Magna International Inc. (MG) Earnings Call Transcript & Summary

Good morning, good afternoon. I'm Ryan Brinkman, the U.S. Automotive Equity Research analyst at JPMorgan. Thanks for joining us at 2022 Tech auto Forum. I'm in Las Vegas. I think these guys are around the world. Very happy to get going with our next presentation, which is from Magna International, fireside chat with Pat McCann, Executive Vice President and Chief Financial Officer; Boris Shulkin, Executive Vice President of Technology and Investments; and Louis Tonelli, Vice President of Investor Relations. So Pat, Boris, Louis, thanks so much for making the time. We really appreciate it.

Thank you.

Happy, happy to be there.

Okay. Great. Maybe my first question is, I don't know if we should be expecting any press releases to be crossing or any sort of new products or technologies that you might be showcasing at the conference even virtually this year, what have you got going on?

Thanks, Ryan. We're actually just issuing today a release on what we call our EtelligentForce powertrain system. This technology is targeted for use in pickup trucks, where we're already a leader on taking power to the wheels with our 4-wheel drive technologies. It also applies to light commercial vehicle. So the system includes our eBeam technology, which we've talked about before, which is a drop-in replacement for the existing beam axle, which minimizes the changes in train packaging, vehicle architecture, the OEM assembly processes. It's designed to maintain full vehicle capabilities and not compromise payload or towing capabilities. So we've had lots of discussions with customers, a lot more coming up to the next little while across multiple OEMs and multiple reasons. So we're really excited about this technology.

Great. We're looking forward to learning more. I have to start, too, with a semiconductor shortage question, right? We are sort of at a semiconductor and automotive technology conference. We got a lot of the chip names here today. So I just wanted to ask on that. Where do you think we are with regard to the shortage? Is it maybe getting any better? IHS is currently projecting that fourth quarter production rose 18% sequentially, which is a bit better than the historical seasonal pattern of 3Q to 4Q production. And better versus what IHS was thinking at the start of the quarter and I think the time of your 3Q earnings call as well. So if confirmed in their mid-January release, it would be the first time all year that quarterly production exceeded either the expected seasonal pattern or IHS' expectations. But I know it's been a tough and frustrating and disappointing year with regard to chip availability and the impact on customer production. But do you think that conditions may finally be improving? Where do you think we're headed next with regard to the shortage? And do you have any estimate for when chip supply may normalize?

Yes, I can take that one, Ryan. When I think about the chips, what we are starting to see is that the industry is starting to stabilize somewhat. It's still not at the required levels. We're still struggling. But that being said, we're not really seeing a lot of that last minute stop-start that we experienced, in particular, in Q3, where the call-offs just weren't happening. So like I said, it's starting to stabilize, and we're going to get through it. That being said, the supply is tight. So if there is 1 little hiccup, we think there could be some stress in the system. And personally, I think the stress in the system really should start stabilizing out in the second half of 2022.

Okay. That's helpful to hear. We hope that, that happens. And I wanted to ask around -- some questions around like your leverage to some of the stronger industry structural growth themes, maybe the most powerful of which is electrification. So perhaps a good place to start is with the announcement, about a year ago now, of your formation of a joint venture with LG Electronics to vertically integrate via this JV the manufacturer of electric motors, inverters and onboard chargers to present automakers, integrated eDrive systems, or what I think some of your competitors might call integrated drive modules or electronic -- electric drive units. There was a big positive market reaction to that announcement. Just curious what's taken place over the last year on the ground? What's your experience been with your partner, with the JV? What's the response been from customers? And do you feel that your position in the market has improved in line with your expectations at the time of the announcement of the JV? How big of a market do you think there could be for eDrive systems? And how much of that market do you think that Magna might claim?

Yes. We break -- a lot of questions there, Ryan. But if we break it down a little bit, when we think about the JV itself, so we announced it, like I said, roughly a year ago, effectively, we only closed that transaction in July. So it's really early days of the JV. I think it's performing the way we expected. We're in the middle of going through our business planning process. So we have our deal team and their deal teams working together and kind of getting to know one another, working together, magnetizing them, I would say. So with that being said, I would say they're progressing as expected, and we're happy with the JV. On the customer side, as you had mentioned, from the outset, the customers were happy with the positive feedback, I would say, from the customers related to the JV and our acquisition of the LG for the proportionate share. When our customers think of Magna, they know we have a really strong part-to-the-wheels knowledge, I would say. And getting the components business, whether it's the onboard chargers or e-motors inverters helps us vertically integrate. I think that was viewed positively from the customers as well.

Maybe I'll just touch on the addressable market. The size of the market for you guys depend on how quickly EVs develop, obviously. We've highlighted previously that our addressable market should increase. Today, we're only participating in a subset of the transmission market, that's the DCTs and manuals, but the entire market for primary drive is available to us in an EV world, in addition to, obviously, secondary eDrives, which would drive a 4-wheel drive system, and we're a leader in 4-wheel drive and all-wheel drive. How much of the market for complete eDrive systems, we eventually have outsourced in the longer term is really unknown since we're in the early days of electrification, but we already have a number of awards for eDrive systems. On top of that, for OEMs that are producing the eDrive systems in-house, many are still sourcing critical components. And that's why our joint venture with LG allow us to participate in that fast-growing market for those components. And just another thing I would just point out is that, I'm sure we'll be covering off this later, but 85% of our business is non-powertrain. So we have great opportunities with EVs across the board in the rest of our business.

Right. Actually, that's where I wanted to go next. I mean it's obvious to the investors how you benefit via the JV and via electric propulsion with the inverters, the motors, et cetera. But to your point, Louis, there are a number of other ways that the company benefits from electrification. Maybe you can tick through those, just so people can appreciate how the other 85%, maybe the lightweighting, battery trays, frames, hybrid transmissions, whatever else you think might be worth coming up?

Yes. I think one of the most important messages that we've been trying to convey is that most of the [ powertrains ] that we're in are aligned with the car of the future. We look at our body series and structures that whole segment, we have very strong market positions in this segment. And we expect to continue to grow here. Now they're not rapidly growing areas and we have substantial businesses, they are large businesses. So the growth rate isn't going to be as much, but there's still some areas where we see a lot of opportunity for growth. A good example would be battery enclosures. This is an incremental product, a high content product that's essentially replacing a fuel tank. We have engineered a family of battery enclosures that are designed to be an integral part of vehicle structure and it protects the high-voltage batteries from damage in crash events. So large, highly engineered product, and we believe we have strong technical position here, which will provide significant opportunities. There's going to be a battery enclosure on every high-voltage vehicle, whether it be a plug-in or an electric vehicle. And we have important program awards with GM and Ford already for battery enclosures, and we have significant other opportunities with other OEMs. So I think that's certainly one area. Just talked about like -- just generally in lightweighting, we continue to see liftgates, hot stamping, casting, those are all lightweight technologies that will grow faster than the overall market through our outlook period. Mezzo Panel is a technology. Think about a front integration panel on an electric vehicle. We already do front fascias, and we do grilles and things like that. When you think about a panel that's integrating sensors and lighting, et cetera, that's another big opportunity for our business. And then you mentioned hybrids. We've said we have the building blocks to support our customers' electrification strategies, and this includes hybrids in the near to midterm. We announced the BMW transmission contract a couple of years ago. We're now beginning to launch DCTs and hybrid DCTs platform. We're launching in the near term, an additional hybrid DCT program for another European-based global OEM. With our Q3 earnings, we talked about a transmission award with Daimler, which includes DCTs and hybrid DCTs, and that's our third high-volume hybrid DCT program. So -- and these are programs that have a long run to them in terms of the number of years. So there's certainly all areas where we see traction and growth opportunities for us.

Very helpful. And I'm going to continue to tick down a list of questions. I think it will be of broad interest to all the investors. But to the extent that any investor has their specific question that they like to be answered, as a reminder, they can submit that through the conference website, be happy to ask that for them. In the meantime, I'd like to maybe switch gears a bit from electrification to another big industry growth theme, which is active safety and autonomous driving. I'd like to ask a few questions to better understand your leverage here, maybe starting with some of the sensors like radar. Can you maybe discuss your radar business, including the materiality of it, whatever disclosures you do provide, and also the degree to which your radar offerings might be differentiated from what else is available on the market? For example, I think you're a leader in digital radar, right? Maybe you could just explain what that is, how it differs, explain your leadership position? How is it different from other radar technologies? And do you think that digital radar can help you gain market share overall in radar?

Yes, I can take that, Ryan. Thanks for the question. So as you and probably most of the people on the call are aware, we've been working for quite a few years right now, developing industry first and the only so far digital radar offering, as you mentioned. We've been working with a start-up company called Uhnder, that's been doing the silicon development, and Magna is doing the system development for that digital radar offering. You may have seen there was a recent article just a couple of days ago in Automotive News from Uhnder, so I highly recommend everyone to take a look at that. So if you look at the digital radar, why is it special and what makes it different is digital modulation. In many ways, it's very similar to what happened in the cell phone industry back in the '90s when it switched from analog to digital. That is the same kind of a switch that the digital modulation offers in the automotive radar space. And, as you said, we are the leader, it's the only offering in automotive today. What does it give you? Well, interference mitigation that is guaranteed. The low latency, the full imaging capabilities, high resolution, high angular resolution to be able to detect the objects at a high distance at a high speed. High power efficiency because the switch from an analog into the digital in a digital world allows for the higher power efficiency of the unit itself. Those are just a few top and the list goes on and on. We have a number of significant OEM customers that are working very closely with us and they're interested in this technology. You probably are aware that we're going to be in the market with this product, starting with the Fisker Ocean vehicle that we'll have this -- among other Magna technologies and ADAS, we'll have the digital radar on that vehicle. So that's a short overview of that offering.

Great. And maybe just sticking with the sensors. I know you're also a leader in cameras and camera hardware. You have a long-standing relationship with Intel, Mobileye. Maybe you could talk a bit about that. And then also, we're not just talking about the forward-facing cameras, right? We've got the surround view and the backup cameras, et cetera. How big of a growth area is vision still?

That's a good question. Thank you for that. Yes, as you mentioned, we are one of the leaders in the camera systems overall. We've been working with Mobileye for the front camera offering. We've been working with them since the very first production program that Mobileye had in 2007. We were the first Tier 1 to deliver in North America. So -- and we continue -- I mean, we have very close relationship with Mobileye for the front camera offering. But as you said, for the sound systems and rear view systems, Magna has a significant offering in that space as well. All of the software for the surround systems and the rear view systems are Magna internally developed software. And building up on that strength and the leadership in the camera offering, we are developing and delivering complete L2+ all the way up to L2+ complete ADAS systems to several of our customers today. For the front camera, as you mentioned, we continue to use Mobileye as our partner, and we do a lot of other software development on our own for the rest of the systems.

Great. That's helpful. And maybe throw an M&A question in there because M&A is thought, in the case of Magna, to be focused in part around these sensors and active safety, autonomous driving, et cetera. It's clear, in some cases, such as radars, you're very vertically integrated. But then maybe with regard to some of these other sensors like cameras or LiDARs, maybe you've got more of a partnership-type approach and then you've got LG Electronics, you've got a formalized JV there. What is Magna's approach generally to like acquiring technology or expertise? How do you weigh between the various different alternatives like internal development, acquisition, joint venture partnership? And of course, we saw in 2021 with the experience with Veoneer that Magna is willing to make larger acquisitions, too, so if the opportunity is right, right? So was Veoneer kind of fairly unique opportunity? Or should we take your interest there as an indication of a continued desire to materially expand your exposure on the ADAS side?

I can jump in there, Louis, jump in as much as you like as well, and Boris. Ryan, when I think about Magna and our technology over the last, I've been here 22 years, we've had a really strong history of developing technologies internally and bringing them to market. Louis mentioned battery trays for an example. That's something we're developing internal. We have the skill sets. We have the expertise. We have the tribal knowledge, I would say. And then if you contrast it with what Boris is talking about with Uhnder or Innoviz on the chip side, there's a certain amount where you want speed to market and a knowledge set to give you a head start. So we're balancing a lot of those factors. I think more recently with the push into ADAS, I would say we've been trending towards doing more I would say, some of these partnerships, whether it's an acquisition with LG, for example, or partnering with other partners, whether it's universities or start-ups to come up with a head start and the technology we help bring it to market. So I think we're balancing all those pieces to come up with that number. We're going to continue to do that. When you talk about vision, obviously, Veoneer -- rather when you talk about Veoneer, and with doing that acquisition, it would have been a sizable acquisition, a $3.5 billion range. That's, in my opinion, consistent with our capital strategy, we've had for 10-plus years. And, to reiterate, our capital strategy is first to have a strong balance sheet, an investment grade, high investment grade balance sheet. And then the first thing we want to do with that once we have that house in order is how do we grow our business, whether it's organically or inorganically? And it could be Louis' example on a battery tray or could be Boris' example on the technology side, but how do we grow our business and create value for shareholders that way. Second is we do want to continue with our dividend. We want to continue growing our dividend and returning value to shareholders over the long term. And then finally, when we do have the excess cash, it's unchanged, we are -- we have a track record of doing NCIBs, buying back shares for cancellation, returning value to shareholders. And then as we saw last year, when we looked at Veoneer, the market was tough in 2020 because of COVID. We can turn off the NCIB. And in the case of Veoneer, we turned it off in the anticipation of closing. Obviously, didn't work out the way it did, but once we -- it didn't, we went back into buying shares in the fourth quarter. So I think our capital strategy is unchanged, and we're going to continue to evaluate M&A in normal course.

Great. And when you consider the different leverages to the faster-growing areas that we've talked about so far today, including electrification and ADAS, et cetera. When you combine it with some of your a bit more cyclical product areas, is there a normalized growth over market that you think that the blended corporation can average over time? Is there a target that you have in terms of how you'd like to grow relative to the change in overall industry production? On your last earnings call, you highlighted the potential for growth over market to accelerate in coming years. What are the biggest drivers of that expected improvement, do you think?

Yes. I think when I -- again, looking backwards, we've had a really strong track record of growing above market in particular over the last 20 years, when you look back. I think that's going to continue. It's -- we don't really come out with a target, Ryan, to say we've got to grow at a certain amount above. If you fundamentally think about what we talked about earlier with growing the business, we're always trying to grow at an appropriate -- we have to return value to shareholders. So we're not growing sales to grow sales. We're growing the business to return value to shareholders. So that's our #1 priority. So we don't come up with a sales target that we have to reach. So what we have fundamentally is we have 7 groups that are out there quoting businesses in various regions, and some are going to be up and some are going to be down. But on a blended basis, my expectation is we're going to continue to grow above market out into the future. And we're -- like I said, we're in the middle of the business plan now, and in our call in February, we'll get a little bit more detail of where we're trending by Magna overall, but also our various segments.

And it could change by year. It can change a little bit by segment. Even some of it can kind of be impacted by consolidated versus unconsolidated sales because we do have a lot of growth in some of our joint ventures like LG, the BJEV joint ventures, the HASCO joint venture. So they're contributing to the growth even if you don't necessarily see it in the consolidated results.

Yes, absolutely. And of course, 1 division that always has a disproportionate impact on growth because of how it's accounted for is the complete vehicle assembly business. Maybe you could just take some time to talk about the outlook for that business, including in light of battery electric vehicles, is that just an additional growth avenue? I mean obviously, with BJEV, but I see the I-PACE, the Fisker Ocean, could there be more coming down the pike? What's the overall capacity that you could handle? And are you having to turn clients away? And just what's the outlook for that business? It always excites investors, including because, of course, every now and then your stock jumps on speculation, you may build an Apple car. So -- but there's a lot of other opportunities as well, right?

Yes. There's obviously opportunities, Ryan. And you're correct. So in our European facility, we build currently the Jaguar I-PACE, which is the EV. But what's really interesting when you think about our Graz business models, the flexibility. And if you have to walk down the Graz facility, you have the I-PACE and the ICE version of the I-PACE. It's a different platform, but it's going down the same line on the assembly. So the flexibility we provide customers, whether it's traditional or new entrants, is pretty exciting. As you mentioned as well, later this year, we're going to launch the Fisker Ocean. And in China, we're also producing BEVs for the local market there. As far as opportunities, obviously, we can't get into specifics, but we're always managing our capacity and looking for the right opportunities where we get the appropriate returns and managing that risk similar to before, I think, we'll get into a little bit more detail in Q4 earnings calls and our outlook for 2022. I'm not sure if you have anything else to add, Louis or Boris?

Maybe I'll jump in here for a minute. Look, there's plenty of the new entrants coming into this market. And if you think of Magna overall, and what we offer to them -- and by the way, that's equally applicable to established OEMs or other established companies that want to get into certain markets quicker, it's kind of a one-stop shop, right? So if you think about platform capability, if you think of our engineering capability for up to complete vehicle and our manufacturing capability that Patrick is talking about, time to market and ability to come and just focus on the marketing side of the business and focus on, let's say, external sides of the business for these new entrants and be able to offload the entire platform manufacturing and engineering, we have a unique position in this way, right? So if you look at our history, we've made close to 4 million vehicles over history -- and these vehicles are very, very high quality type of vehicles, as you know our history. So this is something that's very unique in the industry that we have. And this allows us to take a damage of what's coming into the market. Like you said, it's -- Ryan, it's a lot of excitement builds up with both new entrances and established people coming into this field. And they -- equally, whether they are looking to build an EV platform or they're looking to build an ICE platform, this is a unique opportunity for them to get to market faster.

Yes. And I would just -- to reiterate, I mean, we've been in business for a long time. We built high-quality vehicles. We're building 5 Series and G-Wagons and Jaguars and in the past we've built for Daimler -- other vehicles for Daimler and Aston Martin, et cetera. So we're building high-quality vehicles, we have for many, many years, and we've had to manage the flexibility as a supplier. That's our job really is to manage being flexible and being competitive versus what the OEMs are doing in-house. So we have a lot of experience in this area. And as Boris said, it really allows speed to the market and we have an EV platform and an EE platform that we can leverage as well to help the speed to market. So I think we're in a really well -- really good position to help new entrants as well as our traditional customers.

A follow-up question occurred to me as you guys were talking, because when it comes to G-Wag, I mean Mercedes clearly could make that vehicle if they wanted to, but they just outsource it to you for flexibility or cost reasons. But then when it comes to some of these other start-ups, maybe Boris was talking about like Jaguar, they know how to make an I-PACE. But when it comes to the Fisker Ocean, like -- are there other -- are there synergies with other parts of Magna's business because you do complete vehicle assembly, like they may want you to validate other suppliers. They may want you to help with engineering. They may want access to your part spin, right? How is the relationship different with more handholding or more incremental opportunity possibly with some of these start-ups as opposed to an already established automaker?

You want that one Boris?

I'll just -- with our EV architecture with our -- all the systems that we can bring to a vehicle, certainly for a new entrant to have the experience that we have in engineering and producing a vehicle and all the systems that we can bring to the vehicle, it's -- there's definitely an advantage. I would say the fact that we have all those pieces and we -- our history has been able to integrate those various systems.

Yes, absolutely. And then I promise no financial questions, nothing about the quarter, right? Just product and technology, but I do have a CFO here. So I wanted to ask a big picture question. Common theme on the 3Q calls was discussion of noncommodity supply chain costs, suppliers complaining that while they're largely compensated on a lagged basis by automakers for commodity costs, there are no formal mechanisms at least in place to capture other noncommodity supply chain costs. And typically, suppliers can offset these via their own cost reductions, et cetera. But more recently, some have been proclaiming that just the degree of cost increase they're seeing in ocean shipping, freight, diesel, electricity, natural gas, et cetera, it may need to be more borne by automakers or automaker customers, right? Which were totaling -- I mean, average transaction prices were up 22% in December. How do you see this dynamic folding? How do you see costs being split between suppliers, automakers, consumers? And how is Magna positioned to protect itself going forward within that dynamic?

Yes. Well, that's a tough question. When I think about -- obviously, everybody knows your lead up is perfect, that the cost increase is coming into the system, whether it's chips or labor or just pure inflation coming to the systems, higher than we probably experienced the last 15 years in any event. I don't think there's an easy answer as far as how it all gets settled, Ryan. We're going to sit down with our customers and each individual customers, they all have a different approach. But we have obligations to the customers as far as cost downs, and we're going to sit down and we're going to have to commercially sit and work through this that there's a fair and equitable allocation to the cost. That being said, you fast forward, it's not a static industry. So we're quoting a whole bunch of new work that's going to, hopefully, capture a lot of these increased costs going forward. So we -- it's a short-term issue, potentially. Longer term, I think, it's going to have to be a reflection if there's inflation in the economy, how much of that's going to get pushed back out to the end consumer at some point?

And there's always a discussion about noncontractual elements of givebacks and discussions about programs that are coming up that program things. So there's always a big dialogue that goes around commercial discussions that we'll have to see how all that unfolds. But it's more than just a narrow dialogue. There's lots that gets discussed between ourselves and our customers.

Very helpful. Thank you. It looks like we are out of time here, 30 minutes went quickly. So thank you, Pat, Boris and Louis for all the great color and insight that you shared here today. We appreciate it.

Thanks, Ryan.

Thank you, Ryan. Bye-bye.