Dauch Corporation (DCH) Earnings Call Transcript & Summary

Hey, everybody. I am Adam Jonas, and I am being joined for this fireside session with Chris May, Vice President and Chief Financial Officer of American Axle. Chris, thanks so much for joining us.

My pleasure. I'm also here with Jason Parsons as well from our Investor Relations team.

Thank you, Jason. Thanks for joining us and making this possible. Before we get into the discussion, I just want to get the disclaimer out of the way. It is important that this webcast is for Morgan Stanley clients and appropriate Morgan Stanley employees only, not for members of the press. For important disclosures, go to www.morganstanley.com/researchdisclosures. And if for any questions, don't hesitate to reach out to your Morgan Stanley sales representative. With that, we got about half hour. We're going to have a bunch of exciting topics to talk about. But Chris, I wanted to give you just a chance at the top to kind of emphasize any key messages for investors. And let's address that elephant in the room today, which is GM's announcement of their electric propulsion system, Ultium and kind of a sign of doing a little more in-house as it's being interpreted, and it's kind of spooked the supplier universe. So I wanted to give you a chance to kind of address how that plays into the American Axle story?

Yes, no problem. Sounds good. Well, good afternoon, everyone, and I hope everyone is well. Thank you to you, Adam, for hosting this along with Morgan Stanley. Also refer to our website for our disclosures as well as related to any topics we're talking about here today in our forward looking commentary. So with that said, just a couple of opening comments. I know many of you online follow us closely. For those of you don't, we started this year, 2020, really putting some challenges in prior years behind us stepping into what we saw as a strong year from a performance and a launch perspective and an EBITDA performance, not only then to move very quickly into a very challenging second quarter that we all experienced as a team. But I think you found us move very quickly to adapt and adjust to the environment that we are in, flexing our costs, both our fixed and semi-variable costs, swift cost reductions and realigning our capital spend structure here for 2020, going down from $325 million to $250 million from the line of sight perspective. And all those actions that we took really in the latter part of the first half of the year should really set us up for a strong, solid second half of 2020, not only from a cost perspective and the $60 million of savings that we got sort of line of sight to here getting our operations back and running effectively, efficiently and probably most importantly, safely, but also generating some real earnings power from a favorable mix in our environment of North America as it relates to full-sized trucks as our end consumers continue to demand those vehicles, and OEMs are tight on inventories, which creates a good environment for us. Also as part of our second quarter activities coming into the second half here, we refinanced our credit agreement to give us plenty of operating room to navigate the challenges that we face here today and also refinanced some of our near-term maturities and now effectively have no significant debt maturities until 2024 and beyond. So we're in pretty good shape from that perspective. And lastly, despite all the tactical elements I just talked about, the challenges we faced here last 60 or 90 days, the future is very critical to our success. Our eyes continue to be on delivering an outstanding road map going forward. Growth is important to us and it's going to be a pretty exciting time including the impact of electrification, right? We're starting to experience new customers in this space. Our depth and breadth of our product portfolio as it sits here today on P4 applications, P3 applications, components and subcomponents as well as supporting multiple vehicle types, whether they be front-wheel drive, rear-wheel drive, all-wheel drive or pick-up trucks, continue to play right into our wheelhouse. And we're not stopping there. We're investing in our R&D. We're investing in our growth and working on even next-generation platforms from there. So those are what I would describe as my opening comments. But I think, Adam, you've already started off with the first question with the tail end of your opening remarks there. And that's in relation to some of the announcements you saw, one of our largest customers, General Motors announced here today as it relates to their all-electric future, and they're driving technology and approach. I guess -- as I head through that announcement, it was clearly not news to us. A little surprised why it was news everywhere else as they talked about this earlier in the year. But that said, we have always taken the view. If you heard us talk about our electric pathway, some of our products that we have and our relationships with our customers that we believe that some OEMs are going to insource some of this product, some are going to outsource some of this product. And it's going to vary by OEM, it's going to vary by region, it's going to vary by platform. And I think some OEMs will have multiple strategies in prongs into their electrification approach. As it relates to maybe our participation in this market, we've continued to announce multiple wins on our driveline systems. We've announced 4 already to date, have launched 2, in the process of launching our next 2. But again, participating in crossover vehicles, luxury pass cars. We've also announced componentry wins in the commercial vehicle space. We have announced component wins as a strong globally sourced supplier for pickup trucks. So we're playing in all of the space, and it's a pretty exciting time. And we look forward to participating basically in all elements of the eDrive ecosystem as it relates to our product set and look forward to the future in that segment. So that would be my commentary on that question. And if that wasn't clear, you want some further detail on that, happy to talk. So with that, I'll turn it back to you for some Q&A.

Thanks, Chris. Great intro. Maybe just a follow-up on the GM announcement. I'm guessing that there's nothing disclosed in terms of any wins you've had on the platform. But assuming there's not, what types of products would you highlight that would be up for grabs? That when you sit down with GM and say, "all right, you want us together, here's what's in the axle -- American Axle portfolio that can help make Ultium better and more competitive, more cost competitive."

Yes. I think when you're having broader discussions like that with any customer, not just General Motors, by the way. If you bring forth what we provide into the marketplace today as well as I mentioned, some of the products we're working on for next-gen, we can participate anywhere from a component level, which is a high area of expertise for us on our traditional product, but also our eDrive product. And we have announced in, a generic way, wins in that segment. We've done gearboxes, shafts, components of different gearing. Again, that would be more on the component side. We do assembly, engineering, design, testing, integration, validation, all the way up to providing a fully assembled and integrated drive unit, which you see, for example, on the Baojun E300 in China or the high pace that we have in the marketplace today out on the road with JLR. So we think we bring a robust discussion with any OEM that we're having with this and have a pretty wide offering to assist them into achieving their objectives as a customer. And obviously, we're having multiple points, multiple discussions with multiple customers on these very topics.

Chris, how do you think American Axle specifically in electric architectures. I understand the Axle is not going to go away overnight. But when we're engaging with the clean sheet designs of these large skateboards and not all of them, but we're starting to see a bit more momentum around the idea of in-hub motors or like axle. So I just wanted to kind of get your view on that and to see if -- just to get your perspective on that?

Yes. And we're seeing a little bit more of that architecture and discussion in those K4 designs that you're sort of referred to. But if you think about the more contemporary way right now that you're seeing in the field, right, is sort of a center power unit or drive unit, sending power through half shafts out to the wheel. So you have 1 powering 2. The designs you are speaking of basically put those power units, if you will, motors and any of the gearing and architecture associated with those at the wheel end. So some of those same components, designs, concepts, supply, even in that architecture for us to participate in.

Okay. So just dialing back to the quarter a bit, just before we move on to more business and strategic topics, anything you wanted to call out as we're kind of plowing through the third quarter on production levels versus expectations? Anything that's kind of screening, rate of change a little bit stronger or less strong that you wanted to highlight today?

Yes. Look, since our second quarter earnings call, we continue to see good, healthy, strong demand for our products here in North America. And as you know, our revenue concentricity is about 75% to 80% tier centered in North America. We see very robust demand on our full-size truck platforms, and we supply FCA, Nissan, General Motors in that space, very robust demand. You see our customers prioritizing those products for 2 reasons. One, their customer or the end consumer continues to have a very strong appetite for those product sets. Many of them are new and refreshed and exciting. And secondarily, and probably even more so for General Motors in this category is, you're seeing inventory sort of below where they need to be or at a healthy -- below a healthy level for that space. So General Motors obviously impacted sort of twice in the past, call it, 9 months with their work stoppage in the back half. So what we're seeing with strong demand for current product sales, and there's a desirous interest of our OEM customers to refill their inventory pipelines. In our opinion, this continues to cause a nice buoyancy for strong, healthy production in those sectors for an extended period of time. I would also say, probably since our last call, we've seen a positive trend was where even 30, 60, 90 days ago, schedules even near term, were a little more volatile with call-offs and changes near term. As you can see, the OEMs, we're trying to balance their entire supply chain. You're seeing a lot more stability, which is a very -- at least from our perspective, a very healthy, strong sign. And that's in North America. In Europe, we saw they came back online sort of notched up, started to plateau out, probably a little below where we thought they were going to. But over the past couple of weeks or so, we start to see that tick up a little bit on a more broader base, and you will see that broader base, for example, through our metal form group, which supplies a lot of customers over there which we took as a positive sign. And then our China operations continue to run very strong. And as you know, we support the crossover vehicle and Mercedes C and E-Class in that space. So that's probably speaking of -- yes.

Yes. I mean it's a pretty v-shaped story in most of the markets, particularly China and the U.S. But just on the U.S., when do you think that based on the schedules or the planning that you're kind of preparing for and notwithstanding the potential for revision, when would you expect the inventory situation to recover? You said that there's a robust recovery in rebuilding that channel. Is this something you think could extend through the fourth quarter, be resolved by the end of the year or have some follow through and we would require more time into the first quarter to kind of get a stock of -- particularly of these configurations of trucks that you're so exposed to back to normal?

Yes. Look, there's a couple of factors, I think, to think about -- as we -- and we think about this as we're doing our planning as well. One is if the consumer demand continues to remain very healthy from a current sales perspective, right? It's challenging to catch up with the inventory levels you want to get to because the key point is for the most part, I believe our customers are running or trying to running all out in their truck factories, and they are limited by practical capacity constraints. So that creates, I think, a production environment of stronger for longer. Now can we say it's going to be 6 months, 9 months, 12 months? I think it's a little too early to make that call. We need to see the market continue to shake out over the next couple of months. But I would tell you, the data, the trends, the field seems to be stronger for longer.

Got it. Any areas -- I want to just talk about costs because it's -- I mean, not just American Axle, but frankly, every company has had this extraordinary -- due to extraordinary circumstances, a chance to eliminate massive portions of the fixed and variable costs temporarily. And then to be able to see how they are able to run as they recover, layering in those costs again. And so I imagine that there's aspects of your business that due to the very nimble cost cutting that helped mitigate the decremental margins in the second quarter. And I'm wondering if -- how investors should think about and model sequentially those costs coming back on stream? And I realize that it's -- there's a lot of offsetting forces including your mix and utilization being very high coming out. But from a cost perspective, could we -- is it fair to assume that we could see some incremental margins being a bit limited or a lid on those margins maybe higher than they otherwise would be because you're layering on some of those labor costs and nonlabor costs back into the machine? Does that make sense?

Yes. No, it absolutely does.

As we think about it.

Yes. Look, we came out in the second quarter, we announced for the full year 2020, we had a nice line of sight to about $60 million of savings on top of our normal incremental, decremental margins, principally driven by headcount reductions. Think of that as really sort of aligning our overhead structure to lower market demand. But we also had some temporary cost reduction, such as wage reductions for the salaried workforce. Effectively, travel has been suspended for an extended period of time. Some of those will start to come back. The wage reductions will come back. Some of the travel will come back as you bring workforce back into your offices and factories. By nature, some of these costs come back. But we've been focused, very focused as a management team on how do we take any of these costs "temporary costs" which were about 1/3 of that $60 million and convert them through other means into more fixed cost reduction that can benefit us into 2021. The team that is accomplishing this here today and working through this today is effectively the same team that went through a very similar dynamic about 10 years ago, and we were able to really harvest that power of these cost reductions and enjoy a nice uplift as a volumes claim and benefit from that environment to capture upside margin potential. So we're working diligently on that. And that's sort of our objective is to kind of retain that $60 million in full in the next year. And that's where we're aligned here today. So I think there's some opportunity here for us as a company.

All right. Let's get into the business. I want to get a little bit more -- if we can go a little deeper on the content -- the CPV opportunity in electric because, of course, any investor looking at and modeling out your business out, particularly the long term, as one part of the business that's kind of has a de-adoption and then one with the readoption increase and then trying to do the math on what's implied in the price, right? So I want to give you a little more -- a few more shots on goal on electric pickup trucks, right? They seem to be all the rage lately. And I can understand why in terms of the performance and capability, the capabilities of powertrains. But it's really getting a lot of investor attention in part because of some of the start-ups and ones in the pipe. Tell us how this presents a challenge and an opportunity or both to your business and kind of how we should think about the puts and takes in a little more detail, if you don't mind, Chris?