BorgWarner Inc. (BWA) Earnings Call Transcript & Summary

Welcome back, and our 11:30 slot is BorgWarner. I'm pleased to have with us Kevin Nowlan, EVP and CFO. Borg's going to start with about 4 slides, and then we'll go in. As always, you see my e-mail address over to the left, I do watch it. So if you see my eyes starting around during these presentations, it's because I'm reading your great questions. So feel free to e-mail them in. Thanks.

All right. Well, thanks, Brian. We appreciate Barclays hosting us here today at the event. We're happy to be here again this year albeit virtual. So I am going to just take you through a few slides here just to give a brief overview of BorgWarner. I'm sure a lot of you are already familiar with the story, but I'm sure also some of you might not be. So on this Slide 3, you can see up on the screen, let me just give you a quick overview of our business. And it starts with our vision, which is a clean, energy-efficient world. And to that end, we're a technology leader in clean and energy-efficient solutions, and that cuts across combustion, hybrid and electric vehicles. The products we manufacture, design and build help improve vehicle performance, propulsion efficiency, stability and air quality. If you look at our customers, we've got a great mix of customers around the globe. We supply nearly every major OE globally. We've also got great geographic diversity as well. And when we talk about combustion hybrid and electric, one of the key strategies of our company is to be balanced across those, and part of the reason is what it does is it allows us to drive strong profitability and cash flow while simultaneously outgrowing the market, and let me just talk briefly about each of those pieces. From a profitability perspective, we've delivered strong financial performance over a long period of time. But even 2020, look at our results, our Q3 margin was 12.5%, and we're on track to deliver over $0.5 billion of free cash flow this year, and that's even after half of about $100 million in Delphi-related transaction costs. It's that performance and our strong balance sheet that we continue to believe are competitive advantages for us, especially in an environment like this. And then as you shift to outgrowth, we consistently deliver outgrowth. We've generated over 500 basis points of outgrowth each year. That's growth above and beyond market each year for the last 4 years, and that includes this year, 2020. And so as we look ahead, we expect to continue to deliver that type of strong outgrowth. Clearly, this industry and our business is even in transition right now with the more aggressive market shift to electrification and with the integration of the Delphi transaction, but one thing doesn't change at BorgWarner. Product leadership is the key driver of our business, and that's why we continue to invest in our business even in a challenging market environment like this. And so with that, Patrick, maybe you can take us to the next slide. Actually wanted to use today as an opportunity, you're the beneficiary of this, Brian, to share some new information. So we've updated our outlook on our addressable content per vehicle opportunity. And this is across combustion, hybrid and electric vehicles, as you can see on the slide. And so this slide now actually incorporates the Delphi Technologies acquisition. As a reminder, when we talk about addressable opportunity, it's the potential revenue opportunity that exists if we were to obtain a 100% share on all of our products that we offer across each of the types of vehicles across combustion, or in the case of hybrid across hybrid, or in the case of electric on electric. And the analysis also incorporates our expected market penetrations for different vehicle architectures and the different product portfolios, products we have within our portfolio on each of those vehicle types. So let me just talk about the data you see on the slide. You can see combustion then, what we're seeing is based on our analysis today, as we look out to 2025, we think the content per vehicle on a combustion vehicle for us is $940 of opportunity. You can see hybrid is twice as large at about $1,900 per vehicle, and electric is a little over $2,400 per vehicle. That's, again, content opportunity per vehicle. So each of those is actually a significant increase in the content per vehicle opportunity compared to the addressable market that we would have had prior to the Delphi acquisition. But that's not really the key takeaway. The key takeaway is this. Look how much larger the hybrid and electric opportunities are for us at BorgWarner. Hybrids have 2x the content opportunity relative to combustion or almost $1,000 more per vehicle. And electric is more than 2.5x, almost $1,500 more per vehicle. So the message here is electrification is a significant opportunity for BorgWarner. The other thing you might note, you can see at the bottom of the slide, the $49 billion total combustion market opportunity. But when you look at the addressable market opportunity for BorgWarner, hybrids and electrics combined, it's more than 70% higher than the combustion opportunity by 2025. And that's again why we're so excited as we see the profound shift in the market to hybrids and electrics, and it's why we continue to focus our investment dollars, that's both R&D dollars and our M&A dollars on the electrification space. So that's kind of the theoretical opportunity based on our existing product portfolio. But the good news is that in practice, we're demonstrating success in capitalizing on these electrification opportunities. And the slide that's now up on the screen, you can see the awards that we've talked about throughout the course of 2020. It's really the first time we're just putting them all on one slide for you to -- just to remind everybody what we've actually accomplished this year. We have the P2 clutch module with ChangAn in China. We've got the 2 eTurbos in Europe. We have the high-voltage cooling heater with a premium European OE, the iDM in the bottom left there for the Ford Mach-E program and 3 eDMs with key Chinese OEs and then of course the inverter award that was announced back in September. So obviously, we're pleased with the growing number of announcements that we can talk about externally. But what's really exciting for us, and I think this will get into some of the discussion we have, Brian, it's the diversity of wins across our product portfolio. And it reinforces the notion that we can have success throughout the value chain and electrification, whether it's component supply or system solutions. And we do that by partnering with our customers to determine which approach best fits with their strategy because certain customers have more of an in-sourced approach and certain customers want to see the full system solution opportunities. We can do both. But we're not stopping on this slide and declaring victory, obviously. We've got a long way to go here. And as we look ahead over the next couple of years, we expect that we're going to drive additional new business wins in electrify propulsion. And so you can see some of our planned customer engagement reference on the left side of this slide. Since we closed the transaction with Delphi on October 1, we've already started engaging with our customers about our expanded product offerings. In fact, as we look at it during the first 4 months following the closing of the deal, we're slated to meet customers who represent 70% of the global industry volume. So the tables then on the right side of this slide really provide a sampling of both the component opportunities and the full system solutions in electrification that we're pursuing with those customers. And as we see it, the timing of the acquisition was really critical because these opportunities, the ones you see on the slide, are expected to be awarded over the next 1 to 2 years. And because we now own Delphi Technologies, we're much better positioned than before to pursue those types of opportunities. So I hope that gives you an appreciation as to why we're so bullish on our long-term prospects at BorgWarner. We've got a track record of delivering strong financial results and capitalizing on growth opportunities. We've built a portfolio that's really positioned to grow as the market shifts toward electrification. We're already demonstrating successes with the wins that I just showed you here in 2020. And as we look ahead, we see some key electrification opportunities coming to market in the next 1 to 2 years, and we really think we're well positioned to capitalize on those. So with all that in mind, we expect that we're going to continue to drive profitable revenue outgrowth in the years ahead and deliver that top quartile margin profile that we're known for as we complete the full integration of Delphi Technologies, especially as we get through the full recognition of the synergies by 2023. So Brian, that's all I had in prepared remarks, and so maybe we want to shift over to some Q&A.

Oh, Brian, I think you're on mute.

Oh, thank you. Can you hear me now?

I can.

Yes. Yes. Since you brought up the -- and you actually had a slide on component sales versus system opportunities. Can you maybe just talk a bit about what will cause OEs to trend one way or another? And should we -- are there different OEs? Is there an indicator, what size or region about where -- when they're going to go look for a system and when they'd look for components?

Yes, I think it really depends on the OE. It's OE by OE specific, and you do see certain directional trends maybe in some of the marketplaces. Again, the good news is for us is we feel like we're positioned to provide component solutions or system solutions. If a customer wants a fully-integrated solution, we can provide that. But if a customer wants an individual component, we can provide that as well, or we can provide an integration of other's components. It's not going to be one size fits all. But to your question about what do you see maybe even some of the regional direction, if I boil it down, I'd say, maybe in Europe, we see there are opportunities for outsourcing. But probably in the nearer term, the market probably leans a little bit more toward an in-source model, I think, driven in part by the fixed cost structures that the OEs are trying to address right now as well as some of the OEs, I think, want to have some of that cost or technology in house. So for those customers that lean that way, we're happy to provide the component sales. I think when you shift to maybe a China, again, it depends on the OE. It's not one size fits all, but I think we've seen the market there leaning a little bit more towards the outsourced model. That's why I think we've seen some success, especially in the eDMs or see the opportunities in iDMs because I think there, the Chinese OEs particularly appreciate the faster speed to market, the efficiency improvements we can provide and even the ability to leverage the supply base by going with an outsourced model. And then I think in North America, it's still early days, obviously, right? You have -- I mean Tesla is the big driver of the market today, but we'll see how the market plays out. Clearly, we've had companies OEs like GM talking about the more of the in-source model. And at the same time, one of the large -- our largest global customers, Ford, has outsourced the iDM on the Mach-E program to us. So I think the jury is still out at the moment on North America in how it's going to play out, and I'm sure it's going to be an OE by OE decision. And I expect that, that's going to evolve over time as well. It's not going to simply stay static today, just like we've seen with other components over time. So I think the key for us is just going to be to make sure we continue to sustain that product leadership, and I think the Delphi Technologies transaction helps in that regard because it gives us that capability on the product -- the power electronics side that I think positions us well for any of the component or system opportunities.

Well, and then just thinking of the slide with the columns on system quoting opportunities versus component opportunities, it seems like most of the component opportunities currently are coming from the Delphi acquisition because they're inverters. Can you update us on the competition there, what your expected win rate is?

Yes. I'm not going to talk about any specific competitor, but I think as we look at our in-house capability, when we look at the mechanical, the rotating and electric and the power electronics, I think it's hard to find anyone else who has the scale and capability that we have of having all of those components in house to be able to provide an integrated solution using -- solely using in-house components. So we actually think that gives us an advantage as we go-to-market and meet with our customers. But again, if our customers are preferring component sales or integration of other's components, we have the ability to do that as well. So I think we feel good about our ability to have good success in penetrating the market here.

And even if -- the Ford win was great. But at some point, I've been saying Cleveland Engine could become Cleveland Electric Motor. To the extent Ford, or hypothetically an OEM in the future who's buying an iDM from you -- as you know what, I really have to, to your point, keep these fixed labor folks busy. Where do you -- clearly, the inverters and the whole Delphi electronics portfolio is a component opportunity. But where would you say the component opportunities are on the more mechanical mechatronics, precision gearing, precision machining side?

Pat, do you want to comment on that?

Yes. I mean a couple of things I would add to that. So I think when you look at the 3 major buckets, I think Kevin alluded to it a bit, but I think inverters are going to lean more towards the outsourced model. I think motors in general are going to be about 50-50. And we think transmissions, to your point, just because those are a little bit more labor intensive, are going to be leaning a little bit more towards that in-sourcing versus that 50-50 split on the motors. To the extent putting the inverters aside, what are some of the components that could still be sourced, we have programs in Europe today where we're supplying the stator for an electric motor. That could be a model that could potentially be pursued in the future by the customers. On the transmission side, really, the transmission or gear reducer, depending on who you talk to in terms of definition, is effectively a transfer case. So we could supply a lot of the different components that go into that way, be it -- whether or not the gear set or any other components that go along with this.

Thank you. Helpful.

I think the other thing to keep in mind, Brian, too, is just back on that slide that we showed earlier about the content opportunity per vehicle, you can see how much larger it is for us as we move to electric. So even if we see some elements of that skewing more toward the in-source model, I mean it's still a factor of 2.6x, what we have on the combustion side. So you can you can apply some estimates in terms of how much you might think might be in-sourced or vertically integrated, and there's still a huge opportunity here.

Which gets to there are about several e-mails here, so I apologize to anyone because I'm going to kind of blend the 3 e-mails together. You have an addressable CPV, which is great. Certainly, there are multibillion-dollar market caps based on not much more than renderings and TAMs. But historically, you've talked about a, you call it, effective CPV, average CPV, sort of a realistic expectation of given in-sourcing, given component opportunities, given share with competitors. Can you maybe talk about the effective CPV in each of those 3 columns?

Yes. We're in the midst of our long-range plan development right now, so we're going to release that like we normally do in the first quarter or the upcoming year. That's our plan right now. So we haven't finalized the numbers that we're prepared to share there, but we did feel comfortable being able to talk about the addressable market opportunity. So we will come out with those numbers as we look out over our long-range plan. We're targeting in the first quarter for that, like we normally do.

And at the 2018 Investor Day, you talked about an average CPV of $340. I don't recall if that was BEV or hybrid as expectation for 2023. Is that still on track -- now that was pre-Delphi. So how directionally is that number likely to change?

I mean TBD, we'll take a look at it. The $340 was the -- yes, it was the BorgWarner LRP number, how much was actually in our long-range plan from a revenue perspective based on the penetration we were expecting to achieve in the marketplace. If you look at -- so I can't give you an apples-to-apples number on that yet, we'll do that in the first quarter. The apples-to-apples content opportunity at that time was about -- I think it was $1,950 per vehicle. And so we're saying, "Hey, we're seeing we're up not quite $500 content per vehicle," about $480 were up relative to that opportunity in 2023 that we had talked about a couple of years ago. But again, we'll give the apples-to-apples number is up relative to that $340 when we get into the first quarter.

And another quick question. Are you active at all in the 48-volt start top mild hybrid category? Or are you just kind of moving right beyond to PHEVs and full BEVs?

So I think you're going to see us -- I mean we have product offerings, but frankly, Valeo is very dominant, and that's that IBS market. And we made the decision back in 2017. Really, we were going to focus our efforts on hybrids on the more advanced solutions, so P2 and above. There are 48-volt P2 hybrids, but most of those are going to be high-voltage hybrids as well.

And before we kind of go on to some of the other questions, on electrification, can you kind of refresh us on sort of the launch now that you have Delphi kind of when the bulk of your launches were for Borg in e-motors and BEVs that was kind of '23-ish? I recall the Delphi power electronics programs were also sort of not this year, not necessarily '21. So could you maybe just update us on when we can, based on your current backlog, expect to see electrification really move the needle?

Yes. I mean, I think in -- I'd break it down by 2 regions. Maybe in China, we're already seeing the benefit of some of our electrification launches with some of the P2 hybrid modules, the eDM programs that are already in production or they're launching over the next couple of years. I think the comment you had there is absolutely right as it relates to Europe or even as Patrick was alluding to. We really didn't start to compete for the electrification-type businesses until the last few years when we started competing on the more advanced hybrid and EV programs that are really coming to market as you get to 2023 and beyond. That's really the launch horizon on this, too. I think as you look at Delphi Technologies and some of the power electronics that they've been talking about and they've been announcing, when that comes to market, it's probably along the same time frame as you're getting out to the back end of our normal long-range planning horizon. So kind of in that '23 and beyond, although there's probably ramping up a little sooner than maybe our European portfolio.