Q4 2022 Magna International Inc Earnings Call

Ladies and gentlemen, please standby the conference will begin momentarily.

Thank you for your patience and ask that you. Please remain on the line.

[music].

Okay.

Greetings and welcome to the Q4 and year end 2022 results and 2023 outlook conference call.

During the presentation, all participants will be in a listen only mode.

Afterwards, we will conduct a question and answer session.

If you have a question. Please press the one followed by the four on your telephone.

If at any time during the conference you need to reach an operator, Please press star zero.

As a reminder, this conference is being recorded Friday February 10th 2023.

I would now like to turn the conference over to Louis Tonelli, Vice President of Investor Relations. Please.

Please go ahead.

Thanks, Chris Hello, everyone and welcome to our conference call covering our 'twenty two results and our 2023 outlook Tony.

Joining me today are swamy quota, Gary instability and Pat Mccann.

Yesterday, our board of directors met and approved our financial results for 2022, as well as our financial outlook.

We issued a press release this morning outlining both of these.

You'll find the press release today's conference call webcast. The slide presentation to go along with the call and our updated quarterly financial review all in the Investor Relations section of our website at Magna Dotcom.

Before we get started just as a reminder, the discussion today may contain forward looking information or forward looking statements within the meaning of the applicable securities legislation.

Such statements involve certain risks assumptions and uncertainties, which may cause the company's actual or future results and performance to be materially different from those expressed or implied in these statements.

Please refer to today's press release for a complete description of our safe Harbor disclaimer.

Please also refer to as a reminder, slide today included in our presentation relates to our commentary.

This morning, we'll cover our 2022 highlights as well as our Q4 results.

Then provide our 2023 outlook and lastly runs through our financial strategy and with that I'll pass it over to Swamy.

Thank you Louis good morning to everyone.

Today, I'll recap 'twenty 'twenty to comment on our results and address our outlook.

2022 was another difficult year for the automotive industry and for Magna.

The year started with continued supply chain disruptions, most notably the lack of semiconductor chips, which was expected to improve.

Really during 'twenty, two but instead remain an issue throughout the year.

Although vehicle build recovered from the 2021 levels.

Production schedules remained volatile throughout 2022, which drove significant inefficiencies in our operations, including cap labor overtime and stocking availability issues to name a few.

It also had an adverse impact on our ability to achieve our continuous improvement plans and optimize our cost structure across the company.

We also started 2022 expecting net input cost inflation of about $275 million year over ear.

Conflict in the Ukraine created additional input cost pressure, particularly in energy.

And China's zero Covid policy resulted in Lockdowns and further supply chain pressures.

These factors drove an additional $290 million of net cost headwinds primarily energy related.

Despite significant cost volatility through 2022, we were able to slightly improve from a revised 565 million and net input cost from our April Q1 call.

We ended at $530 million for the year.

Sure.

In the context of this industry environment at tremendous amount of effort was expanded by our team to manage through the challenges launch business negotiate customer recoveries and resolve commercial items.

Were also successful in booking a record amount of business for Magna.

So while we are not happy with our 2022 results as a whole and especially with underperformance in some of our facilities.

I appreciate it.

Its efforts made across the company.

Unfortunately, we entered a difficult year with disappointing Q4 results relative to our expectations entering the quarter.

Although our sales of $9 6 billion in the fourth quarter of 2022 were up 5% year over year compared to our outlook Q4 sales were lower and mix was negative with our operating segments down almost $400 million, excluding complete vehicles and the impact of foreign exchange.

Yes.

Turning back to year over year.

EBIT margin for Q4 declined to three 7%. This was due to both internal and external factors.

Internal factors included higher warranty expense, which cost us about 35 basis points provisions against certain balance sheet amounts about 30 basis points and operating under performance at our facility in Europe by approximately 25 basis points.

External factors included continued inefficiencies caused by ongoing last minute reductions in OEM production schedules and at customer footprint decision that resulted in our having to take asset impairment charges, which was about five basis points.

These were partially offset by higher commercial resolutions, which positively impacted us by about 25 basis points.

Adjusted EPS was <unk> 91 for the quarter ending the year at $4.10.

And mainly as a result of lower EBIT free cash flow in Q4 was $340 million, which was below our 2022 outlook.

I recognize that we have operations that have underperformed our expectations this past year.

Operational excellence remains core to Magna, a key differentiator and a fundamental element of our strategy going forward.

Although we incurred additional cost to do so we once again managed to minimize disruption to OEM production. Despite continued supply chain challenges and volatile studios.

Our customers continue to recognize the efforts and operational excellence and innovation last year, we received 187 customer rewards.

And our progress continues towards net carbon neutrality in our operations.

Part of how we address operational excellence is through a focus on people.

We developed the operational management accelerator program to enhance the technical breadth of our future general managers and leaders. This will ensure we can fill the pipeline of future leadership across Magna.

And I am proud that Magna received 14, leading employer recognition this past year, including from Forbes for the sixth consecutive year as world's best employers.

Turning to sales growth.

Outgrew our markets in 2022 by 7% and once again, we achieved this our growth in each of our major regions North America, Europe and Asia.

We were awarded a record amount of business about $11 billion annually for 2022.

This represents more than 30% above the average for last five years. The awards. We expect this to drive strong sales growth over market and improved returns as these programs launch and.

We signed an agreement to acquire <unk> active safety.

This will further accelerate our growth and position us as a leader in the fast growing <unk> market.

We have begun planning to ensure a smooth integration of the business once the transaction closes this year.

Finally, we remain committed to innovation.

We were awarded substantial new business and a number of core innovation areas. This includes battery enclosures E drive driver monitoring systems and smart access power doors.

We won another automotive news pace award our fixed such awards in the past eight years.

Our commitment to innovation continues as we communicated last year, we increased our R&D investments in mobility megatrend areas in 2022 to support awarded programs and opportunities with that Pat I'll pass it off to you.

Thanks, Bobby and good morning, everyone I will start with a detailed review of our financial results.

As Swamy indicated our 2022 results were impacted by continued significant disruptions and OEM production schedules, mainly due to supply chip shortages and input cost inflation in our primary markets to levels, we have not experienced for decades.

Overall global light vehicle production increased 6% in 2022 or 5% weighted for our geographic sales.

Our consolidated sales rose, 4% year over year on.

On an organic basis, our sales increased 12% driving a 7% weighted growth over market for the year in part due to the customer recoveries.

However, our adjusted EBIT margin and EPS declined during 2022.

Being the most significant factor b.

Cost headwinds.

Net of customer recovery, which reduced our consolidated EBIT margin by about 160 basis points.

Start stop production impacts while difficult to quantify were also a meaningful headwind to gaining some of the positive impact of higher sales.

In addition, operating inefficiencies at our facility in Europe cost US 35 basis points.

And higher engineering to support our activities in electrification and E&S negatively impacted margins by 25 basis points.

Partially offsetting these favorable.

Stable commercial resolutions that benefited margin by about 45 basis points.

For the fourth quarter Global light vehicle production increased 5% as North America increased 7%, China increased 3%, while Europe declined 1%.

On a magna weighted basis production increased 5% in the fourth quarter.

Our consolidated sales were $9 6 billion compared to $9 1 billion in Q4 2021.

We had strong relative sales performance in the quarter with organic sales outperforming weighted production by 8% again in part due to customer recoveries. However.

However continued OEM production schedule volatility negatively impacted our pull through on the higher sales.

We had disappointing EBIT margin performance in the quarter, which resulted in Q4 EPS that was also lower than we expected and lower than 2021.

Let me take you through the specifics on our margin.

Adjusted EBIT was $356 million and adjusted EBIT margin decreased 190 basis points to three 7%, which compares to five 6% in Q4 2021.

The lower EBIT percentage in the corner.

Quarter reflects higher engineering spend for electrification autonomy increased net warranty expense higher launch costs operational inefficiencies at a facility in Europe and provisions recorded against accounts receivable and other balances.

These are partially offset by the impact of foreign currency translation commercial resolution and higher contribution on sales, although significantly hampered by OEM production volatility.

As we indicated in our early warning press release last month. Some of these items were not anticipated when we provided our outlook in early November 2022.

In particular, the net warranty costs, the provision against <unk> and other balances and the timing of net engineering expense.

Turning to a review of our cash flows and investment activities in the fourth quarter of 2022, we generated $501 million in cash from operations before changes in working capital.

And a further $755 million from working capital.

Investment activities in the quarter included $750 million for fixed assets and $186 million for increase in investments other assets and intangibles.

Overall, we generated $340 million of free cash flow in Q4.

We also paid $126 million in dividends in the quarter.

Growing our dividend remains an element of our stated financial strategy.

And yesterday, our board approved an increase in our quarterly dividend to <unk> 46 per share, reflecting the board and managements collective confidence in the outlook for our business.

We have increased our dividend per share at an average growth rate of 11% going back to 2010.

And now I will pass it back to Swamy for comments before I get into the specifics of our outlook. Please note that our outlook excludes the pending acquisition of <unk> in your active safety.

Thanks, Pat over the past couple of years, we've been highlighting our go forward strategy to propel our business into the future.

While it is still early days and despite the difficult industry environment, we are making progress in our strategy youre going to see that this progress is reflected in our three year outlook, mainly through investments in megatrend areas.

Start to see some results of our strategy over the next few years, but most of the benefits that are expected to be realized realized beyond our Oxford.

As always.

Outlook reflects both tailwind and headwinds.

Now in terms of tailwind we are launching content on a number of new programs, which is contributing to sales growth.

For 2022, we anticipate higher global auto production growth during our outlook Peter although the growth rate is well below what we expected a year ago.

As I said earlier, we continue to increase our business and megatrend areas, particularly electrification and autonomy.

This additional business is leading to increased investment.

In terms of headwinds in our outlook, while we experienced some improvement in 2022, we expect continued OEM production schedule volatility primarily due to semiconductor supply constraints.

Our business is facing further inflationary input cost impact compared to 2022.

Actually in labor and energy as well as lower scrap revenue.

We expect incremental input cost headwind net of recoveries of approximately $150 million for 2023.

However, I will tell you that we continue to pursue additional recoveries associated with ongoing input cost inflation.

Prices need to more closely reflect the cost environment. We're currently operating at.

Lastly, with the existing macro environment that is a risk that auto demand may be negatively impacted.

So how does all this translate in our key financial metrics.

We expect continued strong organic sales growth in the range of 6% to 8% on average per year.

Our outlook period.

We anticipate margin expansion of 230 basis points or more from 2022 through 2025.

Our engineering investments and megatrend Avs should continue to average about $900 million annually before customer recoveries.

Capital spending is expected to increase mainly to support our significant business growth, particularly in megatrend areas.

Lastly, we expect our free cash flow generation, which has been impacted by the industry environment over the past couple of years to significantly improve for our outlook period as margins expand and we get through our heavy period of investment for growth.

As a result of the increased investment spending and the pending acquisition of Ryanair active safety, we plan to increase our debt during 2023.

As we continued to execute against our long term strategy. Our number one priority in 2023 operational excellence to improve margins and returns.

As well as the seamless integration of the <unk> active safety business once the transaction closes.

Now I'll pass the call back to Pat to take you through the details.

Thanks, well I mean, I'll start with the key assumptions in our outlook.

Our outlook reflects relatively modest increases in vehicle production in each of our key regions relative to 2022.

For 'twenty three our global light vehicle assumption is up about 2%.

In North America, and Europe , our two largest markets.

Volumes in 2023 remain well below levels experienced in 2019.

However, we expect increased production in both markets through 2025 and.

In China, we expect a modest decline in 'twenty, three and growth from 2023 to 2025.

We assume exchange rates in our outlook will approximate recent rates.

Flex a slightly weaker Canadian dollar and Chinese RMB and slightly stronger euro and each case relative to 2022 net net the impact of currency to our outlook is expected to be negligible.

Okay.

I will start with our consolidated outlook.

We expect consolidated sales to grow by 6% to 8% on average per year out to 2025, reaching almost 45 billion and potentially as high as 47 billion.

The growth is largely driven by the higher vehicle production and content growth, including as a result of launching new technologies across our portfolio.

These are partially offset by the end of production on certain programs and the disposition of a manual transmission facility.

On an organic basis, we expect consolidated sales growth to also be between six and 8% on average per year out to 2025.

Excluding complete vehicles, we expect organic sales to grow between eight and 10% on average.

For 2023, we expect organic sales growth of between 5% to 9%.

Paired with global production up 2% or weighted growth.

Of about three 5%.

You'll see that this growth requires additional capital.

In addition, we are expecting significant sales growth from unconsolidated joint ventures over the next few years, including our LG JV for electrification components and systems are integrated <unk> JV in China, and a new CD JV in North America.

We expect our consolidated margin to be in the four one to five 1% range in 2023 as Swamy noted we expect continued input cost pressures in 2023, but we are focused on mitigating higher manufacturing costs the operational improvements.

And additional inflation recoveries.

Relative to 2022 or 23 margin is expected to benefit from contribution on higher sales operational improvement initiatives lower warranty costs and the impact of certain AAR and other provisions incurred in the fourth quarter of 'twenty two.

Offsetting these are lower expected commercial resolutions compared to 2022 higher net input cost of about $150 million, including $50 million related to lower scrap sales.

Lower license and royalty income and higher launch and new facility costs.

While we do not provide a quarterly outlook, we do expect 23 earnings to be lowest in the first quarter of 'twenty three in fact below the Q4 level and improved sequentially as we move throughout the year.

Yes.

We expect a step up in margins from 23 to 2025.

This was largely driven by contribution on higher anticipated sales.

<unk> execution of operational improvement initiatives higher equity income and lower launch and new facility costs.

Many of the same factors that are impacting consolidated sales and margins out to 2025 are also impacting our segments.

In the interest of time, we will not run through the segment detail. However, we are happy to discuss any questions.

Next I would like to cover some of the highlights of our financial strategy.

We have been consistently communicating our capital allocation principles over the years and I'd like to reiterate these.

Want to maintain a strong balance sheet ample liquidity with high investment grade ratings.

Invest for growth through organic and inorganic opportunities along with innovation spending and finally returned capital to shareholders.

As we begin 2023, our leverage ratio was just above the high end of our target range.

Statutory due to the recent impact of the auto environment.

EBITDA.

As Swamy noted earlier, given our investment needs and capital spending working capital and to fund the acquisition of peer out to safety the plant increased depth in 2023.

We expect to maintain high investment grade ratings with credit rating agencies and.

Based on our current plans, we anticipate bringing our leverage ratio back into our target range by the end of 2024.

We are entering a period of somewhat cyclical capital investment to support growth similar to what we experienced in 2016 to 2018.

We expect capital spending to be approximately $2 4 billion for 2023 and to modestly decline from these levels out to 2025.

Compared to our 2022 level about $1 billion of our incremental capital spending and a 23% to 25 period relates to our upcoming sales growth and megatrend areas during and beyond our outlook.

This includes almost $500 million in capital in 2023 alone.

Based on our current claims capex to sales will reach a peak this year before beginning to decline again.

The global into industry challenges hampered our free cash flow over the past few years and based on our increased capital spending in the near term will impact free cash flow.

However, based on our current plans, we expect significantly improving free cash flow throughout our outlook period.

In summary, we expect continued organic sales.

<unk> market.

Increased investments to support further growth and opportunities and megatrend areas.

Margin expansion over outlook period, including through ongoing operational improvement activities and increasing free cash flow as sales and margins expand and our gross spending subsides.

As Swamy said, we are highly focused on the integration of <unk> safety and getting back into our targeted leverage range over the next couple of years.

Thank you for your attention, we'll be happy to answer your questions.

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And our first question is from the line of John Murphy with Bank of America.

Please go ahead.

Good morning, guys.

Just a couple of questions on the sort of the near term and midterm outlook I mean, if we look at the 22 to 23 numbers. I mean, you can certainly argue that the small decremental margin right as earnings could go down.

Even if sales go up on the low end, but then you could get something to a sort of a 13% or sort of mid teens, depending if you want to include the unconsolidated sales in there kind of a kind of a wide range.

And I know you've kind of highlighted some of the factors here, but I mean, if you were to think about sort of the extreme to the downside.

What do you think would really drive that I mean, the upside it seems like it's kind of more normal.

The process, but the downside it seems like it's pretty extreme and what would take you to that sort of that low end of the range.

Good morning, John .

I think there's some other things that I mentioned have been difficult to quantify and the one.

And that shows up in my mind is David production volatility just to give it context.

Some amount of magnitude around it without naming customers platforms, if I just.

Look across the.

Our major customers that we have.

There are some programs.

The volumes are.

In the 50% to 60% of the contracted plan.

On top of that at this low volume numbers do vary.

Variability of the production schedules is hovering anywhere between 35% to 50%.

And that is a significant inefficiency in terms of managing labor looking.

Looking at cap labor or just looking at the overall cost structure I would say that is one significant impact the other one is energy in Europe .

I would then stop and how it progresses and obviously the third one is a significant headwind in terms of.

Inflation in input costs.

It's a complex equation that they're trying to solve here.

That's kind of the reason why.

And looking at the geopolitical and macroeconomic issues that I think kind of the reason for the broadened range that we can get and I think we will be able to get a little bit more granularity as the year goes by.

And so I mean, the one plant or it seems like there is one plant in Europe , it's causing problems I mean, just kind of happens from time to time that there is.

One underperformer in the large portfolio can you kind of highlight or give us some details around what's going wrong with that because it's again it sounds like it's called out as one specific plant and what the turnaround process is there.

Yes, John .

Yes facility and I think I talked about it in the last two quarters.

It's basically you know Devin.

Planning and efficiency and I talked about a little bit and looking at the specifications and how it goes.

Underestimated.

This led to a lot of.

Constrain some production capacity and Scott.

But the good news is that over the last two quarters. It has been stabilized and the expected impact that we have planned in Q4 came out as we expected so I think.

The press release table, and we are continuing to improve in 2023.

I think I've mentioned in the past.

It takes a little bit of time to balance that capacity back to normal some of the outsourcing that creeping back then.

This stability that is needed.

<unk> that was needed.

I am confident that we are on the right path and that one but youre right that is the one facility that has had a significant impact in the numbers.

On the underperformance bucket.

Okay, and then just a second.

On the on the midterm to 'twenty three to 'twenty five.

Your guidance I mean, you once again kind of like 27% Incrementals. So after what were seeing from 'twenty to 'twenty three I think there's a little bit of consternation that those might be a little bit on the on the optimistic side.

I mean is this really a question of the markets normalizing on volume and volatility.

And cost inflation normalizing or is there something else that you can really control that will drive that kind of that kind of upside.

There's a few factors John I think one definitely.

We can just spoke right vehicle thing that the market stabilizes, we can just bank on that some of them produce some very good continuous improvement how we're looking at it.

We have.

<unk> had discussions in 'twenty two on recoveries with customers and we continue to have them and we have to.

Patrick those discussions for 'twenty three already back in the queue photo of 'twenty. Two so they really know where we stand and it's not just limited to 2023, various pre 2023 discussions that continue to be had.

A mix of all of those.

But I think we're also looking at it.

The operational efficiency and excellent that I talked about is going to be a key priority right get back to the cash flow generation looking at 91, having the surprises that <unk> had looking at root causes and how do we make it better so it's a combination of those.

It seems like Youre being off apply given the volatility in the schedules that European given just just lastly, real quick on veneer.

What will be the financial impact if you can just remind us on cash out the door accretive and we don't want it becomes accretive and if we think about that in the context of the balance sheet does that put us in a position where theres likely to be no buybacks in 'twenty three 'twenty four as capital is allocated in that direction, our balance sheet normalizes.

Hi, John its path.

Let me maybe I'll answer those in reverse order if that's okay. So if you think about the share buybacks. Our financial strategy has been pretty clear, which is number one priority is investment grade ratings number two is to grow the business.

And then if theres cash leftover after those activities, we think with terminal through share buybacks.

Given the capital levels and the acquisition of pioneer our intention would be that can have any share buybacks in 2023, and we will normalize come back within our targeted leverage ratios.

We would obviously revisit that in 2024.

<unk>.

Itself on the acquisition, we are still targeting a mid year close on that transaction.

And in on a standalone basis are expected to be.

Closer to breakeven in 2023 and the full.

Full year basis, where its going to be marginally decremental in 2023, given the PPA that we have in there as we move into 'twenty for the full year of ownership, we expect it to be breakeven.

At the Magna level, excluding PPA.

Okay, I mean, the cash to cash out the door for that.

Is that the transaction price was approximately $1 5 billion.

Great. Thank you very much guys.

Thanks, John .

Okay.

Our next question is from the line of Adam Jonas with Morgan Stanley . Please go ahead.

Thanks, Hey, Pat and Swamy, So a question on.

Your actions what are you doing specifically.

What's the plan to improve these very disappointing results Swamy I see you call out cutting discretionary costs.

And securing more inflation recoveries.

You know may or may not be in your control, but lets assume the market is going to assume.

Not fully in your control.

You addressed a plant in Europe , but is that time.

From my history, covering Magna Theres never really been it's been a long time since you've done like a.

More sweeping that restructuring because you always have the magna way and its a continuously happening.

But is there is this a chance when your margins are falling in your Capex is rising into this environment, where you need to do something a little more.

Significant on the restructuring side and it can be specific with how we should think of that that'd be great.

Thanks.

Good morning, Adam.

Craig Good question.

I think if you think back on <unk>.

18, Taxane with David actually restructure and talked about the cost base and unfortunately with the Covid and everything we didn't see the impact that we've talked to the wood.

I predict <unk> got offset by a lot of stuff. So that's one.

Discretionary spending and caustic are reset or just a couple of elements that we're talking about but I think like I said one of the key factors is looking.

Looking at.

No.

Production wirelessly is given.

It gets better but it's been their London up we're looking at how what discussions to behind and how do we address it. So we can have an EBITDA.

A more stable run rate and look at cost optimization across.

Whether it is to offset.

The labor inflation side of things or some of the other.

Cost inputs that are coming.

That's going to be important for us so that I would say is the more broad sweeping initiative across the company.

In terms of restructuring I think that is an annual process that we go through can see reconsolidation dose that youll see if you look back in the last three years, we have done that and we continue to do so.

But I think the key is going to be looking at how do we get the cost base.

New cost base given the.

The volumes that we're seeing or the near term and the midterm, which is not really recovering to the 2019.

That levels out.

So that is going to be the fundamental focus and priority for us.

To get the cost basis to where we need to give them.

Volumes in.

I think well.

While looking at is something we have to take into account, where you can get there and we have to address it.

And if I can just add swamy. Thanks.

Sorry, Ed we can think about that restructuring.

<unk> mentioned, we have done significant restructuring needs, we've looked at the product portfolio taken.

Whether it's significant groups, but.

Look we do provides an up I would say.

Adjusted basis, So we do have significant restructuring.

Even in our 2022 2022 periods, we recorded significant charges in Q4.

And we're going to continue to restructure our footprint for a couple of reasons. One is ice transitions to be because we're going to handle that.

That transition has happened there.

But we're also transitioning our footprint from higher cost reached the best cost countries.

<unk>.

So when you look historically, where we have those costs those are going to continue in the future as we move forward and some of the margin improvement we are anticipating on the earlier question is driven by these restructuring actions.

Thanks, Thanks, Pat just one follow up thanks, a lot and the capture of capital intensity.

You look back 10 years 20 years on Magna and your Capex has been around 4%.

Sales and I've never seen it at six youre going to be near there. This year you called out that that's kind of a temporary annual decline thereafter, but.

Beyond that as we think of the shape of the decline from the six are we as for the wrong number as a new normal maybe closer to five it seems like the capital intensity in that business.

Might be structurally rising for the next few years am I wrong, there should we kind of throw that 4% out the window.

Yes.

I think in the near term Adam the 4% would be below.

I was at a very actually Swamy myself, we were at a very capital intensive group.

In our career and really what you see when you look at a cycle, where you have awards the.

The growth is just not lumpy and right now with the growth. That's ahead of US we're putting heavy investment and this is beyond the <unk> issue as well, where you are growing with with a new industry and when Youre looking at EV penetrations going out we're transitioning.

Our portfolios from one to the other but more importantly, growing with new products that requires significant capital.

So we are both five we expect to be above five.

Period, but it's going to normalize.

Where is it going at normalized down to as.

See no reason it wouldn't normalize back down to where we've operated historically.

And a little bit more color Adam I think we all take it generally around one $8 billion or so even for 2022 and we ended up at one seven.

Some of which was deferrals into 'twenty three.

As I mentioned, we had a record level of awards in 2022 that means request capital prior to program launches and as I said this is it 30% higher than five year average bookings.

So I would say about $500 million of that is in 2023 alone.

And the megatrend areas. This includes vaccine enclosures, which is the lion's share.

And along with powertrain electrification, Adas and new mobility.

I think as Pat mentioned, we expect this to be back to the normal levels.

We are confident that's how we see it msas, new investments, which would be good news at that point.

Sure it should be back to where we historically have been.

But Adam if I could just add just to be clear. These these investment decisions. Our returned based transactions and we havent compromised our return expectations. This is capital that we are growing if you come back to our capital allocation strategy. Its number one priority is to grow the business.

Grow it internally externally, whether it's greenfield brownfield, but if we're generating returns at our appropriate expectations. That's our priority and we continue down that path. We haven't made a decision to decreased returns.

With the objective of growing sales. This is the objective is to grow returns in the future and drive value for shareholders.

Thanks, Pat Thanks Robyn.

Thanks, Adam.

Okay.

Our next question is from the line of Peter Sklar with BMO capital markets. Please go ahead.

Hi, good morning.

Good morning.

This morning, yes, good morning, you've talked this morning about the.

The elevated level of engineering cost that you're incurring it sounds like they are mostly related to vehicle electrification and Adas.

So can you talk about like how do you get a return on that investment is there is there customer reimbursement and this is a timing issue or do you recover it through the programs in two.

I would assume you recover these costs through the programs and when is the crossover point.

These programs are of sufficient ramp they've begun they've ramped are of sufficient scale that you start to recover some of these costs.

Peter I'll start and Swamy jump in so.

So when you think about the engineering spend we say, they're elevated I would say they are fairly consistent with our previous outlook.

And we would have been guiding.

When you think about some of these new types of products will get into their higher engineering.

Just spoke about capital intensity that applies in our industrial group, we'll get by.

Assembly lines brick mortar that type when you move into the electrification and Adas type programs, where capital spend tends to be lower but it's replaced with an engineering analysis, but our program analysis are quoting models don't change it's still viewed as a.

Treated effectively at the capital spend.

But thats kind of the return profile.

But when you think about the engineering spend that goes through our books.

It is as you said, it's two pieces there is.

A piece of that lump sum upfront payments private program prior to SLP. The second portion is you might have recovered. So youll see this other asset spent we've referred to this as guaranteed spending network coupled with the program life.

And then the third obviously it just comes through piece by piece price recoveries all of that moves long answer our expectations are we're going to win we're going to recover all of that engineering spend and the returns on those programs are equal to the returns.

Achieving the rest of our portfolio.

And I think that's one of the things. We said we are expecting that net engineering to be relatively neutral to earnings through a period, it's going to be $900 million annually.

In the past they are just talking about the Q4 is just a matter of timing.

Okay.

<unk>.

Yes.

I believe I heard you say Pat that you expect that.

Earnings are going through 2023 quarterly earnings are going to improve sequentially and that the earnings level on an adjusted basis in Q1 would be less than the Q4 that you just reported to date.

When I look at it just looking at the industry.

Vehicle production volumes like North America, and Europe are going to be up quarter over quarter. So why what are the dynamics, that's causing Q1 to look a little bit weaker than Q4.

Okay.

So if you think about Q4 you know.

Normalized for some of the unusual so we take that out I would say thats factors going one way.

When we move into Q1.

We did have some positive commercial settlements in Q4 that just the nature of how these discussions proceed Peter and split up what's continuing versus what's new those discussions will.

Turn to results toward we're conservative in our accounting procedures. So we're gonna only record those recoveries as incurred.

Or received.

So I think it's it's slightly below Q4 levels, Peter and then we're going to see growth as we come through and.

The other factor you have to consider as we go through the year, we're expecting volatility in the industry to improve just as we move through throughout the year. So I would say, it's a combination of unusual items in Q4.

It's the inflation recoveries being pushed into Q2 Q3 Q4 similar to what we experienced this year and then normalization of the <unk>.

OEM production schedules.

Okay, and then just lastly, like one of the issues that you've raised for that on the Q4 earnings has been higher warranty.

Accruals. So what's going on is there any one program that caused to this or is it just kind of.

Random from quarter to quarter.

No Peter I think this was specific to one product line or one program product in.

And the comex.

Cost the warranty issue in the <unk> segment.

Get into specifics, obviously, both the customer and all.

All of that.

One specific program.

Understood.

It's Tom it's behind Us.

It's a terrific products.

Okay. Thank you for your comments.

Thanks Peter.

Yeah.

Our next question is from the line of Mark Delaney with Goldman Sachs. Please go ahead.

Yes, hi, good morning, and thank you for taking the questions. The company's 2025 EBIT margin outlook is about 100 bps lower than what the company thought it was going to do for 2024. When you. When you gave that three year plan a year ago that the revenue views.

Pretty similar to what you think Youll do a 25 versus what you thought it in 'twenty four or so.

It doesn't seem like there's any change to the revenue view that tier three years for but the margins are now 100 bps or so lower so could you bridge us what's changed on the EBIT margin potential of the business in three years.

Yes, good morning, Mark.

The most meaningful change from what we said last February to what we are talking about is low volume right.

Okay.

You talked about the higher level of net input costs.

And lost sales and contribution from our business in Russia.

So those are the significant points.

That accounts for the change.

You've got to look at margin loss right.

Data is being negatively impacted by increased revenue and costs from inflation.

And I keep repeating this but.

Okay.

If you take into account.

Loss due to the wallet.

The deals <unk>.

Currencies.

We have not just pumped in because it would be coming down and hopefully the adonis product with XP ne.

No gating factors.

Got it. Thanks. Thanks, So that's why me and my second question was on the pricing environment and the ability for Magna too.

Get recoveries from customers, maybe you can elaborate a little bit more specifically on what happened in the fourth quarter, because I know it was.

A positive in the quarter, but I don't think it was as much of a positive as the company had originally been guiding for so what happened in the fourth quarter on recoveries and can you talk a little bit more on what's assumed in recoveries for.

2023 in terms of what would get the company. So lower end of the guidance and what kind of what would have to happen with recoveries to get to the higher end of guidance.

Well I think Mark maybe I just want to clarify.

We have guided to from a net.

Comps in.

Inflation wise towards LIBOR $565 million.

Q1 April and we ended up at 530.

So that was one I mean, when we talked about spectrum and so I think we got to take all of this into account as we've had discussions with some operators.

We're coming in term so.

Uh huh.

More process oriented.

Long term adjustments.

In terms of recoveries some of it is coming in lump sum.

And some of it is offset the give backs and so on.

So during the customers have for example, a change in direction footprint.

Volume agreements.

Contracts that ends up in commercial.

Settlement.

So our guide to what we said the net inflation cost growth going to be I think b, how then did better.

Once those settlements are.

But in terms of negotiations overall, which ended up.

The fourth quarter.

So I'll just add to that so it's longer.

Exactly right, so relative to expectations, we outperformed and Thats what drove the decrease from the $5 50 down to the 530 Mark on a year over year basis, you are correct, where we do have headwinds.

So relative to expectations, we outperformed the European care cruises, it's all for the quarter.

Okay, and just one last one for me if I could please.

The warranty expense I believe I heard it's contained to 'twenty two so youre not expecting that to be an issue in the 'twenty three guide.

Yes, there is underperforming in facility, but maybe you can elaborate how much of a headwind do you expect that to be this year. Thanks.

Relative to 'twenty two mark.

The operating facility in Europe is expected to be a positive.

So.

As we said earlier, we have the headwinds of 2022 relative to expectations as we move into 'twenty three we're seeing improvements we have.

This is Paul focus we have a team dedicated to it and we're driving to execute everything Swamy is talking about as far as increasing capacity, reducing the outsourcing and we're seeing the benefits of those actions take place already and they're going to continue to approvals throughout the year.

Okay. Thank you.

Thank you.

Yeah.

Our next question is from the line of Te Mckinley with Citi. Please go ahead.

Great. Thank you good morning, everyone.

Just two questions for me I was hoping we could go through some of the segment margin walks on slide 30, and particularly on our complete vehicle Assembly for 'twenty three in 2025, and then just secondly, hoping you could also comment on kind of what youre seeing that the latest on overall production volatility by region and whether you are starting.

Do you see any signs of stabilization kind of supports the outlook for improvement in Q2 and beyond.

Good morning <unk>.

Pat.

Start with the first one as far as the <unk>.

The margins in complete vehicles since Colombia can jump in on these schedules.

So looking at the complete vehicles the market margin from 2022 into 2023. There's a few factors that are that are driving that with 22. We did have we did benefit from some customer settlements.

Licensing income.

License <unk> architecture, both of those are expected to recur in 2023.

Those two factors are a negative drag of about 70 basis points.

Second bucket I would refer to as we do have higher input cost as it is in operation in Europe , where we do have significant labor and energy headwinds.

And at the same time, we do have engineering program specific costs that are.

Accelerating in 2023 versus <unk> 22, those two factors combined for about a 90 basis point impact.

And then obviously.

As we've discussed previously we're transitioning that facility as we move certain programs out and launch new ones and those costs are a drag on earnings.

Just by the nature of incurring costs and lower revenues.

Perfect. That's very helpful and maybe just a comment on the production volatility.

Yes, I think the production while looking at in terms of the truckload.

A couple of programs quite significantly lower than what they expected volumes were and we always like to some degree on a launch of a measured cost.

It's more.

More than estimated some tightness.

I'll just go through and I think there is amazing in terms of that level of cost associated with this transition.

Thats being a drag.

Got it.

Okay.

Perfect.

Okay. Thank you that's very helpful.

Thank you.

Our next question is from the line of Colin Langan with Wells Fargo. Please go ahead.

Got it thanks for taking my questions.

Just wanted to follow up on input costs. You noted it was $115 million for this year.

Any color on what percent recoveries, you're kind of assuming in that so we can kind of gauge the sort of.

Expectations, There and you said you ended at $5 30 for 'twenty. Two is the long term plan to get 100% of that any color on that and of that when you negotiated last year is all of that locked in or do you have to renegotiate if costs don't come down for some of that is while it's not address.

Hey, good morning, as I said in my previous comments.

Previous question.

Some of this.

The settlement site are often changes in page five going forward programs in that.

It takes a while.

And so on and some of it is just addressing that.

The amount specific to the year of 'twenty, two but it does give us a framework that precedent.

So it's a combination of addressing both.

We won't get into the specifics so.

Customers in power and water.

I can definitely say that.

The size of the discussions in Q4, but customer snowbird res pattern obviously.

Want the economics to reflect the current state.

In terms of where the market is right. It's a combination of those.

Pat mentioned, there is a lot of discussions ongoing.

We're going to use work, we added 22, Nevada the.

The discussions on 'twenty, two given up 323, I would say, it's not even that right. So we continue to pursue recoveries on all aspects not just about quantity, but some elements of 'twenty two.

I guess just to put it another way I mean.

Are you are you thinking of this as this is your portion of the costs that you kind of have to find ways of coming out over time or.

Youre thinking customers.

Eventually you'll be able to kept us through customers at some period.

Because I think the other suppliers have talked about some of this is just their responsibility at this point.

Some of it is it's both right.

Okay.

Some which are I talked about our production volatility in Scotland.

We definitely want to be partners in helping and as we said we did not cause any disruptions, but it comes at a cost. So we have to work together to figure out how to reduce that volatility. So we can adjust the cost base.

Hello efficiency overall, but.

But on the other hand, we are not saying it's just.

Oh, sorry.

My prepared comments I did talk about <unk>.

Continuous improvements in.

Resetting I would say the cost base, but that can be done.

Only to work together, so it's kind of put by that so.

But there are some issues, which we continue to push in terms of the covenant.

Paper energy or commodity costs.

Got it and just if I go to the slide last year, you had targeted a pretty impressive 6 billion in free cash flow from 'twenty two to 'twenty four if I look at the slides. This year. The same period looks like it's adding up to something less than $2 billion.

But what are the main drivers here or is it just obviously capex has stepped up and kind of why is that because it's only been a year and then.

I assume a lot of it since the margin weakness anything else from a working capital perspective, that's sort of impacting that number that we should be considering.

Hi, Colin this is Paul.

<unk>.

When I think of where we were last year, where we stand today I think.

The biggest variances are a few right we talked we touched earlier on.

Margin question, if we just focus up to 2025. So we're impacted by we've seen significant volume of geopolitical issues in Europe that are driving volumes down to lows effectively on throughout our whole level of jewelry to which drive inflation significantly.

Thinking about our outlook, we provided last year, we updated in April .

We reflected an additional $290 million primarily energy costs.

And then the third thing is Swamy said earlier Steve.

We were forced tidewater.

Collection operations. So you have on the P&L side, you have those factors to.

Our earnings.

And then we have significant growth above where we expected last year and when we think about that growth that flips into what we see in our cash flow statement, which is driving higher capital whether it's.

Accelerated but it's significant capital with giant global so long answer, but I think it's a combination of volumes input cost offset and so let me just the growth.

Australia into cash.

Okay, alright, thanks for taking my questions.

Our next question is from the line of Rod Lache with Wolfe Research. Please go ahead.

Hi, everybody.

As we look out to 2025, you do have the company get back to over $3 billion of EBIT.

Similar to <unk> in 2018, but on much higher revenue and more capital than we saw back then.

And I was just hoping you can address whether the business is structurally less profitable going forward and I'm not I'm still not sure I understand what you're assuming with regard to the I guess at $680 million of higher input costs of $1 50, This year and the $5 30 last year are you assuming.

Is that essentially gets recovered.

Mid decade.

So rod maybe I'll answer the second part of that question. So let me jump in on the first on the <unk>.

So for 2022 versus 2021, we had net input cost headwinds of $530 million.

That's what was reflected as an EBIT hit I would say as we move into 2023. The additional 150 is a combination of.

Headwinds that we have inflationary costs, primarily in Europe for labor is actually global but were seeing labor headwinds, where we're operating.

The increases are.

And the mid digits mid digits for above standard.

Across the globe.

And we also have continued energy headwinds in Europe . So those are the first two buckets driving headwinds into 'twenty three.

And the other part of it that's a $100 million on a net basis net of recoveries. The second part is scrap and these are contractual scrap balances from optimal per contract. So to answer your question, we have $850 million.

Incremental EBIT charge and 23 versus <unk> 22.

In Turkey.

Okay Alright.

Sorry.

I was asking about whether you have that reversing by 2025.

The combination of these headwinds are you anticipating that in this $3 billion of EBIT that you are projecting by then that that.

Has been fully recovered or results somehow.

No. So it's it's a portion.

Roll off broad as contracts launch. So you have a combination of old economics, New economics, and as we continue our business and you think about a launch period.

These inflationary headwinds started hitting roughly this time last year. So as we move forward in launching business that will reflect new economics. So it's a 2025 a portion would reflect a combination of old and new so the answer is somewhere in between.

And some of this.

Org changes.

Labor inflation is going to be sticky in behalf of <unk>.

That's in terms of continuous improvements and other.

Structural.

Improvements going forward and in Mexico.

Continuous improvement as we've talked about.

To address the first part of your question.

Hum.

Confident in fact, it is not a fundamental shift.

In the profile of the business right.

I think some of the things that we've talked about is actually the foundation of all of this input cost effects.

Uh huh.

The higher investment that we're making for the businesses that we have won.

Sure.

I think as we transition through the long term.

I believe there is no foundation all are fundamentally changing the profile of the business. So.

118.

In terms of.

Percentages of ratios, we can get back to but I think the ballroom important part as you know.

That's weighing on us.

Uncertainty.

Whats going on at the industry right now.

Okay, Thanks for that and just swamy.

Just in light of what's happening in the market and the strategies of some of your peers are you still of the view that diversification is a net positive for magna.

Or just given the complexity of issues in different parts of the company.

We've seen over years.

Is there is there more benefit from focus on.

And having some of the businesses.

Kind of independent <unk> responding.

Yeah, Rob I think.

Understood. Your question you are talking about.

Portfolio of products and the focus related question.

I tend to kind of look at what's happening in the industry and how.

The car of the future is going to be designed or how is it going to be solar space changing.

And our customers better.

Shifting their organization to even better than it is the sourcing side of things are intimating side of things.

To be looking at more highly integrated system. Some of the Oems that are already changed their organizations to.

The address that aspect of it so I think we are at.

I'm not looking at a body and chassis and seats and electronics.

Powertrain is independent motor.

What are the systems that are going to evolve going forward and how do we bring those synergies to sit.

System approach solution to it.

With that said.

We continuously look at each of these products.

How they evolve and how relevant our debate going forward and what synergy values that we can bring and if theyre not as we have done in the past.

We will do what is necessary.

Alright, thank you.

Yes.

Our next question is from the line of Michael Glen with Raymond James. Please go ahead.

Hey, Thanks, Jim.

Just wanted to zone in a bit on the body and exteriors margins can you just highlight how the mega spend trend or incremental spending with mega trend is impacting that specific business. As it is battery trains part of that segment I guess I always thought it was somewhat.

Agnostic to Mega trend, but I'm, just wondering if there's something there.

Should be thinking about.

Yes, I would.

And we say, it's agnostic I think.

Also the content.

And then continuing to have remains.

<unk> and <unk>.

<unk> process risks.

With respect to Allstate propulsion system.

Then added.

Addition to the product in that segment would be battery in totals.

As the electrification continues and we have the material audits, the joining technologies as well as the asset base.

That has become a significant growth area and we have seen that both in terms of.

Our programs, but also you see the amount of investment we are making.

<unk> already been awarded and in some cases states expanding the volumes. So the business that has been awarded.

Okay and for that $900 million.

Are you able to break that down across how that splits across the various segments.

I would say the 900 <unk> is predominantly on the <unk> segment.

As Pat talked about this area and.

And whether it's electrification or electronics.

So on a go.

More.

Product engineering intense it when we talk about BFS, it's more capital intensive right.

We also have to keep in mind that.

The asset base that we have.

Which is not a program specific as an advantage for us right.

The new investments are related to the program specific once that come and again, we follow the same.

Are you getting the right returns and looking at each of the programs.

Yeah, Okay, and then the $11 billion of new business wins that you spoke about so a can you give some idea of how those spread across the various segments and then as well can you describe.

How the margin profile embedded in that $11 billion.

Is different from what we've seen historically is it much lower on the front end of that versus what we've seen historically.

Yes, I think as I said in my comments, so I won't get into.

Breaking up $11 billion by product line, but I definitely.

As I mentioned and good repeat.

It's across Magna.

There is definitely.

Mental business or the <unk>.

<unk> talked about whether it's E drive, whether it's battery exposures, whether its driver monitoring systems and so on.

And I just want to reiterate the fitness growth is always on the financial hurdles that faith, followed before which is the return space.

And the profile remains the same right. So it is not lower.

Lower margins or lower or at least financially. So I believe as we launched this business going forward.

Returns profile and cash flow generation.

Get it better.

Okay.

Yeah.

Welcome.

Okay.

And there are no further questions on the line at this time I'll turn the presentation back to Swamy for any closing remarks.

Thank you, Chris and thanks, everyone for listening into our call today industry conditions continued to be tough we remain focused on controlling cost across the organization, improving underperforming operations and pursuing inflation recoveries from customers all while executing our go forward strategy and Joe.

Good day, and thanks for listening again.

That does conclude the conference call for today, we thank you for your participation and ask that you. Please disconnect your lines.

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