Q3 2021 Dana Inc Earnings Call
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Employing more than 38000 people in 33 countries Dana is a world leader in the design and manufacture of highly efficient propulsion and energy management solutions for all mobility markets across the globe, the company's conventional and clean energy solutions support nearly every vehicle manufacturer.
Drive and motion systems, Electrodynamic technologies, including software and controls and thermal feeling and digital solutions.
View, our entire product offering at Dana Dot com.
Janus product portfolio is engineered to improve the efficiency performance and sustainability of powered vehicles and machinery across the globe.
Dana recognizes the sustainability and social responsibility are about building a better future.
Good morning, and welcome to Dana Incorporated's third quarter financial webcast and conference call. My name is Holly and I will.
Your conference facilitator, please be advised that our meeting today, both the Speakers' remarks, and Q&A session will be recorded for replay purposes. There will be a question and answer period. After the Speakers' remarks, and we will take questions from the telephone only.
If you would like to ask a question. During this time press Star then the number one on your telephone keypad to ensure that everyone has an opportunity to participate in today's Q&A, we do ask that callers limit themselves to one question at a time.
You would like to ask an additional question. Please return to the queue.
At this time I would like to begin the presentation by turning the call over to Dana's Senior director of Investor Relations and strategic planning Craig Barber. Please go ahead Mr. Barber.
Thank you Holly and good morning to everyone on the call. Thank you for joining us today for our third quarter of 2021 earnings call. You'll find this morning's press release and presentation are now posted on our Investor website. Today's call is being recorded and the supporting materials are the property of Dana incorporated they may not be recorded copied or rebroadcast without our written consent.
Allow me to remind you that today's presentation includes forward looking statements about our expectations for dana's future performance actual results could differ from those suggested by our comments today additional information about the factors that could affect future results are summarized in our safe Harbor statement found in our public filings, including our reports with the SEC.
On the call. This morning are Jim <unk>, Chairman, and Chief Executive Officer, and Jonathan Collins, Executive Vice President and Chief Financial Officer, Jim will start us off this morning, Jim.
Good morning, and thank you for joining us today as we jump right in I would like to share a quick overview of our results for the third quarter Dana delivered $2 $2 billion in sales, representing an increase of $210 million over this time last year as our customers continue to see strong demand despite several headwinds.
Diluted adjusted EBITDA for the quarter was $210 million, a $9 million improvement over last year.
Cash flow was a use of $170 million as the semiconductor shortage drove significant and unplanned OEM demand reductions, which of course led to substantial downstream component inventory accumulative accumulation across the company diluted adjusted earnings per share was up slightly compared with last year at 41.
For the quarter.
Moving to the key highlights on the upper right hand side of the page today, we will provide you with an update on how we're navigating through unprecedented supply chain constraints raw material cost inflation and labor shortages are impacting the entire global mobility industry will also outline how dana is well positioned to capitalize on long term sick.
<unk> growth is nurturing near term issues begin to subside five.
Finally, I'll provide a recap on our recent capital markets day that we conducted last month at our World headquarters in Maumee, Ohio.
This event was intentionally focused on vehicle electrification and more specifically the tremendous progress we've achieved by executing the strategy that we initially announced in 2016 and refreshed in 2019 very clearly our success in E. Propulsion continues to accelerate across all mobility markets as Dean is cohesive and streamline globe.
Team is generating significant value for our customers around the globe.
Please turn to page five and we will begin our discussion with the ongoing supply chain challenges and how it is impacting our markets.
Whether it's the semiconductor shortages, causing Oems to idle vehicle manufacturing are dramatic shortages of labor Sea containers truck drivers raw materials are numerous others issues, resulting from the global pandemic companies across the mobility industry are having to navigate through unprecedented manufacturing constraints.
As we all know too well supply change disruptions have significantly reduced global auto production as Oems are challenge to procure chips required to produce their vehicles and meet robust consumer demand. This.
This reduced vehicle output has led to historically low finished vehicle inventories in the light vehicle segment.
The commercial vehicle and off highway segments are largely experiencing similar high demand for example, the current class a truck backlog sales backlogs have reached pre pandemic levels and finished vehicle inventory levels for construction and agriculture culture equipment are at the lowest levels in the last three years, resulting in unfulfilled and.
Customer demand.
On the right side of the page, we are illustrating the issues constraining supply there.
The disruptions we are seeing continued to cause component raw material shortages and escalating prices across all of our end markets. In addition to the chip shortages I mentioned shipping congestion at the ports around the world is translating to delays container shortages and increased logistic cost, resulting in overall higher input cost labor.
Shortages, particularly in the United States are also leading to production inefficiencies plant downtime and higher labor costs. All of this has led to customers struggling to meet the strong end market demand.
We are actively navigating through the unprecedented challenging market dynamics by working to offset and recover higher input costs for commodities such as steel through our established mechanisms, though due to the ongoing price inflation inherent lag in recoveries. We continue to see a substantial margin headwind that will remain until the input costs stabilize and turn the other way.
While we do expect these challenges to continue in the near term when supply chain issues do finally lesson, we anticipate a sustained recovery period is suppressed end market inventory levels combined with high consumer demand for our key platforms provides the opportunity for strong volume tailwind for us.
We are seeing the dynamic across all three of our end markets. The alignment of these these three will provide further demand momentum across our entire mobility landscape and Dana remains well positioned to capitalize on these cyclical growth opportunities moving to slide six I'd like to share a recap with you of our recent capital.
Good day.
Last month, many of you participated either in person or virtually and our 2021 capital markets day, which we hosted at our sustainable mobility Center on the campus of our World headquarters. The goal of this event was to share our perspective on how electrified mobility, we evolve in the coming years and how dana's class.
<unk>, leading innovation and global presence will help to drive outsized growth and financial returns for our shareholders. As many of you may recall, we introduced eight key elements that we believe showcase how Dana has successfully built a substantial <unk> franchise.
<unk> is our guiding vision towards a zero emissions future that is at the heart of everything we do and as the overarching theme of our electrification pursuits second we examine how our total addressable market is going to rise dramatically over the next decade as electrification becomes commonplace in each of the markets we serve.
Third we presented dana's industry, leading technical competencies in E propulsion systems more specifically, we illustrated how we are leveraging our design engineering and manufacturing team members depth and capabilities to provide the most advanced three in one electrified draglines in house across all mobility markets.
Fourth.
We discuss that as we use is the use of batteries and electrodynamics accelerate in the mobility markets. The driveline will remain and Dana will be a clear beneficiary of this mega trend the combination of electrodynamics and mechanical systems will increase our content per vehicle potential by three times and compared to our historical ICU product portfolio.
So.
Fifth this migration of mechanical powertrains to smart Electrodynamic systems requires embedded software controls designing and integrating these into the driveline along with in house production of high value sub components will create a significant margin expansion opportunity for Dana in the future.
Six Dana is a unique and compelling investment because we serve both the established Oems transforming their businesses and the emerging Oems are just getting started our E. Propulsion systems are on a vast array of vehicles and as a result, we are well positioned to capitalize on a broad base of new and existing customers.
<unk> seven we utilize our existing global footprint and asset base established operating system and deep industry Knowhow that most of our other competitors not have and will require decades to build we view this as a significant cost cost and strategic advantage for Dana and finally.
Dana's financial profile remained robust throughout our electrification journey, because our core IC product will remain in demand through the transition thus generating significant cash flow to the power EV growth. Our core business is not in a state of secular decline, but rather grows through the transition with assets that will remain large.
Really relevant.
The combination of these factors tells the story of how the <unk> transition is positioning us for above market secular growth and demonstrating the Dana is a great investment within the EV growth landscape turning to slide seven I'd like to share some evidence of how and where this is already happening.
During our capital markets day, we highlighted a significant number of electrification new business wins as the saying goes the scoreboard always tells the truth in our electrification strategy is working we're immensely immensely thankful and proud that our customers across all mobility markets are choosing dana as their electrification supply partner.
Our <unk> solutions are being utilized by our off highway customers in construction underground mining material handling and even some green shoots in the agriculture, agriculture applications and commercial vehicle, it's not by accident that we've achieved a market leading position as dean his initial focus and commitment was to medium and heavy duty trucks and buses.
In the light vehicle market, we're extremely active supporting full frame electric truck Oems with both rigid and independent yet actual concepts and potential solutions leveraging not only our complete in house E propulsion capabilities, but also significant experience we have from markets that were early electrification adopters such as bus.
This material handling and last mile delivery vehicle solutions.
And while we're on the topic of the light vehicle market. We also announced for the first time. In addition to significant battery in electrification cooling wins, a major new business wins for our hydrogen fuel cell metallic bipolar plates. The combination of our past successes present capabilities application knowhow and clear.
<unk> strategy for the future and enables us to partner with and create value for our customers at any stage of their electrification progression ultimately leading to us winning our share of nearly 19 billion dollar addressable market by the end of the decade. Thank you for your time today now I would like to hand, it over to Jonathan to walk you through our.
Financials.
Thank you Jim and good morning, everyone. Please turn to slide nine for an overview of our third quarter results compared to the same period last year.
In the third quarter of this year sales were $2 2 billion, a $210 million increased over last year, primarily driven by improved demand in our heavy vehicle end markets and the recoveries of raw material cost inflation in the form of higher selling prices to our customers adjusted EBITDA was $210 million for a profit margin of nine 5%.
Which was 60 basis points lower than last year. Despite the higher sales as margin compression from raw material cost inflation more than offset the margin expansion from organic sales growth diluted adjusted EPS was <unk> 41, a <unk> <unk> improvement from the prior year and finally free cash flow. This quarter was a use of $170 million, which was.
Significantly lower than the third quarter of last year due to higher working capital requirements. This year is a recent customer schedule volatility and supply chain challenges have mandated higher inventory levels to ensure on time delivery I will discuss this in more detail later in the presentation. Please turn with me now to slide 10 for a closer look at the drivers of the sale.
And profit change for the third quarter.
The change in third quarter sales and adjusted EBITDA compared to the same period last year is driven by the key factors shown here first the organic growth increase of over $100 million was driven by improved demand for heavy vehicles in both our commercial vehicle and off highway equipment segments, the elevated incremental conversion of 40%.
<unk> was the result of targeted cost containment and cost recovery actions in the quarter, which helped to offset operational inefficiencies brought on by volatile customer production schedules supply chain disruptions and labor shortages.
Foreign currency translation increased sales by about $20 million as the dollar weakened against the basket of foreign currencies, principally the euro as usual this did not affect our profit margin. Finally, while we had expected commodity cost to level off in the second half of this year. Unfortunately steel prices have continued to rise.
During the quarter gross commodity cost increase by more than $100 million compared to last year. We recovered nearly 70% of these cost increases in the form of higher selling prices to our customers. This remains lower than our steady state recovery ratio due to the timing lag caused by the continued rapid rising commodity prices rising.
Steel costs are entirely responsible for the margin compression during the quarter despite higher production.
Please turn with me to slide 11 for a closer look at how the adjusted EBITDA converted to cash flow.
Free cash flow was a use in the quarter of $170 million. This use was driven by higher working capital requirements, specifically production inventory, resulting from volatile customer production schedules and instability in the global supply chain.
A combination of unpredictable demand pattern for our products longer lead times for raw materials and the impact of slower than usual logistics channels have caused us to hold significantly more inventory than normal to ensure that we protect our customers across all end markets inventory.
Levels increased by more than $100 million sequentially and more than $400 million versus the same time last year as at the time. The industry was just ramping the supply chain backup coming out of the pandemic containment related shutdowns in the second quarter of 2020.
We expect our inventories will gradually retreat towards a more normalized level in the next few quarters, but the cash flow benefit won't be recognized until next year I'll provide some additional information on this in just a few moments. Please turn with me now to slide 12 for a look at how the changing market conditions are affecting our full year outlook in the form of our revised guidance for.
2021.
On our last two quarterly earnings calls, we outlined the key assumptions underpinning our full year sales profit and cash flow guidance raw material cost were anticipated to plateau. The supply chain conditions were expected to improve modestly and the chip famine was presumed to progressively abate. Unfortunately, none of these came to fruition.
And as a result, our top and bottom line expectations for this year have declined as you can see on the right of the page. We now anticipate full year sales to be $8 9 billion at the midpoint of our revised range down about $100 million from the indication. We provided during our Q2 earnings call has lower than expected market demand of approximately 107.
<unk> million dollars will be partially offset by $70 million in additional commodity recoveries full year. Adjusted EBITDA is now expected to be about $845 million at the midpoint of the revised range, which is down about $115 million from our previous indication loss contribution margin from lower end market demand and higher operating costs make up approximately.
$70 million of this profit headwind and increased commodity costs will further lower profit by about $45 million.
Profit margin is expected to be approximately nine 5% and free cash flow margin is expected to be about 1% diluted adjusted EPS is expected to be $1 85 per share at the midpoint of the range.
Please turn with me now to slide 13, where I will highlight the drivers of the full year expected sales and profit changed from last year.
First organic growth is now expected to add nearly $1 4 billion in sales incremental margins are expected in the mid twenty's, providing nearly 300 basis points of margin expansion.
Second as was announced yesterday the agreement to acquire Modine automotive liquid cooling business for a dollar has been terminated as we were unable to reach agreement on a revised terms that would gain the approval of the German regulator as a result, there will be no significant impact from organic growth. This year. However, this was never included in our full year guidance.
Third we anticipate the impact of foreign currency translation to now be a benefit of approximately $150 million of sales and about $15 million of profit with no material impact to our profit margin and finally, we now expect gross commodity cost increases to be about $350 million compared to last year as steel prices have continued to escalate.
We anticipate recovering about $235 million or just below 70% of the increase from our customers in the form of higher selling prices, leaving a net profit impact of $115 million, which will compress margins by about 170 basis points.
Please turn with me to slide 14 for a look at the second half profit margin implied in our revised full year guidance and the key drivers of the trend through this year.
Typically profit margins in the first and second half of the year are relatively flattened our business as sales and profit are higher in the middle of the year, the second and third quarters and relatively lower in the beginning and end of the year, the first and fourth quarters as a result of normal production seasonality.
The quarterly sales and profit cadence of our revised full year guidance for 2021 is atypical where we now expect second half margins to be about 200 basis points lower sequentially. A few anomalies are driving this year's trend, including one the continued volume deterioration associated with the chip shortage and too rapid commodity.
Cost inflation at.
At a cursory view of the trend. The first anomaly is only visible by highlighting the second essentially the increasing raw material cost recoveries included in our sales are masking the sequential volume deterioration and both are having a profound adverse impact on profit and are amplified by the poor condition of the global supply chain.
On the right of the page you will note the expected sequential deterioration in fourth quarter profit on relatively flat sales. This is attributed not only to normal seasonality, but also to an episodic period cost related to the anticipated ratification of our collective bargaining agreements here in the U S.
It is important to note that as we move into next year, we continue to anticipate a plateau in commodity cost leading to an eventual decline, which will allow our recovery ratios to gravitate towards normal levels ameliorate the commodity impact and the period costs associated with the labor agreement ratification will not recur our full year outlook for 2022, which we will.
Provided at year end earnings in a few months as we normally do we'll take both of these sequential improvements into account.
Please turn with me to slide 15 for more detail on how we expected this year's adjusted EBITDA will convert to cash flow.
We now anticipate full year free cash flow margin to be comparable with last year at about 1%, which represents a modest improvement of about $30 million as of quarter $1 billion of higher profits are invested in working capital to navigate the current environment and higher capital spending to fuel our future growth.
The downward revision compared to our prior expectation is attributed to the lower profit I just outlined on the last few pages as well as the higher working capital requirements. We experienced in the third quarter that will gravitate towards more normalized levels in the coming quarters as production schedules stabilize it's worth noting we are pulling multiple working capital levers to.
To mitigate the cash flow impact associated with the elevated inventory.
Please turn with me now to page 16 for our perspective on the near term challenges on the backdrop of the long term outlook for our business.
As Jim outlined at the outset of the call. The current mobility market dynamics are the most challenging they have been in over a decade with robust demand for vehicles and equipment substantially constrained by the supply of materials logistics and people, which has led to dramatic cost inflation and substantial profit and cash flow margin compression.
These are all represented by the icons on the left of the page as we look to the future we want to remind all of our stakeholders that as challenging as the current environment is these forces position Dana for the most robust and dramatic cyclical recovery. This business has seen in quite some time.
This is illustrated by the chart in the upper right of the page, where we affirm our conviction that our business will exceed $10 billion of sales in 2023, and this represents 45% growth over three years and will lead to substantial profit and cash flow margin expansion as we progress towards our long term financial potential.
But the cyclical recovery in our business is only a piece of piece of our growth story as we outlined at our capital markets day last month, we're poised to substantially outpace the market growth rate as we capitalize on the secular growth trend that vehicle electrification represents for Dana we expect the sales of our electrified products to double in the next two years contributing.
The greater than $10 billion of sales in 2023, but then quadruple by the end of the decade to deliver a $3 billion business that will expand our profit and cash flow margins and reposition the business for the future.
This bright future is made possible by the highly skilled and extremely dedicated team of more than 38000 around the globe, who day in and day out embody the spirit of our company people finding a better way.
Like to thank all of you for listening in this morning, and I'm now going to turn the call back over to Holly So that we can take your questions.
Thank you and as a reminder, if you would like to ask a question. Please press Star then one on your telephone keypad once again Thats star one for question.
<unk>.
Our first question will come from the line of Dan Levy with credit Suisse.
Hi.
Good morning.
Thank you.
Wanted to just start on a I guess, a more near term item could you just remind us first of all of what your exposure is to.
Magnesium and how this plays out with aluminum I think most of your aluminum exposures in power technologies, just how much of a risk is this for you.
Maybe you can just frame that for us. Please.
Yes, magnesium for us is negligible Dan So most of our commodity impact is on specialty steels like <unk> or our special bar grade quality steel that's used in a lot of our driveline components.
And to the extent there is a an aluminum shortage is that that doesn't impact power technologies.
Yeah, I mean, there'll be do we have an aluminum impact as well as nickel within power technologies, but in the overall impact for Dana.
Nickel is typically relatively small.
Okay great.
And then second I'd like to just revisit.
The dynamic with your with your customers and especially on the light vehicle side, obviously, you're facing these very sharp supply chain challenges and we see that in the margins, but your customers are putting up pretty solid margins.
Had the benefit of raising prices to end customers, but at the same time. They also need to invest a lot more to make.
E V transition possible. So maybe you could just give us a sense of the tone and tenor of the commercial discussions with your customers is there any ability to recover any of these headwinds beyond what's in your contracts or is that a tough ask given the the challenge ahead of your customers on EV and maybe you could just also talk to within that the commodity recovery.
Because I know for the year, it's below 70%, but I think I'm not mistaken historically, it's been like 75%. So maybe you could just talk about the tone and tenor of the commercial discussions with your customers Yeah, Dan as Jonathan maybe I'll just touch on that last piece and then Jim can highlight the market dynamic or the commercial dynamics, but as it relates to the recovery.
So normally we can recover three quarters are better on a steady state basis, but what we're still seeing this year as we've seen rapid rises each quarter. So theres still a lag on the recovery compared to what we're paying to our suppliers. So I tried to comment on the fact that once these plateau, we would expect our recovery ratio is two <unk>.
Our attitude towards the mid upper seventies and.
Maybe even around 80% once that plateaus and then if they come down obviously there'll be a period, where we will see a benefit an over recovery but.
The less than 70% recovery ratio on a full year basis is just due to the lag as we've had rapid increases each quarter.
I would add to that Dan is relative to the process and tone with customers. There there's been at least in my experience doing way too long, but theres a lot more flexibility recognizing theres a lot of other input costs and even in the commodities I'm not here to make it.
Ill make a statement relative to how that's going to play out and exactly what that's going to be but they certainly have great appreciation across all our end markets that there is there is inflation and all sorts of areas. Besides commodity costs. So we're working through that with them.
Great. Thank you.
Thanks, Dan.
Our next question is going to come from the line of Noah Kaye with Oppenheimer.
Thanks, Good morning can you touch on the management of their own supply chain.
Where if at all have you experienced the component shortages.
Anything impacting your EV programs in particular around power electronics or.
Other components I guess.
Are there any pain points there to be aware of.
Causing some margin compression or production delays or is it really still just the commodities on materials.
I'll take the first part of that first is there any like one specific area of the component constraint for us if I understood. Your question correct correctly and in particular, you highlighted are our electrodynamic side of the business I would say no. There's there's challenges almost and everything.
It's not like you can't work through it so we're working through those on a case by case basis across the various end markets. So.
That's probably the best way I can say there is not like that one silver bullet, but you know like maybe the Oems are dealing with the semiconductor type of issue. We don't have the same thing in our in our product lineup at this point.
Yeah.
Okay, great and to follow up I guess, specifically on the <unk> programs.
I believe.
A number of them.
We're reaching or enter Sop.
And so it would be ramping in the back half of the year.
Just curious how you're seeing the demand for those programs play out relative to expectations.
And whether there's been any kind of supply constraint gating factor in the volumes on that side as well.
Yeah demand for electrified products is actually very strong so the ramp up of those programs broadly speaking is consistent with what we most recently expected certainly the chip shortage impacts those as well, but for us they're relatively small volumes compared to the overall and we're broadly.
We're able to secure what we need for those programs. So.
Generally speaking it's in line with what we had expected.
Great. That's very helpful. Thank you.
Sure. Thanks Noah.
Our next question will come from the line of Emmanuel Rosner with Deutsche Bank.
Thank you so much good morning.
Hey, good morning Emmanuel.
I was hoping to put trying to put a final point on.
The factors behind your change in outlook and in particular.
Curious what.
So as to your capital markets day, which was just two months ago or so pretty much the.
Towards the last day of the quarter.
Quarter.
At that time, I think yours.
So thinking you'd be that margins, maybe I'm wrong.
10, five nice probably about you know.
A full point lower which is basically two points lower in the second half.
What have you sort of seen over the past sort of like 30 days or so which.
Has caused this change in outlook one of the bigger factors there.
Yeah, I would say the primary factor is the change in our customers' production schedules. So we now have pretty decent line of sight through the end of the year, what our customers are thinking theres been additional downtime in all of our end markets and in.
In the fourth quarter compared to what we expected. So that's driving the almost $200 million of lost sales compared to our previous expectation. We knew commodities are going to be up a little but now that we've seen where September landed and have better line of sight into October commodities are going to be higher as well too. So it's really a combination of what's happened to our.
Customers production schedules within the last month and also the most recent outlook and commodities is really driving that additional.
Sales decline and the profit deterioration despite the higher recoveries on the commodities.
Okay. That's helpful. And then if I can just hone in on.
The demand piece of the equation can you described.
Current condition and the visibility as you see I guess, which specific end markets of yours, or if I kept playing out maybe a bit weaker than you thought.
Amongst ago.
If you can also comment sequentially are you seeing some light.
The light at the end of the tunnel, especially on the on the light vehicle side.
At least sequentially things improving or is it still just as volatile as it was last quarter.
Yes to the second point, Unfortunately, the fourth quarter looks a little bit worse than the third quarter from a volume basis. That's why we included that chart on page 14, just to highlight that those additional commodity recoveries that we are getting are masking. The fact that volume on a constant commodity basis or unit is coming down so unfortunate.
We don't see any relief here on volume between now and the end of the year.
And then to your point on which end market. Unfortunately, the chip shortages affecting all end markets now, we're seeing a greater impact in the heavy vehicle markets than we were in the first half of the year, but the volatility is.
Bit higher on the light vehicle side as you noted so I would say that our expectations across all three are lower than what we had anticipated. It is primarily due to the chip shortage and I think we're likely to be into next year before we start to see any improvement in the daily run rate as a result of better access to chips at least that's our.
Best outlook as we sit here in October.
Yes, that's really helpful. So would you say.
All of your segments.
Likely show sequential revenue deterioration in the fourth quarter.
Heavy vehicle markets will probably be pretty close light vehicle will be a bit lower.
But it's going to be pretty close as you can see from the sales dollars were generally expecting volumes to be down just a little probably led by the light vehicle.
Understood. Thanks for thanks for all that.
Thanks Emmanuel.
Yeah.
And our next question is going to come from the line of Aileen Smith with Bank of America.
Good morning, guys.
The year over year margin compression in the quarter as being entirely attributable to rising commodity costs I'm, a little bit surprised given the drop in gold production environment in the corner and what should be operating deleverage off the back of that especially with some of the major automakers that were forced to take downtime on large body on frame trucks in the quarter.
Is the implication here that you were able to completely offset those pressures or is there an element of mix between your segments going on where operating deleverage, perhaps in our light vehicle business has been offset by leveraging E vehicle markets.
Yeah, it's a little bit of both the last point you make is accurate. So if you look on a year over year basis Youll remember, we were still in a pretty rough spot from a volume standpoint in the heavy vehicle markets and those have improved so that operating leverage is helping to offset that we also worked in a number of other ways too.
To manage cost as much as possible, but I would say that the resurgence on a year over year basis of the heavy vehicle markets and the mix associated with that has been a little bit of wind in our sales to help mitigate some of the impact associated with the significant inefficiencies associated with the supply chain.
Okay, and then a question on the top line outlook for the fourth quarter to be sequentially flat with third quarter is that consistent across each of your segments or are there certain end market with a different trajectory and specifically when we look at light vehicle production schedules I think the sequential outlook makes some sense, but just curious if that's all right.
Local markets as well.
Yes, if you adjust for the fact that we're going to have more recoveries of commodities in the fourth quarter than we did in the third unit volumes are going to be down from Q3 to Q4.
It's going to be led by the light vehicle space. We think light vehicle is going to be softer in Q4 than in Q3. The heavy vehicle markets are going to be relatively flat, maybe down slightly in the aggregate but.
Sequential deterioration is going to be led by the light vehicle segment.
Okay, and then one last higher level question for Jan.
Perhaps obviously you've done about as well as can be expected in managing thrill. The production volatility recently as we think about visibility into next year can you talk a bit about the planning process that you're implementing or if at all and this isn't so much a question on any formal outlook for 2022, but more an operational question of how you come up with a game plan.
With your team and communicate things like if volumes were to be flat from current level of care is where we'd love to take cost out or if the volume environment were to recover meaningfully here's how we manage that and planned for in our production schedules are still being revised week to week to week.
Thank you Eileen and I was kind of a kind comment in a really good question.
I don't know how to answer it exactly other than to say this is that at.
At least in my career the V shape recovery, we call. It starting last July to the significant drop offs in some and some production. This year have put more flexibility built into our operating system, let's start at the operating system and our ability to basically look forward to the forecast in their releases as we call. It in this.
Business and be able to do better and more more nimble labor management more capacity management spreading spreading our capital in different plants around the world to be able to support when one goes way up it's not necessarily that we're going to just support that out of one plant because way of common products and product common capital.
It has been validated around the world. So we built in a lot of flexibility almost by default going through what we've gone through all of us out there in manufacturing by the way over the last 18 months since we turned the spigot back on so I would just say, it's all built in and I would just call. Your I'd say this and if it comes back the leadership is just a lot more.
Dynamic of team members sitting together and looking at indicators earlier and reacting to them quicker. So that's a lot of words to just say I think we're not really into that we were in we probably have never flex cost faster.
<unk>.
<unk> faster than we have in the last 18 months, we're just going to continue to do that throughout the course of next year.
Great. That's very helpful commentary, thanks for taking the question. Thanks Aileen.
And your next question will come from the line of Brian Johnson with Barclays.
Good morning, and thanks for the update.
As we think of the off highway business, especially in light of the comments about the planning process that you gave it its a bit of a black box to bottle outside in compared.
Compared to the production schedules, we can get a feel for in light vehicle and in trucking. So can you give us your sense I was struck by the slide about construction equipment at lows of how thats going to progress and then whether those very strong incrementals were seeing there could continue into 'twenty two.
Sure. Thanks for the question, Brian It's Jonathan you know as we look into next year the indication from our off highway customers on both the construction and the mining segments is that there is an intention to ramp up production.
So we are preparing for that increase in their ability to secure the supply and address not only material shortages, but labor shortages to get these these.
These equipment built so what we're trying to highlight there on that chart. As you noted is the fundamentals are there. The customers are indicated that we're going to need to fill higher demand and as we've indicated before obviously off highway is our most profitable segment, but within off highway those two segments lead from a contribution margin standpoint, so that is some.
As we think about the.
Sales growth and margin progression that we expect over the next couple of years, that's going to be a meaningful contributor not only to the top line, but also to the bottom line. So we're looking forward to that and that is indeed, something that we think is going to be a part of the recovery story here in the cyclical upswing that we highlighted in the slides.
Okay, and just a follow up in a different segment. So powertech you highlighted the win with a.
New entrant on the cooling plates can you give us a sense of.
The pipeline for Powertech in electrification and have there been any other advancements since the capital markets day in that segment.
Good morning, Brian This is Jim thanks for the participation and questions as always.
The just to maybe give an update for the full audience in case, they want it or our Investor day, but you know.
We announced just last month ago or whatever it was that we're going to be on the Ford Lightning for the battery cooling maybe it was Brian was referring to as well as major GM programs, and then as I announced or mentioned early in my prepared remarks, the hydrogen fuel cell plate is or one of our most significant wins as it is in the us at least it seems as though.
Commercial vehicle markets are going to head in that direction to some degree.
So I can't give you a new update on any new awards I only can tell you is is that when you think about the marquee programs that were referring to with general motors or Ford and as well as what I just talked about on the.
Hydrogen fuel so that we have a very strong chase list and we expect to continue to deliver on it because our technology that has been built under the foundation of two key things in power Tech for those of you that may not be as familiar with it power technologies group is a combination of ceiling as well as thermal into a world class battery cooling electronics cooling and for that matter.
Hydrogen fuel cells will put bipolar play technology. It requires all those type of capabilities to come together and that's what we're doing so thank you very much for the question.
Okay. Thanks.
Thanks, Brian.
Our next question will come from the line of Rod Lache with Wolfe Research.
Good morning, everybody.
Hoping you can maybe just give us a little bit of color on the.
If commodities were to stay at spot levels, how we should be thinking about the recovery into next year just extrapolating from the.
The typical lag that you see.
Sure. So there would clearly be a gross commodity cost increase if they were to stay exactly flat through next year, there would be a gross increase the carryover impact of largely the first half of next year being higher than the first half of this year, but we would expect of the commodity ratios to catch up to.
The the mid upper <unk> approaching 80%. So that's generally what we would anticipate we certainly think that's a more likely scenario in the first half of the year, but as we look into next year and I mentioned in our comments, we think it's likely that we start to see some tapering of those most third party sources that are prognosticator.
There would project steel to start to fall through next year, but to your point, we would see a carryover impact if they were flat, but the recovery ratios would be close to that 80%.
Just just to clarify that the.
The gross impact that we're seeing in kind of the back half that's how we should be thinking about the first half and then just.
Your your recovery would tick up closer to 80% is that what you're saying you got it yep yep, Okay and.
You mentioned labor shortages, a couple of times and you have this new collective bargaining agreement can you just maybe at a high level give us some some thoughts on how that.
How are you expecting that to effect.
The outlook for next year.
Yes.
Well. Thank you for the question Rob This is Jim good morning.
The.
I think you know this but Dana has had a rich history and strong relations, particularly in North America with our are organized labor partners and so we feel very comfortable that we will continue that relationship moving forward, but it has to do with organized labor and labor contracts and all to do with market dynamics and that we can all see around around the world and more specifically just driving down the street.
There's going to be some labor cost inflation across the board that we're going to deal with but in the in the bigger picture of things its in the loss numbers that obviously it doesn't come close to the impact that we're dealing with them they commodity cost in sea container cost and all that stuff. So we'll continue to navigate through that no different than we always have.
Great.
That makes sense. Thank you.
Thanks, Rob.
Next question will come from the line of Colin Langan with Wells Fargo.
Oh, Thanks for taking my question.
Slide 14 is very helpful.
Just looking at it I guess I'm, just trying to understand sales sequentially it looks fairly flat.
The recovery look pretty similar from Q3 to Q4. So is it really just only seasonality because even if I take out the labor costs. It seems like it's still be down is that really the only other driver, causing the weakness from Q3 to Q4 and I guess.
Focus on the sequential right now given all the volatility I mean, what would also.
Other than seasonality is there any other factor and what does drive that seasonal weakness sequentially.
Those are really the biggest driver. So we were trying to illustrate is the fact that and maybe it didn't come across as well as I had hoped on fourth quarter, but we do expect topline recoveries to increase sequentially, which means that the constant commodity sales are actually going to be coming down slightly in this environment the contribution margin.
Loss on decreased sales is pretty high our ability to flex costs. In this environment is pretty challenging due to labor shortage and other issues. We just continue to carry those so.
In this environment with the normal number of work days, we think of that as largely seasonality sequentially and then obviously, we tried to call out the impact of the component of the labor agreement, that's going to be a period cost which is the other driver, but those are really the largest and most significant ones from Q3 to Q4.
Got it and you when you talk about being fairly flat sequentially I kind of recall I think IHS has it up even though they took it down is that companies that Athena specific or do you think that sequentially for the overall market is too optimistic.
Gamestop.
Yeah, I think our perspective right now is pretty acute to us we're very focused on the platforms that we're supplying and the segments that we focus in on the heavy vehicle market. So I would say that our view haven't really reconcile it to the latest broader market view for IHS, but I would say our perspective is we're likely to be a bit lighter on the light.
Vehicle side, and maybe just a touch softer on the heavy vehicle side from Q3 to Q4. So it may be very specific way for us looking at it in the short term and the build patterns that we're seeing from the customers on our platforms.
Okay, all right. Thanks for the clarification.
Yes, Thanks, Tom.
Our next question will come from the line of Ryan Brinkman with Jpmorgan.
Thanks for taking my questions I wanted to start by digging a little deeper on the comment in the release about supply chain constraints impacting the entire global mobility industry not just the light vehicle industry. So obviously, we know about the semiconductor chip shortage impacting light vehicle production, but can you sort of walk us through what are the main supply chain issues.
To your other end markets are they also are more impacted by the semi shortage or our semi is the minority of the issues impacting the other end markets and then you were asked on magnesium maybe after another supplier reported difficulty and even finding it almost regardless of the price so.
They were able to source it but there was some concern for awhile and therefore I thought to ask too. If you are experiencing or seeing any emerging signs of actual commodity shortages, which can impact the top line not just inflation, which can impact margin.
Good morning, Ryan This is Jim Thanks for the question Youre going to make me earn my pay today than it was a lot.
So let me take them in pieces.
Let's start with magnesium and other commodities like Jonathan I think answered the question a little bit earlier, nothing its not an impact item for us or if it is material and material. So we're not seeing that we are aware of it.
And communications with our customers et cetera that it's a challenge out there we don't have anything in our line of sight that gives US a reason to believe that we have other raw material risks.
But we will keep you guys informed if anything of substance comes through to your second question I'm kind of working through those are them backwards here on purpose is on the semiconductor impacts I think Jonathan implied we still get the you get a bit of a roller coaster on the light vehicle side that youre very close to I don't need to tell you that commercial vehicle is more of a challenge in the last quarter than the first.
Half of the year in that and I'm not going to predict exactly how that's going to work out go forward, but that's just the case as it relates to Q3 less certainly on the off highway side of the business. There's some on the on that but not as big a issue there specific to your first question. It was about you know what type of constraints that we're seeing.
As it relates to our supply chain I think it was how you posed the question I'll give you. Some examples is the easiest way to do it. So besides just the obvious things that we deal with on labor and what everybody else's dealing with we can't forget like for example, the natural natural disasters that we dealt with that we have supply chains that are coming out of Germany and the floods of.
Kind of the middle areas of of <unk>.
Germany or were aware of obviously, we're all aware of the China power, let's shut down manufacturing scenarios that have gone over there and you have to navigate around maybe only having three fourths of a month to be able to get to your supply built and produced port not only the domestic markets, but if you happen to use China for some of your international supply. So those are.
The types of things, we're and again I'm not here to look for sympathy I mean, we're all dealing with it but we're overcoming it and all of those examples but there are plenty of them out there.
Okay. That's helpful. Thank you and then just last question for me is we've been hearing from multiple suppliers that in the ordinary course commercial negotiations with customers that in addition to the usual topic of being compensated for higher raw material expense et cetera that the suppliers may also seek to recover costs associated with the magnitude and frequency of last minute order canceled.
<unk> I think this is something which automakers have historically not compensated suppliers for particularly if it's because of reasons outside of their own control, but given that automakers are enjoying a substantial offset to.
Two the impact of lower volume.
Their profits in the form of higher vehicle pricing.
I think that's led to some suppliers to try so.
How are you thinking about the potential for any.
Volume related recoveries.
I would answer the question this way.
This was those other suppliers of communicating and that's a real issue and there are absolutely right, they're not exaggerating it as painful as the day is long.
But as the business right I mean, it's not like the Oems are out there, saying.
I think I'll, just get up this morning, and that run and they love to make vehicles that they had the product to do it. So it is a real issue I wouldn't I can't really answer the question and I really don't want to answer the question specifically to what the individual negotiations are but I did as I alluded to earlier.
Question when I answered it was that we're having different conversations with the customers now in a more holistic.
Overall recovery mode than just pure commodities, we're talking about the whole landscape because it's just it's just a different world out there as it relates to all the things we've talked about sea container delays in sea container cost and obviously labor inflation and the other thing so just.
Just sporadic schedule is certainly falls into the into the bucket of all those other things that we're talking to the customers about.
Very helpful. Thank you.
And our last question for today will come from the line of Joseph Spak with RBC capital markets.
Hey, Thanks, good morning, everyone.
<unk>.
Going back to the CBA was that always considered in guidance and just to make sure that that's like the one time ratification costs right. So how should we think about the labor union contract going into into 2022.
The answer is yes. It was the it's the upfront associated cost with the ratification and we're calling it out now because it's ended up being.
<unk> higher than what we had originally expected in this environment. So that's the primary driver.
Okay. So you considered something before but this is higher than it have been higher okay, and can you quantify that or.
No I would say that it's just considerably higher than what we would have normally experienced and even what we would've expected a couple of months ago.
Okay.
And then.
Just a clarification and sorry, if I missed this fund in the quarter and power technologies negative organic sales, but then positive organic EBITDA contribution how do we square that.
Yes, just that's the nature of a recovery that they were able to execute.
In the quarter that helped to drive better margins in the quarter.
Okay, and then last one for me just on <unk>. So it sounds like you could encompass both sides I guess when it comes to something that was minimal given whatever the regulators.
Asking for.
I know this might have been sort of a unique situation given the purchase price or just assuming some.
Abilities, but.
How should we think about.
Clearly you saw some value I guess in adding what adding the products. So is this now something.
You'd look to go after and build more organically or are there other acquisitions out there or.
Yeah, Hey, Joe This is Jonathan I'm, sorry, you're breaking up I wasn't able to break out anything you said I apologize we may have to follow up with you.
Afterwards, we got a bad connection.
Okay can you hear me now and I'm sure. If you can still hear so apologies for the for the confusion, but yes, we'll follow up with you okay.
Okay. Thanks.
Yeah.
Thank you I'll turn the conference call back over to management for closing comments.
Okay, well sorry for the very last question there in terms of it looks some technical difficulties, who knows given today's world, who knows where that could be but anyway with that thank you very much for your participation today.
The most important thing I would say as a takeaway from the discussion.
Like I said a moment ago.
You know there's no crying in baseball and we're not looking for sympathy. It is a challenging market out there, but if you have a cohesive team with a strong operating system strong leadership and committed people you'll get through anything I believe and we're getting through it just like everybody else is very proud of the team.
Not only building on our very strong internal combustion engine business, but truly being ahead of the disruption and electrification and sustainability in making sure that our customers have the products that they need to products and systems they need to be successful in the future. So hopefully that was your takeaway from the quarter. Thank you very much for your participation.
Thank you for participating on today's Dana Conference call you may now disconnect.
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