Dauch Corporation (DCH) Earnings Call Transcript & Summary

Thanks, everybody, for getting settled in. We actually appreciate everybody sitting down, ready to go here. Next up, we have American Axle, I'm very happy to have David Dauch, Chairman and CEO; and Chris May, CFO. Thanks guys for joining us today. I mean, for those of you that are not that familiar with American Axle, it's one of the leading global suppliers of drivetrain and powertrain technology to the auto industry. It's heavily exposed to Europe in North America. They're working on that, and that's been a project that's been underway for quite some time and making progress currently in the middle of the acquisition of Dowlais, and I'm pretty sure I pronounced that correctly for the moment that will help diversify them geographically and from a customer and product standpoint as we work through this. So there's a lot still to come here, and there's a lot that's going on in the company right now. So we really appreciate you guys taking the time because I know you're very busy not just because of that transaction, but also with everything going on in the industry. So thanks so much for the time. Hopefully, you guys [ learned some ] from the questions we ask, hopefully, we can help you out a little bit here, too. So thank you very much for the time. Maybe kick off, David, if you want to make some opening comments before we get into questions, that might be a good start.

Yes, sure. First of all, good afternoon, to everyone, and thanks for being here with us today. Chris and I are honored to be with you. It's been a while since we've had a chance to address everyone in regards to what's taking place in our business. So it's a pleasure like I said, to be with you. But we finished 2024 very strong from a financial performance standpoint. So we're very pleased with how the year wrapped up last year. On an independent stand-alone basis, we guided the Street, we expect another solid year this year. This was prior to any of the tariff discussion that's going on. And I'm glad you got all those discussions out this morning, so we don't have to talk about them this afternoon. But happy to talk about them in all seriousness. But then in January 29, specifically, we announced the strategic combination with the Dowlais organization or what was previously known as the old GKN Automotive and GKN Powder Metal business. We finished last year at about $6.1 billion in sales. They are approximately a $6 billion business as well. The only driveline product that we don't manufacture is side shafts as they call it, we call it half shafts here in the U.S. At the same time, they have a metal forming business much like we do, and theirs is powder metal, ours is steel forgings, powder metal and ferrous and nonferrous castings. So both their businesses are very complementary to our business. This business will allow us to get size and scale. We want size and scale, especially during uncertain markets and the things that we're going through and experiencing right now as an industry and as an organization because we can better weather the storm. We did a lot of diversification here. Customer-wise, GM will go from approximately 40% of our business to about 25% of the business, but we'll also strengthen the relationships with the Toyotas, the Volkswagens, the other European and Asian manufacturers and there's cross-selling opportunities that go with that. We get the diversification in regards to we're heavily concentrated, as John just said, in North America, around 73%. This will take us down to around 55%, 57%. We'll increase our penetration in Europe, which is not a bad thing. Some people think that it is. But in our case, we don't think it is. Dowlais has been doing a lot of restructuring in Europe in the last couple of years. We're going to tie in this thing perfectly. We'll realize a lot of the benefits of the restructuring and see the cash generation that will positively contribute to the combined business on a go-forward basis. They also have a very strong joint venture in China that we'll be able to benefit from. We have a good presence in China. But their strategy, much like our strategy, is China for China. The other thing for us in both our organizations, we want to try to buy and build local to mitigate or minimize any tariff exposure. We had a very minimal impact back in 2017, 2018 when Trump was first in office. We're obviously dealing with the issues that are out there today. On the tariff side of things, what I will say is that we buy all of our steel and our aluminum locally here in the U.S. So we haven't had any impact with respect to the current tariffs that are in place. You saw it at April 3, he gave the auto industries more time from a parts supply standpoint until the May 3 period of time. Clearly, the vehicles have been taxed. 80% of what we do in Mexico gets consumed in Mexico into vehicles there. So the OEMs would have that responsibility. 20% of that comes across the border that we would have some exposure to. All of our parts are USMCA compliant or the majority of our parts are USMCA compliant. Those that aren't that we're working to identify what would it take to be USMCA compliant. And then on April 3, he also indicated that he may want to look at just giving credit for U.S. content only, which then means we just need to back that out, and we'd be subject to tariffs with respect to the non-U.S. or non-U.S. content that's in the vehicle. So we're doing all those analysis right now. I think when it's all said and done, level heads will prevail. I think Trump has used this as a solid negotiating tool for him to bring a lot of countries to the table to address the imbalance that existed in trade. At the same time, he wants to reopen the USMCA agreement to get more U.S. content. And what he's really looking to do is promote more American manufacturing and more American jobs. And as long as everyone understands that big picture and understands that this can't continue on for an extended period of time. The supply base is very fragile and has had to be propped up in previous years. It only takes one supplier to screw up the whole chain. And we're already starting to see some of those bumps take place and we'll see what happens on the go-forward basis. But we weathered the storm for 30 years as a company. We've addressed a lot of challenging issues. This is just another issue as far as that we need to tackle that we need to deal with. But more importantly to us is we're really focused heavily on the integration, the acquisition of Dowlais. And all of our banking agreements and credit facilities are in place as far as the financing for the deal. We've turned in all the antitrust documents, for the deal with the exception of one country, which we'll have done by the end of the month here. We expect the deal to close in the fourth quarter, no later than year-end. So that's positive for us. We've already cleared the U.S. antitrust assessment. So that's a real positive as well. There's tremendous synergies to be realized over $300 million. We went through a very arduous and rigorous process to identify that $300 million, much different than what we've ever done in a number of acquisitions that we've done in our 30-year history as a company. It was a tough process to go through, where we not only had to identify the suggestion, but explain why we were recommending the suggestion where we've done it in the past, put justification substantiation behind it. And based on that, the auditor gave us a score and discounted that score based on the ability, either implemented or the confidence level that they saw associated with it. Because of the U.K. law, we were not able to visit the factory. So many of our operating synergies were discounted heavily to the tune of 75% discount. So we think there's some upside potential to that $300 million that we identified publicly. But we feel very confident we can deliver that. Every acquisition that we've done in our history of our company, we've been able to meet or beat the synergies that we've committed to as an organization. So to us, we really see the future as being extremely bright. You're bringing two strong companies together, it's not like Dowlais is a stressed company or a distressed company, they're a very well-run company. Together, I think we can be -- run even better. At the same time, there's a tremendous value creation opportunity that goes with it. And I think it will open up a different playbook for us from an American Axle standpoint. So with that, I'll Turn it back to you, John.

So I will say as far as efficiency, I understand that American Axle is incredibly efficient. I think David just packed in the first [indiscernible].

Yes.

I mean it's the most content we've seen in [ centuries ]. So we appreciate that opening. That's actually incredibly helpful. Really helpful.

Okay. So I got a few questions left off still. So on tariffs, obviously, there's a lot of direct and indirect stuff we can talk about but the indirect one that I think a lot of people are concerned about is the potential for industry volumes to be down or potentially even hammered, right, as a result of this more from the automaker side as opposed to what you guys may or may not be directly exposed to. You could just remind us sort of your playbook of, let's see, industries down 10%, 20% as much as 30%. I think it's more the draconian use of this stuff. How you guys have reacted to that in the past, how do you react with now, what may have changed, lessons learned, but really sort of that indirect, which could be a big one macro impact.

Yes. Do you want to take the first half?

Yes, sure. What I'll tell you, John, is this question is a question quite frankly, in the auto space, it's a cyclical industry. We deal with each and every year as we face the challenges of the industry. And back in -- we have a standard playbook that we follow, we published back in 2020 as part of our Investor Relations materials, excerpts or a summary of this playbook. But principally speaking, as we think about the cycles of the industry, this could potentially be another cycle, if you will, we work through our cost structure. We start -- we have a highly variable cost structure, 60% of our costs today. Our purchase components, obviously, highly variable. Our labor in general across the globe is highly variable. So you start to work through these elements of your cost structure very quickly. And of course, speed and reaction time is important as we manage our cost structure through this process. And then we take a look at terms of our view of depth of the issue and duration because that will really start to then drive our views on our next steps of our playbook in terms of rationalizing, I would call it semi-fixed cost or a salary labor, other sorts of fixed costs that are inside our factory too if we thought it was deeper and more prolonged where we can rationalize capacity. So that playbook has been tested and tried and used many times through our history and we would continue to adapt that playbook to whatever we would face in terms of these challenges coming forth.

Yes. I think one of the critical things is the prior [indiscernible] are forecasting that the global markets could be impacted 2 million, 2.5 million units. Here in North America, roughly 1 million, 1.5 million units. As Chris said, we have a playbook in place to deal with that. The other thing you have to look at is what segments are those units coming out of. Typically, your trucks, your SUVs, your crossovers stay relatively strong in those periods of time as more of the passenger car and a little bit of the crossover that gets impacted. But again, we've got a proven playbook. We've executed that playbook multiple times, and we've always persevered and got a way through it.

Got it. So one of the questions is like your major customer, GM has front capacity in Fort Wayne. It might be expanded in its allotment, which might be shrunk, if you will, as far as volumes. I don't know what you're hearing yet because it doesn't sound like anybody has made any decisions, but I mean GM had a big jobs fair at Fort Wayne already. So it sounds like they might be on the track to hire folks there to try to expand in a soft way the capacity there. If somehow they expand that capacity in Fort Wayne without big bricks and mortar yet, right? This is you're adding a third shift and more vehicles. What flexibility do you have to service that out of your existing facilities for Fort Wayne and/or would you have to ship from [indiscernible]?

Yes -- I mean, GM has already announced that they're going to increase the line rate at Fort Wayne and they're going to bring incremental workers in on a temporary basis until such time they can see that as a permanent type move that needs to take place. We're already supplying Fort Wayne out of our Mexico facility today. So we can continue to ship more product to them if need be. If GM ever desires to want to put more capacity in the U.S. that obviously, our whole strategy all along has been to buy and to build local and be in close proximities to our customers. Before that region was a North American region. If it has to be shrunk down just to a U.S. region, then we'll have to evaluate what we need to do, but we'll do that in concert with General Motors or any customer for that matter.

And our general understanding right now is that the automakers, particularly if they're the Importer of Record, are paying the tariff directly particularly in this case when you've made a commitment to them in Mexico and how it would be helping them out with incremental axles being shipped from Mexico to Fort Wayne, they're paying that, that would be on their time at the moment right? That's our understanding Importer of Record is [indiscernible].

As far as product going into vehicles assembled in Mexico, the OEMs are paying for. Products coming across the board going into [indiscernible] we would be exposed to. And then you have to look at what's USMCA compliant or U.S. compliant to determine what that level of tariff would be.

That would be product we're shipping especially in between our plants, but most of our customers will pick up at our docks and take delivery.

So I mean -- so those incremental axles that will be going to Fort Wayne from Mexico, they would be through your docks in Mexico or you'd be shipped in -- and you're on the hook for the tariff first blush and then there's a negotiate and then there's a discussion?

Generally, our customers take delivery at our docks so they handle all freight logistics.

And David, you touched on this on the mix side. But I mean given what we've seen with the resiliency, particularly of GM trucks through sort of the stresses that we've seen over the last 10 years in the industry, they've held in very well. Based on what you would understand right now outside of GM making a decision, and I highly doubt GM is going to make a decision to take these trucks down even in the face of tariffs. Your view on mix for you specifically is a high level of resiliency relative to what would be happening in the macro environment. $1.2 million to $1.3 million on GM trucks, $1.2 million and $1.3 million is not certain, but very, very highly like [indiscernible].

My [indiscernible] is that They'll deliver that for sure.

Got it. Okay. As you look at this, labor has been tight everywhere, right? And that's kind of one of the ironies of what's going on right now, this idea of trying to bring manufacturing jobs back to the U.S. it's hard to find people to do stuff, right? I mean, there's massive shortage of auto technicians in service base and dealerships. If you were to bring back and GM were to bring back capacity to the U.S. from Mexico, right, in this example. I mean is there a lot of labor around and available? Or is it going to be very tight and end up being reasonably expensive to do that even if you can find the people. I mean that's one of the real challenges here. It's not like we have an unemployment rate that's very high and a lot of folks in manufacturing communities that are looking for jobs because a lot of people are employed. So...

I mean the labor market is better today than it was just a few years ago, but it's still very tight to your point, okay? At the same time, there's 500,000 open jobs in the U.S. today. And now we're talking about bringing additional work here. how do you fill those jobs? That's the big question. But at the same time, I think we, the manufacturers have to look at what can we do to minimize the amount of labor by designing operations more efficiently, at the same time, leveraging automation and robotics where we possibly can. But it is a tight labor market and it will be a challenge on a go-forward basis, especially everyone is trying to do the same thing at the same time.

So as far as your operations, how much opportunity is there to automate? I mean, could you take 10%, 20% of labor out of the -- I mean, what's the roundhouse estimate on the...

They were between 10% and 30%. I mean just a matter of how much money you want to spend. And is there a payback for that investment? Or what is the customer willing to pay if you need to make those investments to be able to support that production in, let's say, the U.S.

So historically, we've looked at the business, and it's been sort of a mid -- solid mid-teens like 15% plus EBITDA margin. Before we get into Dowlais for a minute because we're going to get into that. Is there any reason that you could see with the current macro and maybe even some of these pressures from tariffs as to any reason that the business couldn't once again pre-Dowlais, we'll get into that in a second, the business couldn't get back into that range over time?

Chris, why don't you explain how the margin walk, where we were, where we are today, where we're headed.

Yes. So John, you're referring to sort of some of our mid-teen performance a few years back. And if you think about what has -- at the macro level has transitioned through that time frame, first and foremost, volumes are lower than they were when we were running those mid-teens. And we have high operating leverage, right? We have fantastic variable profit margins, and that benefits us in time when volume goes up. When it comes down a little bit, obviously, that impacts our headline margin number. At the same time, I would call commodity metal market pass-throughs and inflation pass-throughs that are being passed up to our customers at cost, which are great agreements that we have because they protect the company. But optically, they impact your margin performance. And that's 100 to 200 basis points of margin that we're passing through in terms of elevated metal commodity costs versus, call it, 5 years ago. And the other piece I would tell you, and we talked a lot about this in 2023, we had some challenges inside our metal form operation as you saw, and you can see it in our segment data, their margin performance sort of has stepped down through that period of time. We have since reversed that trend and starting now to see a trend of upward performance in our metal forming operation, and we think collectively for the company, we have another 100 to 200 basis points of opportunity set inside of that to start to work to claw back in terms of that mid-teen performance level. Obviously, a little macro plays a little bit to that performance level. But we also have some self-help, which we're driving towards and you're seeing that trend in our operations now.

The only other issue would be and we encountered all the inflation, everyone else did. And productivity wouldn't offset all that inflation, and we weren't able to pass on all those costs to the customer. So we took responsibility for some of that.

To standard volume operating leverage, metal pass -- your metal markets pass-through. Metal forming, like MPG [indiscernible].

And then the inflation.

Then inflation, correct.

So those are all -- yes. I mean it's getting better and cash flow is pretty good, pretty strong, right? So you haven't seen the same kind of impact. So that Metal margin -- metal markets pass-through you're not seeing in free cash flow, right? So free cash flow is still pretty strong?

Correct. [indiscernible] doing exactly what I'd expect it to do.

I just want to flag that some credit investors look at -- I mean revenue goes up because of the pass-through for steel. And although your margins could contract a bit your EBITDA is going to be kind of flat because you're off of a higher revenue so it's not like our margins are compressing because we're doing worse. So just there's a little bit of a different macro mix on the revenue versus the [indiscernible].

Yes. You can see that in our absolute performance, whether it's cash flow or even EBITDA dollars.

The old adage, it's tough to pay your bills with a percentage but...

Yes. Free cash flow, you can pay your bills, right [indiscernible] you've got to be careful.

Absolutely.

Okay, getting to sort of in-sourcing versus outsourcing, right? GM insourced some of the axle business, but there is some potential for outsourcing coming from other automakers. And then there's this whole question of what is going on with the Chinese OEMs and I'll call it, GKN, but Dowlais has this, on the half shaft side, has a potential real opportunity to help drive further penetration with Chinese manufacturers. So can you maybe just talk about generally your product set how much opportunity there is on future outsourcing, not just from the incumbents -- well, from the incumbents, but the incumbents that we know and then the Chinese manufacturers at what risk there is an insourcing? Because it seems like insourcing risk is fairly low at this point and probably done, at least my opinion, right I'd love to hear yours on it. And then on the outsourcing side, there is potentially a lot of opportunity still in front of you.

Yes. I'd say the traditional ICE and hybrid business, most of them make pie studies and the insourcing has been done by the OEMs, especially the Detroit 3. So as you alluded, GM is sourced a little bit of the beam axle work. We have the balance of that beam axle work. At Ford Motor Company, they still probably make 60-plus percent of their business between us and Dana and others, we supply the balance of the business. Stellantis buys from us, buys from Dana, they also used to have their in-house operation. That business was sold to Z. So ZF has that business today. So that's the Detroit 3. And then you've got a similar thing. Toyota has always used Hino to be their axle supplier. I know that Toyota just brought that work in-house because of some of the other issues that were going on with Hino. And then its been a mixed bag with Nissan in regards to they make some internally and they buy some of the outside. So I think on the traditional business, that's pretty well been established. But I do think over time, that could be an opportunity for us. Just a matter of OEMs got to decide where they want to place their capital going forward and do they want to make investments on undercarriage components that there's suppliers that are very capable or whether there's -- American Axle our competitors that can do those types of things. On the electrification side, it's going to be a mixed bag again. Some are going to want to have a capability in-house. GM has already demonstrated a desire to make some of that in-house, but they're also putting some on the outside. Ford has already desire to put some on the inside, but they'll look to the outside. These are all electric drive units, not beam axles. And that one beam axle has been in-sourced by the OEMs on the electrification front because the market really isn't ready for that at this point, in time. So what we're doing is making sure we're properly positioned that we have electric drive unit offerings, the Dowlais acquisition will even strengthen and broaden that portfolio capability for us. At the same time, a lot of R&D activity by AAM has been done on the beam axle side to properly position ourselves should the market turn in that direction on a go-forward basis. And again, we just want to be agnostic to the market and have products for ICE, hybrid and EV. And we're already in the EV business. We've been making electric axles since 2017 for Jaguar Land Rover in regards to the I-PACE. A lot of work for Mercedes and their AMG brand through 6 different or 7 different derivatives there. We're doing a lot of electrification work in China with a host of Western as well as domestic OEMs in China is really the U.S. market that was lagging all of a sudden the Biden administration, they tried to enhance that. It was a false enhancement I've said that all along, prognosticators taking 50% penetration of EV by 2030 was crazy. My feeling it's 25%, 30% is where I think it ultimately settles in it. And EVs are going to continue on, there's no doubt about it. Hybrid, you can see the tremendous growth in hybrids, but ICE business is going to be here a lot longer. And when I say a lot longer for decades, but at the same time, hybrids and EVs will grow their market penetration on a go-forward basis. And we're prepared to satisfy any of those propulsion systems.

And you just mentioned some penetration with Daimler on the AMG line. what is the opportunity with the Germans, right? I mean because that's -- I mean, if they trust you on AMG, you got to imagine that's the holy grail.

That's a lot of the capabilities outright. So we've done a tremendous job building that relationship and respect with them. Whether it makes it to zero production on the other side of the house, that's to TBD. But we've demonstrated that capability and we've delivered with the customers have asked us.

Okay. Well, I promise we're going to get Dowlais but on backlog, given everything that's going right now or maybe before sort of the last couple of weeks before, we've gotten to the kerfuffle, to put it politely. The backlog and bidding on programs. I mean, how has that been progressing? [ Not necessarily ] maybe exact numbers, maybe if you can give us exact numbers, but as far as the activity, I mean, has there been a slowdown pickup as normal?

A year ago at this time, we were reporting $1.5 billion of new incremental business. 75% to 80% of that was all electrification based. 25%, 30% was the balance in regards to ICE or hybrid, sitting here today, it's the opposite, where we're reporting 75% of the business reporting today as ICE and hybrid work, the balance is electrification work. All of our contracts on our existing business, for the most part, have either been secured already or were in the process of being extended. So that's a positive thing for us, not many suppliers or companies can say they've got their next-generation business locked up for over a decade. We're proud to be able to say that. But right now, we see tremendous opportunity, but it's more in our traditional space. And our normal hit rate is 25%, 30%, and we'll win our fair share of that. on all technologies, ICE, hybrid and electrification on a go-forward basis. Chris, is there's anything else you want to add?

No. I mean you've heard us talk a little bit last year, but it was a lull as the industry was sort of repositioning their views, but that lull has picked up to what David just said, which has been great for us.

So in the past couple of days, we heard something that I thought was a bit counterintuitive, certainly the way that I think, which maybe not be saying much. But the idea that the program extensions might not necessarily be a great sort of gravy train for suppliers or might not be a positive, actually might be somewhat of a negative. And the rationale was that traditionally, you would set up tooling and other sort of fixed costs so that they would last for the extent, the life of the program. So if you get your 5, 6, 7, and it's being extended 1, 2 or 3 years on you, but all of a sudden, you have another layer of investment on retooling or refurbishment and other investment, capital-intensive investments to try to keep it going through those couple of years that might not have the greatest returns. What would you say that sort of the program extension? I would have always thought that it would actually be good. I mean -- you guys can retool anything, right? I mean...

Stick with your thought process because volume is good, especially on an extended basis, running off across depreciated equipment, right? At the same time, if you maintain your equipment, the way you're supposed to, volume is your friend.

That's exactly right. All right, so, I mean increasing for other reason. Okay. So let's get into Dowlais. Can we simply just run across deal rationale? I mean, I think you guys have talked about this. And then also, as you look at this business, you said it's in great shape, but it does seem like it's not throwing off a ton of free cash flow at the moment. What are the opportunities to get I mean, obviously, $300 million synergies might help you there. But just basis to your rationale and that way you can do to get that free cash flow up to service debt.

Yes. Let me describe who Dowlais is first, and I'll talk about the strategic combination is. Dowlais is the industry leader in side shafts or half shafts with over 40% market share in that space. They have tremendous joint technology, which is really the differentiator in a side shaft or a prop shaft. So they're the industry leader on that side. They also are very strong on the all-wheel drive side of the business. They were our #1 competitor when we were competed on all-wheel drive activities. And on the electrification side, they've made some big investments over the year on electrification, although they've recently scaled a lot of that back because the market didn't develop the way they thought that it was going to take place. So they're in the process of finalizing some restructuring on that at this point in time. That's the auto piece of their business. The other piece of their business is the powder metal piece of the business where they're vertically integrated, where they make their own raw powder but they also make centered product as well. They're the largest automotive centered powder metal manufacturer in the world. So they have a driveline business and a metal forming business, we have a driveline and metal forming business. To your comment about they're not generating as much free cash flow. Part of it is because they're in the process of restructuring their European footprint. And they just finished restructuring their North American footprint where they move some work from the U.S. to Mexico. So we'll have to evaluate that in regards to the trade and tariff situation, but they also moved a lot of Western European cost structure business to the Eastern European locations. So think Hungary and Turkey and some other places along those lines. So going forward, post this year, let's say, 2025, there going to -- a lot of that restructuring will be done, a lot of that cash generation will drop to the bottom line. And we'll be able to realize that on a go-forward basis. So we see higher strength of our cash generation with their cash generation plus the synergies and the value creation that we can put forward to the point that we're generating $550 million to $600 million of free cash flow. You look at that as a percentage of sales as you look at that versus our market cap today, it's pretty compelling. So the whole acquisition is extremely compelling for me, for us, what we've been looking for is a transformational deal for quite some time. We told you a long time ago, we want to be a consolidator in this industry. We started with MPG on the metal form side back in 2017, this is a transformational deal that impacts both our driveline business and our metal form business, as I said. It will catapult us to be a top 10 North American supplier, top 25 global supplier, but almost #1 or #2 in every market that we serve, right? And it's times like today, like I said, the uncertainty that exists in the marketplace is really the strong rationale and by the way, their company and our company feels it's the right combination and the right time for our businesses to come together. But there's not many companies that are handing glove fit. This is one of those. We've looked at this three times back in 2018 when Melrose bought it. We looked at it again in '22 and Melrose [ just wanted ] the price we weren't willing to pay. And now we were able to put a proposal forward to their Board of Directors that they thought was better than their internal plan. They accepted that, and that's what we took public on January 29.

So to be clear, you guys are doing -- I mean, run rate -- roundhouse numbers, $200 million to $250 million in free cash flow of your run rate. That gets you your 2.8 turns levered at the moment on a stand-alone basis. So as we think about sort of the new entity or Dowlais, right, before we put you guys together, they're not generating a lot of free cash flow, but you think that, that has got upside on an organic basis, before synergies of being turned around in the next couple of years as they're rejiggering their footprint. And then you layer on the $300 million. So I mean, it sounds like they're a company that could get to a couple of hundred million dollars of free cash flow. I don't know exact number because we haven't modeled that separately on their own, plus you have the $300 million in synergies. The $300 million of synergies are not double counting what they may do on their own. This is a pure deal synergy of you guys going together. So the reality is as we're looking at this, and this is news to me, right? I'll be -- to be fair. The $200 to $250 million is yours, $300 million of synergies. We're going to get into that in a second plus potentially a couple of hundred million dollars of their turnaround. So all of a sudden, you're saying $5 million to $550 million in free cash flow, that's kind of synergies plus what you're doing, but then there's potentially the layer on of what they have going on in their own turnaround plan or rationalization plan, it's not [ turnaround ] is included.

And John, if you look at our investor relations materials, we have a page in there walking through almost how you just articulated because when you -- many when you look at -- well, it's relatively new. When you look at the free cash flow that they generate, often, they report net of all restructuring. So when you back out that restructuring, you can see their adjusted free cash flow in a similar order, I would say, in comparison to what we generate is very close to $200 million right now this year, meaning 2024. All that restructuring, the big happy lifting of that will be done by the end of 2025 on their side. So their pure cash flow performance plus the uplift of their performance should start to accrete to the combined entity going forward. Then you have our synergies, you have our base cash flow as well.

Okay. And don't get mad when I ask this question on MPG, stub your toe a little bit on the synergies, right? I mean, that went that was a [indiscernible].

I'm surprised we actually beat it, we committed to 3% in synergies and delivered 5%. The issue that we had is that we inherited some launches that weren't planned properly and some of the synergies that we realized had offset the pain that we endured based on not knowing about it and wasn't shared with us in the diligence process.

But the SG&A synergies, the public company costs, all that savings, we delivered it.

That was offset by a lack of correct capital investment before you took over [indiscernible]?

Correct.

So now we're looking at $300 million of synergies coming out of the Dowlais combination. You've talked about upside, you said something about the auditors kind of discounting it by 75% or certain.

In certain areas.

In certain area. So it sounds like that $300 million could have very -- once again, you said there could be upside, but we'll see -- you'll see as you go through this. But that's the heavily audited known actions with some discounting from auditors that you think -- you -- I mean it's [indiscernible].

It's the weighted average number based on -- there are some that we got 100% credit for, some 75% credit, some 50% credit. Most of the manufacturing was at 25% because we were not able to visit their plants. So therefore, it was heavily discounted by the auditors. So that $300 million number is a weighted average of the whole thing. I guess some are 100%, some are 25% but ultimately the number that they signed off is that $300 million that we could publicly communicate.

So basically, we're looking at something that could be -- your $250 million free cash flow, their $200 million to $250 million free cash flow, call that $500 million plus $300 million, that's $800 million plus some upside to that. And all of a sudden, we can be looking at $900 million to $1 billion.

Yes. If there's takeoff taxes and interest as well. But operation [indiscernible].

[indiscernible] There's tremendous potential in the combined free cash flow. That's incredibly helpful. But you have anything on that?

I want to maybe just talk a little bit of the balance sheet. So most transactions and auto parts are levering, this is not levering because you're -- the target company had leverage, I think, maybe 1.5 turns or so. So if you can just kind of shape how do you think the balance sheet with low post transaction?

Yes, our goal and we talked a little bit about this to finance the transaction, right? Our goal is to close the transaction at leverage neutral to where we concluded '24. So we, as American Axle, closed the year at 2.8x. So we'll be approximately that at close. And then our objective going forward is then to continue to obviously generate the cash flow that we were just talking about and then continue to strengthen the balance sheet down to 2.5x would probably be our sole use of free cash flow from a capital allocation perspective. Once we get to 2.5x, I think we'll have a little bit more balance in terms of our capital allocation playbook, but we'll still continue to prioritize debt pay down even after the 2.5x.

But just explain what you mean by more balanced? Like what other capital allocation efforts?

So more balance, I would articulate now, for example, we are predominantly focused on debt paydown. We do some small M&A. Really, we do not have any share buybacks or any dividend payments to speak of for American Axle at the moment. Post the transaction with a much stronger balance sheet, more resilient business, our view is with those capabilities. Once we get to 2.5x, we can be a little bit more, I would say, allocated across continue to pay down debt, but also open then that playbook to some shareholder-friendly activity, whether a buyback or a dividend at that point in time. But we'll continue to pay down debt even past that as well. We strengthened the balance sheet is the top priority for the company and will continue to be so.

I mean this is a weird question asked right now because I mean, the things are still on the come. But given the potential incredibly strong free cash flow and where your equity market cap sits, I mean, I got to imagine at some point if the market doesn't start recognizing maybe folks like me don't start recognizing what's going on, so you can throw stones in this direction if you need to, but that you would consider an LBO -- any -- I mean, given that kind of cash generation versus the market cap, I mean, it starts to get a little wacky.

We're a public company today. We're going to honor that public company, but we're going to create optionality for our business on a go-forward basis. I'll leave it at that.

Okay. It just seems like at some point, I mean, even on a stand-alone basis, things are getting a little [indiscernible].

A little hard to raise a lot of debt right now too.

I mean, that's always got a big [indiscernible] as well. so you'd would be helpful. I don't know if anybody's got any -- we can take one last question in the audience. I don't know if there's any but we've got one right over here. I think that's probably what we're going to have time for...

You guys mentioned that you guys have a tried and proven playbook for managing down pretty severe volumes. To what extent does Dowlais have that in terms of the restructuring that they're in the midst of completing, I think you said by year-end, they should be done with that operation restructuring?

Well, the restructuring, we will clearly make them more nimble through these type of events inside the [ marketplace ]. And if you look at some of their public disclosures, they do talk about their variable profit performance. It's highly variable like ours, so strong operating leverage. And through discussions with them, they've articulated their playbook in many of the same recipe in terms of what we described they would do as well, which gives us comfort on a combined entity, we could apply that same playbook to the combined entity.

Yes. We'll look at what they're doing, what we're doing, combining together, have one playbook on a go-forward basis but make sure that we can manage the business at least to understand what it would take to be a breakeven and then what would need to take place with respect to that, including facility consolidation, if need be, as part of that plan if the volumes stay low.

Maybe if I could sneak one last one. And if you think about the cost structure, the big delta between Mexico and the U.S. would be mostly labor costs. I mean there's some utility costs and some other stuff that would be a little bit higher. Labor costs are sub-10% of our cost at the moment.

Total cost structure for the company?

Yes.

If you think about our cost of goods sold, about 60% is purchase materials, call it 8% or 9% D&A, the balance is sort of split between all-in labor cost, meaning labor benefits and then the rest of our overhead.

So ballpark 10%, 15%?

Yes. 15%. All in for the combined company. Mexico is obviously under the U.S. is one thing. Western countries are this. Right, Mexico is something different.

Well, so I guess the question is, is the labor cost 2x in the U.S. versus Mexico, is it 3x in U.S. versus Mexico?

It's roughly 2.5 to 3x. On a fully loaded basis, wages and benefits.

Got you. Okay. So I mean, if you add to a the Switch, you'd be 10%-ish underwater on that.

Well, just -- if you're holding prices where they need to be at or...

Yes, exactly without making any change and then you start passing it through if you need to, that would be cheaper than a 25% tariff, right? So I mean that's why the tariffs [indiscernible].

Facilities and things like that, costs are actually higher down there than in the U.S.

Then you're working with your customers -- pricing as well [indiscernible] because obviously that's a [indiscernible]?

It's [indiscernible] all the math though, it has to be done with the customer to say, is it better [indiscernible] and pay, a tariff on a non-USMCA compliant parts? Or is it better to relocate something to be closer?

And then you have can plan out or game theory out what's actually going to stick and not stick in the capital as we go forward.

Well what we ultimately need, the government has got to provide clarity to the OEMs. What we ultimately need from our customers is what are they going to do from a long-range product plan, meaning what's their penetration of ICE, hybrid and EV. We then need to understand whether there are plant loading plans to deal with tariffs or deal with how they want to run their business going forward. And then our whole strategy is to try to buy and build local and be in close proximity because we ship big parts. And we just don't want to make the freight companies rich, we want to be pass that value on to ourselves or to our customers on a go forward basis.

And Shareholders too.

And shareholders, for sure. Yes, absolutely.

All right, David, Chris, thank you so much for the time [indiscernible] we really appreciate your support and [indiscernible].

That's great. So, thank you.

Thank you.