in a program this loss making today.
That's going to have a near term benefit say in 12 months out in their phones out.
Things like that will lead to improvement, but it's going to take a little bit of time. Once again, we had a lot of volume reductions to digest. The first step in the process is really stabilizing the business and and I think we've we've done that here in the third quarter and feel really good about what's happened for on the third and early into the fourth quarter with with that business.
Great. Thank you very much.
Okay that sit.
Thank you presenters dsos closing remark.
Yeah, just just real quick.
It's probably just to live team on it and the full now but the Jeff. Thank you for your years of a familiar dedication I mean, your special person wish you all the best in retirement I know you'll enjoy it I'm sure done that we'll send you back to work [laughter], but she told us.
And to the layer team great job on the quarter really outstanding job. We got challenges ahead of us, but one thing that level, but this company as we step up we'll keep driving.
I Love, what we're doing I think we have absolutely the right plan in place.
Can you to drive this business forward and I. Thank you for all your efforts in great job to the team around the table. Thank you for everything thanks.
Thank you for joining todays today's conference you may now disconnect.
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