Westinghouse Air Brake Technologies Corporation (WAB) Earnings Call Transcript & Summary

Good morning, everyone. I'm Courtney Yakavonis, Morgan Stanley's U.S. Machinery Analyst. Before we begin, I'd like to note that this webcast is for Morgan Stanley clients and appropriate for Morgan Stanley employees only. The webcast is not for members of the press. If you are a member of the press, please disconnect and reach out separately. For important disclosures, please see the Morgan Stanley research disclosure website, www.morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative. So we are kicking things off this morning with Wabtec. Wabtec is a leading provider of locomotives, rail equipment, systems and services for the global freight, rail and passenger transit markets. The company completed a transformational merger with GE Transportation in 2019, and I'm pleased to have with us this morning, Rafael Santana, Wabtec's President and CEO; and Pat Dugan, Wabtec's CFO. So Rafael and Pat, thank you so much for joining us this morning.

So I'll kick it off with some questions, but please, I encourage you to submit questions via the portal. So maybe if we could just kick it off, Rafael, you've now been at the helm of the combined Wabtec GE Transportation for about 18 months. Can you just share with us some of your key thoughts about Wabtec's performance over this most recent downturn? And anything that stood out to you relative to how you would have expected the company to perform?

Sure, Courtney. First of all, thanks for having us here, and good morning, everyone. I think the way I look at it, to some extent, there's a lot of validation and testing on a lot of the things that we were talking about even before the transaction took place. And to that extent, I'll probably look one end on customers. I think overall, you'll hear from customers. I think we have improved outcome for customers through the last 18 months in what is a lot more challenging environment. If you look back at when we announced this combination, we announced it in the back of, well, the largest strike ever that the company has faced for a couple weeks. We had Chinese tariffs on the top of that. We were going through management changes, integration challenges, volumes in terms of carloads were down. So we're facing an increased number of locomotives. And by the time you put PSR on the top of that, we were really facing the largest amount of Locomotive's Albert product. And then we have COVID. So I list those out because I think, ultimately, when I look at our teams, they were able to stay focused on the things that we control. We've been really focused on executing on our synergy plans, aligning our costs with the volume realities that we're facing. I think, driving sustained improvement and turnaround in the transit margins. So really positive for us to see the progress. And well, it's always early days, and we'll continue to make progress there. So I like where we're going.

That's great to hear. Just thinking about the post-COVID environment, how are you thinking about some of these longer-term impacts that COVID-19 or medium-term has had on some of your end markets, especially on transit? Transit has historically been a very stable side of Wabtec's business. But recently, there's a lot of questions about the long-term outlook for transit budgets, given some of these impacts to ridership and to transit authority budget. So how are you thinking about how it's going to impact your aftermarket versus your OE in the medium- to long-term?

Courtney, I'll probably start with like the long-term elements of that. And when I think about the long-term market drivers for Transit, they're still in place, right? It's encouraging to see that trains remain in operation. Ridership is heading back up. It really varies from what geography you're looking at. But when you look at Asia, a lot of places is back up already to pre-COVID levels. Even in Europe, you're starting to see some really significant signs of ridership up if you look into Germany or Spain, for instance. And I think you're going to continue to see that back up. It might not be a perfect linear because you might have some ups and downs. I think stimulus is out there to support operating budgets for transit authorities. I think it's going to take a little bit of time until we see some of that impact. But we are confident in our backlog. When I talked to you about earlier, this being a big test, and it's attached to the quality of our contracts, it's attached to how we're executing. And we haven't seen any cancellations. So we continue to be positive here about the turnaround. We've started joining the business. We're improving profitability. And I think that's going to be a key element of how we can drive share growth in that market. So we're excited to see some of the indicators in terms of improving margin in the backlog, cleaning up some of tougher projects that we've had. So moving in the right direction here, too.

Got you. I think on the last earnings call, you mentioned we might see longer trains as a result of that. Has any of that come to fruition at this point? Or is that looking like it's not as likely at this point?

You mentioned longer trains?

Yes, on the transit.

Well, I think there's certainly -- especially if you look at the freight side, I think there's a lot of change taking place. So people are looking at longer trains. People are looking at trains that are less that get into a single product. And I think we have some key products that play right into that. But more than longer trains, so I think there's a whole set of things that our railroads are looking, especially on the freight side when it comes to, well, all the principles around PSR, so on the around longer trains, more fuel-efficient. How do you just improve how you're managing and that's leading to automation, an increased utilization of products like Trip Optimizer. I think, a significant interest on the next generation of products like Zero-to-Zero that will enable, again, farther productivity to do it. So we are in deep discussions with customers along these lines. And I think that our big important element we've seen here is our fleets are operating well, and I think we're being rewarded because of that. So you see the share of what I'll call the core fleet running, is it grown, and it's with our products, which ultimately provides us an opportunity here to capture the aftermarket with our superior products, better reliability and efficiency, and that drives into just the modernizations and sell the customers here with a better value proposition than any other one.

Great. That dovetails a little bit into my next question about precision scheduled railroading. For those who are not familiar in the audience, can you just describe what is going on with precision scheduled railroading? And how your business has changed as a result of it? And then if you can just dig into some of the impacts that you've been seeing on both the OE side as well as the aftermarket and the digital side that you alluded to?

Courtney, I'll probably say if you're going to try to have a better utilization of your assets, which might translate ultimately into parking of the existing fleets, I think the number one thing you've got to ensure is that your fleet is performing well. And I think I'm happy to say that, I mean we tend to have some of the stronger performing fleets out there. And when you have that and when you're working with a customer on the day today and making sure that you're anticipating issues, if you're going to run last trains, you've got to make sure, I mean, you're not breaking it down. You have a reliable operation because you're going to be running harder. And as I think we've been really done a good job here partnering with, we have the opportunity to then increase our share and ultimately capture the aftermarket with our superior products. I think a big part of modernizations have helped also customers look at different total cost of ownership solutions in terms of how do they go about modernizing their fleets to assess that you're never going to buy a new locomotive or that it can live off with old assets, that's not true. I mean, ultimately, you've got to end up with assets that age over time, and it's going to come down to either modernizing those assets, so you end up having the reliability you need in order to run the procedure railroading and in some cases, the DCO might speak to new locomotives. I think the other piece, it's associated with automation. I think there is a big role for us to play in terms of connecting some of these stores, connecting PTC with Trip Optimizer, delivering of the next generation, which is Zero-to-Zero, so really allowing trains to start automatically and stop automatically are really allowing customers here to drive fuel savings, better asset performance, increased safety, longer trains. And I think just back to the early part of your question, just a much better alignment of a lot of our portfolio and things that matter to our customers. And we were working already in a lot of those. So it's about really increasing that penetration, not just in North America, but taking that internationally where we have significant opportunities here to increase our share of volume.

That's actually a good segue into a question from the audience. Can you talk a little bit about North America versus international locomotive opportunities? Which regions do you think will be stronger or weaker in the second half and into 2021? And maybe if you can size up some of those international -- or some of your largest international growth markets at this point for us, that would be helpful.

Sure. When we look at international, I got to mention probably for some markets that we're deploying underpenetrated. I'll probably mention places like Russia and CIS where we continue to have an opportunity to grow in whatever kinds of environment. And some of the metrics just in Asia are battery. I look at carloads and volumes. They're up in some getting more geographies for us and Kazakhstan being one of them. Volumes are actually up year-over-year. When I look at volumes in China as well. I think the agribusiness, when you go to places like South America, in Brazil, record harvest, so demand there. There's certainly an expansion of the rail network, which will demand more locomotives. In Australia, we're also seeing opportunities there. But with that being said, with the COVID disruption, we certainly see, I'll call some of the September decisions are pushing to the right, but those are, I think, continued to be some very promising markets, and they remain what I call strong. In North America, we're certainly seeing and going through what I call really the bottoming of demand. And I think, especially the elements of new locomotives as we look here to the second half of this year, and that's certainly reflected in our orders. But the international opportunities remain solid. I think we're still underpenetrated in a lot of these markets, and we have really pipeline of solutions that expand way beyond just locomotives per se. I think we have a significant installed base. A lot of the things that you've seen us doing in the North American market in terms of modernizations yet are things that will be good solutions for our international customers. And a lot of the Digital Electronics we're -- in some ways, I'd say just starting in some of these international markets were fairly underpenetrated, and we are working closely with customers on developing some specific solutions for them.

Great. Maybe just moving on to your synergies. You've mentioned a couple of times that your synergies are tracking ahead of your original guidance and you've mentioned that you'll probably achieve the synergies before the original 2022 guidelines. So can you just give us an update on those synergies and maybe the contribution of those synergies to your 20% to 25% decremental framework within freight?

Sure. I think -- Courtney, I'll start just saying, I think we have made solid progress on our synergy plans. We're very much confident that we will actually exceed the 250 synergy goal before 2022. I think to the end of second quarter, I mean we've talk about the realization of about $70 million of debt on the top of the $30 million that we realized in the year before. So we're very much on track to the goal here of $150 million of synergies this year. I think, as we mentioned on our last earnings call, we did have to offset some headwinds due to lower volumes in that context. I think the one thing we feel strong about it, we have a strong pipeline of synergies and fast actions that we can continue to take and really, in many ways, controlling what we can to make sure that we deliver on what we said we were doing.

Great. And just going back to the audience. Is it useful to use railcar volumes as an indicator of future Wabtec business strength? And if not, what indicators do you consider to be -- or to give the best insight into whether your business is improving or not?