Q2 2019 Earnings Call
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I would like to turn the call over to James Hopkins Executive Director of Investor Relations you may begin.
Thank you Michelle.
Good morning, everyone and welcome to our teleconference today to discuss Cummins results for the second quarter of 2019.
Participating with me today are our chairman and Chief Executive Officer, Tom Linebarger, Our Chief Financial Officer, Mark Smith, and our President and Chief operating Officer Rich Freeland.
We will we will all be available for your questions at the end of the teleconference.
Before we start please note that some of the information that you will hear or be given today will consist of forward looking statements within the meaning of the Securities Exchange Act of 934.
Such statements express our forecasts expectations hopes beliefs and intentions on strategies regarding the future.
Our actual future results could differ materially from those projected in such forward looking statements because of a number of risks and uncertainties.
More information regarding such risks and uncertainties is available in the forward looking disclosure statement in the slide deck and our filings with the Securities and Exchange Commission, particularly the risk factor section in our most recently filed annual report on Form 10-K , and any subsequently filed quarterly reports on Form 10-Q .
During the course of this call we will be discussing certain non-GAAP financial measures and we refer you to our website for the reconciliation of those measures to GAAP financial measures.
Our press release with a copy of the financial statements and a copy of today's webcast presentation are available on our website at www Dot Cummins dot com under the heading of investors and media.
With that out of the <unk> out of the way, we'll begin with our chairman and CEO Tom Linebarger.
Thank you James good morning.
I'll start with a summary of our second quarter results and finish with a discussion of our outlook for 2019, Mark will then take you through more details of our second quarter financial performance and our forecast for the full year.
Revenues for the second quarter of 2019 were a record $6.2 billion, an increase of 1% compared to the second quarter of 2018.
EBITDA was a record $1.1 billion or 17% compared to $897 million or 14.6% a year ago.
Lower campaign costs positive pricing and lower material costs more than offset our increased investments in research and engineering the impact of tariff and lower joint venture income in China.
Engine business revenues were flat in the second quarter compared to a year ago.
Revenues in North America increased by 7% driven by higher industry production of heavy and medium duty trucks as well as continued strong demand in construction markets International revenues declined by 15%, primarily as a result of lower demand in Chinese light duty truck and construction markets.
EBITDA margin for the quarter was 15.4% compared to 13.4% for the same period in 2018.
Lower campaign costs improved pricing and lower material costs more than offset lower joint venture income increased investment in research and engineering and the negative impact of terrorists.
Sales for our distribution segment grew by 2% year over year, driven by higher demand for power generation equipment in North America.
Second quarter, EBITDA was a record $172 million or 8.5% of sales.
Compared to 7.3% in the second quarter 2018.
EBITDA margins benefited from higher volumes and positive pricing.
Second quarter revenues for the components segment declined by 2%.
Sales in North America increased 5% driven by higher truck build rates, while revenues in international markets declined by 12% as a result of lower truck demand in Europe , China and India.
EBITDA for the second quarter was $297 million or 16.1%.
Compared to 12.6% in the same quarter a year ago.
The increase in EBITDA margins was primarily due to lower campaign costs.
And the benefit of material cost reduction programs, which more than offset increased development and increased investment in the development of new products aimed at emission standards in China and India.
We are currently selling a limited number of national standard six products for specific or bone applications in China, such as sanitation vehicles and will ramp up production in 2020 and again in 2021, when all medium and heavy duty commercial vehicles are scheduled to comply with NSX standards.
In India, we will begin producing new products later this year.
As we prepare for a transition to the broad stage six standard in April 2020.
Power systems sales in the second quarter declined by 3% demand in industrial markets declined 11% due to lower sales of oil and gas and mining engines, while sales of power generation products were flat.
Power generation sales increased 12% in North America, driven by continued strength in the datacenter markets.
Offset by an 11% decline in international markets, mainly in Europe , and the Middle East.
Foreign currency movements negatively impacted sales by 2%.
EBITDA in the second quarter was 14.4% compared to 14.9% a year ago.
The decrease in EBITDA was due largely to lower joint venture income in China, where we experienced a decline in demand for standby generator sets.
And the electrified power business EBITDA was a loss of $33 million in the second quarter in line with our expectations as we invest in the development of new products for commercial launch beginning in the fourth quarter of this year.
Now I will comment on the performance and some of our key markets for the second quarter of 2019, starting with North America, and then I'll cover some of our largest international markets.
Our second quarter revenues in North America grew 7% to a record $3.9 billion driven by higher industry build rates of medium and heavy duty trucks.
Continued growth in the sales of construction equipment and increased sales of power generation equipment to data center customers.
Industry production of heavy duty trucks grew 19% in the second quarter of 2019 compared to a year ago, and 4% compared to the first quarter of this year supported by a strong but declining industry backlog.
Our market share through June was 35% compared to 33% a year ago, representing our highest market share in five years and reflecting the strong performance of our products in the eyes of our customers.
Production of medium duty trucks increased 14% in the second quarter.
A growing us economy, coupled with high levels of consumer spending low unemployment and low interest rates continues to drive demand for medium duty trucks, our market share in the medium duty truck market was 78% through June compared to 80% a year ago.
Total shipments to a north American pickup truck customers increased 20% compared to a year ago as we increased production of a new engine for Ram 2500, 3500 pickup trucks.
Year to date shipments for pickup truck customers have increased 6%.
Engine demand for construction equipment in North America increased 10% in the second quarter and remains at historically high levels supported by nonresidential construction and infrastructure spending.
Revenues for power generation grew by 12% due to higher demand and datacenter markets, partially offset by lower sales to recreational vehicle Oems.
Demand for engines in oil and gas markets declined by 91%.
Due to a sharp reduction in purchases of new fracking equipment.
Our international revenues group decreased by 6% in the second quarter of 2019 compared to a year ago.
Second quarter revenues in China, including joint ventures were $1.5 billion, an increase of 3% over the prior year.
Higher power generation equipment sales to data center customers and engine sales to oil and gas markets were partially offset by lower demand in on highway and construction markets.
Industry demand for medium and heavy duty trucks in China decreased by 9% compared to a year ago, even though the market was positively impacted by a pre buy of natural gas engines ahead of the move to NSX six standards in July .
We estimate that the impact of this pre buy was approximately 20000 units.
Increasing market size by 5% in the quarter, our market share improved to 12.8% this quarter from 10.9% a year ago as we increased our share at photon.
We expect further improvement in our market share in subsequent quarters due to further share expansion at our Oems and a shift in the market towards over the road trucks versus construction related dump trucks.
Industry sales of light duty trucks declined by 9% in the second quarter and our engine market share was 8%, which is 1% higher than a year ago.
This increase was driven by our new joint venture with J C, which launched in late 2018.
In the second quarter, the light duty market was impacted by increased enforcement of loading regulations significantly, reducing reducing both second quarter industry demand and our projections for the remainder of the year.
Some truck model historically been registered as light duty trucks are now to be classified as medium duty trucks, which limits access to urban areas and requires additional licensing for drivers.
Second quarter demand for excavators in China increased 4% from a year ago, our market share increased from 15.3% to 15.6% driven by the strong performance of our local partners.
Demand for power generation equipment was down 3% in the second quarter with lower demand pricing for standby power, partially offset by growth in data center markets.
Second quarter revenues in India, including joint ventures were $516 million, a reduction of 1% from the second quarter, a year ago with lower industry truck production and the impact of a weaker rupee, partially offset by increased demand for power generation equipment.
Industry truck sales decreased 21% year over year in line with our expectations with lower demand driven by the timing of elections as well as challenges in the truck financing industry.
Within the truck market, we saw more severe decline in heavy duty applications, where we have the highest share.
Now let me provide our overall outlook for 2019, and then comment on individual regions and end markets.
We now expect company revenues to be flat for the year, which is at the low end of our prior guidance range.
We are maintaining our forecast for industry production of heavy duty trucks in North America, 300000 units up 5% compared to 2018.
The industry backlog declined this quarter to below 200000 units from its peak of over 300008 months ago, while inventory is elevated at 80000 units.
Our guidance assumes lower industry production of trucks in the fourth quarter, driven both by fewer workdays as well as reduce build rates.
We expect our markets to be at the high end of our prior forecast of 32% to 34%.
The combination of the increased capacity of fleets and lower freight demand has resulted in lower utilization of available equipment in the industry.
Because of this reduced utilization, we've seen lower demand in our parts and Remanufacturing business.
We expect parts demand to continue to be relatively weak to the ended the year as dealers begin to reduce parts inventory in anticipation of lower market activity.
In the medium duty truck market, we are maintaining our forecast for industry production of 140000 units up 6% year over year, and we expect our market share to be in the range of 74% to 76% unchanged from prior guidance, we expect our engine shipments for pickup trucks in North America to be flat for 2019 compared to a very strong 2018 and unchanged from our expectations three months ago.
In China, we now expect domestic revenues, including joint ventures to be down 2% in 2019.
We are maintaining our outlook for medium and heavy truck demand at 1.2 million units, representing a 10% decline from last year.
In the light duty truck market, we now expect a 12% reduction in demand compared to our prior guidance of 7% down.
This decline is driven by the more stringent enforcement of overloading regulations I discussed earlier.
We expect our market share in the medium and heavy duty market to be in the range of 13% to 14% in the light duty, we expect our share to be 8% to 9% both in line with our prior guidance.
We now expect industry sales of excavators to be flat with a record levels achieved in 2018. This compares to our prior guidance of down 10% and is driven by increased exports of excavators developing countries primarily in southeast Asia.
In India, We now project revenue, including joint ventures to be down 5%.
Compared to our prior guidance of flat, we anticipate industry demand for trucks to be 17% lower than the record levels experienced in 2018.
And compared to our prior guidance of down 5%.
Truck demand is being negatively impacted by the continuing high cost and low availability of credit in India Shadow banking system, which has been under pressure due to defaults by non bank lenders.
We continue to expect power generation and construction to grow 5% to 10% due to continued infrastructure investments.
In Brazil, we are now projecting truck production to increase 2% in 2019 down from 13% three months ago.
Economic growth has not accelerated in Brazil as much as we'd anticipated this year.
With GDP growth now projected at 1%.
Lower economic growth has resulted in lower demand growth in truck construction and power generation markets compared to three months ago.
We now project, our revenues in Brazil to be down 10% compared to our prior projection of flat.
We continue to expect our global high horsepower engine shipments to be down 5% this year.
We we project demand for oil and gas engines will declined 40%, which is unchanged from prior guidance. However, we now anticipate sales in North America will decline by 75%.
Compared to our 60% down expectations three months ago with lower demand for new equipment in the Permian basin as well as reduced demand for engine rebuilt.
This deterioration in our outlook for North America is offset by increased sales to China.
Demand for mining engines has moderated over the last three months as commodity prices have fallen and capital budgets have been cut.
We now expect mining engine sales to be down, 5% low lower than our prior guidance of up 5%.
Demand for power generation equipment was flat in the second quarter, and we expect demand to remain at second quarter levels through the remainder of the year.
We expect revenue to be flat for the full year with growth and datacenter markets and increased military revenue offset by lower sales of generator sets to the RV market.
Lower demand and backup power applications in China, and a drop in large prime power applications in Europe .
In summary, we are now expecting revenues to be flat for the year at the low end of our previous guidance driven by lower demand in international truck markets moderating aftermarket demand in North America, and the negative impact of a stronger US dollars. We are maintaining our EBITDA guidance of 16.25% to 16.75% of sales as lower joint venture income and the impact of lower volumes will be offset by lower material and other costs.
During the quarter, we increased our quarterly dividend by 15% the 10th consecutive year of annual dividend increases.
We continue to project, returning 75% of operating cash flow to shareholders for the year.
In June we entered into a definitive agreement to acquire the majority of shares of fuel cell systems provider Hydrogenics Corporation for $290 million.
This agreement is still subject to hydrogenics shareholder approval as well as other customary closing conditions.
Strong execution across all of our businesses resulted in record revenues being translated into record EBITDA and operating cash flow in the first half of the year.
As we move into the second half of 2019, our guidance projects that revenues will decline from second quarter levels as several of our end markets experienced lower levels of industry production. The company is well positioned as we move this period to repeat our track record of increasing cycle over cycle earnings and returning significant cash to shareholders. We will continue to invest in technology to ensure the future success of our stakeholders, while reviewing areas for additional cost reduction and efficiency gains as we have in prior cycles now let me turn it over to Mark.
Thank you Tom and good morning, everyone.
I'll start with a quick summary of the drivers of our strong financial performance in the second quarter, and then comment on our revised outlook for the full year.
Second quarter revenues were a record $6.2 billion.
And from a year ago.
Sales in North America grew 7% and international revenues declined by 6% currency movements negatively impacted overall company revenues by 2%.
Earnings before interest taxes, depreciation and amortization or EBITDA or a record $1.1 billion or 17% of sales for the quarter.
EBITDA increased by $161 million over the second quarter last year as a result of stronger gross margins and higher other income, which more than offset increased research and development expenses and lower joint venture income.
Gross margin of $1.6 billion or 26.4% improved by $201 million results for the second quarter of 2018 included a $181 million charge for an engine system campaign.
In addition to lower product campaign costs improved pricing benefits from material cost reduction programs.
More than offsets the impact of higher tariffs beautifully.
Our selling administrative and research cost $880 million increased by 48 million year over year, driven primarily by new product development in the engine components and electrified power segments.
Joint venture income declined by $14 million driven by weaker demand in light duty truck and power generation markets in China. In addition to some increased expenses in China associated with the launch of new on highway products to meet the new National six emissions regulations.
Other income of $43 million increased by $18 million, primarily driven by $18 million of mark to market gains on the investments that underpin our non qualified benefit plans.
The Mark to market gains were recorded in other income in the income statement and with eliminations in our segment reporting.
The effective tax rate in the quarter was 21.4% down from 22.5% in the second quarter last year and in line with our full year forecast of 21.5%.
Diluted earnings per share were $4 27 in the second quarter up from 332 last year, resulting from stronger earnings a lower effective tax rate and the positive impact of share repurchase activity completed over the prior 12 months.
Operating cash flow in the quarter was an inflow of $808 million, bringing the year to date total to a record $1.2 billion of $747 million from the same period last year, driven by strong earnings and a much slower pace of working capital expansion.
I will now comment on our revised guidance for 2019.
For the engine segment, we expect full year revenues to be down 2% to up 2% compared to our previous guidance of growth of 1% to 5%.
This lower revenue outlook is the result of a weaker.
Projection for part sales in North America weaker demand in the Chinese like Judy.
Market on a slower pace of economic growth in Brazil.
We have revised our forecast for EBIT.
EBITDA margins in the engine business to be in the range of 15% to 15.5% down from our prior guidance of 15.5% to 16% driven primarily by the impact of the lower sales outlook.
We could joint venture income in China.
For the distribution segment, we now expect revenues to be 1% to 5% compared to our prior guidance of 2% to 6% with a slight adjustment driven by a stronger dollar and therefore, the higher currency headwind.
We are raising our outlook for EBIT margins EBITDA margins to be in the range of 8% to 8.5% compared to our prior guidance of 7.5 to 8.5, driven by stronger operational performance, which more than offsets the negative impact of an appreciating adult.
29 team, we now expect components revenue to be between down 2% to up 2% compared to our prior projections of growth of 1% to 5% reduced driven by lower demand in China and India. We have raised our forecast for EBIT margins to be in the range of 15.75% to 16.25% up from our prior guidance of 15.5% to 16.25% driven by stronger operational performance year to date.
In power systems revenues are forecast to be down 2% to 2% unchanged from our prior guidance. We're also maintaining our forecast for EBIT margin EBITDA margins.
To be in the range of 13.25% to 14%.
And the electrified power segment, we continue to expect a net expense of $120 million to $150 million as we continue to make targeted investments and advance new product development towards commercial launch.
The net impact of the changes to individual segment projections that we now forecast total company revenues to be flat in 2019 at the lower end of our previous range of.
Flat to up 4%.
Tom said, we're maintaining our forecast for company EBITDA margins to be in the range of 16.25% to 16.75%.
Full year operating cash flow is projected to exceed 10% of sales.
Capital expenditures for the second quarter were $133 million, bringing our year to date total investment to 242 million.
We still expect our full year investments to be in the range of $650 million to $700 million.
In the second quarter, we returned $179 million to shareholders.
For the first six months of returned $458 million through dividends and share repurchase activity.
As Tom mentioned, our board recently approved a 15% increase in our quarterly cash dividend, which reflects our confidence in the long term performance and commitment to strong shareholder returns.
We expect to return 75% of operating cash flow to shareholders this year through share repurchase and dividends.
To summarize we delivered a strong second quarter and record first half of the year in terms of sales EBIT dollars in operating cash flow.
These results extend our track record of improving the site building cycle over cycle, delivering first quarter return on invested capital and enabling us to invest in future growth, while maintaining strong cash returns to shareholders.
Now I will turn it back over to Tom.
Thank you Mark as you remember we announced on April 29th and then discussed on our first quarter earnings call that we initiated an internal review of our emission certification and compliance processes for our pickup truck applications. As a result of conversations with the EPA and the California Air Resources Board. Our review continues and we are pro we're proactively working closely with the EPA and carb and other agencies to address their questions.
During conversations with the EPA and carb about the effectiveness of our 2019 pickup truck applications.
The agency's raise concerns that certain aspects of our mission systems may reduce the effectiveness of our mission control systems and did not fully comply with the requirements for certification.
As a result, our internal review has been largely focus on the Agencys concerns. We are working closely with the agencies to enhance our mission systems to improve the effectiveness of our pickup truck applications and to fully address the agencies requirements and meet the expectations of our customers.
Consistence with the values in the history of the company, which include a strong commitment to compliance we will work with regulators and other agencies to address the issues identified in our internal review and develop future technologies that will advance our industry.
It's too early to conclude on any changes that we will make to our processes and organization as a result of our internal review.
It's also too soon to know what the response of the regulators will be to our view or to determine any potential financial consequences.
Now, let me give it back to James to open for QNX.
Thanks, Tom.
Out of consideration to others on the call I would ask that you limit yourselves to one question and unrelated follow up and if you have additional questions. Please rejoin the queue.
Michelle we're now ready for our first question.
Our first question comes from Jamie Cook of Credit Suisse. Your line is open.
Hi, Good morning, I guess two questions one for Mark one for Tom.
Mark just on the on the change in engine guidance I understand you check your sales down a little the margins I guess were down a little lower.
Then what I would have thought so if you could just help me understand the puts and takes there and then Tom.
A question for you on 2020, I understand you probably want to frame that more when we get to your analyst day or or the fourth quarter, but can you just given you touched so many markets can you give us some view on how youre thinking about 2020, given the macro concerns out there and then any positives and negatives investor should think about outside of the markets that could that could help or or or be a dragon Cummins earnings that are within your control. Thank you.
Okay, Jamie so quickly the two main drivers of lower.
The lower margins for the engine business lower topline outlook, which in part is due to a kind of leveling off of parts demand.
In North America, and then of course, the lowered outlook for joint venture units is principally driven by China, and especially driven by.
Kind of the lower outlook for the light duty market, which is really all negatively impacted the JV earnings which.
Construe it off.
The EBITDA per cent. So those are the two primary reasons otherwise everything else is pretty much in line.
And with regard to next year I will just make a few general comments, Jamie and of course, we'll we'll be very detailed when we get to the analyst day about what we're seeing but but broadly speaking.
As you know many of our markets are either at or near cyclical peaks in our view, which means that inevitably will start to see some of these markets decline. We don't know the exact quarter. We've done a fairly detailed projections for the used truck market. Because there is a lot of data and it's easier to do.
But even that has some variance depending on who the industry you ask.
Most of the other markets have more variance as to when when people think they fall, but many of them will inevitably fall.
At least to some degree so we are prepared.
For 2020 and and even into 2021 for our markets to be relatively lower cyclically at least many of our major ones and we are prepared in the following sets we are already.
Managing our costs to make sure that our capacity levels and cost levels will be at the right place when its time and making sure that we're the first to be ready in the first to react.
And so a lot of our focus is on ensuring that we're prepared from a cost structure point of view for that cyclical downturn thats, how we ensure that in the next downturn, we have better margins than the prior downturn. The second thing is that our products are performing incredibly well thats why you see many of our market share projection sort of tipping towards the higher end of our.
Of our estimations for the year is because we think our products are performing very well, we think that serves us well in downturns because a few points of market share can make up for some cyclical downturn. So we will continue to emphasize the quality and performance of our products and will continue to launch new products. So that when we're in a downturn.
The our competitors will see US continues to go from strength to strength because in downturns is where we also think we can gain market share and commitment from customers.
Also we will be seeing some gain hopefully from BSS six and NSX, we've been investing significantly in.
Engines and components for those launches and we think.
We will be ready, we feel ready now and we think our products will outperform competitors and we think that will give us a chance to step up our market positions in both India, and China, which we think will be lasting positions. So those are just some of the puts and takes again not all markets will fall at the same time, we have a very global.
Market and as you know not all the cycles of the same but we're just prepared for cyclical downturns are not turning into this.
To this mode that says wallets lower we're going to make sure our cost structures right and we're going to gain share from competitors and continue to launch new products in a way that positions us better for the fall within the next upturn.
Thank you that was helpful I'll get back in queue.
Our next question comes from Steven Fisher of GBS. Your line is open.
Thanks, Good morning.
I was wondering on your.
Down 10% earnings from Jvs in your guidance I think that implies around flat for the second half versus down 15 to 20 in the first half how much of that is easier comps or is it.
And expected pickup in.
In sale and meeting the admissions guidance.
Or or something else.
Yes, I think it would start to see a tail off certainly on the power system side of our joint venture earnings towards the back half of the last year. So your math is exactly right, Steve there's no heroic assumptions, which is kind of the leveling out in aggregate.
And flat in the second half of the year.
Okay, and then could you just clarify the parts outlook to what extent.
Are you already seeing on lower demand exiting the quarter I think you had 2% growth disclosed in the distribution segment.
So as that already starting to turn negative or are you just adjusting production in anticipation of lower demand later this year and into next year.
Yes, Stephen this rich.
Let me, let me give just a little background on parts soon some perspective, we our parts and service business over the last three years.
Has grown about 10% a year since we put more and more product out there are more complex power trains, we've seen some pretty rapid growth in that.
Right, what we forecast about a 4% to 5% growth again, this year, including pricing.
And what we've seen is a bit of a fall back on that and mostly in North America and as we've looked at truck utilization with the data is not as strong here, but.
Offices.
Older trucks are not being were not being run as heavily and so therefore, our parts and service down a bit.
And when that happens we've seen there will be some adjustment.
Kind of a dealer inventories in adjustment.
There, we don't think inventories are bloated at this time or excessive I think just some prudent trimming of inventories is what I would expect to see.
Again. This this this reduction that we put on our forecast basically says we will still be flat to last year. So at a record levels and so and we remain bullish going forward.
And we're putting out about 1.5 million engines, a year and so over the last three years. So those engines move into the parts consumer business. So we think a little bit of an adjustment second half of the year bullish long term.
Great. Thanks rich.
Steve.
Our next question comes from Rob Wertheimer of Miller Your line is open.
Actually yes. My question was on parts and that that was fantastic color rich.
In the past growth rate et cetera.
Just out of curiosity I mean, you mentioned I don't think its bloated how much of your parts sales goes to non Commons I guess distribution, if you're willing to give that number and then.
Do you think is the six month adjustment and then you know were kind of all clear.
Part of the reason I'm asking is just we didnt see this sort of slowdown.
As yet on Paccar, obviously selling to smaller markets.
Yes, so regarding the exact numbers in but more than half.
No the channels pretty split more than half are going to.
You know through non OEM channels such as.
In a wide range of customers buying the inventory.
And my remarks, Dan is more than half will go through OEM dealer channel versus our own channel and access in the truck side and as you said the adjustments the adjustments in parts.
The.
Kind of hard to predict this time, because they are relatively small adjustments in the grand scheme of parts inventories, but they can have an effect on a quarter and we see this every downturn there are some adjustment and frankly, we're not that good at predicting much quarter. It is so we're now kind of we were surprised that it was.
Now, but it was and I think what Richard is saying is that every time, we see this we see it every downturn it tends not to be lasting very long parts is a very stable business. Our services businesses. So we don't expect it to keep going down we expected to level off and then we expect to see.
It continue to increase in future quarters. So we're we're just.
Trying to be prudent that it seems inevitable in a downturn that dealers will adjust some inventories and we saw a little bit of that in this in this second quarter and we expect to see a little bit more of that as we go in the second half of the year, but we'll see what happens and like you said everybody is going to have different circumstances, depending on where they are holding inventories how much they're holding and and all that kind of I think we should just expect variability, but it's inevitable. If you just look over the cycle that parts inventories drop some in the downturn and then they rise up again as things start to rise.
Perfect. Thanks.
Our next question comes from and do men of JP Morgan Your line is open.
Hi, good morning.
Hi, Dan.
Hi, Adam maybe you could walk us through the different regions of your business and and comment a little further on that which markets do you see as being at peak I mean, everybody understands North America heavy duty in may be the impact that has on components also but.
What other end markets do you feel are at or close to peak.
In most most well most of the truck markets are at or near peak I mean, Brazil is a notable exception it because it's kind of running along the bottom, but most of the others. So India is already on the way down China looks like it's on the way down heavy duty you talked about.
Medium duty is holding strong, but it's been up for awhile. So it just in Europe is the one we were not sure about but even that showed a little weakness in this last quarter, it's hard to say exactly how much what that means but we've heard some some rumblings out of Europe that that some of the truck makers are getting concerned. So it's sort of hard to find a truck market that doesn't feel peakish, if not already headed down the other side.
It looks to us like mining.
Is it a little bit of a different story. It doesn't look like it's at peak, but it's definitely leveled off I mean, there's just nothing else to say about that now wet weather, it's going to turn back up again or just sort of steadily grow we're not sure thats kind of our view is that it's going to have a a slow growth from here.
For a little bit longer, but theres no question that compared to a year ago, it's leveled off and so that that doesn't look like it's got a whole bunch more left in it and then I'd say construction markets.
U.S construction market is still strong but at some point if after the truck market. It feels like the construction market has to have also tail down and we already think China's got to start tailing down because China, China has been up for a while and unless they continue to stimulate them market is likely to head down India, India has got some that the government has continued to invest and stimulate there and we think they probably still will so india might hold up a little longer on the construction side, but again thats some of them, but you remember that the cartoon and we show where we kind of put all the market up there, we'll bring that back to the analyst day, and we'll kind of put all the markets on there, but suffice it to say that as we look at that there's more kind of up and around the top of the that that little hill than than there are at the bottom on the way up so we're just being realistic about what that means for for revenues in 2020.
Okay I appreciate it I'll leave it there thanks.
Thank you.
Our next question comes from Jerry 11, Ravitch of Goldman Sachs. Your line is open.
Yes, hi, good morning, everyone.
Jerry Hi, Gary.
Hey, Tom I'm wondering now that you folks have the Isuzu joint venture set up can you just update us on the market share opportunity for you folks on light duty diesel globally.
Hi, I'm wondering as you flesh out what what the opportunity set is and what the strategy is now with the joint venture and how it fits in.
For the company's overall opportunity set.
Sure it's early days in that.
Joint venture, but we're really pleased with our conversations it's a terrific company. It's not a company that we had done a lot of business with until we started having conversations with them, but although we've always been been impressed with them from afar. They we kind of feel like at least in the off highway market, where we see each other.
They are the one the engine that we think is actually competitive to ours, and we think highly of them.
So anyway, we have we've been terrific conversations, but we're early days as to what kind of what.
What's the market share opportunity, but here's how we're thinking about it together is that the two companies are both spending a lot of investment putting a lot of investment into the various technologies that will occupy the commercial industrial equipment space. So think about not only diesel, but natural gas and hybrid and electrification and fuel cells and start to think about what that means then they also have a truck business, which has to identify it also has to do autonomous safety. Other other integration of their vehicle. So they're thinking about all the investments we need to make in that all the investments they need to make in powertrain and coming up in thinking that tips us over accompany our size, so but they need to be leading there's no room for laggards theres not going to be any second second place. There I mean, there are the strongest truck company in Japan. They have a terrific market share in southeast Asia and they are the second largest and diesel engine maker with us So what we're going to.
Try to do is figure out how we can.
Makes sense and rationalize these investments in these various technologies and it's my sense that they would like to figure out a way to do that so that comments can do a lot of the investments in the powertrain and they can focus more investment on the truck and if they can do that in a way that allows them to ensure supply and make sure they're leading utilize the technology and assets. They have I think thats going to be.
Solution that they like.
But there there is a lot of conversations lot to have about how you do that and the reason we think this is really.
Great opportunity for both companies is if we can figure this out I think a lot of other Oems around the world would like to figure out something similar there are also all of US are stuck with the same problem of a lot of investment in new technology for essentially the same markets at essentially the same size, which looks like an equation that again tips most of us over unless we can figure out some solutions to either add content and or find new ways to rationalize investments. So I think it's a really important.
Set of work that we're doing that could be indicative of how some of the other industry discussions go.
That's really interesting and on the shorter term side you folks are preemptively looking at markets, where demand could be weaker can you just update us on your framework for decremental margins. So the decremental margins were really in the teams on this revision, which was nice to see are you optimistic that you can achieve better decrementals than the mid Twentys that I believe you targeted in the past.
Well, we'll give them, we'll give you a more precise update and the analysts to Jerry as we get closer view on those markets, but as you know clear goal of improving.
Cycle over cycle earnings on your right, yes in the second half of this year, we will be in the kind of mid teens I think we've got a balance that against some of the investment needs in the near term on some of the new technology. So we will come out and give you a clear answer but you should be clear that we committed to improving those earnings on the down cycle as well as the.
Thank you.
Our next question comes from David Leiker of Baird. Your line is open.
Good morning, everybody.
David.
I wanted to talk a little bit you guys, a great amount of detail in terms of your end markets in which you're looking for I was wondering if you could dig into a little bit further in terms of the debt that pace of production going into the third quarter and fourth quarter are hearing different things from different folks that.
Build rates may hold up through the end of the year, but you're you're seeing lower you're thinking that daily build rates actually fall as we go through Q4 is that something you're thinking might happen are you seeing that in some of those schedules as we look further out towards the end of the year.
Hey, David this rich.
So a few things one we're not seeing it in the short term schedules. They remain strong what we see out our visibility through the through Q3.
And what we are doing just planning for.
A scenario where production begins to fall off as the backlog goes down and so we have no visibility to that we've just seen it in past cycles.
The Somo Oems don't run at this elevated rate because people are working pretty close to capacity right now as the backlog comes down what we've seen in past cycles is people began don't run full steam all the way to the backlogs gone they begin to moderate their production schedules. So we havent seen a lot of that we built that into our guidance that that will happen in Q4 and of course, there is a scenario where that doesn't happen and well prepared for that also but that's that's the vision. We have is more on what we've seen in past cycles David.
Okay, great. Thanks, and then just one one additional item on the balance sheet. The the working capital numbers pretty high it looks like receivables and inventory, mostly just any thoughts on that and where you think that trends over the second half of the year. Thanks.
I think.
When we look at our metrics that produce pretty similar to where we were last year. Our inventory housing certainly has kind of leveled off in the second quarter. So I would expect to be in that kind of 20% of sales range for working capital overall cost Jews are in pretty good shape collections are in good shape, so, yes, but as well.
So to the extent, we're facing some weaker outlook then.
I would expect to.
Bring it down and there would be some positive cash flow impact from that early in this.
During the downturn.
Yes, I was looking on the cash flow statement pretty significant use of working capital in this quarter versus the same quarter last year.
Yes, Thats just tweak Q2's, this one of the strongest quarters ramping up from Q1 to that so I don't so you're looking at a minimum.
Great. Thank you.
Our next question comes from Adam Omen of Cleveland Research. Your line is open.
Hi, guys good morning.
Good morning, Adam.
It's a follow up on David's question on the cash flow I guess.
The share repurchase has been kind of loan so far this year and you reiterated the plan of returning 75% of the operating cash to shareholders. This year I'm just wondering if.
Any the pending deal activity or potential deal activity could lead to a pause in that share repurchase plan for the second half of the year.
Well I guess, you know that a number of factors that go into share repurchase in any given quarter, but we've just restated. The current expectation is we'll get to around 75% of.
Operating cash flow item I guess, there are some scenarios in which that could be a little bit different but those are not the ones that we see right now for this year.
Okay got you and then on the power Gen markets.
It sounds like the data center demand has been holding up relatively strong.
I Wonder if you could talk through what you're seeing with your order rates have you seen any kind of any softness within the data center market and just how much visibility do really have on the global Genset market at this time.
No thats that remains that looks strong as far out as we can see and the quote activity is good our hit rate on on getting market share on that so.
I mean, the general consensus is we're not giving 2020 guy, but that looks strong through the end of the year into next year at least.
On the night, the bright spot Adam has been this China side yeah.
One of the things we've always been worried about is how big is the datacenter market relative to the total because we've kind of been looking at it as a us and maybe European phenomenon, but now we're seeing starting to see developing countries, especially China, buildout datacenters and because of our position in that market at kind of the premium end of the market.
We've been actually been able to develop quite good share and our team in China has done a terrific job ensuring that as these datacenter market start to build out that come in Cisco the player that they look to so I think.
Again, that's that's a big reason why you're seeing continued strength in Datacenters is that although it's just one segment of the market, we're seeing it builds globally.
So I think thats steadied out the growth and kept it.
Robust for longer.
Yes, we've seen a little bit of increase in our military business and then a little bit of weakness in the of the segment in North America, which has been on a multiyear strong ruins. So thats feels like it's cycling down a little bit.
Great. Thanks.
Thanks.
Our next question comes from David Raso of Evercore ISI. Your line is open.
Hi, good morning.
Im just trying to gain comfort with the the margins obviously the downside operating Leverages is really critical to the story and looking into 2020.
So I'm just trying to Shannon, let's say the engine division.
If a year ago, we adjust for that campaign charge.
We just saw the engine business year over year have up sales, a little bit, but profits down over $40 million.
While the second half of the year.
Engine business is supposed to have revenues down over 200 million.
But.
Profits only down about $40 million to $50 million.
So just coming off that second quarter performance.
It obviously is implying the second half is there's a lot better to fight.
Somewhat notable sales decline can you help build some confidence on what is changing in the second half am I assume materials I'm just trying to understand after the second quarter, our comfort with the second half margin for engine.
Yes, Dave it's Mark So I think it's just you've just got some moving parts in some of those different comparison, so number one.
We faced a tougher comp on China JV earnings partly due to the adjustment in light duty I think that comp gets a little bit easier in the second half of the year.
And then we're lapping with a high a terrific couldn't remember the actual terrorists expenses in the first half of the year, we're close to zero and so we'll just kind of lapping on those higher numbers and then of course, you know we're doing relatively well on certainly on the heavy duty market share.
So I think by and large is nothing heroic in the second half of the year, we've taken down our outlook for Pompe. Similarly, as Tom said some of the actually weaker outlook or leveling off and maybe a better way to describe it already occurred in the second quarter. So were not Ics expecting a significant shutdowns shift.
So those I think are the major moving parts not a significant amount of change in price or material cost first half to second half.
Yeah, I guess had pushed back a little bit on the JV income.
The JV income was down about 10% and Jens year over year.
Seems like the second half is.
Not not terribly different.
In the context of your overall company JV income for the second half.
I'm.
Is there some number around the materials or something about mix that we can again gain comfort that we can handle that big a sales decline in the second half with.
Just.
In addition brings it back up to the overall company guidance, we've delivered something like 73 and one.
For the for the full for the first half of the year. We're at 16 in a quarter to 16, three quarters with kind of maintain the margin guidance on a slightly weaker revenue outlook. So generally things are going pretty according the plan on the cost side. So.
Again, I think we have.
With what we know today, that's our best guidance and I don't think there's anything heroic in the news.
I appreciate that okay. Thank you very much thank you.
Our next question comes from Alex Potter of Piper Jaffray. Your line is open.
Yes, Hi, guys, Hi, Alan if you could comment.
Hi.
Comment a bit on the light duty.
Policy changes that you're seeing impact demand in China in the truck markets and the reclassification from light duty to medium duty.
Is there well first of all I guess any qualitative commentary you can offer on that policy would be helpful. But then secondly is there.
A reason to think that you could have demand shifting to the medium duty side of the market as a result of this and if so.
Presumably the dome function joint venture should be able to capitalize on that.
Thanks, Alex It Cup just a couple of qualitative points and I'll, let rich rich add if he has more this is that if you if you're in China, they called us to Blue plate issue, because you get a blue plate, if you're a light duty and if you and what this means is you have easier driver licensing requirements. It's closer to our current license and you can access the very enter parts of the city you can imagine why that would be a smaller vehicles lighter vehicles less congestion et cetera, and the rules were already in place. It's just that they didnt enforce them quite as tightly in every city and so now what Theyve done is they are they just pick today and all of a sudden enforcement started.
To say that it had disruption the market would be an understatement. So I when I was in China recently, there wasn't a single OEM that didnt complain about this because it just all of a sudden happened and it created absolute havoc in the market. So my.
Im wondering in part if there will be some sort of compromise proposal to kind of rationalize this a little bit because it really takes a lot of vehicles that were previously being sold and used in cities and brings them outside the city and again, it's not just the fact that you have to spend more money to get more licenses is that you can actually get into all the spots. So that is a significant change and the ones that can get in have to be very lightly loaded and so you're now your freight moving capacity has just reduce significantly so anyway.
There is a bunch of that going on I, just say there is only so much you can figure out about that in China, and how fast that's going to move as you know from your experience, but my sense is there's quite a bit of consternation and there are some.
Some potential outcome, where things get compromised or rationalized.
Whether or not this demand moves to medium duty is another question.
My feeling is that there's not a lot of movement. There because really this is the part that takes the final. This the final mile delivery stuff and most of the larger cities anyway have restrictions on vehicle size doing that final mile delivery. So a medium a bigger medium duty truck is not really going to solve your problem.
And they maybe don't need so many more of those but we could be there could be some substitution I think the biggest impact for US was we got this new J.C. JV, we've got photon going and they're both going gang busters with great products and great Greg trucks, and so it just kind of came to a screeching halt for a second while this thing is getting rationalized. We think we still have a great lineup.
In either case, it's just that it it had a pretty abrupt hit in the second quarter.
Okay. Thanks, Thanks, very much that's super helpful.
And then I guess, one you mentioned the.
Relationship before Tom there I noticed that you try just announced a joint venture partnership of some kind with.
With photon is there is there a potential for overlap there with what common stock as I guess any commentary there would be helpful as well thanks.
So here's the situation as you know each of the Oems.
Has a number of businesses and another number of segments that they're trying to make sure that their competitive in.
And.
They use domestic engines in some of those segments and they use.
Joint venture engines with us and other segments and then on a fair bit of those for export and so they always have to have multiple partnerships to cover themselves and not to mention there are number of government programs, where they need to have domestic.
Engine supply to comply with it. So we are we're now after after many many years there were now getting more used to this kind of thing where we we think we've got the engine thing good to go and then all of a sudden there is another partner and but again.
All in all we still feel very good about our partnership with photon and rich I know has spent some recent time with them. So I want to let rich comment too on the photon partnership.
Yes so.
I would say our relationship with photon.
Is good as has been in recent years in fact, both relationship there and then the customer's view of the photon Cummins product. So in fact, our share at photon. So is up from 46% a year ago to in the mid Sixtys now.
And so again I think it's just it's Tom says the nature of the business theres going to be multiple options always.
And so our strategy remains the same the work with the partners develop the best powertrain product and let customers choose and so we've kind of gotten used to that there will be customers will have multiple options, but right now I feel really good where we're positioned.
We're focused on.
Okay. Thanks, guys.
Thanks.
Alex.
Our next question comes from Noah Kaye of Oppenheimer. Your line is open.
Good morning, and thanks for taking my questions.
Your first to shorter term question on 2019 pricing.
I believe you had been expecting about an 80 bips.
Growth from pricing and I think a lot of that had to do with the parts business.
You know what are the current expectations and can you still get that sort of price growth in parts of it.
We're seeing lower activity levels.
I don't think there's puts and takes around the business, but thats round about where we said at the start of the year, So, yes, a little bit lower on parts.
But overall, we're in that 80 basis points range for the year.
Again, the pricing hasn't gone down just a little bit of a volume.
Yes.
Okay. That's helpful.
And then.
Longer term I mean, you just.
Formally adopted the C O two rigs for the first time for heavy duty trucks.
You already talk about potential euros, seven can you talk a little bit about you know that the potential tailwind there for your components business over the coming years, and how you think your position and maybe even kind of contextualize. Some of your recent investments electrification fuel cells.
In light of those wrecks.
Yes, I think Nick Thanks for that no I do think those are just those regs Boeing those are.
Tough and draconian there isn't a single OEM that is.
That is feeling nonplussed about those but here's what I'd say is that they are just that.
They are emblematic of what we're going to see across the world and so.
And especially now that regulators have in their sites some of these.
New technologies, which looked like they have.
Lower at least local emissions and the potential to potentially be economically viable things like of course electrified power trains or hybrids or fuel cells et cetera. Once they have those in their sites and they think they can be economically viable they are going to shove regulations harder.
For obvious reasons and Europe is of course, one of them, but we will you will see them inevitably in the us and elsewhere. So we think that the car and that's kind of linked back to my conversation when when Gerry asked me about Isuzu.
All of our customers and comments are all seeing significant investments required in powertrain powertrain components.
And systems and as well as in vehicles in order to be competitive and at the front end of their markets.
Everybody has a good view of what those kind of might be but then the amount of investment the number of models and have to be covered the different.
Regulations, if they're going to have to meet cities countries regions.
It looks daunting. So what were what we think is that that that's the space, where Cummins has historically been most successful when that's kind of the technology challenge in front of US we've made a bunch of investments as you know in TV in.
In hybrid in diesel and natural gas and if we can complete this transaction Hydrogenics will also have.
The beginnings of fuel cell offerings. So our intent is to have the powertrain of choice for each of these these providers and in including providing components in those technologies for them to integrate their own systems. So we think again, we will be at the forefront of technology. So we are talking to every European manufacturer about the role they'd like us to play in their system and everyone has a different view about that.
We were clear that they are their system provider and we're there to support them technically and we think it as you said it from whenever there is technology change whenever regulations are challenging that's a tailwind to commence because that's essentially where we maybe thats what we differentiate on Thats, where we are meals are made so we will invest you will lead there we will ensure that that were ready when they are ready to to use us and again a lot of people are.
Wringing their hands figuring out how they're going to meet all these requirements and we're just we show up.
Everyday and say we are ready to help let us know what you want us to help.
Right and it seems to me just that you know in a market, where you're providing a lot of sub components currently and youre going into alternative power trains were not every OEM is going to do a vertically integrated power train I mean, they may spec their motors outside or something like that I mean, there's there's more of a gain opportunity.
It seems to me.
It seems it seems to me to although I'm sure there'll be plenty of others that that also see that so we'll we'll show up with others, there too, but I agree with you that it looks like an opportunity to us we just don't want to get our carton front the horse, it's up to our OEM stuff.
That's what they think but we will be.
Pushing hard to help those Oems meet that standard.
With technology and components that we have.
Thanks, so much.
Thank you.
Great so with that it looks like we're at the end of our hour. So I'd like to thank everybody for your interest in comes today and as always I'll be available for any follow up questions. This afternoon. Thanks very much.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect everyone have a great day.
Oh.