Lear Corporation (LEA) Earnings Call Transcript & Summary

Okay. Great. Thank you, everybody, for joining us. My name is Mark Delaney, and I lead the coverage of the U.S. autos and industrial tech sector. I'm very pleased to have with us today Jason Cardew, Senior Vice President and the CFO of Lear as well as the President of Lear Seating and E-Systems businesses, Frank Orsini and Carl Esposito. Thank you both -- thank you all for joining us today.

Thanks, Mark. Thanks for having us.

Jason, I thought we could start off with a couple of questions for you, please, and maybe talk a little bit more on the macroeconomic environment and to start, can you please give us an update on what you're seeing in the fourth quarter?

Sure. Yes. We're really excited about the progress we're making in both business segments. In the fourth quarter, we see margins improving in both seating and E-Systems. And if you think back to the guidance that we issued for the fourth quarter, we expected revenue of $5.280 billion, operating income of $209 million and operating margins for the company at 4.9%. And we're tracking in line with the midpoint of our guidance at this point. Revenues are coming in a little bit light really impacted by China-related shutdown, or COVID-related shutdowns in China. But Europe and North America, they're challenging. The market environment is still challenging, but it's generally in line with what we had expected. In Seating, we have guided to, at the midpoint, operating margin 6.9%. At this point in time, we see it between 6.8% and 6.9%, so up 20 to 30 basis points sequentially from the third quarter. So nice progress there. In E-Systems, we had anticipated operating margins at the midpoint to be 4.7%. They're going to be between 4.7% and 5% as we sit here today, and the total company margins will be 4.9% to 5%. So pretty happy with the progress we've made in a very difficult environment. So that's several quarters in a row of sequential margin improvement, particularly in E-Systems coming off that sort of low point in the second quarter, where we had 2% adjusted operating margins with 3.9% in the third quarter, and now approaching 5% in the fourth quarter. Really happy with the progress there.

Anything in particular, any systems is helping the margins to pick up a bit more in the fourth quarter?

Part of it is just the likely commercial negotiations around passing through commodities and inflationary increases. Part of it is restructuring. We've done in that business, improving the cost structure, really adjusting to the lower volume environment that we've been operating in. So it's really good operating performance and finishing up some of our commercial negotiations. The backlog continues to roll on at margins that are accretive to the segment overall. So really happy about that, too.

That's helpful. And going into 2023, can you speak about your expectations on production, specifically as it relates to ongoing supply chain disruptions as well as vehicle demand? And then perhaps maybe you can also speak on some of the other key factors for 2023, including the impacts of commodities and recoveries as well as foreign exchange and how some of those factors impact revenue and margins?

Yes. Maybe starting with the -- how we see the production environment. I think if you look at IHS, they're calling for 3% increase in global production. On a Lear sales weighted basis, that's about 5%. I think that's -- it's a little bit more ambitious and optimistic than we see next year at this point. And we still have a couple of months before we're going to issue guidance. But as we sit here today, we do see Lear production -- or production on Lear sales weighted basis up about 1% next year. We see North America stronger than Europe. North America, we're calling up about 3% at this stage. Europe, we have flat to down slightly, and then China, we're expecting to be flat. So production will be a slight benefit tailwind for us as we look at next year, but not as significant as what we've seen this year. Commodities, we continue to see steel prices come down North America. They're down more than half from the peak. In Europe, they're down as well. So that will be a tailwind. Copper will be a tailwind. Copper's down about $1 a pound. If you just look at the average for this year to the current spot price is down a little less than $1. So that will be a benefit. Some of the oil-based products, foam, chemicals, resins, we still see a bit of a headwind there. We do see the benefit of passing through some of the commodities that were on a lag also benefiting next year. Again, it's a little bit early to provide formal guidance. But for planning purposes, we're somewhere around $25 million to $50 million of tailwind on commodities overall. So I think that's -- that will be helpful to margins in both segments as we look out to next year. Foreign exchange, 30 days ago, I would have told you it's going to be a pretty meaningful headwind. But the dollars weakened considerably over the last month. And I think the euro sort of at the current spot rate is flat with the full year average. So I don't see much of an impact there. And the RMB is about the same as well. But just for sensitivity purposes, every $0.01 change in the euro is about $65 million in revenue for us. And every 1% change in the RMB is about $30 million impact to revenues for us.

That's very helpful. Maybe we can talk a little bit more on the Seating segment, and Frank bring you into this, if I could, please. Lear has made a number of acquisitions in Seating. Can you provide us an overview on the benefits of these acquisitions?

Yes, absolutely, Mark. I think even before I talk about the acquisitions, I just want to mention, part of our strategy has been to consistently invest in our Seating business over the last decade or so. And it's the investments we've made in our talent, in our footprint in our technology. So when you think about the acquisitions that we've made, they've been heavily focused in two key areas. One is the product side of our business, and the other is the manufacturing side of our business. So from a product standpoint, we've made some really good acquisitions that have helped us position the company for success. We are the most vertically integrated seat company in the world leader in premium and luxury. And a lot of that's come through organic and inorganic investments that we made. So product-wise, we purchased Eagle Ottawa in the past, brought leather capability to us, which supports our premium luxury position. We've also made acquisitions like Grupo Antolin, which actually provided us the baseline for our PACE award-winning ConfigurE+ technology, which is a powered rail system. It's excellent for reconfigurability in the vehicle, EVs and things of that nature. And most recently, we're very excited about Kongsberg, and I'll talk about that in a minute, but thermal comfort to us is a very important trend that's going to take place in automotive. And then on the production side, we're a leader in operational excellence. Our team does an excellent job delivering every day. But part of our focus is continuing to build on that capability. So we want to innovate in our manufacturing. Industry 4.0 is an objective of our strategy. And we want to make sure that we're bringing in robotics and software into how we perform. So Thagora was an acquisition we made earlier this year. That was a software-driven efficiency play on how we cut leather on a global basis. We're excited about that. And InTouch was a recent acquisition that we made that will provide us an opportunity to automate in our manufacturing. So in areas like that, I think, will help us continue to drive quality. It's leading to performance awards with our customers. We saw that performance in the J.D. Power's results this year and things of that nature. But back to Kongsberg in thermal comfort. So Thermal Comfort is heat vent, heat, cool, massage, lumbar technologies like that, and we think it's a very attractive market. I mean there's a lot of growth opportunity in this particular area of the business. And right now, that market is about $2.5 billion to $3 billion in total market share. And we see that growing about 2 points above vehicle production. But we also see a tremendous opportunity for it to expand even further, and maybe even accelerate because there's a bunch of topics that are happening for us. This is a technology that's highly desirable by the end consumers. So heating and venting comfort with lumbar and massage, our customers are starting to adopt it in different segments of their vehicle planning. So it starts in a premium luxury segment, but it trickles down to C, D, B segments. We also see it going into the second row and third row applications, Mark, so we're excited about that. And there's this very unique play with EVs, where our customers are trying to figure out solutions for battery range extension. The HVAC system is one of the biggest draws on the power of their potential vehicles. So efficiently, heating and cooling, the occupant as opposed to inefficiently heating and cooling the entire cabin is a solution for our customers. And we're excited to be a part of that because I think that direct interface with the consumer and our seating systems matters. And I think it's going to give us a real opportunity to do some special things with our customers in terms of driving the value proposition. So it will be the content that will play well for Lear, the opportunity to expand margins. But for our customers, I think it's also going to benefit them in different ways with EV platforms and things of that nature.

That's very helpful. Maybe you can give a bit more color on how your Thermal Comfort product is differentiated from your competitors?

Yes. So for us, it's all about differentiation, the product, the market position that we have as a company. So just to give a little bit of an explanation on it. So thermal being, again, heat vent, heat cool and comfort being lumbar and massage, our goal is to combine these systems into an optimized module. And the way we're doing that is by taking a look at the overall system, and we're reducing complexity. We're utilizing and leveraging certain components in that system to perform multiple functions. So the bladders, the hosing, the pumps, all of these components can be leveraged across all of those systems. And what we're finding is that we're really striking some really good performance in terms of how things are shaking out. We've got about a 50% complexity reduction path that we're on right now for those systems, about 20% mass reduction. And from a performance standpoint, I think this is the most interesting piece is we're right now at about 40% improvement in time to sensation in airflow in the seat system. And I think what really, really separates Lear is we have a seat system level approach to this. It's not just about the components. It's about every layer of that seat system where the air has to flow and how we allow it to flow the speed at which it flows, that's what really creates time to sensation performance improvements. And nobody's better positioned in the world to do it than Lear because we control all those layers. I mentioned we're the most vertically integrated seat company in the world. So moving that performance through the space or fabrics through the trim covers. We've even patented the leather perforation, which allows all of this to flow better. So when you think about it, it really does put us in a very good position. I think our customers are reacting very favorably to that, and we're excited about that. We have development projects going on with them right now in the area of thermal comfort modularity. The last thing I would add too is part of our strategy is to introduce sustainable materials. Our CEO, Ray Scott, has mentioned in the past, that we've made investments in the area of FLEXAIR, which is a recyclable cushioning system, different than polyurethane. So that's exciting for us because we're incorporating that into our strategy with thermal comfort, and ReNewKnit is a new product that we have out in the market. It's a sustainable, 100% recyclable fabric that is a suede product, and it's a direct competitor for [ all Cantera ]. So it's sustainable and it's a better cost option for our customers. All of that has become part of our strategy moving forward. And we're -- like I said, we're excited about it because we're getting traction with our customers in all those areas.

And here, you speak to all of these capabilities that Lear can bring to the seating market. There's an opportunity to take some market share, and I believe the company has a goal to take share from about 25% to roughly 28%. Maybe help us better understand the time frame to potentially achieve that in any of the key drivers that you see helping to drive that higher share?

Yes, sure, Mark. So if you just think over the last 5 to 7 years, we've taken our market share from about 18% up to 25%. And to your point, we see that growing to 28%. And we see that growth coming over about a 5-year timing planning horizon that we have as a company. There's a lot of ways of getting there. Right now, we just spoke a little bit about the technology, that we're utilizing some of the key acquisition strategies that we've been utilizing. But I think it really starts with -- we do have the best management team in the industry, and they are delivering every day on every level in terms of performance, launch performance, quality, delivery. So Conquest business opportunities have been a big part of our growth. We see that continuing. We do have opportunities in front of us right now that we're going to pursue. And I also think operational excellence. These investments we're making in our manufacturing will keep us on top of our game in terms of how we perform and how we're a great partner for our customers. So, I'm excited about it. I think there's room to grow with markets in Asia. There's room to grow with customers. The segments themselves are seeing more CPV expansion. Like I mentioned, thermal comfort going into different roles of seating. So I see that 28% happening. We're confident we can get there. And I think it's going to be a great success story for the team and we're able to accomplish that because we're on the right path right now.

Yes. Just the only thing I would add to that is, if you look at the competition in the seat space, we're the only ones that have consistently invested over the last 20 years. We have, as Frank said, a very deep management team, industry-leading performance. Customers are coming to us, asking us to quote competitors' business. That's what's leading to these kind of conquest awards. It's really the quality and operating performance that's differentiating us in addition to the product capabilities that we have.

That's all very helpful. Maybe we could shift gears to E-Systems and Carl, would love to bring you in for a few questions, if I could, please. To start, maybe you can talk about what led to some of the recent customer sourcing wins in E-Systems in areas like BDUs and ICBs. And can you speak to what differentiates your products from competitors and how this will impact your electrification revenue targets?

Sure, Mark. Thank you. So the -- couple of new products that we recently won in our portfolio, battery disconnect unit. Battery disconnect unit is the interface between the main battery pack of the vehicle and all of the things that use or feed that battery pack, so the onboard chargers and the inverters and motors that pull power out of the battery. That battery disconnect unit is a critical part of the safety system of the battery architecture, and is really important to manage the efficiency and power flow throughout the vehicle. And so we were recently awarded with General Motors, the battery electric truck battery disconnect unit as part of the Ultium battery pack as well. So what that lets us do that ability to work with General Motors, lets us drive a very robust and long relationship with General Motors to evolve and continue to evolve this battery disconnect unit, in particular, some of the key differentiated areas for us, 20% less weight, so the vehicle has more range. About 30% less size, so you can put more batteries in the vehicle and about 135% more power handling capability. The battery disconnect unit can handle up to 2 megawatts of power and switch that on and off in 3 milliseconds. So it is an incredible part of the vehicle and the vehicle architecture. And one of the ways that we differentiate is not only all of those technical areas where we handle power much more efficiently and effectively, but it's really how we work together with our customers. And the team with Lear and with General Motors are very collaborative in terms of working through the technical design challenges and changes of the battery disconnect unit and living inside of that Ultium 2 battery pack. So we will be building a new manufacturing facility in the Michigan area to complement that win with General Motors. And it's not just General Motors and the battery disconnect unit. We have three other European OEMs where we're doing battery disconnect units as well. And so being recognized from that technology perspective, being recognized as a collaborative partner, and being able to take and integrate a lot of the parts that go into those battery disconnect units from a vertical integration perspective similar to how seating. And Frank talked about, we're able to build many of the parts that go into that battery disconnect unit within Lear, things like the stampings for the bus bars that handle the power, the very high power and the battery disconnect unit, the high complexity moldings and a lot of the wire harnesses that go inside of those battery disconnect units. So that vertical integration also helps secure our differentiation from our competitors. If I switch to the Intercell Connect Board, ICB, this is a great new product for us as well. And it really combines a lot of the technology across Lear and the capabilities across Lear. The Intercell Connect Board connects the battery cells together to form a battery module. Those battery modules are then put together to build battery packs. And so the Intercell Connect Board is really important to be able to house and contain those battery cells. And then as those modules are put into vehicles, number of vehicles could have six battery pack. 5 battery modules will have 24 battery modules. It really depends on the application, or those battery modules go into other things like industrial or trains or other applications. So that's a unique position for us to be in. That Intercell Connect Board, one of the reasons we won that business with General Motors was a focus on vertical integration. We build over 60% of the components within Lear. And we pulled from a lot of different areas of the company. We pulled from precision stamping from the seating side of the business because we're able to make precision stampings to house these battery cells. We did an acquisition in E-Systems about 18 months ago called M&N Plastics. M&N brought us overmolding capability and the ability to mold metal and plastic together. That's an integral part of the Intercell Connect Board. And those metal parts, the bus bars inside the intercell connect board, are another capability that we bring to the table. So we're able to bring all of these parts of the Intercell Connect Board, about 60%, as I said, in-house and build that for General Motors. We see that growth in the Intercell Connect Board. We have another -- a number of other customers. We have another win that we have with that product area. And we're going to continue to invest in that because every battery is going to need those Intercell Connect Boards.

That's very helpful. Can you speak more about which areas Lear has chosen to focus on in E-Systems? And what the company has deemphasized given the move of some OEMs to vertically integrate parts of the EV powertrain?

Yes, so we're looking at where are some of our customers trying to in-source, and we want to do those kinds of products. We want to make sure we can make products that are differentiated amongst ourselves to make sure that we can compete from a technology perspective and operational excellence perspective. And so what we're doing in the E-Systems business, number one, on high voltage, quite a lot of investment with high voltage, both the connectors and the high-voltage systems and also the wiring, high-voltage wiring in the vehicle. That's a large growth area for us. On the high-voltage side, having that capability lets us make the connectors for the ends of the wire, but we're also doing things like making the main battery connector for the Volkswagen battery pack. So we make the main connector that sits on the side of the battery pack again, all power and signal that's going in and out of that battery pack for Volkswagen, for example. Low voltage wiring is certainly a big part of the E-Systems business as well, but that low-voltage wiring in the vehicle is changing over time. It's becoming more high speed, similar to what you see in your household as you're moving from kind of analog cables to more digital type cables in your home entertainment system, the vehicles are doing the same thing. They're moving from an analog type communication in the vehicle to a much more higher speed computer network in the vehicle. And we're adapting that capability for high-speed data, both from a connectors, building the connectors and the connection systems as well as the cable assemblies as part of our offering to customers. Finally, on the electronics side, power management, managing the power, not only with the battery disconnect unit, but power switching within the vehicle, being able to manage route power throughout the vehicle. And as we see autonomous capabilities, we're seeing additional requirements for redundancy in that power management systems and more computer switching. And then on the vehicle architecture side, investments in areas where we've won around zone control on the electronics. As the vehicle architecture changes to be more of a centralized computing with kind of remote zone computers in the edges of the car, if you will, we found success in building those zone control computers from a number of customers, particularly here in Europe as well.

No, that's great. We've heard now from both the Seating and the E-Systems sides of the business, a lot of opportunities to drive content growth and grow faster than auto production. And Jason, maybe you can help us better understand a little bit more specifically what it might mean for growth over market for Lear? For seating, the company has a target to grow content at a 4% CAGR. But you mentioned on the last earnings call that mix could be a headwind for growth over market in 2023. Can you quantify what that headwind is? And what are some of the key drivers for Seating growth over market, both in 2023 and longer term?

Yes. Yes. So if you look at the market share gains that Frank talked about and the backlog that we've been awarded in Seating, just the backlog that's rolling out over the next 2 years, about $1.3 billion of new business. That's going to grow revenues by about 8.5% in the Seat business. I did talk about a little bit -- the potential mix headwind next year relative to what we've seen over the last couple of years. I just want to maybe clarify that a little bit. So if you look at our growth over market and seeing over the last 3 years, it's been 6 points of growth over market. And structurally, we've targeted more like 4 points growth over market. So the additional 2 points is really a tailwind from favorable mix that we've enjoyed in that side of the business. So I don't think that necessarily continues into next year. I don't think it's necessarily a headwind. If it is a headwind, it's maybe 1%. But if we look out over the next 2 years in Seating, I think 4 points of growth over market is the right target over that 2-year period. And if you look longer term, with the conquest wins that we're pursuing there, with the growth through thermal comfort, combination of that, plus just the CPV growth in Seating that we've seen over the last 10 years, it's about 1.5 points of CPV growth typically year-on-year. All those factors taken together support 4 points of growth over market over the long term as well.

And then in E-Systems, the company has a 6% growth over market longer-term target. Can you speak to some of the content drivers in E-Systems, again, both for 2023 and longer term? And how are some of the products like the battery disconnect units and ICBs factor into that?

Yes. So we've consistently grown the E-Systems business at about 6 points over market. If you look at the last 3 years, that's -- we've grown that at right around 6 points faster than the market overall. If you look out over the next several years, the biggest driver is going to be our electrification portfolio, the BDUs, Intercell Connect Boards, growth in high-voltage wire. That business was about a $400 million business last year. It's $550 million in revenue this year. So it's grown 36%. We see that being about a $720 million business next year, so another 30% of growth. We've talked about a target in 2025 of $1.3 billion. Based on what we've been awarded and what we're pursuing right now, it's probably $1.3 billion to $1.4 billion. So we continue to move that number up over time. So that's going to be the single biggest component of the 6 points of growth over market, 3 to 4 points by itself. We also see an opportunity to grow market share in low-voltage wire. So we didn't have a large exposure to General Motors on our wire harness business historically. We've won programs with GM, we see opportunities to continue winning with GM and other new customers, which is also reducing the risk profile of the E-Systems business. We're a bit too dependent on a couple of customers. And so we're broadening the customer portfolio, reducing risk at the same time that we're growing that business.

That's very helpful. Perhaps, Jason, you could speak more about the company's current capital allocation priorities and balancing a number of these growing investments and M&A opportunities with returning capital to shareholders.

Well, first of all, we have a very strong balance sheet. We have no near-term debt maturities, very low-cost debt structure, less than 4% on average. Next bond isn't due until 2027. So we have a really nice capital structure in place right now. We're very focused on free cash flow generation. We've set a target to get back to 80% free cash flow conversion, so free cash flow as a percentage of adjusted net income. We see a path to doing that over the next 2 years. We've consistently paid a dividend. The dividend is yielding almost 2.25%. As we sit here today, we'd like to grow the dividend over time as earnings normalize, we sort of come out of the effects of COVID in the lower production environment. And then we're going to return excess cash to shareholders. And we started buying back stock again this year. We look to continue doing that, especially as free cash flow continues to expand. It's really nothing on the horizon in terms of the acquisitions of any significance, more smaller process-related acquisitions that Frank alluded to, Thagora and InTouch. These are $10 million, $15 million deals, more like capital spending than an acquisition, I would say. Really, isn't anything else we need in the portfolio. We've got to finish and close the IGB acquisition, and we're going to finance that. But nothing else that we see driving the acquisition side of it. So I see us returning a lot of cash to shareholders over the next 5 years.

That's very helpful. I'm going to ask a couple more and then give the opportunity to investors in the audience to ask some questions. So please start thinking of some potential questions for the Lear team. Connection systems, Jason has been a focus for Lear, including more in-house sourcing. Where does Lear stand with that effort? And how are you tracking to this $700 million 2025 organic revenue target from your last E-Systems Day?

Yes. So we're right on target, with the Intercell Connect Board being the biggest driver of that. As it was originally awarded, we had -- it was $100 million of average annual sales, $150 million at its peak, and that's in 2027, a little further out. There's been derivatives of that, that have already been awarded, so additional volume. So we now see that peak at more like $170 million. We're also in the process of quoting additional volume on that platform, and we've won business as Carl alluded to with the Intercell Connect board with another OEM, a European OEM. So that will be a key driver of it. Then on the vertical integration side, we're sourcing more of our own connectors on future harness programs. We've established a target to significantly increase the amount of vertical integration on next-generation wire harness programs. And so that will be another catalyst to achieving that $700 million target. And if we are going to do anything on the M&A side, there may be some small tuck-in acquisitions there. We've talked about inorganic growth target of $200 million to $300 million over the next 3 or 4 years as well.

Okay. Do you have any early thoughts on 2023 margins by segment?

Yes. So it's obviously a little bit early, and there's a lot of moving parts. But if I think about sort of the building blocks of next year, we talked about in the third quarter earnings call sort of you can use the second half operating margins in the two segments as a launching pad to think about '23. There is a little bit of a period of timing benefit in Seating that helped margins a bit. So I think we talked about 6.4% sort of being the normalized second half run rate in Seating, and 4.7% in E-Systems, 4.5% for the company. I think that's the right way to start the model for next year. The backlog will be accretive to margins year-over-year. Commodities will be a bit of a tailwind. Wage inflation is potential issue as we think about what's happening with Mexico and the 20% minimum wage increase. So we're still working through our game plan and how we offset that through operating efficiencies and -- but our basic formula is when we think about what we call net performance, we look at our customer price reductions, we look at economics, so that's wage and overhead inflation. And our objective is to offset that through commercial performance, purchasing savings and our plant efficiencies. And so as we think about next year and beyond, we would look to fully offset that. I think both segments from that launching point of operating margins that I described a moment ago, we see at least a modest improvement in operating margins in '23 relative to '22. And that's with a production environment that's flattish or up 1%. So I think the things that we can control are continuing to drive operating margins higher in both segments.

Okay. Anything in terms of corporate overhead that's important for us to understand next year that would...

Not much of a change there. No.

Well, let me stop there and see -- yes, we have one there in the audience.

[indiscernible] We talked a lot about growth or you taking about growth and I think it's very convincing and very well positioned. You have -- what isn't a real opportunity to bring the margins back to where they used to be for the business. You suffered quite a bit from inefficiencies and inflationary pressures. So a lot of focus entirely on next year, but if we look out to '24, '25, '26, how do you think about getting back to where you used to be? And I'll ask a little bit more direct. In a constant inflationary environment how do you prevent that [indiscernible] that inflation?

Yes. I think we have a demonstrated history of offsetting inflation through our planned efficiencies. And if you think about what's happened over the last 3 years, this industry was running at, what, 93.5 million units in 2017, '18. We've rolled out a couple of billion dollars of backlog over that time. So we've put capacity in for 100 million unit market. And so what we've been studying is ways to take some capacity out, but still be prepared for that volume recovery. We're working in Morocco, for example, looking at both Seating and E-Systems, closing some facilities, combining operations. We combined a seating and a wire facility in South America to take out some overhead. So those types of things will allow us to offset wage inflation, certainly, as we look out multiple years and leads to some margin expansion as well. We're closer to getting back to historical margins in Seating than we are on E-Systems. We have more work to do in E-Systems. And Seating for 6.5-percent-ish in the second half of the year, our target is 7.5% to 8.5%. I think that's still the right term -- the right long-term range for us to target. If we can look out 4 or 5 years, we do see a path to getting beyond 8.5%, really driven by the thermal comfort investments we've made. Structurally, the margins in that product are higher than Seating overall. And converting the advantage we have with thermal comfort into additional JIT business, I think will lead to higher margins ultimately in Seating. Over time, commodities are -- they've already shown some signs of moderating, that will continue. That will be a tailwind on margins as well. In E-Systems, we need volume. And so we have a number of our key platforms that are still well below where they were pre-pandemic. And that's a business with 25% to 30% variable margins. It's a little more capital intensive than the seat business. And so that's -- ultimately, that is a catalyst to get back to that sort of 8%, 9%, 10% range in that business. That, coupled with our growth in connection systems, we've talked about every $50 million of growth in Connection Systems is 10 to 20 basis points accretive to E-Systems margins. So we grow that business from what was $400 million a couple of years ago to $700 million in 2025, that's a big driver of the operating margin improvement there. And also some of these new products that we're launching, battery disconnect unit. That brings with it a pretty good margin profile because of our vertical integration in that component specifically. That collaboration with GM that Carl alluded to is so important so we can make the right long-term investments in that space. And I think what's unique about both the Intercell Connect Board and the battery disconnect unit is we're a little less exposed to model mix with the customers because it can be used across -- in the case of the BDU, all battery electric trucks. So if Silverado EV does better than the hummer and others, there's no impact to us as long as the total volume on the platform holds. On the Intercell Connect Board, that can be used on the BEV3 Prime, the battery electric truck. It's the same part that's used across all of the Ultium batteries. So we have a little lower risk profile associated with that business as well. We've also begun in sort of harvesting and winding down parts of the electronics portfolio. We spent a lot of time over the last 3 years studying that portfolio, studying the market. And so there are products like audio and lighting that are in wind down mode. We're harvesting that. There's other products that Carl alluded to that there's a risk that customers were going to in-source it. We're deemphasizing that, winding that down, focusing our engineering investment on the battery disconnect unit being the biggest opportunity within electronics. So I think that will also help operating margins in E-Systems over time as well.

A quick follow up. That's very helpful. I'm surprised you're not seeing more benefit from raw materials as deals come down quite a long way. Have you contracted a lot? Or is there some conservatism because things are very volatile?

Yes. So I think over time, the number has continued to improve. And so there could be a bigger opportunity than what we're signaling at this point in time. The crew spot price for hot roll continues to come down, it seems like just about every week. The way we're entering our contracts is similar to what we did this year. It's a quarterly contract based on the prior quarter's average price. And so we won't see the full benefit in the first quarter of the current spot price, but we'll see the average from the fourth quarter will sort of set the first quarter of next year. That's how we set our North America contracts. In Europe, we negotiate half year contracts. And so we're still in that process now. And so it's difficult to say exactly where they'll come out, but they're going to be better than what we're experiencing this year. Part of the commodity impact that we've dealt with this year and last year, it's not just on the raw materials, but it's also on supplier component costs. They're dealing with the same wage and commodity inflation. And so we've had to negotiate some increases with suppliers. We're working with our customers to try and pass that through, but there's a little bit of -- everyone's going to take a piece of this, our suppliers, ourselves and our customers. So not all of that's going to work its way through in the next couple of years. It will take really the new programs rolling on with the right economics factored in for that to be fully dealt with. And I think that's why you see the backlog rolling out at margins that are higher than the segment. They're reflecting the current commodity environment and full recovery of that at that point.

One in the back here.

Jason, just relating to the comment you made on commodities to incremental margins. This year, obviously, they're being held back by exactly by the headwind that you're facing. Should we then think with what you're saying, there's a -- you're confident that next year, we should see a catch-up in incremental margins. So above the usual, I guess, 20%, 22% that were used full year on a group level?

Yes. So it depends on whether it's in Seating or E-Systems, but 15% to 20% in Seating, and 25% to 30% in E-Systems is the right way to model production volume changes on existing platforms. If it's the backlog rolling on, they're both going to be in that 8% to 10% range. So it depends on how much of that revenue is coming from production increases on existing platforms versus the backlog. I think next year, the bulk of the revenue increase is going to come through the backlog. So the incremental margins will be lower than if it were volume increases on existing platforms. But stripping all that aside or holding that aside, the commodities themselves, we talked about $25 million to $50 million tailwind. So that would improve margins year-over-year.

Okay. Just going to follow-up on the margin question. Vertical integration, that's a 5-year kind of opportunity in terms of improving the margins. Nothing in the next 3 or 4 years on the vertical integration being increased? If I heard you prior [indiscernible].

You're talking about in E-Systems?

Yes, because you said 8% could be 8.5%, maybe above 8.5% on Seating. That's the vertical integration piece. In E-Systems, I didn't hear any change. E-Systems is always [indiscernible] somewhere on the horizon.

Yes. Yes. I think vertical integration out 4, 5 years, what could drive seating margins above 8.5% in the thermal comfort strategy fully playing out. In E-Systems, one of the catalysts to get back to 8%, 9%, 10% is the benefit of vertical integration and the growth in connection systems.

And then the second one is with 100 million units, that's where we all thought pre-COVID on the horizon. We just hope to get back to 85 million at some point. When do you think we get to 85 million? Are you thinking that's like a 2, 3 horizon?

Yes. I certainly can see '24 being 85 million units or even beyond that. I think there's just tremendous pent-up demand. If you look at -- I mean, certain of our power lines like the Range Rover, Range Rover Sport where a bunch content in both Seating and E-Systems, there's a 1-year wait for a new range over, or even 18 months. So I think that there's still -- even if the economy weakens a little bit, there's still a lot of pent-up demand for automotive. There's been so many units taken out.

Clarification. Every supplier I talk to global is projecting a lower ATP from the OEMs. There's all this lower price segments that have been ignored in the last few years for good reasons. What do you see on your 6-, 12-month kind of conversation with the OEMs? Are they starting to think about bringing back some of the volume in low trim levels, and maybe some of the segments that are being ignored right now for a good reason. But I guess I'm just thinking about price [indiscernible] you get back to 85 million, 90 million with a much lower ATP than today globally?

Yes. I mean I don't want to get over the edge of my seat there too much, but I do see that happening longer term. I don't see any evidence of it in the releases. They're still allocating to their most profitable platforms. That's what we're seeing today.

All right. Well, thank you all for the great questions. Thank you to the whole Lear team for joining us and taking my questions as well, and we'll conclude the session.

Yes. Thank you, Mark.

Thank you.

Thanks a lot.