Q4 2020 Cummins Inc Earnings Call
[music].
Greetings and welcome to the Cummins, Inc. Fourth quarter 2020 earnings conference at this time, all participants are in a listen only mode.
Question and answer session will follow the formal presentation. He would like to ask the question. During todays conference. Please press star one on your telephone keypad.
And once you require operator assistance during the conference. Please press Star Zero on your telephone keypad. As a reminder of this conference is being recorded it is now my pleasure to introduce your host Mr. Jack Kinzler Executive director of Investor Relations. Thank you Sir Please go ahead.
Thank you and good morning, everyone and welcome to our teleconference. Today to discuss Cummins of results for the fourth quarter and full year of 'twenty and 'twenty.
Participating with me today are our chairman and Chief Executive Officer, Tom Linebarger, Our President and Chief operating Officer, Tony side of the suite.
Our Chief Financial Officer, Mark Smith and.
And the president of our components business Jennifer Ramsey.
We will all be available for your questions at the end of the teleconference. Before we start. Please note that some of the information that you will hear or be given today will consist of forward looking statements within the meaning of the Securities Exchange Act of 1930 for.
Such statements express our forecasts expectations hopes beliefs and intentions on strategies regarding the future.
Our actual future results could differ materially from those projected in such forward looking statements because of the number of risks and uncertainties more information regarding such risks and uncertainties is available and the forward looking disclosure statement and the slide deck and our filings with the Securities and Exchange Commission.
Particularly of the risk factors section of our most recently filed annual report on form 10-K, and any subsequently filed quarterly reports on form 10-Q.
During the course of this call we will be discussing certain non-GAAP financial measures and we refer you to our website for the reconciliation of those measures to GAAP financial measures. Our press release with the copy of the financial statements and a copy of today's webcast presentation are available on our website at www Dot com and <unk> dot com under the heading of investors and media.
With that out of the way, we will begin with our chairman and CEO and Tom Linebarger.
Thank you Jack and good morning, everybody is that voice out of different to you. It's because it was that was Jack kinzler not James Hopkins.
And I want to welcome Jack to the Investor Relations function into this quarterly earnings call Jack is not new to come in and he's been with the company. Since 2014, He's worked and finance he's worked and strategy. He has a great understanding of our business and our financial performance you'll be a terrific addition to the Investor relations team and.
And he will I think continue James.
The efforts to not only improve communication and investors, but make sure that you have the insights and understand and you need of our business and financial performance. James also work with managers across the company to make sure that we understood what you as investors need from us and and for that I'm very grateful James is now working and the engine business and strategy.
And I know he'll do a terrific job so thanks to James.
Before I go through the summary of our fourth quarter and full year results I want to take a moment to acknowledge and thank our employees for the sacrifices and they've made over the course of 2020 and the second quarter, we faced the most severe decline and quarterly sales in our history.
All of by a rapid recovery and demand and supported by a supply chain that was severely impacted by the pandemic. Our employees have worked tirelessly to navigate the many challenges caused by COVID-19 across the globe in order to support our customers and operate with financial discipline.
Can't thank them enough for their commitment their agility and the resilience.
Now I will summarize our fourth quarter and full year results and finish with the discussion of our outlook for 2021.
Mark will then take you through more details of both of our fourth quarter financial performance and.
And our forecast for this year.
As a reminder, and the fourth quarter of 2019, we recorded restructuring charges totaling $119 million pre tax or $90 million after tax.
In order to provide clarity on operational performance I'm, excluding any references to those charges for my comments.
Revenues for the fourth quarter of 2020 were $5 8 billion and increase of 5% compared to the fourth quarter of 2019, driven primarily by increased demand and Chinese truck and construction markets.
EBITDA was $837 million of 14, 4% compared to $682 million or 12, 2% a year ago.
EBITDA percent increased due to higher revenue stronger joint venture income and benefits from restructuring actions taken and the fourth quarter of 2019.
Partially offset by higher product coverage costs.
And fourth quarter EBITDA included $36 million of reorganization of the facility closure costs associated with actions taken to improve future performance, primarily in our distribution business.
For the full year Cummins sales were $19 8 billion.
Down 16% year over year, our EBITDA margins were $3 1 billion of 15, 7% sales compared to $3 7 billion of 15, 8% of sales and 2019.
And our engine business sales decreased by 20% and 2020 lower demand and most of our major regions and markets was partially offset by record levels of demand and the on highway and construction segments in China.
EBITDA was 15, 4% compared to 14, 6% and 2019 as the benefits of higher joint venture income restructuring and temporary salary reductions more than offset the impact of lower volumes.
Sales for our distribution business decreased by 12% and 2020, driven by lower demand for engine and power generation equipment. In addition to lower utilization of our products across many of our regions driving lower aftermarket demand.
Full year EBITDA increased to nine 3% compared to eight 6% and 2019 driven by the realization of benefits of our transformation activities, especially in North America.
And other cost reduction actions.
Full year revenues for the components segment declined by 13% due to lower truck production in North America and Europe.
This more than offset increases in revenue associated with new products designed to meet brought stage six emissions regulations, and India and record levels of truck demand in China.
EBITDA was 16.0% compared to 16, 2% and 2019.
The decrease in EBITDA percent was primarily due to lower volumes, which more than offset the benefits of restructuring actions temporary salary reductions and lower warranty expense.
Power systems sales decreased by 19% and 2020 sales of our power generation equipment declined by 14% as lower demand for standby power generation of equipment in North America, India and Asia.
More than offset continued strong demand and datacenter markets, especially in China.
Demand for engine and industrial applications declined by 26% due to lower demand and the oil and gas and mining markets.
EBITDA was nine 4% compared to 11, 7% and 2019.
The decrease in EBITDA was primarily driven by lower volumes, which more than offset the benefits of prior restructuring actions and temporary salary reductions.
And our new power business revenues increased by 89% to $72 million pre.
Primarily driven by Electrolyze of demand.
Full year and new power EBITDA was the loss of $172 million in line with our forecast as we continue to invest and new products and technologies ahead of widespread market adoption and before I move on to some of our key markets I'd like to take a moment to provide and update on the progress we made and new power in 2020.
First we delivered a 20 megawatt Pam electrolyze, our system to generate green hydrogen and second quarter of Quebec, making it the largest operation of its kind and the world.
And the Cummins electric laser system is installed and in the air Lockheed hydrogen production facility and began commercial operation late last year.
The Cummins Pam Electrolyze of can produce over 3000 tons of hydrogen annually using hydropower.
In addition to the back and core installation, we delivered four megawatts of Electrolyze to nine additional customers and 2020.
We provided fuel cell modules to <unk>, Norway's largest grocery wholesaler that were integrated into for Scania trucks.
The fuel cell electric truck pilot is the first of its kind of <unk> aims to reduce its energy used by 20% and ultimately become a self sufficient provider of clean energy using 100% renewable fuel.
<unk> also supplied fuel sales for fun, a leader and waste collection and vehicles and sweepers and Europe for their electric refuse truck program.
Cummins is also of the largest supplier of fuel sales for the rail industry and we are using experience from rail applications and are designed for other heavy duty transportation applications to provide best in class solutions.
And the battery electric market, we delivered of 147 fully electric powertrains for Bluebird and 2020 for use and the school bus market and 19 powertrains to Gilead for use and the transit bus market.
Our products are now powering over 250 school buses, which are actively and service today and addition to transit buses operating and municipalities around North America.
Finally, we formed the and <unk> joint venture and 2020 to provide customers with high pressure tank and storage solutions and hydrogen and natural gas markets.
We have a strong portfolio of distinctive platforms and are continuing to invest and key technology areas for the future. We are targeting our focus and investment at the markets, where commercial opportunities exist today or will emerge and the near or medium term.
The experience, we are gaining and the field is providing us opportunities to continuously improve our products and leverage prior investments and to new applications. And addition to the technical experience. We are accumulating our sales and service channel customer relationships and global footprint will position us well when broader commercialization of fuel cell electric.
Our trains and battery electric powertrains powertrain and take place.
Now I will comment on some of our key markets and 2020, starting with North America, and then I'll comment and some of our largest international markets.
Our revenues in North America decreased 21% and 2020, primarily due to lower demand across our segments and response to the COVID-19 pandemic.
And the industrial production of heavy duty trucks declined to 187000 units a decrease of 39% from 2019 levels, while our heavy duty of unit sales declined to 63000, a decrease of 36% for.
2019.
We began shipments of our ex 12 engine to Freightliner for Houston, The Cascadia day, and sleeper cab models and 2020, and addition to sales and various location.
Vacations, our entry into the regional haul market with the low weight ex 12 engine will further support our leading market share and this segment.
The market size for medium duty trucks was 101000 units and 2020 of decline of 28% from 2019 levels. While our unit sales were 78000 of decline of 32% from 2019.
We shipped 125000 engines to Chrysler for use and the Ram pickups, and 2020 of decline of 14% from 2019 levels.
Engine sales to construction and customers in North America decreased by 42% as nonresidential construction spending declined and rental companies cut capital spending.
Engine shipments to high horsepower markets in North America decreased by 11% from last year with lower demand from oil and gas and mining segments, partially offset by increased shipments to marine and defense customers.
Power generation revenues decreased by 13% year over year, driven by lower demand for standby applications, resulting from lower nonresidential construction spending.
Our international revenues declined 7% in 2020 with weaker demand in most markets more than offsetting a record year and China.
Full year revenues in China, including joint ventures for $6 9 billion.
Up 25% the.
The increased revenue was driven by record demand and the truck construction and data center markets.
Industry demand for medium and heavy duty trucks, and China was one 8 million units and increase of 35% driven by increased incentives to scrap or.
And their trucks and the increase and government stimulus following the easing of COVID-19 restrictions and our units sold including joint ventures for 286000.
And increase of 47%.
The light duty truck market in China increased 17% from 2019 levels to $2 2 million units, while our units sold including joint ventures were 189000 units and increase of 24%.
Industry demand for excavators set another record of 328000 units in 2020.
And increase of 39% from 2019 levels. Our units sold were 53000 units and increase of 58% as our domestic partners gained market share.
And our power systems markets demand for power generation equipment, and China increased 8% compared to 2019, driven by growth in key markets, such as data center infrastructure and healthcare.
Industrial engine sales declined 34% from 2019 levels, primarily driven by weakness in oil and gas and mining markets.
Full year revenues in India, including joint Ventures were $1 2 billion down 26% and.
Industry truck production declined by 54% and 2020 demand for construction of equipment dropped 28% and power generation revenue declined 40% and 2020.
Our components business was the one major bright spot with revenue up 17% as a result of new products designed to meet for the broad stage six emissions regulations introduced in April and addition to new customer wins and.
And Brazil, our revenues declined 11% by week driven by weaker demand in most end markets.
Now let me provide our overall outlook for 2021, and then comment on individual regions and end markets.
We are forecasting total company revenues for 2021 to increased 8% and 12% compared to 2020, driven by an increase and heavy duty and medium duty truck production in North America, Europe, and India offset by China, while we expect demand to moderate after a record year in 2020 particular and the second half of the.
The year.
We expect demand for construction equipment to increase and North America, and Europe and decline in China from record levels experienced last year, we are forecasting higher demand and global mining oil and gas and power generation markets and expect the aftermarket revenues to increase by 10% compared with 2020.
Industry production for heavy duty trucks in North America is projected to be 245000 to 265000 units in 2021, a 30% to 40% increase year over year and.
And the medium duty truck market, we expect the market size to be 120.
Two 130000 units, a 20% to 30% increase from last year.
This year, we will begin selling engines to of susu for use in the medium duty truck markets.
We have been working with Isuzu on multiple collaboration initiatives since 2019, including the delivery of next generation low emission products and are excited to take our partnership to the next level we.
We have delivered some initial units, which are being incorporated into vehicles in North America, and now and plan to begin serial production and the second quarter of 2021.
And 2023, we expect the supply engines to a suite for truck applications in Japan and Southeast Asia.
Our engine shipments for pickup trucks in North America are expected to be up 5% compared to 2020.
And China, we expect domestic we are projecting domestic revenues, including joint ventures to be down 20% and 2021.
We currently project, a 30% reduction and heavy and medium duty truck demand and a 5% to 10% reduction and demand for the light duty truck market, we expect demand to be heavily weighted towards the first half of the year, particularly and the first quarter and primarily driven by pre buy ahead of the broad end of six implementation in July and OEM efforts to.
The increased inventory levels to mitigate supply chain constraints.
Industry volumes of NSX, and <unk> will increase and 2021 as the new regulations are implemented more broadly across China from July onwards.
We first launched engines to meet standard similar to NSX and the United States 10 years ago, and have leveraged our knowledge and powertrain technologies to develop a range of products for Chinese market that we expect to be well received by end users.
Industry sales of excavators in China are expected to decline, 20% from last year's record levels. We also expect demand and the first half of the year for excavators to be stronger than the second half driven by infrastructure projects and a strong housing market, which is expected to decline and the second half of the year as the government.
The stimulus tightened.
And India, We project total revenue, including joint ventures to increase 25% and 2020.
We expect industry demand for trucks, the increased 20% in 2021.
The new emission standards in China, and India will result in significantly more content for each Cummins engine. We sell for example, we expect to increase sales of after treatment systems by over $250 million and 2021.
We project our major global high horsepower markets will improve in 2021 sales of mining engines are expected to increase by 10% to 15% and 2021 with greater demand following a recovery in commodity prices.
Demand for new oil and gas engine is expected to increase by 55% and 2021, albeit of a very low base, primarily driven by increased fracking activity in North America demand.
Demand and global power generation market is expected to increase 5% driven by continued growth and data center markets and strong RV market and North America.
And new power, we expect full year sales to be between $110 million and $130 million, we have a backlog of approximately 65 megawatts and the electrolyze, which we expect to be delivered over the course of the next 12 to 18 months.
We will continue to deliver fuel cell systems for use and the European rail market.
We also expect to provide modest volumes of fuel cells for truck applications and 2021 as some fleet try out of the new technology.
We are continually innovating across our broad portfolio of power solutions from diesel and natural gas to fuel cells hybrid and fully electric options. We plan to provide our customers with the right technical solution for their application at the right time and to continue to be a leader and power for commercial and industrial equipment.
And while current indicators point to improving demand and a number of key regions and markets and 2021 significant uncertainty remains requiring continued strong focus on managing cost and cash flow as our markets continue to recover around the world. We are still operating under a pandemic with extreme safety measures in place and our.
Suppliers and customers who are doing the same this is presenting challenges to global supply chain as our industry response to rising demand across multiple end markets.
Have and effectively and managed through an extremely challenging 2020.
<unk> is and a strong position to keep investing and future growth and continuing to return cash to shareholders and summary, we expect full year sales growth of 8% to 12% and EBITDA to be and the range of 15% to 15, 5% of sales.
The benefits of higher volumes and ongoing cost reduction activities will be partially offset by lower joint venture earnings investment and new products and some additional costs with supply chain inefficiencies and the year over year impact of restoring full salaries following temporary salary reductions between April and September last year now.
And let me turn it over to Mark who will focus on our financial results and discuss them in more detail.
Mark.
Thanks, Tom and good morning, everyone I'll start with a quick summary of all the financial performance and the fourth quarter and full year 2020 for moving to our outlook for 2021.
As a reminder, and the fourth quarter last year with 2019 and recorded restructuring charges of $119 million pre tax of $19 million after tax I'm going to the.
And exclude any references to those challenges and my subsequent comments.
To provide clarity and consistency on the underlying operating performance.
Two of for key highlights this quarter first the pace at which the.
Customer demand for Cummins products rebounded.
And our employees and agility in responding to the higher customer orders.
Second we delivered solid profitability, especially when we Peel back of the expenses associated with cost reduction activities and some elevated costs.
Tied to the tightness and global supply chain.
Third we converted the sales into cash delivering $1 $1 billion of operating cash flow, our second consecutive quarter of delivering more than $1 billion in cash and.
Fourth we increased cash returns to shareholders in the fourth quarter as the visibility to improving demand increased.
And I will let me go into more details on the fourth quarter and full year performance for.
First quarter revenues were $5 8 billion and increase of 5% from a year ago and snapping a five quarter run of declining sales, while the origins and depths of each of the downturns in the past 20 years have varied each one of the yielded negative sales growth for Cummins of between four and six quarters.
Sales in North America were flat and international revenues increased 12% currency movements and aggregate had a minimal impact on revenues and the fourth quarter.
EBITDA was 100 $837 million of 14, 4% of sales compared to $682 million of 12, 2% of sales.
Ago.
EBITDA dollars increased by $155 million is the positive impact of higher sales and the benefits of restructuring and lower variable compensation and compensation expense more than offset higher product coverage costs and additional supply chain costs.
And fourth quarter EBITDA included $36 million of expenses associated with the reorganization activities and facility closures, primarily driven by transformation initiatives and our distribution business 60 $36 million was equally split between.
Gross margin and our operating expenses.
Gross margin of one $4 billion or 23, 3% of sales increased by $48 million, but decreased as a percentage of sales by 20 basis points year over year.
For the coverage expense and additional costs associated and meeting rising demand more than offset the positive impact of higher volumes and the benefits of restructuring leading to a slight reduction in gross margin as a percent of sales.
Combination of a sharp recovery and demand and nearly all of our end markets and the ongoing COVID-19 pandemic have led to tightness and global supply chains, we leveraged our global footprint to respond to the rapid increase in demand, but did incur additional freight and labor cost and doing so which reduced fourth quarter margins by approximately 60 basis.
This points we anticipate.
Dissipates at these elevated costs will continue through the first half of 2021 and of incorporated them into the midpoint of our guidance for this year.
Selling general and administrative expenses decreased by $56 million of 9% due to the benefits of restructuring reduced discretionary expenses and lower variable compensation.
Research expenses decreased by $16 million.
Of 6% from the year ago.
Joint venture income increased by $36 million, primarily due to continued strong demand for trucks in China, which we converted into earnings growth and higher profit and our India operations.
Other income of $24 million increased by $4 million from a year ago net.
Net earnings for the quarter were $501 million of $3.36 per diluted share compared to $390 million of $2 56 from a year ago.
The effective tax rate and the quarter was 19, 7%.
Operating cash flow and the quarter was an inflow of $1 1 billion for.
300 for millions higher than the fourth quarter last year.
Higher earnings and lower working capital contributed to the strong strong cash generation.
Now I'll move to the full year 2020 commentary revenues were $19 8 billion, a decrease of 16% of $3 $8 billion from the year ago. The largest dollar decline in sales in company history.
All of the North America decreased 21% and international revenues decreased 7%.
Currency movements negatively impacted revenues by 1% EBITDA.
EBITDA was $3 $1 billion of 15, 7% of sales for 2020 compared to $3 $7 billion of 15, 8% of sales a year ago. The.
The benefits of restructuring lower compensation expenses due to temporary salary reductions and lower variable pay and record joint venture performance in China were more than offset by the impact of lower volumes. The record performance in China is remarkable when considering the COVID-19 related restrictions faced by all of people and operations.
And the first quarter last year and throughout much of the remainder of of last year.
Net earnings were $1 $8 billion of $12, one per diluted share as compared to $2 $4 billion of $15.05 per diluted share a year ago.
Importantly, our results and 2020 extended our track record of raising performance over successive cycles with the earnings per share of 46% higher and we delivered in the prior downturn of 2016.
Full year cash from operations was an inflow of $2 7 billion, our second highest year.
And the solid profitability and lower working capital in the second half of the year contributed to the strong cash generation.
Capital expenditures in 2020 with $528 million.
And on $172 million from 2019, as we re prioritize and reduced our plans in response to the pandemic induced global economic contraction.
We returned $1 $4 billion of cash to shareholders.
52% of operating cash flow and the form of share repurchases and dividends and 2021.
We repurchased three 9 million shares through the throughout the year at an average price of $164.
After pausing share repurchases at the end of the first quarter and the face of unprecedented uncertainty we resumed.
We resumed repurchases in the fourth quarter.
And in doing so we completed the ninth share repurchase program approved by our board of directors and began repurchasing under our <unk> program.
October we raised our quarterly cash dividend by 3% as visibility to improving demand increased.
Moving onto the operating segments I will summarize the 2020 results and provide our current forecast for 2021.
For the engine segment 2020 revenues decreased 20% from a year ago, while EBITDA increased from 14, 6% to 15, 4% of sales and 2021, we expect revenues to grow between 10 and 14% with this increase primarily driven by higher truck production.
In North America, and stronger aftermarket revenues also in North America.
2021, EBITDA is projected to be and the range of 14% to 15% compared to 15, 4% sales in 2020, the benefits of higher volumes.
<unk> be more than offset by lower joint venture income gel comment more.
The little later, and an increase and product coverage costs associated with new product launches.
And the distribution segment revenues decreased 12% from a year ago to $7 $1 billion.
EBITDA increased as a percent of sales to nine 3% compared to eight six figure of it though.
We expect 2021 distribution revenues to grow between 6% and 10% compared to 2020 with this increase primarily driven by stronger aftermarket activity and North America.
EBITDA margins are expected to be between $9, six and 10, 6% up from nine 3% and 2020 as we continue to the realized the benefits of our North American transformation work and other improvement actions and international markets.
Ponant, Tim segment revenue declined, 13% and 2020, while EBITDA decreased from 16, 2% of sales to 16%.
And this year, we expect revenues to increase 9% to 13%.
Primarily due to higher industry truck production in North America, and incremental revenues from new products in China, and India. Following the implementation of National standard six and perhaps stage six emissions regulations.
EBIT.
And is projected to be and the range of 14, 4% to 15, 4% of sales compared to 16% in 2020, primarily due to lower joint venture income and China and launch costs associated with some of our new and of six products in China.
And the power systems segment revenues decreased 19% and 2020 and EBITDA declined from 11, 7% to nine for percentage of sales and 2021, we expect revenues to increase between seven and 11% primarily due to higher demand for mining engines and how.
Our generation of equipment.
EBITDA is projected to be between 10, and one of 11, 1% of sales up from nine 4% in 2020, primarily due to the benefits of higher volumes.
And the new power segment revenues increased $72 million and 2020.
And our operating loss was $172 million and.
2021, we anticipate revenues between 110 and $130 million net expense is projected to be between 190 and $200 million $210 million as we continue to make targeted investments and our technology portfolio consistent with the projections, we made at our hydrogen day.
As Tom mentioned, we are projecting 2021 company revenues to be between eight and 12%. The company EBIT margins are expected to be in the range of 15% to 15, 5% of sales compared to 15, 7%.
Yeah.
The benefits of higher volumes are expected to be partially offset by weak the joint venture income and the impact of restoring compensation for the following temporary salary reductions and 2020.
Weaker demand in China, following a record year in 2020, and low and India following tax and other one time benefits last year of the main drivers of the lower joint venture income.
As Tom mentioned, our guidance for joint venture income assumes the truck demand in China will decline sharply and the second half of 2021.
Following the countrywide adoption of National standard VI emissions regulations at this time, we have limited visibility to industry demand the beyond the fourth quarter first quarter and will continue to provide updates and this important market as the year progresses, we are projecting our effective tax rate to be approximately 22.
5% and 2021, excluding discrete items.
We expect.
2021 capital investments will be and the range of $725 million to $775 million.
As we've discussed in prior years, our base cases to return, 50% of operating cash flow to shareholders and and use when we expect our cash flow exceeds and the needs of our core business will return and mall.
And 2021, we currently plan to return and 75% of operating cash.
Cash to shareholders in the form of dividends and share repurchases.
To summarize we delivered strong results and 2020 and the face of unprecedented challenges extending our track record of raising performance cycle over cycle. The solid financial performance was the only made possible by our employees, who work tirelessly to support our customers manage through customer shutdowns and amidst significant fluctuations in the.
And the manage all of this while adjusting the way they work and maintaining financial discipline throughout and.
As we enter 2021, we are well positioned to capitalize on strengthening markets to deliver another strong year, we will continue to invest and the products and technologies, the fuel profitable growth and the future and return capital to shareholders, while maintaining the flexibility to ensure that we can weather any volatility volatility.
The main lie ahead. Thank you for your interest to date and now let me turn it back to Jack.
Thanks, Mark out of consideration to others on the call I would ask that you limit yourselves to one question and a related follow up and if you of additional questions. Please rejoin the queue.
Dana we are now ready for our first question.
Thank you once again, ladies and gentlemen that is star one of you would like to register a question and at this time. Our first question is coming from Jamie Cook of Credit Suisse. Please go ahead.
Hi, good morning.
Well I guess a couple of good morning.
I guess a couple of questions.
First the the commentary on China.
Just wondering I think you said the only just wondering if you could clarify how much visibility you have into that market or what the oes are telling you about production relative.
Relative to relative to that your forecast of down 25 to 30 and given I think January January was up about 60%. So I'm just trying to figure out.
How conservative that forecast could be or what you expect first half versus second half and then my second question the <unk>.
Market is talking a lot about supply chain issues, you talked about that and the fourth quarter and and breast into 2021. So if you could sort of elaborate there and what are the supply chain risks and costs embedded in your guidance. Thank you.
Yes, James and Mark Salt Alka of the China. So we do not have concrete forecast for the full year of of course.
And any situation demand varies due to a number of considerations, but we are hearing of very cautious tone from our OEM customers in China and about demand and the second half of the year. It is true the demand held up strongly through the second half of 2020 and.
Yes, Youre right. The industry is off to a strong start in Q1, we don't expect to see the significant decline.
And Q1, that's for sure so.
And so we've made clear and our assumption.
We will keep you updated but we don't we don't have concrete visibility.
Jamie just just one thing to add on China, I think you hit on the key point the first half the second half.
And is going to be really different and so it's really going to be hard to tell whether our assumption is conservative or not and the first half. We will just see it just seems like the number of trucks and excavators being produced.
It just seems like a lot for us relative to the economies ability to absorb it.
And that's just from history and experience and we will see.
And last year was just the enormous production build and.
As Mark said Oems are cautious about the same thing, but nobody has the firm grasp on it and then theres the emissions change and the middle of which also seems like it could impact things, so where we are using our experience and history here to make this call. We did the same thing in 2020 and got it wrong and it ended up being strong our year. So we will see but the first half is likely to be good.
And then we will.
No a lot more as we get through the the end of the the second quarter about how the second half is going to go let me, let me, let Tony talk a little bit about the supply chain and there's a lots of say about that and.
And Tony has got a lot of details about what we're doing to try to work through with our customers and our suppliers on supply chain issues.
Good morning, Jamie just very quickly I just wanted to say that the most interesting thing thats happening and the rate at which demand has increased we have never seen and increasing and demand happened. This quickly and that that combined with COVID-19 and the pandemic has really stretch the supply chain.
Mark mentioned, we did have elevated freight costs and the fourth quarter of last year and as he said we expect those to continue through the first half we.
We are working with all of our suppliers. The supply base is generally tight not just semiconductors, which has gotten a lot of press, but many of our components and longer lead times, our suppliers and we are struggling with absenteeism due to Covid and we are working very closely with our customers to remain connected and to <unk>.
<unk> to supply them as best we can we are working through all of these issues on a daily basis.
And the cost that we expect are included in our guidance and and we expect to be able to supply what we believe our market forecast is.
What Mark said.
Are you going to give what the costs are and then I guess is are the supply chain issues.
What degree of are they limiting your top line forecast if any I'm just wondering if your top line forecast this mark conservative because youre just worried about.
Supply chain issues, and and and and that sort of a headwind to your guide outside of just cost.
So the just to clarify and so the cost of about 60 basis points of the hit in Q4, we would expect that level to continue in Q1 and Q2 and.
After that our guidance assumes that starts to get.
And is there anything eliminate your top line guide Mark in terms of like you just assuming sales are lower because the industry has bottlenecks.
I mean, it's clear.
And the short run it's tight we anticipate the supply chain the ease and the second half of the year of that's the best way of wheat.
We've given our range of market sizes, and we expect to be able to meet all of those.
Jamie if you step back from it and Theres no question that supply chain constraints are impacting everybody's view of what.
And the production is going to be some Oems.
Suppliers like US first here and then second tier of everybody knows that their supply chain limit, it's hard for us to see ads because of our customers are driving our demand how much they're weighing and their own limitations versus what they see customers ordering and things, but just to just as every conversation supply chain comes up so I just assume.
And that's having some impact but we are we are expecting to be able to fulfill our customers' needs as Tony said throughout the throughout the year. It's just hand them out of every every day and.
And just.
The Bill go ahead Mark.
It is the most rapid rate of increase that we've seen and so the question is how long will the.
<unk> will not sustain and we're optimistic about growing demand.
Some of the noise in the system given the supply chain items.
Okay, and Mark I'll, let someone else to give you a hard time of about your margin guidance.
Tim King.
Thank you. Our next question is coming from Ann Duignan of Jpmorgan. Please go ahead.
Hi, good morning, I'll I'll skip that and the margin question and then.
And turning to more strategic questions.
Yesterday and Europe.
Part of the industry announcement on hydrogen and.
Alliance that was pulled forward.
And particularly for the U S and I'm wondering if you could talk about that and.
What are you seeing the us going in terms of the hydrogen future investments, we are of it's easier and to see it happening in Europe given.
The lack of the energy independence, but maybe not the same sense of urgency and the U S. So just curious to hear your thoughts on that and and where do you think we can go from here with this alliance.
Thanks for that and.
I appreciate the question.
And the hydrogen and forward Alliance is really just trying to make sure that those of us that are investing and the industry are making it clear to policymakers and other potential participants what the opportunity is with hydrogen because I do think if you just if you just check in with People's imagination about what our low carbon future can look like.
I think everybody from government regulators to two of my kids understand what battery cars might mean and all of that and they get it I think the role that hydrogen is going to play and larger energy use more energy against the demand is just not as clear and I think we need to we need to be more proactive in.
Helping people understand what it can mean to our entire energy system and of course, what it can mean the equipment that we might supply. So we decided that since a lot of us of and divesting a lot of time and energy and that and see the opportunity we better start telling people about it. So that of course includes by the administration and regulators, but it also includes general public and I think of <unk>.
Hunch of industry.
Assistance of people, who get the participants understanding what the investments that makes sense. That's the goal of that.
And I agree with exactly what you said that Europe has moved much faster to understand the role that hydrogen can play both and energy storage cleaning up of high carbon industries, steelmaking, and others as well as potentially and transportation like trucks and and trains and.
The U S really does lag there and part of it is what.
And what I said of just the understanding of regulators and others is not as good.
But the part of it is also because we kind of went into a.
Different phase I guess over the last four of five years, where we werent really doing much for energy planning I see that changing we've already had several conversations with.
Members of the by the administration of our ore transition people about trying to put together a more comprehensive energy strategy that for a low carbon future. So I'm optimistic that that not only will we have a more comprehensive plan, but that hydrogen will play a role and it and we're trying to of course the impact of out of it we do believe that for the kind of.
Commercial and industrial applications that we are involved with any way that of hydrogen.
Based technologies can have a big role, which is why we are investing in it.
Clearly and I appreciate that and then.
I agree with everything, but and then during your hydrogen day and just a quick follow up I mean, you guided revenues.
Revenues for the Electrolyzed areas, but you didn't guide any revenue for fuel sales and in particular and the rail side is that because by and your timeframe those would still not be really material.
And we'll have to wait beyond that or was there any other reason why you didn't guide to any revenue for our field sales.
And the Jack I think Theres nothing more behind it. Besides the fact that we just have lower visibility and the lead time behind those orders of a bit lower than on the electric laser side. So.
As Tom mentioned in his comments.
And.
Solid momentum and the rail space with Alstom and others and.
As well as on the fuel cell market with some some prototypes of with fleets hopefully this year.
And what we'll try to give more visibility to.
What those look like and the future again as as you.
I heard from Jack that the the rail side, we know what the orders are we just don't know the rate and pace by which they're going to be able to take him. It's a it's still a pretty low scale operation both on our stem the side and our so we're working through all of that but we will give more visibility as we understand and I get why and why it might be interesting to those that are watching the industry. So.
And let's see what we can do to provide more guidance there.
Okay, I appreciate that and I'll get back in queue. Thank you.
Thank you. Our next question is coming from Noah Kaye of Oppenheimer. Please go ahead.
Good morning, Thanks for taking the question I guess.
And can we talk a little bit about the priorities for for R&D investment. This year you had mentioned.
Some of the launch cost associated with the NSX and <unk>, but that's the kind of get through that we've got the.
And clean trucks are on the horizon and some other emission standards plus the ongoing investment and the new power side. So can you just kind of highlight for us where the investment is going and I guess at the end of that.
Are you kind of looking for R&D to get back to the 2019 level or are we looking for a step up and R&D here.
Yes, it's a good question no we will continue to invest significantly in R&D, both in our core businesses and our new power and <unk>.
And as we talked about maybe the last year beginning of last year, we expected R&D.
The time to increase some over what we were experiencing when we really just had one technology to invest and so as a percent of sales. We expect to continue to drive up R&D to some degree because we just and now we're investing both for a low carbon future and a and the existing products at the same time and so there are.
Our significant investments for both low.
Low.
Emissions diesel products across the world those are and the components and in engine. We've now got new regulations in California and meat.
Plus we've got all of those those new power technologies. So we have a lot to invest and so you should expect R&D cost to come back to normal after 2020 and in fact to continue to.
Grow as a percent of sales, although again some of our selling and the new power business and the engine business. So there are mixed around but but as of total matter. We are investing more in R&D.
Okay. That's very helpful. And then just wanted to ask about the pipeline for new platform wins, congratulations and I would say on the susu.
Starting to to ramp this year, but do you look at 2021 is kind of a sort.
And sort of a ratable year of potential new platform wins or are we maybe getting to an inflection point this year, where theyre just more decisions being made until you have more shots on goal.
It's a great question and of course, you know that as we've said we are having conversations with lots of different customers partners about this and have been for some time and.
I have been thinking at the year and it has that they need to make decisions with the year and for the last several years, it's a complicated conversation for all involved.
And both because theres a lot of the.
The strategic choices for the customer about where they want to invest and where they don't.
The employees and facilities and other decisions to make so it's a complicated set of decisions. We are talking to a number of customers and do expect some of them too.
Choose to invest and other technologies other than Dean.
Diesel and the coming years, and so and we think we're positioned well, we'll see but we think we're positioned well to win some of that business, but we are continuing those conversations and again I expect some more to come this year, but then I expected more of last year too. So, we'll just see where it goes and the.
We are having conversations with lots of lots of people and as you said with the tools and its really that.
It's a meaningful step and that partnership that is a good example, we've been we've actually had a collaboration with them for several years now it's been very meaningful conversations, but it's complicated for them to figure out how to navigate this and this is important and meaningful step for them and I think at the beginning of a lot of things, we can do together and I believe that other custom.
And the same spot.
Okay. Thanks, Tom Good luck and good help to the team and the year ahead.
Thank you.
Thank you. Our next question is coming from Jerry Revich of Goldman Sachs. Please go ahead.
Yes, hi, good morning, everyone.
I'm wondering mark.
And Marc I'm wondering if you could talk about if we do see upside and revenue relative to your outlook can you just talk about what level of incremental margins you would expect to achieve and that scenario of sales of five or 10%.
Above the range that you outlined how would you expect given the supply chain issues operating leverage to look relative to the starting point of the initial guide.
Yes, Jerry I think and typically what we've demonstrated over a long period of time that if it's products that we're already making and and serial production and we can get incremental and the supply chain is functioning well and we can get incremental gross margins and that kind of low 30% range.
Incremental I think we've done that consistently over time.
The issue that comes when we get the extreme changes and then we need to adjust and supply chain needs to adjust but yes, if we get more revenue and we can deliver that efficiently. That's the range. That's the range of incremental gross margins.
Current products.
Okay terrific and then.
Tom in terms of the.
And the electrification.
And so you mentioned, obviously a strong position on.
School buses transit buses and could you just talk about based on the production plans for the industry and <unk>.
Where do you expect your market share to shake out on and buses versus trucks is that something that you could talk about at this point or if it's.
And maybe you could just talk about.
The platform share.
Any way for us the Pik.
It would be helpful.
Yes.
It's a great question and of course.
We're all interested in this question because I think you know our strategy.
As a supplier to the industry is to maintain leadership irrespective of technology, and we're investing and the key technologies that we think take us from.
Diesel today through hybrid through.
Other fuels all of the way up to low and zero carb tailpipe carbon technologies and our intent is to invest and the technologies and with the customers that we think are going to win. So we ended up with leading today and we ended up leading then and those new technologies, there's a lot to play for and that but that's what we're that's our strategy that's what we're aiming.
And for and and the challenge now on the VEB or battery electric vehicle.
Or even fuel cell technologies is that the they're not and the money and trucks. So.
When you try to put of our truck into into.
Production or and.
And the operations, you're going to be out of the money at the start and so most of the regulatory driven of course of some other subsidy driven which means that it's not really a strength technology and performance kind of.
The discussion and so right now our market share is bouncing all over the place and because theres a lot of different players that can offer a system.
And that system is unlikely to be competitive long run and even even the systems. We offer are not not do not return if you compare them to of diesel system. Today. So market share is really really difficult to say right now because of the basis of competition is not technology and performance and cost. It's the whole bunch of other things, but that said we are.
Intending to win as many partners and as many.
Our products as we can so we can get a practice and learning on the technology and the help customers understand how they might be out of the turn needs. These technologies into winners over time. So we are competing don't get me wrong, but it's just the basis of competition is not the normal performance cost trade off for us to diesel.
Okay. Thank you I appreciate the discussion.
Yeah.
Thank you. Our next question is coming from David Raso of Evercore. Please go ahead.
Hi, Thank you Yeah. My question is on the margins for.
The incremental margins all in or implied only 11% and obviously the lower JV income is.
The big drag, but even if you exclude the JV income from both years the <unk>.
Slide Incrementals were only 17%.
That's about 150 to 250.
And of higher cost and you would normally expect rate, meaning instead of 17% Incrementals you would think 25 to 30.
But when you said 60 bps I think Mark you mentioned that it was 60 bps of of drag expected.
For the next two quarters $1 50 to $2 50 call. It 200 midpoint of 400 basis points of drag. So can you help us understand how do we.
The bridge that can you talk about from cost that you already know it can be quantified and then I have a quick question on the JV income related to margins.
China, how big of the of the decline.
Do you expect from the total company JV income going down about $125 million year over year, how much do you expect that to be from China.
China was about $2 15 last year I'm, just curious how much of the total 125 do you think is from the JV.
And the JV from China declined.
Okay, good questions and the amongst all right David So that makes it a lot easier for me to answer your questions. So of the JV income you need to remember that we had about $54 million of income and India.
Which was more onetime in nature of $37 million from the change and the tax legislation, which reduced our prior accrued withholding taxes on our JV earnings and India, and we also had a fairly large taxi and the first quarter of 2020, So thats $50 million and then the balance is really market Dick.
<unk> and China.
On to your other question again.
And the real quick though the China decline. If you went from $2 15, and all the way down to say 140, Alright, that's accounting for the rest of the total company decline.
The income and China hasn't been that low and for five years and.
And I'm just trying to understand if you know the declines coming in the back half was the way you are managing your business why would the JV income and China fall that hard I mean, the JV income hasn't been.
I'll, even at that level and much below it for a decade. So I'm just trying to square for why such a decline and the JV income and China, especially for you.
It's Tom.
Well.
And we've assumed it's coming.
Right now the second half of assumption, but it is and it's principally of volume assumption again, there's some incremental costs associated with launching products, but the primary reason is the volume declines and there's always some of the bits and pieces and all of the of the 50 for joint ventures, but these are the base of the basic two things David There is nothing else I'm trying to.
The share with you about the numbers.
And when we get back to the bigger margin Youre exactly right, yes, we the.
The piece, that's missing, which I've been trying to telegraph to everybody and the $165 million and salary reductions.
The reductions last year, but normally we expect to deliver 20% plus incremental margins Youre absolutely right. What was abnormal about the actions. We took in 2020 was that salary reduction which was $165 million.
That's really that and the.
Our incentive comp of being if we hit our target slightly higher this year when you add those they take those two items alone take about 100 basis points of the margin and Thats. The piece I think pleased that missing because of the puts and takes.
For the price cost to be fair provides a little bit of a risk than if it's the comp coming back that reduces the from 25% to 30% down of 17 for the core business.
Price cost I assume then you must not have too much of a negative price cost and the guide.
No were kind of zero to 50 positive on those.
Okay. That's helpful. I appreciate it thank you alright. Thanks. Thanks.
And David and thanks, everybody else Jess I think we are.
Got it concludes our teleconference today as always thanks to everybody for your continued interest and coming.
The available for questions after the call.
Ladies and gentlemen, thank you for your participation you may disconnect. Your lines at this time and have a wonderful day.
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