Dana Incorporated (DAN) Earnings Call Transcript & Summary

Thanks, everyone, as we continue day 1 of the Barclays Global Autos Mobility Conference. I'm Dan Levy, lead U.S. autos research coverage. Very pleased to have with us Dana. I think the way you've described is power -- focusing on power conveyance. But going through actually a very transformational transaction as you're changing your end market mix quite dramatically with the sale of your off-highway business. So we have here Tim Kraus, the company's CFO; Craig Barber, who leads IR. So we're going to go through a series of fireside chat questions. Anyone has a question, please feel free to raise your hand. You can answer at the end. And then if you have e-mails, please e-mail one of my colleagues, Joshua, [email protected].

With that, Tim, Craig, thank you. I want to just start off with a big picture question. Off-highway is if I can recall, probably this sale is probably the largest transaction I can ever recall in the years that I've been following your company, and you've done a number of transactions. So help us appreciate just broadly how this is going to transform Dana, not only in terms of segments or end market, product, but more so in terms of business strategy. How does this change the picture?

Yes. I think the way to think about this is, we've historically operated in light vehicle, commercial vehicle and what we call the off-highway segment, which is really construction, mining, forestry. We have an industrial business that's in that segment. So it's a broad-based business. So I think the way to really think about this is it's really a simplification, right? We're going to radically simplify the business with 2 end markets, much more limited group of customers and a product portfolio which is really identical to what we have today. But again, very focused and on those end markets, which even for light vehicle for us is primarily on the driveline, large trucks and SUVs. So I think that's the big part. Obviously, it's -- as you mentioned, it's a milestone event for Dana. We've had the off-highway business for a very, very, very long time. I think it's the right time to make that change in strategy. So we'll be nimbler. We're going to focus on a great group of customers, products, technologies that we think are going to be able to really drive the company and help grow the company in the future.

Great. Let's pivot to the near term. There's a lot of -- there's a number of supply chain disruptions that we're seeing right now, Ford Novelis, Nexperia. You don't really have much in the way of JLR exposure. But maybe you could just talk about what you're seeing on the near term on the supply chain disruptions and how that maybe influences the upper versus lower end of the guide?

Yes. I mean, obviously, we're always subject to various supply chain disruptions. If you go back a few years, we had a lot of issues around chips. I think we're managing through it. It's really limited, at least right now for Novelis to Ford. The good news, I think, for us is the products that we're on tend to be some of Ford's more popular and higher profit margin products I think Super Duty. So from our perspective, much like the chip side, we think that -- and what we would expect is that they'll allocate what they do have to the products that are highest demand and highest profit. And I think that really bodes well for us. If you think about low end, high end of the range, I mean, we've -- in our forecast for the balance of the year, we have assumed what we think the impacts from those disruptions will be and are largely in line with what our customers have been saying publicly.

Okay. And then just as far as the margins in the fourth quarter, which are a pretty material step up versus what we saw in the first 3 quarters, roughly almost 11% in the fourth quarter. You've been running 8.5% in 3Q talk about a number of things in terms of incremental cost saves, some EV cost recoveries, performance mix. Maybe just unpack those points and what's the line of sight to that large step-up in margins?

Yes. I mean I think if you unpack it. So the biggest one is cost savings. We have complete finally. Most of that's been completed as we kind of come through the quarter to get those savings. So I would put a 0 risk on our cost savings for the year and for the quarter. So -- and then you think about recovery, we took a small charge in the third quarter. We don't see much risk in recovering that in the fourth. Those discussions with the customer are well down the path, and we fully expect that, that's going to happen. The last one is really mix. And as we sit here today, 2/3 -- almost 2/3 of the way through the quarter, much of what we thought was going to happen relative to mix is occurring. And if that continues, we have a fairly high confidence that we'll have good line of sight to deliver the quarter that we forecasted during the earnings call last month.

Okay. Related, I think the number that is most surprising and interesting to people is your margin target for next year, 10% to 10.5%. And it's just -- it's really a reflection of -- I mean, you're on track for, I think it's 8% this year. And even that is a sharp improvement versus where RemainCo previously was, that was like a 5%, 6% margin. So you've listed a number of drivers, cost saves, stranded cost elimination, ops preview business, let's maybe unpack those. And let's just start with the cost saves. So $310 million is the target. You're going to exit with the full run rate. What else needs to be done in '26 and especially around eliminating the stranded costs, which I think you said is like $35 million, $40 million.

Yes. I think for the -- so you're right, $310 million, most of that's done. We'll get the run rate flowing through as we move into next year. So we have exceedingly high confidence, not going to be an issue. On the stranded cost side, it's a mix. So we have some transitional services agreements with Allison. So we'll be providing some of that. Some of those costs that are going to go away will need to be kept and will be covered through charges for those services. And as we move through the year, we're going to be able to take those down. Some of our contracts that we've -- that we're going to be exiting because of the smaller business. Other is just natural reductions as we've sold the business that will come out. So think of insurance or audit fees, those are natural things that end up coming out of the business as we just shrink the business. So -- but yes, I mean I think the -- our ability to cut that down and then really exit and get into next year and really have those out of the business we have a really -- a really high confidence in a playbook that will run. We know where the costs are. We know what we have to do to get them out. And if there's some that just can't go out, we have other levers we'll pull to make sure we have those offsets.

Okay. Next bucket is the operating performance. And I think that was what perhaps caught people by surprise is that even after all of these $300 million of cost saves, you talked about extra cost levers, more so, I think, on the factory level. So how long dated are these? What needs to be done to unlock those saves? How much runway is there?

So I think there's a lot of runway here. When we think about next year, we have an ongoing cost improvement plan that's on the plant floor. We do it every day. And usually, the way to think about this is those are the improvements that are offsetting the natural inflation and price downs that are in the business. And so what we -- from what we've done over the history and now with this better focus on the business, we do see additional improvements that we can make on the factory floor, and those should start flowing through as we get into really sort of the latter part of the first half and then in the back half of 2026. So you can think of opportunities on efficiency on the plant floor, some automation. I mean there's a lot that we haven't done yet to improve the operating performance at the plant level. And our ops guys, I mean, they're kind of chomping at the bit to have us give them the capital and the dollars that they need to go get it, and we're really excited about what we think we can do with the business from a plant floor efficiency perspective going forward, not just in '26, but out into '27, '28 as we sort of move through the back half of the decade and through the long-range plan period.

Can you talk about automation because I think this is coming up a lot amongst your supplier peers, where are you right now in automation? What's the opportunity? What's the cost to get that opportunity?

Yes. I would say the way to think about automation, and we're not talking about big complicated. This is really tried-and-true robot, cobot type stuff. But from an industrial perspective, it's really been around for the last 15 years. We're just -- we're behind a level of automation and really use of efficiency in our plants relative to general industrial players. And some of that's because over the last 5, 6, 7 years, we've been really focused on the EV space in developing and growing that portfolio. And didn't really have that focus or the capital really to spend on it and now we do. And so we're going after that with a lot of speed and diligence. Look, it comes with CapEx, absolutely. I think we've said, look, we're going to spend about 4% of sales next year. That's still a good target from our perspective, plus or minus. But we think within that view, we can allocate the capital that we need in order to push the efficiencies on the plant floor forward.

And then maybe just another point within that bucket. Restructuring, I think you said has been a -- there's some initial drag because of the cost. Maybe just talk about what's going on with restructuring and then when that flips?

So I think like if you look at us this year from a restructuring perspective, our cost-out program is probably going to end up costing us, I don't know, $70 million, $80 million. When you go into next year, there's going to be a meaningful reduction in that. Now we'll have to still spend some restructuring dollars to take some of the stranded cost out. So we won't get the full benefit of the price down, but it will be meaningfully lower tens of millions of dollars lower next year than we have this year, at least as we see it today.

Okay. Third bucket here, and I know we're going through each of these buckets, but like these are all -- I think we've gotten a lot of questions about sort of the path to these ambitious targets. So the backlog, right? And you said 60 basis points here. So maybe we could just level set. I don't know you'll give your update in January on where the backlog stands. The last update was, I believe, $300 million for 2026. Maybe just conceptually walk us through the pluses and minuses that we could be seeing? Because I think we just had S&P up earlier and they had a slide. EV is all obviously delayed. You've seen a lot of ICE extension. This has changed the way maybe automakers are thinking about the cadence of their programs. How much does this impact you?

So absolutely, it impacts us. About 70%, 75% of our backlog was EV related. With lower volumes, delay in programs, it certainly will have an impact on the backlog. I think on the flip side of that, we're also seeing pickup. So a good one is the expansion of Super Duty production into Canada. That's going to be a tailwind for us relative to backlog. I think as we sort of think through our CV business, we continue to -- our growth is not just backlog, right? It's also a market. So we continue to gain market share on the commercial vehicle side of the business. So we see that being able to contribute to our margin expansion next year as we come out of and exit this very transitional year in 2025 and get into a bit more stable and new Dana realm for '26.

How does reshoring change the picture on the backlog? And when does that business more so started? Is that more of a '27 opportunity?

I think it's a little bit longer. I mean you think about the products that we supply, they're safety important products, right? They require testing, repeat [indiscernible] from the customers. Obviously, what the customers do relative to platforms if they want to reshore, that's a longer-term item. So I don't see reassuring as a big story in terms of Dana for 2026. Sure, there's going to be some of our components we might be able to do something with. But large scale, either customer-driven or from our own, that's probably a bit further out. But certainly, something we're looking at and given our footprint have the ability to provide more domestic production for our customers that if so needed.

Okay. A couple of items that aren't in that list, but I think that you've probably been asked in the past. So the compensation environment, right? So let's just start. You obviously have a lot of EV programs that you are on and the volumes haven't materialized. How much runway is there to get commercial recovery. So I think you've done at least more broadly on inflation, you've done well. This one is a little different. How do you look at that?

Yes, look, I mean -- we have really good relationships with our customer. We have high-quality products, technologies that they want and need for their products. We're -- it's obviously not easy to have a pricing discussion with your customer. I think we're at different stages on different programs. And really, some of it depends on, is it a delay? Is it a cancellation? Is it a volume drop? So they all have a different situation that we have to deal with, with the customer. But I think the customers are very much open and understand that we built a business and made investments based on volume assumptions. And while they don't guarantee volume, some of these delays and drop-offs obviously coming back for recovery from a price perspective is not unexpected from their side.

And on the tariff side, I think you're exiting this year with a $20 million net drag line of sight to recovering that?

Yes. I think we believe we're going to be able to recover meaningfully almost all of that. I mean, some of it's timing differences. It depends on the customer. But generally speaking, we think we'll recover most of that on a timing basis as we move into next year. I think longer term for tariffs, like is my concern, I think, is if more of these tariffs start getting passed through to consumers, how does that affect demand and that's probably a bigger impact long term that could be on all of our businesses if consumer demand for cars and trucks ends up being muted because of pricing.

Okay. Related, so the EV environment is obviously weaker. How does this affect, maybe the resource allocation on EVs, the R&D profile? How do we think about that?

I think the easier way to think about this is over the last 5, 6, 7 years, we've invested a considerable amount developing the products and the technologies for electric vehicles. That's largely behind us. We have the portfolio. And so now -- and that's a big part of the cost savings. We took a lot of costs out of the business related to EV programs. Now our view is, hey, if you -- we have programs and products that are on the shelf if you want us to incorporate that into your vehicle, whether it's a commercial vehicle, light vehicle, our expectation is that the customer is going to either guarantee volume, pay for the engineering upfront and/or the CapEX. So I think we're taking a much more pragmatic view of the amount of risk we're willing to take in the EV programs. But the good news is we have the technologies and the products off the shelf. So if you think about commercial vehicle, whereas many of these OEMs were looking for bespoke products or products that were really fit their needs. We're now saying, "Hey, look, we have a product, a very capable products on the shelf. We can tailor it to your needs. You can pay for that incremental relatively small amount of dollars for engineering. But if you want something that's completely unique, you're going to have to pay for it. And I think that lowers the risk profile for us. And also gives the OEM an opportunity where we're in this much slower ramp to get a product, get a vehicle out into the market. And if he wants a different driving experience, we can change software and make it differentiated form that way at a much lower cost. And that seems to be -- really be attractive to a lot of the OEMs as we kind of go through this changing in terms of the EV market and outlook.

I would gather because a number of the automakers are talking about improved mix -- opportunities to improve mix, not necessarily on more trucks, but the variance. I'd imagine that, that's the type of thing where some of these larger vehicles or different engine variants that probably come with a different driveline variant that could be accretive to you?

Yes. I mean we were talking about mix in the fourth quarter. That -- those are some of the things we're exactly talking about. As we build a specialty vehicle or a limited run, think of things like the Raptor or Stellantis and [indiscernible]. Jeep is famous for this with the Wrangler. They come out with the Barbie Wrangler or the Beach Wrangler, these all come with specialty axles, different engine configurations. Those are always an opportunity for -- and they get -- they obviously charge a higher price, and we look to do the same thing with our product to them. So absolutely is an opportunity for us across the entire product line.

Because those CPVs have probably got to be pretty elevated.

Yes, they are.

Can you unpack what's going on in the CV market and how that's -- because obviously, it's been very difficult, and I think you've said no green shoots through mid-2026. So how are you managing this challenging environment in CV? Maybe you could just unpack because I think people are maybe a little less aware that people think CV and they think, okay, this is all just North America Class 8, but you have some aftermarket, you have some medium duty. So just unpack the different dynamics within CV.

Yes. I mean half our business in CV -- I mean, we are -- I mean most of our CV business is in North America. We have a decent-sized business in South America and a much smaller business in Europe. But from a North American perspective, our Class 8 aftermarket is about half the business. The rest is vocational medium duty. So it's a bit of a mixed bag. And our largest customer is PACCAR. We also supply Volvo and Navistar, and we also supply into the commercial vehicle variance on, say, like the Ford F-Series. So they're 650, 550 and the 650. Yes, it's been a pretty difficult year in terms of volume across that business. And again, we don't see that really improving as we kind of move into next year. We don't see it getting any worse. Maybe if we think about the back half of next year, we'll start to see a little bit better. But I mean, right now, we're not seeing really anything. So to answer your question, how we think about it? Well, we're going after -- we're still going after cost. We're making sure we're running the factories where we need them to be, making sure that we have the programs we need to, to take those costs out to limit the downside on the contribution margin that comes with, obviously, the lower sales. So it's not easy. It certainly has an impact on us. You can't lose that kind of -- those kind of units and not have some impact. But certainly, if we can't get it out of the direct, we'll find other places to go flex and offset the impact of that volume loss.

And so the decremental margin on that immediate lost business, is it fair to say that absent the -- absent whatever cost actions you're taking, because there's maybe some flexing that you can do that those are more muted? How do we think about...

Yes, they're muted. I mean we obviously aren't going to just stand by and let the contribution margin flow through. We'll absolutely go through and do what we can to mute that. But there's obviously an impact to margin. You can't offset all of it. But the guys, look, we -- this is what we do every day. The teams are really good at it. And we just continue to drive to take the cost out that we can and make sure we have the downside as muted as possible.

Okay. So even taking into account some weakness in CV, you still have line of sight to that 10% to 10.5% level.

Absolutely. Don't forget, like while the broader market may be down in CV, we're also gaining share across many of our customers. So while it's not one for one, while the overall market is down, if we gain more of that share, we actually make up some of those units just on a market share basis.

Yes. Okay. Speaking of the competitive dynamics, one of your competitors on the light vehicle side is obviously making a very large piece of M&A. Do you see the competitive balance or dynamics changing at all? Do you think -- where do you think you are from a cost perspective versus your competition?

Look, I don't measure myself or the company against our competitors. I certainly do from a profitability perspective, right? We're obviously marching towards a much more profitable base. I don't think bigger means better. I'm really happy with the businesses that we're going to own when we finalize the sale of the off-highway business. I love the products we have. I especially love the platforms that we're on. You think about our light vehicle business, our 4 largest platform Super Duty, Bronco, Ranger and Wrangler, right? I mean those are 4 of the most iconic nameplates you have in North America, and they have our content on them. So we're going to continue to execute and continue to drive cost out of our business and really get the profitability to where it needs to be so that our shareholders and our customers and our employees are all really satisfied at what we're able to do. So I'm really excited. I think that I love the size of the business. I'm looking forward to growing the business and growing it profitably and really seeing what we can do with this much more focused business that we're going to own.

Okay. Let's talk about free cash flow, capital allocation. Maybe we just start with the portfolio. You're obviously doing a very large change. But I think even on -- maybe it was 2 calls ago, Bruce had alluded, there's maybe more pruning and trimming that's going on. How do we think of maybe other changes to the portfolio that may need to occur?

Yes. So the way to think about the pruning, so we have a lot of different parts that we sell within the business. So you think of us as axles and driveshafts, but we have a full range of thermal products, sealing products, and we sell them not only into the light vehicle and commercial vehicle but in industrial and in off-highway, which we will still continue to own. I think as we, again, have got more focus on the businesses that we're going to retain, one of the things that became very clear is like we've got groups of products where we make very little money or might lose money. And we're really going through a very orderly and deliberate process and deciding, hey, is that a product I'm still going to sell? I mean, is that a part number that I'm still going to sell to my ABC customer. And if he doesn't want to pay to make that part profitable, then he can take his business elsewhere or he can do a last time buy and that will be fine. But what you're going to see is our ability to maybe have a little bit of shrinkage on the top line, but the rest of the business becomes far more profitable. I'm happy to have a slightly smaller top line and a much more robust cash flow and margin profile going forward. And look, we free up enough space, fine, we can fill that up with more profitable business. We could restructure and take fixed cost out of the business. So we've got a lot of other options. But really, the key here is -- let's focus on the products and the customers where we can make money and really get a return that's acceptable to us and to our shareholders.

I know I told you I was doing capital allocation, but then you just triggered another margin question, which is how much room is there to reprice certain contracts that maybe previously hadn't been priced at appropriate economics. Is that another opportunity in addition to...

Absolutely. I mean this is kind of what we're going through now, especially on the smaller side of the customers, right? Most of these customers, we don't have LTAs with on some of the -- especially the nonautomotive customers. So this is going to be the new price. And if you want to go someplace else, that's okay. If you want us to work with you and how do we deal with that works for us too. But we're not going to continue to make under our hurdle rate or lose money on product. It's just not where we're going to spend the time or energy. So yes, absolutely. I mean I think there's a lot of room past '26 to continue to grow the margin in the business across the board.

Okay. I'll flip it around. Is there any appetite for bolt-on M&A?

I think -- as we look in the near term, so if you're going to get into '26, I really don't think that -- you never say never. I mean, who knows what could happen. But we're really focused on the business that we're going to have. So our light vehicle and our commercial vehicle business, really making sure that we are 100% focused on that business. And if we move through '26 and we deliver that, I think if there's some opportunities to use our technologies and find adjacent products and if that requires some M&A, sure, we certainly look at it. But right now, I mean, we're really, really focused on the new Dana, the businesses that we're going to own and making them as profitable and as dynamic as we can for the customer and for our employees. And that's really the focus for Bruce and myself and the entire management team. And if you think about some of the stuff we were talking about on the plant floor, right, that's a really exciting part. I know our Head of Operations, Chris Clark, he's chopping at the bit to have us let them loose and really see what we can do. So we're really focused on the business, on our customers and on our employees to really make new Dana, the absolute best it can be.

Okay. Can you talk about the free cash flow profile? And specifically, I know you've given this target, roughly 4% of sales. So that implies next year roughly $300 million if your revenue is flattish. But we also know that off-highway, the last few years has really been the lion's share of your free cash flow. So what gives you the line of sight that I know there's a large margin expansion and EBITDA expansion of the base business, but that you can get that cash flow conversion. And maybe if you can just remind us, I know you're going to give us a number that's adjusted, so to speak. How much is that going to be weighed down by maybe a lot of onetime costs or restructuring?

So first thing. So typically, we -- our adjusted EBITDA would have restructuring pulled out. We usually historically have not adjusted free cash flow. So we always have the cost of the restructuring in our free cash flow number. So we gave you the 4%. That includes a deduct for any of the restructuring costs that we may need. So that's number one. Number two, if you think through this, you're right, we're going to lose the contribution from free cash flow on the off-highway business, but that's going to be more than made up for in terms of the couple of hundred basis points expansion in the margin. Don't forget, we're going to have significantly less interest -- cash interest. We're going to pay it down $2 billion worth of debt. We're also going to have a much lower cash tax bill because we're selling the most profitable business that we have and the business that we continue to own, primarily North America, where we have large NOLs and credits. So our cash taxes and cash interest are going to come down. When you take all those puts and takes and we'll obviously have slightly lower restructuring costs, the math works pretty easily to get to 4% free cash flow on the business.

Can you talk about the CapEx profile going forward? Because you're at 3% this year. You said 4% for next year, but why would the CapEx pick up? What's the right way to think that happens?

Yes. So we've got some program renewals. I mean, our program CapEx tends to be -- can be lumpy depending on where we are in refresh cycles for the [indiscernible]. We are going to make investments, as we talked about on the plant floor. So that will have some of that. And then we've been through a pretty sizable investment cycle for EV, and we think there's probably some delayed maintenance CapEx that's in there as well. So we'll have to spend some more just to make sure we've got what we need and that the plants are operating where they need to be. So the net of all that gets you somewhere around 4%.

What should we be thinking about the cash tax rate then?

It's a hard one to answer. I mean it will be low relative to -- I mean, because we're -- our North American business isn't going to have much of the [indiscernible] NOLs. Yes, that's probably decent. I mean we have to kind of get through and sort of...

That's couple of years.

Yes, it should be, absolutely.

Second quick one is what's the incrementals on your commercial vehicle revenue? Because as you mentioned, that is at very low production levels now, and it's going to have a nice upturn at some point, maybe second half. What's the incrementals on that recovery?

They're fairly typical for what our contribution is 20-ish percent, 25%, depending on the I mean it differs depending on which part of the market gets recovering and where it comes through. But somewhere in the 20-ish percent on the contribution up is...

And last quick one is, with all the automation and improvement, it sounds efficiency, productivity give you some throughput to really leverage that on your light vehicle exposure? And I'm -- as Dan mentioned, we've seen the guys from Cox, S&P Global, and they're all saying there's no growth in the North American market next couple of years, maybe even lower volumes. Do you -- these programs are fantastic, but they're already doing quite well. The F-Series, the Wrangler, the Bronco, are you guys expecting those to grow volume in the next 3 years? Or are there other platforms you're targeting that you're going to get?

There's a couple of things. So Super Duty has got volume expansion, right, coming. I think the other thing, and Dan mentioned this as well, is there's a lot more content, like the OEMs want a different mix, which comes with more content. So even without any volume increase, that content differential can really help add. And when you're thinking about better content across a couple of hundred thousand units on the light vehicle side, it adds up pretty quickly. So those are the things we're thinking about. And look, we are seeing extensions, new RFQs coming in for products from customers on the ICE side. So we're really excited about the opportunities that we might be able to have as we kind of move through the remainder of this year and through '26 in terms of new business that we can win.

Super Duty is going to be more expensive?

Well, it depends on what they make. But Super Duty is probably not a good one because I mean, it's really a work truck at the end of the day. But think of special variants or new variants for Wrangler. Wrangler comes out, we've got better content, right? They wanted -- it's a bit of an arms, right. They wanted more content to that -- like we have on the Bronco, that comes with a more expensive axle same number of units or probably a bit more units because they weren't running particularly well. So there's that. But -- it's really that kind of thing that comes through and really is helpful in terms of driving some sales growth.

Okay. I think we'll leave it there. Tim and Craig, thank you so much.

Thanks.