Dana Incorporated (DAN) Earnings Call Transcript & Summary

For joining us today. Very pleased to have Dana with us, who's been a great partner, I think, for 10-plus years, really from the beginning of this conference. I want to just make sure people know that without these companies taking the time out of their schedules to come to this event, we couldn't make the conference possible. So I really wanted to thank the management team. I'm Doug Karson, BofA's automotive analyst. With us today from Dana, we have John Geddes, the Vice President and Treasurer; as well as Craig Barber, Senior Director of IR, both very helpful to the investor community within the fixed income world. Dana, as you may know, is the leader in power conveyance and energy management solutions across light vehicles, commercial vehicles and off-highway. Some of the key products everyone knows are axles and driveshafts, but also they're doing a lot of work in BEVs and various e-solutions, and I think we'll talk about that today as well. And we're going to take the next about 28, 29 minutes and do a kind of an open fluid fireside chat. I'm going to ask the audience if they have any questions, but I've got a couple of topics to run through. Without further ado, I think we'll kick off the chat.

So I thought maybe we'd start off with something kind of strategic. Kind of big picture, the market is watch us invested a lot in it and your experts in ICE. Just give us a little flavor of how the company is thinking about the EV transition.

Okay. So [indiscernible] the markets that we are a part of. So we are part of -- breaking into a few segments: Light Vehicle, which is think of maybe Jeep Wrangler, Ford Ranger and things like that; Commercial Vehicle, which is your medium-duty trucks; and then Off-Highway. And so each market is moving at a different speed for us. On the -- when I mentioned the light vehicle, that hasn't really electrified yet. Those are farther down the road. You've seen the electrification come into passenger cars, but you really haven't seen it in the heavy-duty trucks. Those RFQs are out there. They're coming. We've announced a few wins in that space, haven't been able to announce the product or get out ahead the customer. So that's coming. So where you're seeing a lot of the EV investment and adoption on our side is on the commercial vehicle, on the off-highway side. So think of your last -- your beer trucks, your delivery trucks, something that has a known duty cycle, will do its -- run its route during the day, will come back to the warehouse at night, plug in, ready to go the next morning. Okay. So you're seeing the EV adoption there. You're seeing it in buses. And then you'll see it in the off-highway market as well, like I said, buses, the mining equipment. So you're kind of seeing different adoption -- different adoption rates. But you're seeing -- like I said, most of the investment right now is going into the CV in the off-highway side.

And in my notes and just reviewing the recent quarter, if I'm right, it looks like adjusted EBITDA was up some -- in mid-26% area right there. What was the expansion of, a, margins and, b, EBITDA for the quarter? Is it just kind of coming out of the chip shortages or COVID or what kind of...

I would say it's -- we look at it in buckets. So you have our traditional -- I'll say, our traditional organic business, you had some sales growth there, which is just general sales volume increases, a little bit of mix and a little bit of price recovery coming from the customers. But then it translates into a nice EBITDA pickup. I think for the quarter, our EBITDA margin was up 150 basis points. About 130 basis points of it came from the traditional organic business. And this was caused by our -- came from our -- some of the investments we've been doing, some of the improved operating efficiencies that we're seeing, a little bit of a price/mix and then a little bit less customer order volatility. So those 3 together, like I said, about 130 basis points. You got about a 20 basis point pickup in what I'll say is the EV business. We're growing that business. I think off the top of my head is probably like up $80 million in sales, give or take a little bit. And it came with about 20 basis contribution to margin. And that's just general pickup from volume, and it was a deferral of a little bit of some investments in that area. And then you have commodities and currency, which offset each other.

Yes. That's very helpful. So the EV is a pretty significant component of the revenue growth.

Yes.

Just kind of quick bookkeeping is UAW had a kind of prolonged strike, it ended, which is great. How long will it take you to have your operations kind of running smoothly following that?

I think I guess the better way to answer it is we are supplying the customer with what they need, okay? And so we're meeting their demand. As you ramp back up, there will be some inefficiencies. You just probably saw that. [indiscernible] COVID, there are some inefficiencies as you ramp back up, you'll see some of it as we ramp back up to a much lesser degree. But just remember, I'll go back to the segments that we operate in. The UAW strike affected our Light Vehicle business, not our Off-Highway or our CV business. So, like I said, you'll see some ramp inefficiencies, but we're supplying the customer with their needs.

If you maybe get to production, I mean IHS has put out a reasonably steady increase in production schedules in North America for the next 12 months. But there's been kind of [ starts and ] softness in volatility. Has that become a little smoother literally on the production side?

Production has gotten better. It's still not where it was pre-COVID, but it has gotten better sequentially over the last year. So Q3 was better than Q2, better than Q1 prior to the strike. So that is -- like I said, that's getting better and then you combine that with the fact that we're operating more efficiently, and that's what you're seeing flow through to the bottom line.

I think most investors think more about cars and light trucks, and you've got sort of big business in commercial and off-highway. If we were kind of break those 2 kind of apart, so you got Light Vehicles on this side and Commercial and Off-Highway on the other side, tell a little bit like the thoughts around the Commercial and Off-Highway, where we are in the cycle? How does that sector usually perform if we go into a slowdown? And then maybe just talk about some of the profitability metrics on that side.

Okay. So putting Light Vehicle off to the side, on the Commercial Vehicle side of things, so as I said medium-duty trucks, Class 8 trucks. So this year, better than last year, probably better than people expected, better than the prior year. So it's been up in the cycle. Will that continue? We'll see with the market. But we've been able to -- we've been getting share. So our share of that -- I guess, our share of that market has been growing. So like I said, it's performed well over the last couple of years. So if you get to the -- if you get to the Off-Highway side of things, you've got global infrastructure spending, you've got the infrastructure bills in the U.S. So that's supporting the construction side of our business. The agriculture side has been hurt with decreasing commodity prices. So agriculture is down a little bit and it's probably a headwind going forward. And then mining has been relatively steady as we go.

That's helpful. I think in Q3, you announced 70% of the 120 program launches this year have already been completed. How this program launch has been going? Have they been smooth?

Yes, they've been going very well. And if you look at the magnitude of those launches and the breadth of those launches, it kind of shows what we're capable of. So we have relaunched or launched our 4 largest programs accounting for about $2 billion sales of Ford Super Duty, Jeep Wrangler, Ford Ranger, and the Toyota Tacoma. And so think about those on the light vehicle side, the traditional ICE side. But we're also launching several products on the electrification side. So for GM, JCB, OshKosh and whatnot. So it's shown that we have the ability to launch not only a large number of products, but products across various product lines and platforms. And I think it should give our customers confidence as we move forward that we can handle the transition to the electric vehicles as we go forward.

I noticed a little bit of a change in tone from OEMs about the rate that they think the EVs are going to grow. It really just felt very different in Q3 from listening to a few of the calls. I think there's maybe people little overhyped on that. Were you seeing any of that in your kind of launches or production schedules?

Not really. So remember, where we play and where you're seeing some of the pullback from, right? So for us, the electrification to date has been primarily commercial vehicle and off-highway. So where you hear about the slowdown in the -- maybe some of the larger OEMs talk about slowing down, that's not really impacting the products that we're currently producing, okay? And would it -- even if they slow down, you have to remember that we're supplying a product that's going to be there, whether you're in an electric vehicle or if you're in a traditional gas engine, you need an axle, right? So that's going to go on the vehicle, no matter what. So in that sense, we are fuel source agnostic. If you want to do it gas, diesel, the traditional ICE engine, we'll supply that. As the power source and electrification moves from the engine back -- to the back of the car, we can supply that as well. We can supply fuel cells. So our products are needed regardless of the power source.

That's helpful. Is there any -- I don't know if you've broken that up, but is there any profitability characteristics that are different from ICE versus EV products?

I'm not sure we've broken that out. We have said that on a contribution margin basis, our electrified products are profitable. So what you've seen, it has -- you've seen some, I guess, compression in our commercial vehicle, but that's largely because of the investment we're doing in the business. And we're taking a business on the electrified side that really didn't exist 5, 6 years ago, growing it to $700 million-ish in sales this year. And so that's the kind of investment you're seeing. But like I said, contribution margin basis, the electrified products are profitable.

Maybe we could turn to free cash flow. Free cash flow for, I think, the quarter may have been impacted by the UAW strike a little bit. But maybe you could just -- I know you're not giving out guidance for free cash flow. Just thoughts around the uses of free cash flow between maybe acquisitions, shares, delevering?

Okay. Yes. So first of all, we're investing in the business. So on the CapEx side, our CapEx is elevated this year, will be for a couple of years as we grow out the electrification side of the business. But -- so -- but only take a step back from there, though. If you go back about 5 or 6 years, we started on the electrification journey, it might be 7 years, made a series of acquisitions to provide us the capabilities on the motor side, the inverter side, some of the software side. We think we're in a pretty good spot right now. So I wouldn't expect to see any large acquisitions. Maybe you'll see a small bolt-on or something like that. So -- but that's about it on the acquisition side. You will see free cash flow. We do want to direct some of that to delevering over time. Our leverage is a little higher than our target. We stated that our target is around 1 to 1.5x of net leverage. We're probably in the 2.5x right now. As EBITDA grows, a little cash flow going to debt reduction, that should come down over time. And then if you look at dividends and share repurchase, this year, we'll do about $60 million of dividends, which is pretty consistent with last year. I think the dividend was last raised in 2019. Share repurchase, we have not done a significant amount in the last 5 or 6 years. We've done enough to offset some dilution. And then through the third quarter of this year, we hadn't done any.

Maybe talk about costs. There's been inflation and labor for sure across almost every industry I cover. More recently, UAW inked, I think, a pretty meaningful increase in wages. How have labor negotiations gone for you, your firm? Where do you see labor costs, employee retention? I think it's a big concept now.

Yes. So we -- I mean, we do have UAW, United Steelworkers in the U.S. and now we have some unions outside the U.S. So I would expect that the negotiations that have been going on, they will eventually come our way.

Did they go plant by plant? Or did they go region by region?

No. We have a national.

National. Okay. So that -- so if we're thinking about labor potentially wages increasing, what has the company done on the cost side? Do you have any initiatives on cost procurement or efficiencies?

You've always got those initiatives going on. But we spent a lot of time and a lot of effort improving our operating efficiency. Some of that you're seeing flow through our results, and that's us better matching of production with orders that is more efficient changeovers, that's commonizing parts, that's less waste. So we've got to focus on costs and keeping those down, keeping those manageable regardless of, like I said, the labor situation. I mean, then you're also looking at where you're seeing some of the other inflation such as we'll take commodity inflation off to the side because most of the commodities, and for us, that's steel, we tend to pass through 70% to 80% of that to our end customer, usually on about a quarter lag. But when you get to freight, energy, things like that, that is going back to the customer and working with them on pricing. And so that is a negotiation with each customer give and take. We haven't had to do that in the last 20 years. So it's a lot of work on our commercial teams to go about and recover some of those costs.

Before I hit the next stage of questions, do we have any questions from the audience? There's a question here in the middle. Thank you.

Thanks. For us non-engineers, can you tell us what's different about the driveshaft and axle hooked up to an electrical engine versus an ICE? Is it because of lack of a transmission? You mentioned software, too. Does it talk to the engine differently? Or just in layman's terms. And why -- because my question is why the big investment, why could you just run the same axles and driveshaft, is really the question.

I'll take a shot at this at a high level as a non-engineer as well. So if you think about a traditional ICE vehicle, right, you have your engine upfront, you have a driveshaft that transfers the power to the wheels and the axle, right? Okay. Let's say now you go to EV, engine goes away, driveshaft goes away, okay? But then you're putting -- there are other configurations but the one we know what the most is you're putting your motors on the axle, and you're generating your power that way and you also have the inverters and the software that's running it. So there are other versions where you might have a battery upfront and you still have a driveshaft. I think the most efficient one, put your motors on the wheels, on the axles to propel the vehicle. And so we supply the motors, we supply the inverters and have the associated software to go with that. So we're capable of doing a 4-in-1 configuration for the EV vehicles. And the fourth part of that is battery cooling, engine cooling. Some of these cooling technologies and the thermal technologies we've taken from our traditional ICE business. So...

Thank you.

No, you're welcome.

That's a good question. Thank you. Maybe we could turn a little to the global diversification. You guys have more focus in North America because that's where we operate. But if you could just talk to us about some of the global opportunities?

Yes. So if you think about our business, about half of our business is in North America, okay? And that is -- I'd say, primarily it's on the light vehicle side. So if you start to leave North America, 30%-ish in round numbers would be in Europe. And that is primarily an off-highway business, although they do ship product around the globe, okay? And then we have the remaining 20% is Asia, I think China, India, Thailand, and then South America, primarily Brazil, with the Asia piece being a little bit more than half of that 20%.

As far as China, it's kind of a complex in relation to understand. Do you have JVs in China? Or are you just producing your parts in OEMs there? How does that work?

Yes. So we do have JVs in China. You'll see some of that on the motor side, but we also have wholly-owned subsidiaries there as well. And so a lot of that is producing for the local market. But -- and some of those JVs like Dongfeng, I'm probably in planning. So we had a JV on for bus manufacturing or supplying the axles for the bus manufacturers is one of the JVs, like I said, motors JVs, but then there are some wholly-owned businesses that are supplying parts there, primarily for the local market.

Just going through the slides here and I was impressed to see that on the off-highway side, that infrastructure spending showing continued demand for construction equipment. Can you maybe just highlight some of the opportunities in the off-highway? I think it's a segment that's a great segment and maybe overlooked a bit by investors.

Yes. And if you think about -- I mean, if you look at our off-highway segment, it's actually the highest margin segment that we have. And I break it down, and this is probably a few more, but at a high level, it's construction, ag, mining, okay? So they have their different characteristics. I mentioned earlier that you have global infrastructure spending around the world. So that's supporting the construction side. On the ag side, think of more of your medium-duty tractors. And so that's going to be impacted by commodity prices. And then your mining is going to just be general economic activity kind of depending on where it is and that's been relatively steady this year. But there's other stuff you get to throw into off-highway. You can get into the, I guess, lawn care, we've gone into the [ skid steers ]. So I guess that falls into construction, but it's a wide breadth of things that basically anything that you're not running on a highway.

Nice diversity there and good to know the margins are the highest there. The commercial vehicle, as I'm just seeing here, the EV heavy truck production outlook remains strong, up 15%, which is almost double the production increases we're seeing in light vehicles. What do you think is driving the 15% EV production outlook?

Well, I think on the EV side, and like I said on the commercial vehicle, if you look -- you're not seeing it on your Class 8 trucks. It's more the -- it's your delivery trucks, it's your last mile. I'll go back to the known duty cycle. I mean there's gathering economic opportunity there for the customers, but it is easier adoption there because of the known duty cycle. You know how heavy the trucks are going to be in general. So you can go back, you can charge them overnight, [indiscernible] in the next day.

Right. Excellent business. I don't know if we talk about CapEx. So as the gentleman asked a question, the difference, which is actually very good, I think you answered in layman's terms, which was helpful. It seems like there's a lot of new intricacies into that, moving the axle to an e-axle. If you can give us an idea of like your CapEx spending, how much is it directed to these new components? How much is it is kind of status?

Well, we haven't broken it out EV versus traditional on the CapEx side. But if you think about where we're headed, we're investing today for the EV products of the future, and our CapEx is -- it's elevated versus what it has been historically as we build that business. So you're going to continue to see some elevated CapEx as we look out 3, 4, 5 years. Now the one thing to think about as we're investing in this CapEx, and like I said, most of it has gone towards EV and off -- not EV, our commercial vehicle and our off-highway business to date, it's transferable. So the CapEx you're doing for your commercial vehicles today lays the foundation for what might come in the light vehicles in the future. So you're not just -- you're -- it's one of our core tenets, it's leveraging the core, and that's what we're doing as we move into EV, too. CV was the first mover in our markets. That's going to lay the -- that lays the foundation for future EV growth in the LV side of the business and off-highway.

I thought maybe I'd ask the question kind of big picture strategic if that's okay. So Leverage stands around 2.5 turns and you thought the range would be a little lower than that. Do -- how many years you're looking to get there? Is it 2 or 3? Is it something reasonable...

I would just say in the medium term, we would look to get there.

Okay. Your consolidation in this space, it's not been really tremendous compared to some other industries. There's quite a few players out there. Can you ever envision Dana looking at any more meaningful strategic acquisitions? Is there anything in the EV world or in off-highway or outside the North America footprint that seems attractive?

I think we're in a pretty good spot right now. I think from -- we have our traditional ICE business, which has been around for a long time. We've built through a series of acquisitions, the EV capabilities. And we think we have what we need to move forward and to support our customers going forward. So I wouldn't expect anything large from us.

Anything really transformative would take leverage way up. All right. That's pretty helpful. It's the last question I'll ask. As we see the transaction pricing for automobiles kind of skyrocket, I think we have Penske [ outlasted ] to the average transaction price to $56,000 per vehicle and they've been delivering premium segment. I know there's always a battle between, I want say battle is a wrong word, but trying to get the best price you can for your products as the OEMs continue to try to push costs down. How have the discussions been? Just like elevated pricing they have, has it given you any like daylight to try to eke out any better pricing? Or is it still just kind of tough to come by?

It's still negotiations with the customer. I mean, they're not...

They're not looking to give it away.

They're not looking to give it away, but they also realize that they need a strong supply base so that we can invest because they've also -- not only have they pushed down cost, they've also pushed down some of the innovation that's going on some of the engineering, right? So...

They've pushed that down to you.

Yes. So we're...

More content.

Yes. Yes. So we're innovating for them, and they know that we have to be profitable in order to do this and in order to support them on a go-forward basis.

That's great. Well, that actually wraps up our time. I want to thank Dana. Thank you very much for being here at the conference for so many years and enjoy the remainder of your day and the one-on-ones. And thank you, everybody, for attending. That concludes the fireside chat.

Thank you.