Cummins Inc. (CMI) Earnings Call Transcript & Summary

Thank you, everybody, for coming. Appreciate everybody's effort to make this conference come together. And I'm excited to have a full day. It is a full day. So glad to be kicking it off with Cummins. We're lucky to have Brett Merritt, who's now become a regular here. I really appreciate you coming.

Sure. No problem.

If you don't know Brett, I mean, [ greatly ] runs the Engine business, obviously, the core of Cummins. So appreciate your insights today. Chris Clulow, keeping us all informed on the Street from Investor Relations.

Thanks, David.

And in the audience, we'll call out to David [ Leiker ]. Thanks for all your help as well. So definitely appreciate you coming today.

So look, I think right now, even TRATON this morning feeling market declines for '24, maybe not as much as people would have thought a few months ago, Daimler, same thing on Friday. I think also the idea of the margin resiliency, right, was at least still taking that charge on, hey, we can be more profitable. So I guess, first to you, obviously, you've felt for a while the second half of the year would have a notable slowdown. The truck orders even last night, I would say, a little bit more than I would have thought. I was thinking more maybe like 23,000, 24,000, came in at around 27,000. So just curious now if those February orders, I assume, were more for second half deliveries than they are first half. Can you give us a little perspective on the year playing out on the North American cycle?

Yes, sure. This is obviously the question everybody wants to know. What I'd say is medium duty, we think will stay pretty strong. We're seeing really strong orders. We're always a little bit not as knowledgeable as some of the OEMs because we don't have the actual orders, so we have to go on based on engine orders. What I'd say is our engine orders for medium duty are quite strong. And I think, in general, on the heavy-duty market, the vocational side of it is strong still. There -- our only question will be line haul back half of the year still. So the large fleets have put some orders in that help us, and I think we'll see good engine production over the next couple of months, but I still have a touch of a question mark. It's definitely not strengthening, and we do think there's weakening in the back half, particularly line haul, heavy duty. But the rest of the market is stronger than what we would have anticipated, I think than anybody anticipated.

And would you say the strength that we're seeing in orders, if we could get the exact number of where the upside was, which you have to believe it was locational? Or do you think even the long haul, it will fade, but maybe not fading as much as you thought?

I mean that's what we need to see. I think most will tell you they need to see the next couple of months orders to say really how the back half comes through. But there is a chance for a long haul and vocational. But for sure, out of the two, vocational will be the stronger side of it.

Can you remind us your footprint, your exposure to vocational versus long haul and obviously, any insight on the profitability of the orders coming in vocational versus long haul?

Yes. Vocational medium duty, we have heavy exposure. So on both sides, on long haul, we do fairly strong in the vocational sector. There is obviously some 13 leaders in the market that we're not as strong with, but I would say both through the natural gas and diesel product, we are strong with vocational, probably even a little stronger vocational than long haul.

Okay. Can we shift to China? I know your guide for China broadly or even just focus on truck kind of down 5% to up 10%. We had a couple of months there where easy comps put up big then we get last month and it dips back down. Just curious, I know it's a hard market to forecast, please. But can you update us on what you're actually seeing on the ground? And how much is your forecast, your conjecture versus truly the visibility you have there? And if you want to weave in some of the nat gas adoption there as well would be interesting.

Yes, there's a lot of complexities as we've talked about before in China. And rarely do we -- does anyone call the market, right? Before the year, we would have said down 5% to up 10% because it was starting from such a bad base. I will say the market is tepid at best. But this right now is the buying season. So we just had the new year, lots are full, and now we'll see, I think, really what becomes of China. I think we're still in the flat and -- but natural gas will be strong. So that continues to be a strong portion of the market. We were concerned that nat gas prices with heating and other use of nat gas through the winter would drive the prices up, whereby people aren't buying as much natural gas. There is still a lot of natural gas conversion, driven by low natural gas costs, pretty good operating costs for the operator. So we would say a strong natural gas year, but flat overall in the market.

Can you remind us your overall share in China? And then how much of the market is nat gas? I know Weichai has done a pretty good job with their nat gas engines. So I'm curious your share for nat gas versus total.

I don't know if I'll be able to pull out nat gas because it goes across so many displacements. And I don't want -- I don't know if I actually have the data. But ballpark, heavy duty, you're talking 25% to 30% is now natural gas. We have a brand-new 15-liter natural gas engine, which hits the power nodes in China quite well. It is selling very well, and we continue to actually ramp up production of it. But we think that's a pretty strong product in that market through a few of our OEM partners. So we see good things for the 15-liter natural gas. And then in medium duty, you still see predominantly diesel. And through some of the various parts of the million unit truck market, diesel still is the primary power of choice and you know our full portfolio there. So I think we're well positioned. Let's watch this nat gas phenomenon over time.

And your market share you would describe by...

15%.

And do you think it's above or below that for nat gas?

It's about 20% for overall -- and it's 20% for NS VI now. So our share gets a little diluted because of their exports -- heavy exports to Russia, which we don't participate in. But for markets, we can address, it's about 20% overall.

So a slightly higher share in nat gas than diesel?

Yes, a little bit.

Okay. And the market in China, is there anything that you're seeing on the horizon from the government or whatever it may be? What you'd call the stimulus, an emission cycle, something that you think could underpin some recovery in that market beyond what people are thinking?

Right now, I mean they've put some stimulus through -- it seems to be some of the commercial real estate overhang has stopped a lot of the construction, which is driving that market. I think you and I have talked before, uncertain of the fundamentals, do you really ever need 1.6 million truck market again? Also because the durability and reliability of the trucks and engines are so much better than they were say, 10 years ago. But we would say that there's a -- there could be some tailwinds should that investment ever flow through to the end economy. And generally, their economy needs to improve a bit for that truck market to come back.

Okay. I know we talked a little bit about the second half of the year. But the North American truck cycle, where obviously, been at a pretty high level now for multiple years. So I guess just that open ended at a bar, having a drink, going like, hey, why are these truck orders so strong? I mean is it the private fleets? Is it just some of the owner operators where the math does not seem to pencil out as well, buying a $190,000 Cascadia or $210,000 Kenworth? Can you help us take us through your thoughts on where you think the strength is coming from? And coming off of -- you name the exact number, 280,000, 300,000 for this year, whatever might be, the markets a little better than people thought, where do you see '25, '26? And I'm not trying to get an official estimate, just that sort of the trajectory and obviously, weave in the idea of a potential prebuy.

You know historical booms and busts of the heavy-duty truck market, medium duty less so, pretty steady. Heavy-duty has those booms or busts and over the past cycle, what we would call high cycle, previously, you would have reached into the 330,000, 350,000 unit markets, we never entered them due to a variety of supply constraints. You probably got to a 290,000 maximum. So there is an underserved portion of that market. And then there's just the regular buyer. So if you call it, 250,000 replacement which you could argue, has that grown? Just general GDP, more use of, frankly, trucking of goods around the United States, if you gauge that by your own Amazon boxes at home or other things, you would say transportation has increased. Then you never hit your peak. One question, theory we'd have is would this continue to ride out at what is an elevated level over replacement demand, but still never the peak we once reached. I don't think the industry could come back and produce 350,000 trucks, if you had the order. And so therefore, one theory would be this is a relatively strong cycle all the way up to '27.

And you just clarify, you're speaking in units that does not include the baby 8s?

That does not, that does not. Yes. Just ballpark. Yes, 10% to -- 10% of the market generally. Yes.

Okay. Got it. And the inability or maybe unwillingness to get to the traditional peak, is that also sort of a -- do I want to invest in that incremental capacity and a technology where usually, I think a payback period you think of 5, 7-plus years, is the phasing out of diesel over time impacting your willingness to step up and supply a bigger peak?

Yes. For sure, it's not Cummins' issue to supply that peak. We could supply the peak. We had a variety of supply chain challenges over the kind of COVID years. We've recovered from that. And for sure, both in medium duty and heavy-duty engines, we would be able to supply a higher demand. But generally, the industry supply base, just whole ecosystem, there is always some shortage, it seems. And you hear about it, whether it's been axle engine mirrors, frame rails, tires. And through one of that, I think there's always a holdback to the general industry.

And can you take us through your thoughts on a prebuy? I guess, first, when do you think -- and I even saw the release recently, but when do you actually think a '27 emission standard compliant engine will be in the market? And when do you actually think the OEMs put it in? I'm trying to figure out when do you actually think your engine will be in, but is it the '27 model year in '26? Are they going to wait for January of '27 and put it in a model year '28 that's released a little early?

We will bring an engine before '27 to meet the '27 standards in an OEM truck. And so that will be offered during the '26 model year.

'27 model year truck in '26.

Well, I don't know what model year truck it will be yet. That will be determined. But we will hit the emission standards of the '27 model year early.

What's the impetus for a truck OEM to put that more expensive engine in and make it up March of '26 on their model year '27?

Yes, I think a couple of things will drive it. Some of the ESG goals of the end customer, you are going to get increased fuel economy and drivability undoubtedly. When we bring this next level engine, you're going to get increased performance. And so there is value to the end customer. And then some of the warranty and other issues that will come with '27, potentially won't be on that engine. That's still being worked through in the industry. But I think there's a value here to bring an engine early. What that would mean for prebuy to your earlier question is, there's a potential prebuy in '25, '26. And now we need to figure out how many trucks can you make, how many engines can you make. And I think '25, '26 will be an interesting time frame for the industry again.

Yes, because that -- it's the more -- and obviously, your market share is so high on the engine. If you start to see a real adoption of your more expensive but better fuel economy truck in early '26, the idea of a prebuy in '25, I feel like most people will be putting their big numbers out in '26 on a prebuy, but actually could have pegged the back half of '25 pretty easily. But you kind of flew past a little subtle. The new engine might not need the warranty issue, which when I hear the incremental cost for this new engine, the warranty is right up there with any hardware you're adding.

Yes, yes, for sure.

So is that an administration?

No, no.

Administration or you would be willing to take the risk -- because that's really what it is, right? You're willing to say these components are going to last longer to keep the truck running compliant. And the thought was you would want to step up, like, hey, for that incremental liability we're taking on, we want to a higher guarantee like a warranty?

Yes, we won't accept the risk, you can't accept an 8-year 800-and-some-thousand mile risk on the mechanics. So the issue will be the complexity of these rules. I spend about 4 hours a week on it. And we have regulatory people who spend their whole lives on it, and it's still not completely understood. And so what will depend is how you launch these. Do you launch multiple engines at the same time? Do you only have one engine? And that will vary what the warranty regulations and rules will be. So we're a little bit ahead of one, that choice. And then two, will it incite the prebuy. And you won't have a prebuy until people see the actual price of the goods. And so we're a little bit off of that.

At least make me a little dangerous with the numbers. Full warranty, everything. You want to get paid for that extended warranty you're buying...

Absolutely, you'll have to.

What do you think -- and I'm not holding the numbers here, it's early. What do you think the incremental cost is on the truck?

It's a major stair step -- it's a major stair step.

I think...

What's major in...

Yes. We haven't put out a guide for ourselves. I know like ACT put out a guy like [ 20 or 30 ] on the truck. It's not unreasonable, put it that way.

And how much of that is the warranty? That's what I thought, that subtle comment there or...

You could go -- I'll tell you what you can do. You can go look at what our published 5-year warranty would be on a heavy-duty truck, and it will show you the links. And then you'll start to figure out -- and it gets complex, why we're not answering, not dodging. There's a mile limit, there's an hour limit, and there is a time limit. And depending on your duty cycle on application, those all could be different. So we have to figure out how do you do that as an industry to figure out -- because some will just mile out, be very similar to today's warranties. Some won't, and that causes a huge implication.

The reality is if it's [ 25,000 ] on $190,000 cascade, it's a big increase.

Yes.

If you can pull the extra cost for the warranty out, maybe it's down to only a 10% increase or 9%, and then maybe I pencil out the fuel savings and it's not quite as big a prebuy.

Yes. That's right.

So that subtle -- pretty -- I'm thinking about '25 prebuy or early '26 prebuy, because you come out with an engine that caused the truck to go up $15,000, maybe that's not enough to scare people into a prebuy of size.

Yes. Two things caused the pre-buy, one is the large price; and two is generally the market is someone who likes to use the tried and true, because they're running their business off of it. So uptime is as big and important as fuel economy. They'll have to balance that. We and the OEMs will have to partner to figure out what is that impact. I think that will be done one year from now, not today.

Okay. South America, different views. I'm curious, your updated thoughts moving to Argentina is obviously a unique issue. But let's say, Brazil, in particular, but take us through what you...

Brazil seems a little stronger. Our orders look good for the first half of the year. And rarely do we sit here and say Brazil looks a little stronger. So that part is good. I mean it's been a tough go for Brazil for some time. But given right now, we would say -- we would call Brazil up. It's one of the markets. Most other markets you're hearing from us are generally flat to down. Brazil is a strong market right now, albeit it's relatively still small.

India. Curious what you're seeing out of the truck market there. And this is a question, right, for Brett, maybe it's for you, but also I saw that the diesel generator that Indian Railways, I don't want to -- whatever -- what I read was facing a 2-year ban, and that was a decent size distributor for you. So I don't know how much that disrupts your Indian business. It's not that large, but was curious...

It's not that large. Yes. I think we have a really large power systems business in India. It's actually -- we own 51% of that piece of the business and it's 49% public, you could see it under Cummins India Limited. But that continues to be strong, the demand on power generation is very strong in India and everywhere really around the world. So it's not a big impact there. We also use that facility to export globally.

So that distributor is facing a 2-year ban now, you can redirect those sales pretty easily.

Yes. Absolutely.

Right. But then on the Indian truck market?

We'd say it's flat to down 5%. It's off of a very strong year. So you would still say relatively strong orders. We continue to be excited about where the Indian truck market will go. I think it's a long-term growing market. We'll have more partners in market than we do before, which will allow us to do some of our strategy behind most markets as we do this push/pull where you're pushing through the OEMs, but the end customers are pulling due to a preference on performance, service and durability of Cummins. And I think you'll see that play out in the -- in India.

That market, obviously, for years dominated by Tata. You're a big -- they're a big supplier. When you say broader partners, obviously, BharatBenz is now there. Can you enlighten us a little bit on how broad you are?

So I think today, this year will be 2 OEMs, I think, in the future will be more than that. We can't -- we never announced these early. But I think you'll see us participate in at least 3 OEMs, which starts to give choice in the market. And that's ultimately what we want. I think it will be good for the Indian truck market, but I think it will be good for Cummins.

A little bit of minutia, but it's obviously topical right now. I don't know how much detail you can go into, but Atmus. Can you take us through the rough math, obviously, taking that 80.5% you [ sold ] of Atmus, selling it in the sense of trying to convert current company shareholders to taking Atmus shares? What's the financial impact? If you want to annualize it or 9 months, however you want to think about it?

Yes. I think we're not talking the specific financial impact. But I mean you can look at what Atmus' -- what their financials are now. They're public. And you can just back that out, back out the incremental costs that we've been incurring. They've been running in the neighborhood of about $25 million a quarter. They will take debt with them. So that takes our interest down a bit, and then our share count comes down for whatever that equivalent value is. So that transaction should be coming up, the plan is in the next few weeks.

Do we think we'll get an update on the guidance after that deal is done in isolation or only with the first quarter results?

Yes, we're debating that now. I think we'll probably do it in the first quarter results, though -- well, obviously, we've probably taken a number of calls where people are looking for a little bit more insight into that early on. So...

Interest expense for the EPA penalty. Can you update us on that? You mentioned maybe Atmus can take some debt and lower -- what's the net interest impact versus the original? Because I understand the guide didn't have the financing for the EPA penalty. So the $360 million of interest expense, what's a better number we should be using?

Yes. That's another piece that we're going to update the guide, because we just did a bond offering, that's why we -- we did not include it in the guide because the bond offering happened a week after that. So we borrowed $2.25 billion. Most of that went into refinancing, taking down commercial paper, taking off some of the more expensive Meritor debt. So we've taken that down. It will come up from the $360 million, but not dramatically, I would say.

Not that more handle on that thing?

Yes, it's that very bottom end. Yes.

Okay. Helpful. Some of your medium-duty wins. Obviously, Daimler is the big one. We've got some other Japanese players. Can you update us on where they stand and maybe a sense of financial impact? Especially given the medium-duty strength right now, I'm kind of curious, do they -- supply those, those incoming programs? I mean just take us through or maybe quantify a little bit, start with maybe Daimler.

Yes. Daimler, so we still have our global partnership on medium duty. It's coming to fruition here in the U.S., where I will -- Daimler will choose to use more of our engines than their own. That already is really taking place in the market. Second, you'll see that in most likely India and then globally as time goes based on emission standards. So kind of by the end of the decade, you would think completely globally and each successive year or two, you'll have a different region that goes on. We work that quite frequently with one of your guests you have later. And then second, we've had Isuzu with a global partnership. That started in North America, where the North America medium-duty Isuzus use Cummins. And we also then just launched that same medium-duty engine in Japan a month ago. So in Japan, the Isuzu medium duty is now Cummins, bringing our market share there from 0 to the entirety of the Isuzu business, which is quite a good win and with what we would consider the #1 Japanese OEM. And then we also won the Hino business in North America. So Hino also uses Cummins in North America. And then historically, 2 years ago, we announced Mack uses Cummins in North America. So among those wins...

Say 2025 revenue number from everything you just said, roughly.

It's still on the low end of that range. I think we're a couple of hundred million maybe, but the entitlement is about $2 billion as we...

You've got roughly 10% of the total opportunity next year.

Yes, by next year and then the rest in the back half of the decade.

Yes. That's a fair way to say it.

All right. Helpful. Nat gas engine, North America. Is this -- what's coming in North America? You obviously learned a lot in China with that nat gas engine. Is it a very similar engine or what's being built in Jamestown, the fuel-agnostic, is it a different engine? And what are your thoughts on nat gas engine penetration in North America?

Yes. Okay. It's a very similar engine. But that engine was designed, launched first in China. When we say design and used in China, it's still a full engine development to bring it to North America based on regulations, difference of performance, NOx criteria, all those things. It is a different engine. And then it's localized in Jamestown, but that's the first of the fuel agnostic or the HELM engines that we've announced in the past few weeks. Hopefully, you've seen there's been some early orders by UPS. And today, this is offered by Kenworth and Peterbilt, which we're really excited through this year. And then Freightliner and Daimler will offer it next year, starting January. So what we'd say is this gives an option to those people who are already using natural gas, who are power, torque or trip limited. So they only had a 12-liter engine. They can only go a certain amount. Now you have a 15-liter, which is really reaches the power node you're going to need for a long-haul truck. But second, it will give an option for those who are looking for something, again, towards ESG or a variety of other targets where if while using renewable natural gas, you're really reaching a carbon-neutral type position, greenhouse gas impacts are quite favorable, and we're getting great reviews from the drivability with a variety of large partners who have been using it. So I think you'll see orders in the thousands this year. And I think this can be -- natural gas is still a niche. It's about 5% of the market. I think there's an opportunity for that to grow easily to an 8%. And then if people really change the business model by which they're investing in natural gas, so those who invested in natural gas and figured out a way to make it work for their business will continue to use it. I think you'll see that grow. And -- but yet, we will always say that I think this is still a niche of the market. We think it's a good niche for both the end user and for Cummins in general.

Can we circle back to the analyst meeting coming up on May 16? What should we expect from that? And not necessarily related to that, particularly, but I wouldn't mind an update now also on pricing. So in a market that, let's say, the second half of the year, it's a little bit better than we thought. How do we capitalize on that? Obviously, given the long-term supply agreements, you would argue the last year or two, everybody was posting big margins on price cost. It was harder for you.

That's right.

So I'm curious, what should we expect on the '16? Maybe dovetail to some pricing commentary.

Sure. Yes, I'll start on the Analyst Day. So I think the focus last time -- '22 was answering the question and we were getting the question of, do we exist in 2030 with a rapid transition to new power and things like that, clearly that it's going a little bit slower. So I think we'll give updates on what our -- where our projections are for 2030. But really the key focus is on margin improvement and cash flow. We're currently in, as an example, in an investment bubble right, now with the fuel agnostic engine, some of the Accelera which we're driving towards breakeven. So we want to paint a picture of what does the margin generation and the cash flow look like in the back half of the decade, which is quite robust. And I think that's what -- as we talk to investors, that's what they want to hear. We'll give an update, of course, on Accelera on that and kind of how that's going. I think we've said just recently, it's trending more towards the bottom end because the transition is not happening as quickly.

Bottom end of the revenue?

Of our revenue target, which was $6 billion to $13 billion, but I would say our -- not to release too much, we're probably at or above the top end on the core business. So it offsets. So I think we're feeling really good about that. So we'll be conveying that and then just talking more of the -- more really the base financials, kind of get down to what -- how much money we're making.

I'll let you answer on price, but I do want to circle back focusing on margins and maybe putting out a notable restructuring program is different. So I'll dive into that in a second.

You can gladly go to him if we don't want to -- no, just kidding. So pricing, the pros and cons of a long-term agreement. The pro is on a down market we have a long-term agreement. The con is we can't because we're not selling to an end user, change that price as easily as some of the end good producers, which you saw in this last year. I'd be interested to know if that continues over this time. And so what I'd say is we've been very successful in offsetting any costs from an inflationary supply, a variety of issues, labor with our core customers, that will continue. Will we be able to change massively pricing if the market stays stronger? No, we will not. We'll still hold within that long-term agreement. But we do move towards this generally gross margin improvement, and we will make sure we offset any costs we do incur.

Yes. So you mentioned on the restructuring, we did announce that we had some voluntary programs at the end of last year. It's kind of an ongoing process for us. We -- what we found is, if you go back historically in my career, we used to do like big actions in a downturn then a couple of years later, it might come back about the same. So we've been more focused in our efforts in looking at specific pieces of the business, taking costs out permanently. We did it in Distribution. We did it -- we're currently doing it in Power Systems. And I think we're looking at some of the corporate costs as well, like taking out SG&A. We've grown rapidly over the last 10, 15, 20 years. So it's like how do we make this a little bit more simple to operate in.

So it's not necessarily an announced large restructuring program coming, it's more about those things that you feel you can do in the regular course of business, so to speak?

To a large degree, yes, yes. We'll have more on that.

I'm sort of hogging the time already, but this -- we have a little bit of time left. Any questions from the audience? All right. You're saved. That's it.

Very good.

Thank you very much.

Thank you. Appreciate it.

I appreciate it.

Good to see you.

All right. Thank you.

Thank you.

Thank you for taking the time.