Q3 2022 Oshkosh Corp Earnings Call
We're also managing our costs to better align spending levels with our constrained production rates for.
For the quarter, we reported revenue of $2.07 billion with adjusted earnings per share of $1, a 144% sequential improvement from earnings per share of 41 in the second quarter and down modestly from the prior year quarter.
I am proud of our team's resiliency as they delivered these results. Despite a number of challenges in the quarter, including hurricane in which caused us to shut down our Florida facilities for the last week of September and a major shortage of axle castings in the defense segment, which caused two weeks of lost production.
As we have shared in the past we are proud of Oshkosh is strong environmental social and governance or ESG leadership in recognition of our leadership MSCI updated its risk profile for Oshkosh, and we achieved a triple a rating, which puts us in the top 3% of our industry.
Category, we are dedicated to taking the right actions to responsibly deliver results for our stakeholders.
As we move into the final quarter of the year, we are maintaining our most recent expectations of revenues and adjusted earnings per share in the range of $8 3 billion and $3.50 per share respectively.
Mike will share additional details on our expectations in his section.
While it is not possible to predict when supply chain conditions will improve our disciplined actions to increase prices and manage costs are contributing to improved results, particularly at access equipment. We are confident in our people our company and our outlook for the remainder of 'twenty, two and believe we will.
The year in a stronger position to deliver growth in 2023 and beyond.
Please turn to slide four and we'll get started on our on our segment updates with access equipment.
As I mentioned in my opening comments, our access equipment team delivered strong performance in the third quarter with a 420 basis point adjusted operating income margin improvement sequentially.
And our nearly 800 basis point improvement year over year, while supply chain dynamics continued to limit production as well as contribute to elevated freight and expediting costs or pricing actions drove strong earnings improvement.
As expected, we largely work through the remaining price protected backlog in the third quarter and returned to delivering double digit operating margins.
Team at access equipment remained focused on improving supply chain efficiency, including qualifying additional suppliers, allowing us to both dual source components and leverage alternate sourcing strategies that will optimize parts flow and maximize our production rates.
We continue to experience strong demand for our market, leading <unk> products and our backlog remains elevated at $3 9 billion. The strong demand is driven by robust market fundamentals, including age fleets high utilization rates and continued solid nonresidential construction met.
<unk> as well as technology adoption orders were high once again at nearly $1 billion in the quarter. We believe we have good visibility to customer requirements for 2023, well beyond our current backlog and discussions for 2024 requirements are already beginning in some cases.
Please turn to slide five and I'll review, our defense segment.
Revenues for the defense segment were lower in the quarter versus the prior year due to lower vehicle production as a result.
Significant production disruptions caused by parts shortages and planned reductions in Dod spending on tactical wheeled vehicles.
As I mentioned axles and related components drove the most significant disruptions impacting both sales and manufacturing efficiencies. We also recorded unfavorable cumulative catch up charges in the quarter as material and freight cost escalation had been more persistent than previously expected.
These events reduced operating income during the quarter below our prior expectations.
Moving to an update on key programs, we submitted our proposal for the J LTV to contract in August and we expect to hear the Army's decision in early 2023, we believe our strength in manufacturing and technology bring substantial benefits to our customer and we are confident that.
We can deliver even more value to our customer in the future.
We achieved some important wins for margin accretive programs during the quarter as well.
Notably we were announced as the winner of the <unk> trailer competition. The contract is worth approximately $260 million over the next several years. We received the first delivery order for 73 trailers that we will deliver in 2024 and 2025 in conjunction with our Dutch partner brochures.
Late in the quarter the U S. Marine Corps awarded US a contract for the Rogue fires mobile launch system Rogue fires as an unmanned four by four J LTV that houses a launcher to fire naval strike missiles and is another example of Oshkosh, leveraging our technology developed for one program.
And successfully applying it to another program.
Last week Lithuania's Ministry of Defense announced its intention to purchase 300 additional J LTV units.
Finally, we are pleased to welcome Tim Black to his new role as President of our Defense segment, Tim work side by side with our retiring President John Bryant for many years and together they were instrumental in delivering several key program wins, including J LTV, one Mg DB.
And Stryker Mcw S. Among others I want to personally thank John Brian for his years of service to both our company and the U S. Marine Corps, we're confident that Tim in the entire defense team, we will continue to execute our successful strategy and drive profitable growth in the segment.
Let's turn to slide six for a discussion of the fire and emergency segment.
Demand remains very strong for municipal fire trucks, and our team at peers continues to strengthen its position in the marketplace with outstanding new products, including our Voltaire electric vehicles and other productivity enhancing features.
Supply chain disruptions in manufacturing challenges due in part to workforce availability have limited our ability to produce to our targeted rates. This led to lower fire truck deliveries and higher manufacturing inefficiencies in the quarter, thus contributing to a lower than typical operating margin of seven.
8%.
We experienced modest improvements in some supplier metrics during the quarter such as past due purchase orders, but we are not experiencing the sustained improvements we need to consistently achieve planned production rates in our facilities.
We believe our purchasing and operations leaders are taking the right actions and we remain confident that fire and emergency will return to strong double digit operating margins as supply chain improve and our production volumes increase to keep pace with demand.
This strong demand is supported by aged fleets and solid municipal funding that are driving the market for fire trucks Pierce's backlog is and all is at an all time high up more than 80% compared to the prior year highlighting excellent demand for our products.
As evidenced by our leading market share.
During the quarter, we partnered with our dealers to secure many notable orders two of which I'd like to highlight first our dealer in Florida won a large order with the city of Jacksonville for 15 custom fire trucks and second our dealer in Texas secured a strategic order with the city of Dallas.
Before we leave fire and emergency I'm proud to highlight that Gilbert Arizona.
Is our latest customer for a bolt Tara electric fire truck Gilbert will provide us with a hot climate environment that will benefit our development activities.
Please turn to slide seven and we'll talk about our commercial segment.
In the commercial segment sales were up versus the prior year, but third party chassis availability remained constrained.
Adjusted operating margins were down versus the prior year as a result of increased new product development and technology investments as well as higher warranty costs. We continue to make investments in automation that we believe will improve our operations and our competitive position for the long term.
For example, our team at commercial is implementing its manufacturing 4.0 strategy, which will increase capacity improve efficiency and raise quality, while reducing the need for additional head count in a labor constrained market earlier. This year, we started up our first refuse collection vehicle.
High flow line, and Dodge Center and the line is redefining how we produce our Cvs, we expect further benefits in 2023 and beyond as we continue to ramp to full rate production and the supply chain improves we expect to rollout additional high flow lines for RCB production.
In the coming years with that I'm going to turn it over to Mike to discuss our results in more detail and our expectations for the remainder of 2022.
Thanks, John Please turn to slide eight.
Adjusted operating income of $114 million for the third quarter was in line with our expectations. Despite the unplanned revenue shortfall of approximately $130 million, primarily due to supply chain disruptions as John discussed defense production was impacted by a number of axle and related.
<unk> shortages during the quarter.
Further our revised outlook for higher inflation protections in our defense segment.
An unfavorable cumulative catch up adjustment during the quarter of approximately $14 million versus our most recent expectations strong price realization and favorable mix, particularly at access equipment as well as prudent cost management offset the lower than expected consolidated sales volume and <unk>.
Unfavorable cumulative catch up adjustments versus our most recent expectations.
Adjusted EPS was negatively impacted versus our most recent expectations by approximately six cents due to unfavorable foreign currency translation adjustments as a result of the impacts of weakening foreign currencies relative to the U S. Dollar our tax rate was also modestly higher than our most recent expectations.
Moving to a comparison versus the prior year revenue was up $4 million to $2 <unk> 7 billion access equipment and commercial segment revenues were up by $192 million and $31 million, respectively, driven primarily by the benefit of higher pricing.
As well as increased sales volume in North America at access equipment.
In fire <unk> emergency sales were down by $132 million and $91 million, respectively, driven primarily by supply chain disruptions impacting production as well as expected lower Dod tactical wheeled vehicle requirements in the defense segment and lower RF demand in the fire and emergency segment.
As airports spending has not returned to pre pandemic levels.
Adjusted operating income was up $10 million versus the prior year to $114 million or five 5% of sales representing a nine 4% increase.
Access equipment, adjusted operating income increased $87 million to $118 million or 11, 3% of sales versus the prior year. This represents an impressive 770 basis point improvement in adjusted margins versus the prior year driven by improved price cost dynamics.
As a result of our pricing actions catching up to increased costs as well as improved absorption lower product liability costs and lower incentive compensation.
Defense operating income was down $47 million versus the prior year on lower sales driven by a combination of supply chain disruptions experienced during the quarter as well as planned lower tactical wheeled vehicle production, resulting from lower Dod budgets operating income was impacted by lower sales volume unfavorable.
Cumulative catch up adjustments versus the prior year as a result of persistent inflation and unfavorable product mix.
Fire <unk> emergency operating income was down $28 million versus the prior year as a result of lower sales volume driven in part by supply chain disruption and unfavorable price cost dynamics <unk>.
Consolidated price cost dynamics improved approximately $55 million sequentially versus the second quarter.
Adjusted EPS was $1 per share for the quarter compared to $1 <unk> per share in the prior year. Adjusted EPS was negatively impacted by approximately <unk> by the aforementioned foreign currency translation adjustments and 15 cents due to a higher effective tax rate versus the prior year.
Your share count benefited earnings per share by five cents. Please.
Please turn to slide nine for a discussion of our updated expectations for 2022.
Last quarter, we said that we expected 2022 sales and adjusted EPS to be in the range of $8 3 billion and $3 50 per share respectively, where expectations were based on supply chain and inflation conditions remaining the same as we experienced in the second quarter, while on time delivery metrics have improved in pockets.
These metrics remain well off of historic norms and below levels that facilitate smooth production as previously mentioned supply chain disruptions contributed to a $130 million revenue shortfall in the third quarter versus our most recent expectations. Further inflation is remain persistent as supported by recent PPI data.
Despite improvement in some commodities, we tend to continue to price for inflation in our nondefense businesses as demonstrated by our margin improvement during the third quarter in the access equipment segment.
Despite these challenges we are reaffirming our expectation of fiscal 2022 sales and adjusted EPS to be in the range of $8 3 billion and $3 50 per share respectively. This implies fourth quarter EPS in the range of $1 85.
As we look to the fourth quarter versus the third quarter. There are three key factors that support our outlook one the expected benefit of increased volume at defense and access equipment.
To the benefit of an expected positive cumulative catch up adjustment from incoming orders anticipated in the fourth quarter compared to a charge in the third quarter in defense and three the expected benefit of cost management actions throughout the company to align our costs with the constrained production environment of course, the environment remains.
Volatile and difficult to forecast so we remain laser focused on execution.
Current supply chain inflation conditions remain a challenge we are encouraged by the strong recovery of access equipment margins during the quarter as well as robust demand for our market leading products and we remain confident in our long term outlook I will turn it back over to John now for some closing comments.
We delivered significant sequential improvement in margins and it is clear we benefited from pricing actions in our non defense end markets.
We will continue to remain focused on managing costs and staying disciplined with our pricing approach. During this time of high inflation.
Supply chain remains our most significant challenge and we will continue to take actions to drive a more resilient supply chain over time importantly, we believe the fundamentals in our end markets remain very strong and finally, we expect to exit 2022 in a stronger position as we head into 2023.
And beyond Okay, Pat back to you. Thanks, Jen I would like to remind everybody. Please limit your questions to one plus a follow up and please stay disciplined on that follow up question. Afterwards, we ask that you get back in queue, if you'd like to ask additional questions.
Operator, please begin the Q&A portion of this call.
Thank you we will now be conducting a question and answer session.
I would like to ask a question. Please press star one on your telephone keypad.
Formations on will indicate that your line is in the question queue you.
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One moment, please while we pull for any questions.
Our first question comes from the line of Jerry Revich with Goldman Sachs. Please proceed with your question.
Yes, hi, good morning, everyone.
Good morning, Jerry.
John .
We are hearing from.
A number of your customers about nice sized price increases.
Dissipated for 2023 and I'm wondering.
If we're looking for pricing to be up mid to high single digits next year.
Would that get you to your historical.
Low to mid teens margin profiles at this four plus billion dollar revenue run rate.
Its equipment does that essentially make up for all of the volatility we've seen on the cost structure over the past couple of years. Thanks.
I'll start I'll start that Gerry this is Mike.
I would say first of all if you look at access were.
Obviously, a real strong margin really with then.
About 100 basis points of what our prior peak was and.
And that's still on a very constrained supply environment, which is limiting our output and contributing to labor inefficiencies from a true price cost perspective.
We're approaching that neutral and we expect to exit the year neutral to positive really in our non defense businesses. So I would say right now the.
The margin opportunity going forward is really the cadence of supply chain improvement versus.
The price cost dynamic.
Okay Super. Thank you and then can we talk about.
Defense segment the cumulative.
Cumulative catch up adjustment can you just say more about.
Which of the programs the catch up was related to this quarter.
And is there a particular input cost dynamics drove it was expedited freight inefficiencies that were unable to recover with the pass through mechanisms or any additional color on that if you wouldn't mind.
Sure I guess first of all two things I think first of all for the quarter. The bigger driver of defense performance versus the CCA was actually the volume interruption that we had due to the actual casting challenge. So that was a bigger impact we did have a negative CCA. It was really on our major programs G. LTV in FM TV.
<unk>.
It's really what it is is we're continually looking at third party projections of inflation and freight and other items the projections of them staying elevated for longer is really what's causing the impacts we're looking at a lot of experts.
Every quarters, we're looking at it obviously is much smaller than <unk>.
This past quarter and again, we do expect as we go to the fourth quarter with expected incoming orders that our CCA should be a benefit.
Super Thanks.
Thank you.
Thank you. Our next question comes from the line of Mig <unk> with Baird. Please proceed with your question.
Thank you and good morning, everyone.
Just to just to clarify and defense here since we've seen obviously a lot of moving parts to margin in 'twenty two.
Can you pinpoint how you were thinking about margin in the fourth quarter here, presumably you've got decent visibility at this point and then.
Is it fair for us to expect margins to normalize in 2023 or are there other items like CCA that that might be creating distortion next year as well.
Just to start off Mig I think the defense business, obviously, we've had some ccas but.
This is a good solid margin business going forward and our view Hasnt changed there as we go from the <unk>.
Really the bridge from the third quarter to the fourth quarter, it's really three items driving that defense being one of the biggest so we do expect to see some more volume as we go from the third to fourth quarter that certainly will be beneficial to defensive margins and really about half of that volume uplift is really split between act.
US in defense I would say the other pieces, we expect a positive a positive CCA because we're going to have some large.
Jail, TV MTV orders expected coming and so we tend to get a benefit.
From having a negative to an expected positive. So we do expect that margins will be more robust in the defense segment as we go into the fourth quarter, Yeah, and Hey, Mig It's John I'll, just add a little bit to that I think we.
We would say that we expect a more normalized margin in 2023.
But also I want to say more long term defense is a good business. You know you look at the quarter this quarter and last quarter and scratch your head, but defense is a good business and it's it's a long term growth driver from 2024 for Oshkosh Corporation.
So where we're confident on the defense business is in.
'twenty three and beyond.
Understood and then I guess my follow up.
On access equipment.
Right.
We're looking at the order intake that you had this quarter about $950 million thereabouts do you sort of view. This order intake level as sustainable is this sort of the new normalized level based on what you're kind of hearing from customers.
And I'm also curious in terms of whether or not you are opening order books.
Sort of what are you what are you told us last quarter. I mean, you talked about 2024 are you in a position where you can actually take firm firm orders for 24. Thank you.
Yes, Great question Mig, let me clarify, where we're seeing really strong demand.
In the access equipment segment, you look at the orders this past quarter Q3, near a $1 billion. That's a really healthy order rate and as you say, we're taking orders now because we've got a $3 $9 billion backlog for late 'twenty three into 2024. So this is that's kind of in unprecedented territory for.
The access equipment industry and for Jay LG. So it's more of a managed order book versus a free flow order book.
But also recall a year ago in the third quarter, we had a gigantic order book that our order intake that quarter, primarily because of one huge order from one of our biggest customers so the comp versus a year ago.
<unk> is a little bit misleading if you talk to any of our customers. There is lots of publicly traded customers that we have the talk about it they are increasing their capex plans they can't get enough equipment.
Theres Mega projects going on unprecedented Mega projects, a lot of them bills passed by Congress that are starting to take shape. They are just beginning to take shape theyre absorbing a lot of the fleet that's in the market more than they normally would and therefore, our customer base is saying hey, we've got to adjust to this.
Keep adding fleet and replacing fleet and so that's why we have confidence that we're in a multiyear growth cycle.
So that's what I'll say about the demand and the access world right now.
I appreciate it.
Thanks Meg.
And our next question comes from the line of Jamie Cook with Credit Suisse. Please proceed with your question.
Hi, Good morning, I'll try this question, although my guess is youre not going to want to answer it.
I'm just trying to look at the run rate of earnings in the back half of 2022, and what that implies for 2023.
Understanding there's a lot of unusual things going on but the street I think has earnings next year of $6 50, which as you know.
Almost doubling your earnings relative to where we sit today so is there.
I mean, you may not take the back half is a good run rate I'm, just trying to think about 2023, and whether or not that the guidance or the consensus out there needs to be derisked. Thank you.
Yes, Jamie we're not we're not ready to provide guidance yet for next year, but a few things obviously, we saw significant improvement from.
From Q2 to Q3 really driven by price cost, obviously supply chain remains a constraint. So that's that will be a variable as we go into next year. Obviously, we expect some some some solid growth from the third quarter to the fourth quarter and I think it might be just worth mentioning those three items I think from a.
Number one we expect a bit more volume with defense going back to more normal production. They are back there now getting past the actual challenges combined with they have a little we are a little bit more international volume, we expect for access for some in transit units on.
On the water right now.
Again, the CCA benefit is another.
Another driver and then.
Also also the spending benefits. So I think that's really what we see the bridge and then I guess, if we we look to next year that CCA benefit is not something that recurs every quarter that that's a more discreet event. So that's something that's not necessarily a run rate type item.
I think it's.
Mike talked about a few benefits that we get the recurring client try three but it's safe to say that it's more similar to the back half of this year than the front half of this year.
Okay. Thank you.
And our next question comes from the line of Stephen Volkmann with Jefferies. Please proceed with your question.
Great Hey, guys. Thanks for taking the question Mike can I go back to your three things.
We've talked you've talked about the positive CCA adjustment a couple of times can you just quantify that.
Sure. So there's a there's about an 85 cent uplift from from Q3 to Q4 that we expect I'll break it down in those three buckets about about 20% of that or excuse me about 40% of that is volume about 40% of it.
CCA flipping from negative to positive.
Expected and then the last 20% of that is spending related.
Okay, Great and then on the spending related is that SG&A or is there more that's being done does that affect any specific segment more than others.
It's largely SG&A and what I would say is it's really across the board. Obviously, we have a constrained production environment. So what we're we're just prudently trying to align our spending with our constrained production levels.
But I'd say, it's really across the board.
Thank you so much.
Sure. Thanks, Steve.
And our next question comes from the line of Tami Zakaria with Jpmorgan. Please proceed with your question.
Hi, good morning, Thank you so much.
So I just wanted to clarify what you said about CCA.
You had some negative.
Catch up adjustment in the second and third quarter.
It seems like it was about 40 million in total.
If commodity prices stay where they are will you recapture all of this had been nextgen I'm just trying to model next.
Next year, so is it like a fool recapture we should be modeling.
So what we're doing Tammy is when we're resetting we're really looking at what our expectations are for cost for the remainder of our program. So in some cases, we're looking out three or four years predicting what the costs are in looking at expert cost curve. So if commodities stay about where they're at.
That really is going to be not a particularly big net negative or a net positive. It will stay there'll be fairly neutral. So if you saw like an outsized drop versus what leading experts would say you would get a benefit Conversely, if you see.
Higher inflation levels it could be a headwind so I would say right. Now. This is this reflects our best estimate of what the margins will be on the program going forward and again I think the important point is again, you get an outsized impact in one quarter, because you're essentially catching up.
An entire program to get it to that new margin levels. So you can have a bigger impact, but again, we expect a more normalized type margins next year as we are.
The defense segment.
Got it that is very helpful. And then another quick one.
How should we think about R&D spend.
Next year.
Is there an able to comment.
Yes, sure we've had a step up in R&D in 2022, and we will continue to increase it more in 2023.
We invest a lot in technology, you've seen us put electrified product into the market in almost every segment. We serve you've seen us do a lot with autonomy I've talked about that rogue fires. That's an unmanned vehicles. So we continue to invest in technology, but I think when you look at it as a percent of sales, it's not materially different while we're stepping it up in <unk>.
When you look at it as a percent of sales in 'twenty three it's not materially different.
Great. Thank you so much.
Thanks Tammy.
And our next question comes from the line of Michael Senator with Bank of America. Please proceed with your question.
Hey, guys. Thanks for taking my question the inventories or are building and that makes sense and big backlog I'm. Just curious what areas. We're seeing you guys are building that inventory and where do you think free cash flow kind of finishing this year and will we expect a more normalized return in 2002.
Three.
Yes, I think from an inventory perspective, we're you're certainly seeing higher levels really all categories, but I'd say, particularly web and raw.
<unk> is where you're seeing that and that's reflective of a obviously manufacturing not being in normal flow right now.
You'll see a little bit higher finished goods some of Thats just some of the previously mentioned and transit international goods. So that probably begins to resolve itself in the fourth quarter I would say from a free cash flow perspective for the year, we're looking probably in that $200 million to $250 million range.
<unk>.
I'd say that ultimately free cash flow starts normalizing as we get into next year as as production again, I think it's highly correlated to what production looks like what supply chain looks like that type of thing, but I would say right now the inventories are really driven by the current state of production.
Makes sense and then just when we think of the ordering patterns and in access just is there any differences between what we know from the big national branches versus the smaller independents are you seeing the small independent ordering.
Stronger than what we can see from the poly's peers, just love to get some color there on how youre seeing the ordering trends between those two customers.
Yeah, Michael demand for both Irc's and Nrc's the big Nationals.
Yeah.
It's strong for both of them.
And I don't know that Theres, a material difference in how much.
<unk>.
<unk> of demand that there is.
The IRC mix of the independent mix was a slight tailwind in Q3.
But overall I think it's pretty equal in terms of the equipment and the need to replace fleet that's been aging.
And across the board a lot of desire for additional fleet to serve some of the additional applications of the equipment and the growth of the Mega projects the growth of the Mega projects, though does tend to go much much more to the big national companies in the IR space, but it's really across the board.
Thank you and our next question comes from the line of Stanley Elliott with Stifel. Please proceed with your question.
Hey, good morning, everyone and thank you all for taking the question.
Quick question, we didn't hear a whole lot on the on the USPS contract has anything changed with that and then curious if that has any impact on some of the CCA adjustments.
Yes.
First of all I'll comment on the program and then let Mike comment on the CCA. We go it's full steam ahead with with U S. Postal service on our <unk> platform.
We are scheduled to go into production in 2023 next year, you'll start seeing vehicles delivered and hit the streets in the end of 2023. So no news is good news I would say.
Everything's continuing to progress with it we're really excited about it the postal service is excited about it we have great.
Our collaboration with them as we continue to bring this vehicle to production.
So beyond that I will let Mike comment on.
On the Ccas sure Stanley It similar to other other long term contracts. There is contract accounting there, but were not recognized we won't start recognizing any revenue on postpone probably start producing the units that will be late next year, So really no impact of Ccas.
Perfect and then switching gears to the fire <unk> emergency business, you mentioned supply chain manufacturing challenges and I guess workforce availability as well as well.
So much of the production kind of localized in Wisconsin area at least for the Pierce brand.
What are some of the other things tool can do to try to alleviate that because the backlogs are massive and there's obviously a huge demand for the products you bring into market.
Yes, so just.
I'll outline the challenge with.
With Anthony first of all we've seen continued progress in navigating a tough supply and in the access equipment segment. So you go over to the <unk> segment and that's our most complicated product I mean, if you take a municipal fire truck.
Very complicated has a long bill of materials, a lot of them sell for $1 million.
<unk>.
So theres more of that that can go wrong on building a fire truck than most of the other equipment that we make so we're still going through that learning curve, we're still making adjustments where still.
Expanding capacity at suppliers are adding new suppliers, where we see we need new capacity and I expect we'll continue to navigate through that and get continued improvement as we go forward.
I would say that.
We are very confident in the F&B business, we're going to continue that we're confident enough that we're continuing to add capacity because we need more capacity.
To deliver on that strong backlog and we've got great new products like the electric bolt Terra that's going to put upward pressure on demand for many years as as municipalities continue to upgrade fleets. So so bottom line is we will get this under control and navigate through it and we're confident <unk> going to.
A return to the margins, we expect which is strong double digit margins.
And Stanley One thing I would mentioned we talked about this I believe last last call that.
With that we are.
Leveraging defensive plant as well down in Tennessee, we're doing some fabrication welding activities for <unk>.
Just starting to ramp so we will get a little we're getting some geographic diversity there as well that's also benefiting access as well.
Thanks, guys best of luck.
Thank you and as a reminder, if you'd like to ask a question. Please press star one.
Our next question comes from the line of Seth Weber with Wells Fargo Securities. Please proceed with your question.
Hey, guys good morning.
I've heard you guys talk about normalized defense margins a couple of times can you just remind us what you think that might be.
It's been kind of all over the place for the last number of years as it is it sort of high single digits mid to high <unk>, just any kind of framework that we should be thinking about for.
Normalized defense margins going forward. Thank you.
So what I'd say is.
Historically, it's been.
Sort of the high single digits I think what we've talked about over the last year as while we're ramping up postpone we are carrying.
100 basis point.
<unk> of SG&A that related to that ramps so thats that.
The margin down a bit temporarily.
So that's obviously an impact but again, we expect that once we.
We've talked about volume next year, obviously this year is down a bit next year with tactical wheeled vehicle.
Maybe similar but again once these new programs start ramping up that's when we'll also get some additional benefit from a margin as well.
Again, our other than postpone a few of those other things just in the short term no major changes to our views.
Hey, Seth let me just add to that.
You know inflation has been tough for the defense business and that's reflected in these cumulative catch up charges that we've had.
The Department of Defense has developed they recognize this they've developed an economic price adjustment as a result of some of the higher inflation. It's been the highest in 40 years as we all know.
It contains EPA as her economic price adjustments with that provide.
Adjustment of contract prices based upon movement of our cost index. So we think this is a very positive development with our customer.
And we feel pretty good about that as we go forward.
That's helpful. Thanks, and then just as a follow up on the access orders or the backlog that you're that you're sitting at.
Can you just talk to us how much of that has firm pricing.
How much is like provisional pricing or just how youre tired.
Going to your how you or.
Your conversations with your customers are around the pricing that's in the backlog right now for for orders for next year. Thanks.
Yeah, So I'll talk about those John .
As we as we are here in the fourth quarter of 2022.
We are pricing on the entire backlog, but we also have.
Ts and CS that allow us to make adjustments should inflation plus.
Proceed.
Beyond our expectations now we're going to do everything in our power to keep our costs down and not have to do that to our customers. Because we certainly don't want to do that but if it if it continues to accelerate it at least gives us the protection that we need.
But if you look at 2022, you know everything we've shipped has been based upon the exact price at the time of order and we've changed our process a little bit to give ourselves a little bit more protection because of the inflationary environment that we're in so it's got a price on it that.
That price will stay the same unless there is a significant change in inflation.
Okay.
That's indexed is sort of tied to some.
Okay.
Commodity index or.
What should we be watching.
Indicate that you should be watching whether or not inflation continues to go up and then beyond what economists are predicting it will go up.
But I I don't want to get into the mechanics of how it works.
Okay, Alright, guys. Thank you.
Thanks Seth.
And our next question comes from the line of Steven Fisher with UBS. Please proceed with your question.
Thanks, Good morning, I'm not sure if I missed this because I dropped off for a minute, but you mentioned the 40% volume benefits in Q4 relative to Q3.
What gives you the confidence that those volumes will be able to expand given that there had been some ongoing production constraints is that based on your sort of current run rate of production or.
Are there any other factors there.
Sure. It's really it's really two items. The first one is really some additional volume at <unk>. Some of Thats built inventory already that just in the water going to international locations. So that's number one that there is not a.
There is not further inventory to build to.
The leverage that.
The second really be the second half of that is really defense with the defense really hasn't had a lot of significant disruption due to supply chain, they've certainly had some but not to the magnitude of some of our other businesses, but some of that I mentioned.
Actual casting challenges that shutter lying down for two weeks, we're back to running at rates right. Now. So that's just reflective of us running at at a more typical rate.
Okay. That's helpful. And then did you say.
Where you are with price versus cost for the year.
There was a.
$3 million number previously.
And kind of what are the steel prices you're embedding into your Q4 guidance. Thank you.
Sure.
So price cost remains pretty much what we said on last call. The full year headwind again measuring back to the beginning of inflation up $250 million with about 200 of that in the first half of the year $50 million headwind in the back half of the year.
So we did get a little bit of a pull ahead of price.
The third quarter, you saw that in some of the benefit and ask us. So I would I would expect similar price cost dynamics.
The fourth quarter and.
It really from a steel perspective hot rolled coils come down plate still elevated there is certainly a lag with of as much as six months with with hot rolled coil is that as that comes down to try to get a benefit but again, that's just one element of our.
Of all of our commodity cost or excuse me inflation in general.
I'll just make an additional comment on this topic I think it's a little bit related to this.
I think the good thing about our Q3 is we're showing that we're actually able to price for inflation.
And I think that came through loud and clear and if you look at our Q3 operating income it's at or ahead of our expectation. When you look at below the line. There were some items that pulled our EPS down a bit but our operating income is <unk>.
At or ahead of our expectations and that's with an unexpected two week shutdown in our defense plant and an unexpected cumulative catch up charge. So as we go into Q4.
With pricing, where we think it needs to be and then go into 'twenty three.
We're we're feeling.
Good about this.
Terrific. Thank you.
Thanks, Steve.
There are no further questions at this time and now I would like to turn the floor back over to John Sweeney for any closing comments.
Yes, thanks for joining us today, everyone. We are certainly committed to driving long term profitable growth and we've got a lot out there that's going to that's going to deliver that please stay safe and healthy and we look forward to speaking with you very soon.
Thank you. This does conclude today's conference call. You may now disconnect. Your lines at this time. Thank you for your participation and have a great day.
Okay.
Mhm.