Adient plc (ADNT) Earnings Call Transcript & Summary

Well, thanks, everybody, for joining us. Next up, we have Adient. Adient is the largest global seating supplier in the world. They are in the middle of a turnaround program, which has been showing great progress even amidst the COVID crisis that we're all fighting through right now, improved results in the last quarter. So it's a very impressive micro story here. Today, we are very happy to have Doug Del Grosso, President and CEO; Jeff Stafeil, Executive VP and CFO; Jerome Dorlack, Vice President, Seating of Americas; and Mark Oswald, Investor Relations. And with that, I'll turn it over to you, Doug, to make some opening comments.

Okay, great. Thanks. First of all, thanks to everyone participating today in the webcast call. I hope this discussion, say, finds you and your family well. We are here in our offices in Plymouth, Michigan in our global headquarters. We have done a reopening of the office, and we're together practicing the appropriate COVID protocol. As John mentioned, we're coming fresh off our earnings call generally pretty satisfied with the progress we are making on the turnaround plan but have had to switch gears as COVID came to be a very serious issue that we had to contend with globally across all of our operations. So our approach to dealing with COVID in many of the questions I'm sure we'll answer today will revolve around this is what it has been that approach. And I really think about it in 3 phases. The first phase was preserving liquidity. And as you know, we've taken numerous steps from issuing senior notes to flexing our cost structure through a variety of forms to preserve liquidity. We've had weathered that initial phase, we've now moved to restart. Restart happened first in China. That's gone relatively well. Our plants restarted effectively from a health and safety standpoint but also from a financial perspective. And as we commented in the earnings call, that first month after the restart, we were able to flex our cost structure and still operate at a solid level of performance from a return on sales. In Europe, with this our next phase of restart, we've launched 20-plus plants. And the rest of the launches roll out over the next coming weeks. And then we're ramping up production and operating at 50% capacity right now. And then beyond that is the rest of Asia. And that's in a variety of forms. Japan and Korea, for the most part, operated throughout the COVID crisis. But other regions, Thailand, Malaysia, did shut down and will be starting back up shortly. But probably the most significant event in front of us is the restart of our operations in the Americas. And we're prepared to talk about that today, where we think we're at. Beyond that, what we were communicating in our earnings call is as we get through Phase 1, Phase 2, really the next phase of this is what the market looks like as things go back to whatever that new normal is. We are anticipating the market will be down. And so we spent some time talking about the actions we're taking, somewhat modeled after what we did in China across the broader company to really flex our cost structure and align it with what we see production volumes to look like. So with that as an intro, I'll turn it back over, and we can go through a Q&A session. Thank you.

Great. Just maybe a first question, as we think about this restart in Europe and North America, if you can give us sort of a timeline of how things are developing. In Europe, it sounds like it was -- started in early May. North America, it sounds like it's going to start next week. But the question is what does that restart really mean as far as volumes, capacity utilization? And really, what are the complexities of dealing with obviously many different countries in Europe and then in the U.S., many different states as well as Mexico and sort of the complexity of maybe different "restart" dates? So I mean really just like the tenor of the restart in North America and Europe and what's going on really at the moment.

Sure. I'll touch Europe and then I'll let Jerome talk about the Americas since he's here. As I mentioned, Europe has gone relatively well in that, at least from an Adient perspective, we've been able to restart our operations. The health and safety protocols that we put in place have been effective as we see it. And certainly, that was -- our top priority is to make sure that we had those measures in place. We've talked and communicated in the earnings call that we had developed our own strategy that was really a collection of a number of strategies that were out there of how to protect our employees. That's gone well. Our customers have ramped up pretty much in line with what they had signaled to us through their releases. It's been slow. They've had to deal with their own issues. But to date, we've not had any major disruption either as a result of a problem with our customer or a result of supply shortage. Some of that, I would say, is because, at least from the supply side, there was ample inventory in the system. But we're actively working our supply chain. And although we have issues that we are focused on being contingency plans in place, we essentially are managing that process without any major disruptions. So I think we've basically looked at this is going to ramp up over about a 6- to 8-week period with our customers in Europe, similar in the U.S. But so far, so good. And I'll turn it to Jerome to talk about the Americas.

Yes. So with respect to the Americas, actually as we sit here today, we have 7 of our complete seat plants running, and we have a number of our component plants running as well. And as we kind of transition into what we see starting next week on the 18th, we'll bring back in service another 13 of our complete seat plants. And really all of our component plants within the U.S. and Mexico will then begin to run. I'd say the message has really been one of employees first. And so we've kind of lived by this mantra, which is we want to create an environment where people would feel comfortable to send their sons and daughters or family members to go and work at. And so we've put, as Doug said, an immense amount of time into reading what's available from our peers, from other industries, from governmental agencies to develop what we think is kind of, for our needs, the best playbook that we can and then executing against it. And so that meant, in some cases, we manufacture our own PPEs. So we turned our cut-and-sew plants into facilities that manufacture masks for our employees. We turned some of our foaming operations, where we have a wet chemical system, into ones that can actually manufacture hand sanitizer for our facilities. And so I'd say we are in a position where we've been able to create an environment we feel is safe. The plants came back online this week. And even last week, the reception and the feedback from the employees was very positive. And so now it's just continuing to take really what started in China, was verified in Europe and now we have to execute it in the U.S. in terms of that return-to-work activity. And so I think what's important for us when we think about it is we want the ability to be able to meet our customers' needs. So if they come back and say they want to run at 100%, we've got the workforce ready, willing and able to do so. And then if they want to run at something less than 100%, we've got the ability to flex to be able to do that to the best that we can.

Okay. That's actually incredibly helpful. But -- and when you look at this, the cap use levels, I guess, are pretty important. You just mentioned that you might be able to support them as soon as possible at 100%. But 100% is fairly unlikely in the near term. As you're looking at sort of this ramp curve through the end of the calendar second quarter, so through the end of June, how do you think about that? I mean I guess you're saying that China is a 50% cap use at the moment. Is that something that you think we'll see roughly by the end of June? Or is it really kind of too early to call and at this point, these restarts are really just turning the plants on and getting things going for whatever is to come hopefully on the demand side?

Yes. I would say, within the U.S. in particular, just because of -- I mean the data is out there in terms of the number of cases and death. The EDI from our customers is one that shows a conservative ramp that they feel is manageable. So it varies from 6 weeks to 8 weeks. And one of our customers came out and said they want to be at 4 weeks. So I'd say there's the spectrum. But by the time you get to an end of June, you're not in any type of cap use that are close to 100%. I think that takes into the July and August time frame to start getting that -- those type of levels, if you would.

I got it. Okay. And you mentioned though that first month of restart in China, you have gotten margins to normalized levels. That sounds like that was a cap use of 50% or less. I mean how does something like that get executed so quickly? I mean it's a very quick...

It was -- sure. So it was a function of a lot of activity that was taken during the downtime to flex our cost structure. So if you think about it, material margins were held in check. So it was really a function of SG&A and labor costs. We came back online more efficient from a labor perspective. Some of that was forced on us because we did not get the full retention of the workforce and there was restrictions on workers coming back to the plants. So we had to be creative. But that creativity turned into allowing us to run more efficiently than we had going in. And then we also flexed on our overhead structure in China, both at a plant level and at a headquarter level that allowed us to come back and get a solid return on sales with decreased revenue. We're working to have that same outcome in the other regions. Europe has different labor laws. So our ability to flex is somewhat restricted. But we think we can do that over a longer period of time. And then similarly in the U.S., where we have a little bit more flexibility, we're looking to see what actions that we can take in the near term as we go back through the restart. Some of the compensation actions we were able to take in the U.S., I think, stay with us until the July time frame. So we'll benefit from some of that as we get to full production.

Got it. But it would be very aggressive to assume that as you get to 50% cap use in Europe and the U.S. that you'd have margins that were normalized, right? I mean that's pretty impressive. It sounds like it's an opportunity that's just available itself out of necessity at the time.

Yes. That would be -- I don't think we're trying to communicate that. It's going to take a little bit longer time in the U.S. and particularly in Europe just because we don't have that kind of flexibility that we have in China to take those actions. But again, I would say, over a longer period of time, I'm not talking -- I'm talking a few months, we might be able to. And that's certainly our intent is to get that cost structure back in line with whatever we anticipate that volume to look like coming out of this.

Okay. And one of the very positive things that is developing here is that the mix is very strong. Inventories -- finished goods inventories are particularly, especially in North America, a little bit low. The automakers are focusing on their higher-priced, higher-margin vehicles. How much of an opportunity does that provide to you maybe specifically in Europe and North America? And if maybe you could remind us maybe high and low CPV dollars, so we can kind of gauge maybe even if we want to make our own guestimates on mix, how good could it be potentially on mix. And not to put words in your mouth, but if you could give us an idea of what you're seeing and maybe what the upside would be on a sort of max content per vehicle.

Yes. Well, at a macro level, I think we've already said, we like our mix. Certainly, we like our mix coming out of COVID because what we believe our customers are going to do, what they did in China, if you look at the China numbers in more detail, you can see luxury brands. On a year-over-year basis, we're actually up in the month of April. So that mix was pretty positive for us. I like our mix in the U.S., and Jerome can touch on this, but we're on some pretty big truck platforms that we know our customers will be absolutely focused on getting up and running at the most efficient level. I would say in Europe, maybe we're a little bit more agnostic. We certainly service the luxury brands. What is not completely clear in Europe is what either the government or the OEs are prepared to do from an incentive, how they're going to handle compliance from an emission. But what's good for us, whether it goes internal combustion or electric vehicle, we've got really good content per vehicle on the electric vehicle side. So I think just at a macro level, we feel pretty good about our mix. We don't have an overconcentration in one area that has to pull through. I think we can handle a few different scenarios. But the one that appears most obvious is the customers are going to run their high-content vehicles. And a big part of that content is seating systems.

And I think if you just think about the Americas in particular, so the April sales figures were probably some of the most scrutinized sales figures on this region in a very long time. And if you looked at truck sales in particular, they were very strong. And they're also very profitable for our end customers. So that -- if you think about either potential tailwinds or, at a minimum, our ability to maybe get volume back faster into our network, given our mix of platforms, so the Dodge Ram, both light- and heavy-duty and the new version or the classic version we supply, the Ford F-150, the Jeep Wrangler, Gladiator business, Tacoma, Tundra. And so we have, I'd say, a portfolio of platforms that, if April was an indication, would lend itself to seeing volume recover more quickly on. And so I think we feel good about that, which is why kind of coming full circle, we have put such a laser focus into making sure that our plants and our operations are ready to return to work when required to do so.

Got it. Okay. It seems good news. I mean, but is there a dollar content you could think on sort of a max on a large pickup or a large SUV that we could think about sort of at the high end?

Yes. I mean so if you -- on an average pickup truck, I mean, our content per vehicle can range between $800 to $1,200.

Got it. And on a...

Yes. I would say that, that's probably a similar number for a full-fledged luxury vehicle if you assume that it's got leather content on it and allow a whole lot of power options.

Those seating systems, the only thing that would differentiate that is that if there's a third row in a large luxury vehicle that may take that content up. So if you think about some of our 3-row vehicle content here in the U.S., so some of the GM platforms or Honda platforms, that content is up around $1,800 per vehicle.

So -- but a 2-row luxury vehicle, sedan is -- or crossover is about the same as, let's say, as a pickup truck.

Got it. Okay. But it seems like there's some big, I mean, opportunity for mix for the industry as well as you coming out of this. One other thing that you mentioned on the call I just wanted to follow up on was your ability to renegotiate underperforming contracts. It seems like they were -- it was -- the door is a little bit more open in the midst of this crisis. I mean what -- I mean what are you -- I mean what exactly do you mean there? How much opportunity is there? And are the automakers all of the sudden looking at the crisis as an opportunity to kind of clean things up and that's why the door is more open? I'm just trying to understand what that really means.

Yes. I mean we're trying to communicate a number of things to what means, not that we think COVID, by any stretch, is a good thing. But it is an environment that we will use to address commercial issues. And it's not so much -- I think renegotiating contracts is an oversimplification and it's not really what we're trying to do. I think when we talked about our contracts in the past, we talked that we had a backlog of open issues that we needed to resolve. We -- the initial phase of our turnaround is somewhat reflected in our Q2 performance. A lot of that has been resolved. We went back to more normalized relationships with our customers. We've done a lot in launch performance and just the day-to-day operations of our business to get back to a better relationship with our customers. That's created an opportunity for us to pursue, I'll say, commercial opportunities that weren't available for us before. So in the bad, dark days, when we were struggling with launches, our customers really didn't want to talk to us. They just said, "Go fix your problems." And now it's a different environment. So it allowed us to introduce -- like we communicated in the call, we went to every single customer and we said, "Look, here's top 10 ideas we have for you, very specific that you can implement literally immediately that save you millions of dollars on your product." And our customers, because we've improved the relationship, are much more open to listen to us on that. Certainly, simple things, we operate with a little bit more savvy commercially today, getting in front of our customers when we have a COVID issue and letting them know that we have to have a different conversation about the business in that they've stopped production that had a cost associated with it. We need to talk about how we address that cost. So we've just been quick to engage with them and have that dialogue. And I would just say characteristically about the seat business, change is something that can be capitalized on. And even in this environment, I think our customers are much more open to find solutions to problems that historically they would have been more resistant to. And so it can be pulling ahead engineering changes faster because we've had some downtime expediting the way we validate a particular change, so we can get it in quicker. All those things can be advantageous to us commercially.

Got it. Okay. So it sounds like there's even a little bit of opportunity in ongoing contracts to be more collaborative as long as it's collaborative as opposed to just asking for price?

Yes. We really try to take that approach. This isn't adversarial. We're not -- we are really looking for collaborative ways to improve not only our level of profitability, but some of which we can share with our customers. And it could be -- we've had that dialogue ongoing. I think this just -- with one customer, they asked us, "How can you reduce the proliferation of part numbers and feed options? And what does that mean to you? What does it mean to us? How can we share that?" And I think in this environment, the customer has a very different appetite to move on some of that activity, where before, maybe they weren't as desperate. And I think the timing that we put forward of really investing in cost reduction might actually work to both of our advantages.

Yes. It seems like an opportune time to have both discussion. If we were to kind of flip to sort of the thinking about the third quarter and the fourth quarter, obviously second quarter was very good performance, all things considered. Just curious how we should think about decremental margins in the third quarter and hopefully sequentially incremental margins in the fourth quarter as well as what you think the cadence of equity income may be through the second half of your fiscal year? Because it seems like the second quarter was a low point because of China, but it might actually recover a bit in the third and fourth quarter, so decrementals and hopefully incrementals and then what you think equity income might be in the coming 2 quarters.

Yes. John, as it relates to the -- our fiscal third quarter, which is April through June, is going to be the most impacted, obviously, or we would expect to be the most impacted by COVID. As we talked about in our last earnings call, we had roughly $100 million impact to the EBITDA line in Q2, our fiscal Q2, about 2/3 of it related to our consolidated business, about 1/3 of it related to equity income. So with about $530 million of estimated sales impact for COVID, it was about a 13% decremental margin. As we look into our fiscal Q3 time frame and with effectively a fully shutdown April, it's reasonable to think that our decrementals might be a little higher. What we've effectively been balancing, and maybe the way to think about this, is our contribution margin, call it, 17%, 18%, versus our decremental. How were we able to get it? We were able to get it down to that 13% level by doing a number of temporary actions, such as furloughing our plant workers and many of our salaried workers at the plant facilities. And then above plan, we took pay reductions and helped us get that number a bit down. With more severe reduction in sales and with April being shut down, it was hopefully the most severe we'll see, it's reasonable to think that we'll be a little higher than that 13%. Ideally somewhere under the 17%, 18%. So I'd say we'll probably straddle in the middle there. Probably that would be our expectations through this period. As Q4 picks back up and the volume reduction is not as significant, the combination of -- Doug mentioned a number of things we were going to do, let's call it COVID 2.0, to take down our cost structure on a more permanent basis, preparing ourselves for return -- once we return out of our shelter-in-place orders with the idea that volume is going to be a bit lower. We've been trying to take an -- accelerate a number of actions to take cost out of our cost structure. That should allow us to operate, I'd say, in that 15% to 17% range of decremental margins as we go forward. And then once production does get back to a more normalized level that we'd have better margins than we had going in, I think, is also going to be a byproduct of this. As it relates to China and equity income, we didn't give full guidance. It's been a hard market to guide in, but maybe a couple of bread crumbs for you. Like we were -- we did a conference in February right before all the changes that happened outside of China took place. But at that time, we said China, expect equity income to be roughly 0 for that quarter, came in at $10 million, so fairly close. But in that, we talked about China returning to a more normalized set of production numbers through the June time frame. And I can say what we saw in the market was close to 90% down in February, close to 50% down in March. April was 5% down. It was maybe a little inside of that. So we've seen that positive development in April. We have some positive expectations in May and June. And I would say that guidance we put forward in that equity conference in mid-February is probably still what we're looking at for the China market.

Got it. Okay. That's helpful. And then on the cash burn side, I mean, you've done a great job limiting cash burn. How much of that conservation will stick? And kind of like you were saying in the decrementals, you're able to yank some things out that might flow back in normally over time because you can't furlough workers forever and you can't ignore your customer ever, some of that needs to come back. I mean similarly on the cash conservation side, how much of your actions are more structural? And how much are kind of really stemming the tide and the bleeding here in the near term?

Yes. It's a great question. We had said we would have been closer to $300 million, absent those short-term actions. But a good portion of the short-term actions are plant labor. So as production returns, those plant labors will be put to good use and help us actually generate positive cash flows, which will offset this $175 million figure quite a bit. As it relates to some of the things above plan, that's where these COVID 2.0 actions come into place. We are looking to take reductions across our SG&A and engineering network to reflect the next couple of years being -- and we've circled a number, which will probably turn out to be incorrect, but for planning purposes, about 20% down in the short term. We don't see that down -- the market being down 20% long term. But we do think that there's going to be some element of an impact on demand as we work through all the impacts of the economy that has happened with the global shutdown. So that's kind of the number we've been using to set a goal for our fixed cost reduction program. But again, a lot of those actions that have contributed to the cash burn being decreased is the plant operations. Because those people are more productively employed, that's going to be a big part of getting ourselves back to a cash flow healthy standpoint.

Okay. That's helpful. I think Doug Karson from our team has a couple of questions. Doug, do you want to...

Yes. Thanks so much, John. Liquidity is the hot topic right now for credit investors and equity alike. Following the $600 million secured bond offering liquidity appears pretty solid at, I think, $2.3 billion or so, how do you think about that liquidity in some upside or downside scenarios with COVID? I guess I'll start there.

Yes. No, great question. And we think about it a lot is probably the answer here. And we've looked to try to blanket ourselves in what I'd call excess liquidity or at least what would appear to be excess liquidity because of all the uncertainty in the market. So liquidity is definitely at a premium, and we've managed our business to make sure we're maximizing liquidity and cash. A couple of things, you mentioned -- at the end of the quarter, we had roughly $815 million of cash, excluding our ABL draw. Our ABL draw is -- ABLs generally aren't structured to account for what we have going on in the auto industry, which is a shutdown. ABLs draw the liquidity or availability off of our AR and inventory for the most part. And as production stops, those numbers go down and the access to that ABL goes down. So we chose to take that $600 million note. In addition, we still have some capacity on that ABL, it's just diminished. We think that's plenty of cash to get us through. We also have a couple of transactions coming up that are announced but have not closed yet. That includes the Yanfeng transaction we announced at the end of January and the fabrics transaction we announced in the beginning of March for roughly $575 million. We expect those two transactions to close within the fiscal year and will obviously bolster liquidity accordingly. In addition, as you know, we have an enormous number of -- well, enormous amount of earnings relative to our whole from our China joint ventures. The China joint ventures pay their dividends for the most part in the back half of our fiscal year. We said approximately $200 million, we would expect to come into the back part of this year. So the combination of the $600 million note, the $800-plus million of cash, excluding the ABL, the ABL draw and the -- these transactions and dividends, we think, gives us a pretty large pool of liquidity to manage through the crisis here. And we would expect to have some excess liquidity as we get to the end of this. And once we get to the end and have visibility again in what the market looks like, we would use to take some of the excess amounts of that and look to reduce some of our debt facilities. The most obvious one is our term loan B, which is just under $800 million, which we have some flexibility to pay down. But we try to be opportunistic at the end as well.

All right. Just one quick follow-up and then I'll turn it back over to John. So the leverage is elevated relative to where I think you may want it to be longer term. If you could just talk about the capital structure, ideal leverage kind of going forward, assuming that we get out of this COVID in the next 6 plus/minus months. What do you think you can do on the leverage front and kind of what are your targets? Have they changed?

Yes, great question. I mean we talk about it a lot. The Board is very focused on it. Doug and I have spent a lot of time talking about what is appropriate capital structure here. And we've targeted for something inside of 2x leverage based on EBITDA. We were on a nice path to get there quicker. We had some deleveraging transactions that I just talked about. We had some significant improvements to our earnings portfolio and our cash flow generation. All of that was conducive to bringing our leverage down fairly quickly. COVID has jumped in the way here and made us do some things we didn't think we were going to do otherwise or wouldn't have done otherwise. But the goal remains the same as the dust clears from COVID. We see a lot of opportunity for self-help within this business to continue to drive margins up through the cost reduction activities as well as just the operational execution side of this business as we close the margin gap to our customers. So that should -- or to our competitors. That should help bring up our overall earnings number. We do think we'll have excess cash as we get to the other side of this as well, which will be used to pay down debt. And we'll continue to -- this business, as we think as it becomes healthy on the other side of this and we get back to a more normalized level of vehicle build in the world, should be a business that produces, generates cash. We would look to use that combined with the earnings to get under a 2.0x leverage. It's just much harder to predict what that is right now just because of all the uncertainty, but the goal hasn't changed.

Great. And maybe I'll just ask one last -- maybe I'll just ask one last quick question to sneak under the wire. Doug, I mean, as you look at the business and what's happened with your own progress and the crisis, if we were to fast-forward 2 to 3 to maybe 5 years from now, ultimately has anything really changed in your thought process about what needs to be restructured or changed in the business? Or are there maybe even greater opportunities to the positive as a result of this?

Well, I'd say, at this stage, we expect COVID obviously to be a strong headwind. But if production comes back online and we get to the other side and volume becomes somewhat more normal, nothing's really changed. I would say the only thing that probably has changed is we're expecting different from where we were 3, 4 months ago is we're anticipating volumes to come down over the course of the next year or 2. So we've aligned -- we're aligning our cost structure to something more similar to what IHS has put out, that 20% reduction. So we'll probably have to take some cost out of our SG&A. I'm not here to announce anything from a footprint standpoint. But it's conceivable that we would have to consolidate on a facility level as well. But beyond that, really fundamentally, what we're doing to run the business, we're driving to improve contribution margin, the way we were interfacing with our customers, utilizing every opportunity we could to enhance profitability, driving the business for cash is going to continue. Arguably, we'll do it with more intensity than we did before. But really, the play is the same.

Okay. Well, thank you very much for the time, Doug, Jeff and Jerome and Mark. We appreciate the time here with us and the one-on-ones you're doing with investors. So thank you very much for joining us today.

Thank you.

Thank you.

Thank you.

Appreciate the opportunity. Thank you. Bye-bye.

Thank you. And just to remind everybody, we're going to be back at 12:20 with Group 1 Automotive. So we'll be back at 12:20 sharp, and look forward to hearing/seeing everybody then. Thanks so much.