BorgWarner Inc (BWA) — Q3 2017 Earnings Call Transcript

Thank you, Sharon. Good morning, everyone, and thank you all for joining us. We issued our earnings release at 6:30 AM Eastern Time. It's posted on our website, borgwarner.com, on the homepage and on our Investor Relations homepage. The replay of today's call will be available through November 10. The dial-in number for that call is 855-859-2056, and the conference ID is 49072509, or you can listen to the replay on our website. With regard to our Investor Relations calendar, we'll be attending several conferences between now and our next earnings release. As always, please see the Events section of our Investor Relations homepage for a full list. Before we begin, I need to inform you that during this call we may make forward-looking statements, which involve risks and uncertainties detailed in our 10K. Our actual results may differ significantly from the matters discussed today. Also, during today's presentation, we will highlight certain non-GAAP measures in order to provide a clear picture of how our core business performed, and for comparison purposes with prior periods. When we say on a comparable basis, that means excluding the impact of foreign exchange, net mergers and acquisitions, and other non-comparable items; when we say on a reported basis, that means U.S. GAAP. Now, back to today's call; first, James Verrier, our President and CEO, will comment on the industry, as well as provide a high-level overview of our Q3 results. James will also discuss some of our recent product wins and our recently completed acquisition of Sevcon. Then Ron Hundzinski, our CFO, will discuss the details of our Q3 results as well as our updated 2017 guidance. Please note that we posted an earnings call presentation to the IR page of the website. You'll find the link below the notice for this call. With that, I'll turn it over to James.

Thank you, Pat, and good day to everybody, and we appreciate you joining us this morning for our call. Ron and I are very pleased to share our results from Q3 2017, and also update you on our progress towards delivering 2017 targets. I'd like to start by sharing a few thoughts on the macro environment and the industry. For those of you following along, that would be on slide number six. We do recognize there is still instability in many aspects from a macro perspective as we look around the world, but I would say, in general, production volumes were only modestly weaker than our expectations as we went into the quarter. Let me break that down a little bit for you. From a global light vehicle production was up about 2% in Q3; when you look at that prior adjusted geographic exposure, production was flat. European light vehicle production increased about 4.5%, which was slightly better than our expectations going into the quarter. China light vehicle production was also up about 1% and that was roughly in line with our expectations as we went into the quarter. North American light vehicle production declined by about 10%, which was a little more than our expectations as we went into the quarter. If I talk a little bit about the market outlook, let me talk about light vehicle 2017 calendar year first, and we are pretty closely aligned with IHS, which is calling for about a 1% growth in China, Europe up a little over 3%, North America production down about 3.5%. This implies global production growth of less than 1% when you adjust for geographic exposure. Market outlook relative to commercial vehicle, the outlook for Europe and China continues to improve and we also see orders in North America have improved since our last outlook update, and I would say we're cautiously optimistic that this strength will continue. If I was to characterize what we're keeping an eye on and watching as we play out the rest of the year, I would point to three things really. The first one is the material cycle here in North America and North American schedules have continued to weaken albeit modestly and so far production adjustments have been pretty much in line with our expectations, but clearly will continue to watch that closely. The diesel gas mix in Europe, obviously we continue to pay a lot of attention to that; I would say diesel share declined by approximately 530 basis points year-over-year in Q3, and we do continue to expect diesel gas mix to shift through the end of the decade. The good news for us at BorgWarner is we continue to offset that. China we will also pay close attention to and we're still expecting modest industry growth in 2017. More importantly for us at BorgWarner, growth over the market remains very strong due to the content for vehicle increases, so what they said we remain very confident in our strong outgrowth of the market in 2017 based on the continued strong demand for our products. Let me share a few highlights around technology and I think I start with the first key point, which is the strong drive to fuel economy emissions regulations and the pull for advanced propulsion technology continues. Activity in hybrids and EVs continues to accelerate, with no slowdown at all. If I break that down a little further, let me talk about what we see in hybrids. I would say the interesting 48-volt hybrid continues to gather speed and gain momentum and grow. The most activity we're seeing is predominantly in Europe, but we are seeing increasing interest and pick up in both North America and in China. From an electric vehicle perspective, we see the Chinese OEMs continuing to move at a rapid pace; I would say the work with the Europeans continues to increase and we've seen increased activity around Beijing, North America also. So continued efforts there, but let me share a key takeaway that I've seen over the last few months as I've engaged with more and more customers. I think the key is all of our major customers that are exploring a wide variety of options. We see there's no one solution, and for each of the customers it depends on their vehicle fleet mix, regional balance, and some of the specific propulsion strategies of the OEMs. What we clearly see though is they all have a balance of combustion hybrid and electric propulsion in those portfolios and we continue to work with them every day on two things: one, helping them to define the optimum mix of combustion hybrid and electric, and also discussions around the specific propulsion technologies that they require to get where they need to. Let me move to Slide 7 and as Pat alluded to, I wanted to share a few highlights of growth for us in the quarter and I'm going to talk about four key announcements here that you saw: the transfer case win for us on the new Range Rover Velar program; their SUV was a great win for us and a sign of our continued growth in the all-wheel-drive business for us. Our two-stage turbo for Honda's new three-cylinder one-liter engine gasoline directed was another significant win for us because this is a great story of growth for us with Japanese OEMs. Our cabin heating technology for a new electric vehicle is another significant win we did push for electric vehicle growth and this is with a globally known EV automaker. The fourth one there you see is our electric motor technology at Scania on the new city-wide hybrid bus for urban areas again points to another good win in commercial vehicle and electric vehicle technology. The key takeaway there is, when you look at the four, is a really great mix of business growth and this is another evidence for me in yet another quarter that confirms our strategy of a balanced approach continues to work and we see win rates across all propulsion systems for combustion hybrid and electric products. Now let me move to Slide 8 and thought give you a little bit of a financial recap and obviously Ron will take you through a lot more detail when he goes and speaks in a few minutes. So I'll start with the Q3 outlook and results for BorgWarner and let me start maybe with the obvious, I'm very pleased with our Q3. Our growth exceeded the high end of our guidance and our operating performance was in line with expectations. Sales of $2.4 billion is up 10.8% organically when we exclude foreign exchange and Remy. This compares to our light vehicle end market exposure, which was basically flat in the quarter. Regionally, it was pretty much as we had expected, strong growth in China particularly with DCT and North America with new business and mix. Our Europe light vehicle revenue was up mid-single-digit despite the gas diesel mix shift, and this light vehicle growth was supplemented by positive revenue trends in commercial vehicle both on and off road. EPS of $0.95 excluded non-comparable items is a really good result for us, and again Ron will share more of that with you. Our adjusted operating margin of 12.3% was solid performance. If I break that down a little further by segment, really the key for me was I was very excited to see strong growth across all of our products, so engine sales of $1.5 billion that's 8.7% growth organically which is strong. Some of that strong growth came from Turbo and timing systems and our thermal products. Again, despite the change to the diesel gas mix, we're seeing solid top-line growth in the engine segment. Drivetrain $920 million in the quarter, that's up 14.4% organically, strong all-wheel drive, DCT, and transmission components sales in North America, China, and Europe. Let me spend a moment and give you a high-level view of the 2017 outlook and I'm really pleased to talk about a rise again in guidance. We're increasing our revenue and earnings forecast for 2017. We expect organic growth of 9.0% to 9.5% year-over-year, compared to our prior guidance of 6.5% to 7.5%. This again compares to a market that is growing less than 1%. Our consolidated operating income margin is expected to expand by 20 to 30 basis points and our EPS guidance range is now $3.81 to $3.83 per diluted share, which is up from the previous $3.65 to $3.70. Let me now move to Slide number 9 and as Pat alluded to I wanted to share a little bit of commentary on the Sevcon acquisition that we completed in the end of the quarter. First of all, we're really excited to add this business to the BorgWarner portfolio. We really believe that Sevcon complements BorgWarner's existing power electronics capabilities and effectively doubles our number of dedicated power electronics engineers in the company. Now near term, this business will have a revenue run rate of about $60 million at year end and it will be modestly dilutive to 2018 results, but the real story is what Sevcon is going to add to our top line over the long term by integrating their technology with our current product portfolio. Before I turn it over to Ron, I just wanted to share a few of my comments relative to the restructuring of our emissions business. I know we've discussed in the past few quarters this business continues to not meet the expectations of BorgWarner. So this quarter, we announced a $12.6 million restructuring charge for this business. We do expect additional restructuring over the next several quarters, and as we formulate our plan, there are two items that we are addressing. Most significantly, there are product lines within our emissions business that we have determined are non-core. We plan to rationalize the footprint related to these products and will also explore our strategic options for these product lines as well. The second part of the plan now is we will also take steps to improve the overall competitiveness of our remaining European emissions business, and again Ron will provide a little more color on that shortly. So let me bring all that together and summarize for us. Q3 was an excellent quarter; we exceeded our expectations for top-line growth and operating performance was in line with our expectations. Given our strong year-to-date performance, we're increasing our revenue guidance for the year despite a modestly weakened industry production outlook. So in summary for me, I believe the company is positioned to deliver mid to high single-digit growth over the long term by continuing to execute our strategy of propulsion system leadership across combustion hybrid and electric vehicles. So with that, let me turn the call over now to Ron.

Thank you, James, and good morning everyone. Before I review the financial details, I would like to provide you some of the highlights as I see them for the quarter. First, it was another strong quarter. Second, average performance was as we expected. Finally, given a strong performance year to date, we are confident raising our full-year guidance again. Now, as Pat mentioned, I will be referring to supplemental financial slide doc as posted on our IR website. I encourage you to follow along. Let's turn to Slide 11. On a reported basis, sales were up 9.1%. On a comparable basis, our organic sales were up 10.8%. Very strong performance compared to our weighted average light vehicle industry production for the quarter, as James mentioned, which was flat. We saw 34% growth in China against the production market that was up 1%. In Europe, revenue was up 7%, which I think is better than the 4.5% production growth in the quarter. North America revenue was up low double-digit versus the 10% production decline in the quarter. Commercial vehicle was a benefit again contributing more than 200 basis points. Diesel and gas in Western Europe was ahead, but lower than we expected going into the quarter. Before I move to the operating profit, I would like to discuss our gross profit and SG&A line. Gross profit as a percentage of sales was 21.6% in the quarter, up 30 basis points over last year. SG&A was 9.3% of sales. R&D spending, which is included in SG&A, was 4.2% of sales. SG&A was down 20 basis points from a year ago, driven by leveraging higher sales. Now look at the year-over-year comparison for operating income, which can be found on Slide 12. Q3 adjusted operating profit was $298 million or 12.3% of sales compared to $265 million in Q3 of '16, which was 12%, resulting in a 30 basis point improvement. Our organic basis operating income was up $32 million and $232 million of higher sales, that gives us an incremental margin of 14% in the quarter, in line with our expectations. It was an improvement from the incremental margins we saw of less than 10% for the first half of the year. As you look further down the income statement, equity in the affiliate earnings was about $14 million in the quarter, up $2 million from last year. Interest expense and finance charges were $18 million in the quarter, down over $4 million from last year due to lower debt levels. Excluding a $5 million favorable tax adjustment, the provision for income taxes was $86 million for an effective tax rate of 29% for the quarter. Net earnings attributable to non-controlling interest were about $10 million flat from the third quarter last year. This line represents our minority partner’s share of earnings performance in our Korean and Chinese consolidated joint ventures. Earnings per share on a reported basis are $0.88 per diluted share. On a comparable basis, net earnings were $0.95 per diluted share. Now let's take a closer look at our offering segments in the quarter, beginning in slide 13 of the deck. Reported engine segment net sales were $1.506 billion in the quarter. Sales growth for the engine segment on a comparable basis was 8.7% as demand for light vehicle OEM products was supplemented again by growth in the commercial vehicle business. Adjusted EBIT was $239 million for the engine segment or 15.8% of sales. On a comparable basis, the engine segment's adjusted EBIT was up $16 million on $118 million of sales for an incremental margin of 14%. Within the segment, strong performance in our turbo and timing systems was partially offset by continuing operating headwinds in the emissions business, as James mentioned earlier. We announced an initial restructuring charge of $12.6 million in the quarter for our emissions business. We expect additional restructuring over the next several quarters as we formulate our plan to improve this business for the levels of returns. The total cost of this restructuring could vary widely depending on the strategy we optimally pursue. I expect to give you an estimate of these costs in the coming quarters. Now turning to slide 14 and starting on the right-hand side. Drivetrain segment net sales were $922 million in the quarter. This includes the reduction of $68 million of sales from the divestiture of the remaining light vehicle aftermarket. Sales growth for driveline segment on a comparable basis was 14.4%, primarily due to higher all-wheel drive, drivetrain, transmission components and strong clutch transmission growth in China. Adjusted EBIT was $112 million for the driveline segment or 12.1% of sales on a comparable basis. The driveline segment adjusted EBIT was up $22 million on $115 million of higher sales for an incremental margin of 19%. This is a very strong performance and reflects the successful ramp of new programs. Now let's take a close look at our balance sheet and cash flow. We generated $624 million of net cash from operating activities in the first three quarters of the year, that's up $31 million over last year. Capital spending was $300 million year-to-date, up $35 million from a year ago. Pre-cash flow, which we define as net cash from operating activities less net capital spending, was $234 million, which is basically flat from 2016. Looking at the balance sheet itself, balance sheet debt was up and cash decreased by $29 million compared with the end of 2016 to $205 million. The increase in net debt was primarily due to the purchase of Sevcon. Our net capital ratio was 33.6% at the end of Q3, which is down slightly from 35% at the end of 2016. The net debt to EBITDA ratio at the end of the quarter was 1.22 times. Now I like to discuss our 2017 guidance, which we have increased, so let's start with our sales growth guidance for the full year on slide 16. Backlog pricing and market-related growth are expected to drive 9% to 9.5% organic sales growth. Note this excludes the Sevcon acquisition, which is expected to add $15 million of sales in Q4. Currency is expected to be a small tailwind now. From a performance perspective, let's turn to slide 17 again. We expect low teens incremental margins on our sales growth. Included in this are headwinds from corporate costs reflecting year-to-date headwinds as well as the Q4 approvals based on a stronger top line and earnings. Our consolidated operating income margin is expected to expand by 20 to 30 basis points. To finish our full-year guidance, please turn to slide 18. EPS guidance ranges now $3.81 to $3.83 for diluted share versus our previous $3.65 to $3.70. The increase is driven by our sales guidance and increase in a lower impact of foreign currency for the full year. Free cash flow, which is net cash provided by operating activities less CapEx, is expected to be $450 million to $500 million now. Capital spending included tooling is expected to be in the range of $525 million to $575 million, which is up modestly to support several program uplifts. R&D spending as a percentage of sales is expected to be about 4% in 2017. The tax rate is expected to remain at 29% as well. Our assumption for the dollar to euro exchange rate has been adjusted from 1.25 to 1.10. As a reminder, everyone should note that change in the dollar to euro exchange rate equals about $30 million to $35 million in sales. Our fourth-quarter guidance let's turn to slide 20. First, sales note that remain after market divested are about $20 million, and we have added about $15 million of Sevcon sales, starting at a base of $2.239 billion. Net new business pricing and market-related growth are expected to drive organic sales growth of about 5% to 6.5%. In addition, currencies are now expected to increase sales growth by about $85 million. Therefore, 2017 Q4 sales are expected to be $2.47 billion at the mid-point. On Slide 21 is our EPS walk for the Q4. As I have already walked through our full-year walk, I will not go through all the details, but for Q4 we expect earnings of $0.99 to $1.01 per share, this includes about a $0.01 unfavorable impact from Sevcon. So let me summarize Q3, it was a strong third quarter. Organic sales growth was more than 10% despite flattish industry volume, incremental margins improved sequentially as we were expecting. As we look forward to 2017 and beyond, we continue to drive intensity around our new product development and support it with acquisitions to participate in the impending electrification trend. So with that, I'd like to turn the call back over to Pat.

Sharon, we're ready to open up for questions.

Thank you for taking my question. I wanted to follow up on Slide 7. You mentioned two interesting points, the cabin heater opportunity; can you provide details on the main categories in that market? I haven't heard many discussions about targeting that area, and what potential content opportunities exist there? Additionally, regarding the turbocharger opportunity with Honda, it seems like we've seen more headlines from the Japanese manufacturers. Are we noticing an increase in opportunities as the Japanese companies are producing fewer engines?

Yes, good morning, Colin. This is James. I'll start with the turbocharger update. We've observed increased adoption rates among Japanese OEMs for turbo technology over the past four to five years, and we expect this trend to continue. This applies to both combustion-powered and hybrid vehicles, with turbo being incorporated into both types. We are particularly pleased with our partnership with Honda, especially with the successful launch of our latest two-stage technology on their one-liter gasoline engine. We are indeed seeing a growing use of turbo among Japanese OEMs. Regarding the cabin heating opportunity, we are very optimistic about it, as this technology was acquired through our earlier purchase of BERU. This marks our first significant success in the U.S. market. In this space, the most recognized competitor is likely [indiscernible], and Astro is also notable. We are happy with our progress in this area; we appreciate the technology, and as previously mentioned, it's a promising growth area for us in peer EVs.

Okay. And just any color on emissions restructuring, I mean, when do you get the benefits from the actions that you're taking? And any sense that you said you're considering trade - you might actually sort of divesting some of the products in there, is that right?

Yes Colin, let me kind of give a little bit of a high level answer to that and then Ron could supplement it with any specific details. Again, I think this again there is two dimensions to speak to what we're doing here. The one is we have identified a couple of non-core product lines and we're evaluating all of the strategic options associated with those. So that's the one aspect, and then the other aspect is a more generic footprint optimization as well. We're still in the process of working through those details Colin as Ron had said. It could one option could be divestiture; one option could be restructure; there are different options here. And as Ron and I thought about this until we got a little bit more clarity around that, we need a little more time to be candid. But it does include all options on the table frankly, and we're going to work our way through that through the fourth quarter, and I think we will have more color for you when we come back on to the earnings call in February of next year.

Great, thank you very much.

Thank you, James and good morning everyone.

Thanks for taking my questions, just a follow up on that. Have you discussed which sort of sub-segments of emissions is considered non-core and how that differs from the portion of emissions business that is still core? Does it relate in any way to, for example, dollars?

Yes, I can add a little bit of clarity there Ron, so the two product lines that we were viewing as non-core are, from a BorgWarner perspective, think of thermostats and think of pipes. It has nothing at all to do with core EGR business, EGR bowls, EGR modules, EGR coolers, those are fantastic businesses that are doing really, really well for us. So it's in that the thermostats and pipes. When we look at the level of technology differentiation that BorgWarner excels in, I don't think they bring that kind of technology differentiation, they don't bring the growth profile so much as a BorgWarner product line. So those are the two product lines that we're referring to.

Okay, that's really helpful. And just lastly from me then on the expected sequential deceleration in year-over-year growth as you go from Q3 to Q4, you did 10% in Q3 looking for 5 to 6.5 in Q4. Very simplistically, I look at North America production that was kind of a drag in Q4 down 10%. IHS was something more like minus 3 in Q4. So, just curious what drove additional headwinds or that you seem to - there is something specific with your backlog or something and if not, may be you think that potential of risk skewed to the upside organic growth in Q4?

Sure Ryan. This is Ron. I'll give you three of the high level; first of all, is diesel mixing in Europe like we mentioned on the call; we're not seeing the headwind that we anticipated in Q3; so that gets pushed into our Q4, where the sales start to show through the production levels; we assume that could be as much as 300 basis point headwind for us in that fourth quarter; that's one item. Korea has been an issue for us as well; that can swing to a negative in Q4 again over last year; and then if you remember last year, we had some really good launches in the fourth quarter, the Duramax, for example, and F250, and we're going to lap those, so we're going to see not have that as a tailwind as well, so three of them at high level.

Okay, very helpful. Thanks a lot, congrats on the quarter.

Good morning everybody. First, just wanted to ask about backlog it was that shows $268 million in the quarter, your guidance was 100 to 150 and it seems like every quarter it's coming in a bit higher than your guidance, so I'm wondering whether there's any reason why we shouldn't be thinking about upside to the number for next year, the 460 to 670; you did kind of enhance that; there have been some program uplifts and that's affecting CapEx, so it seems to suggest that?

Hi Rod, this is James. So, a couple of thoughts from my end at least. You're right, we've been tracking ahead of what we've come into the year expected and that's a good feeling obviously. That's predominantly backlog related. To your point about next year, I would reiterate my comfort and confidence in the 7% CAGR number that we put out there, but obviously over the next few weeks, we're going to take a good look at that and then as we come into January into Detroit we would obviously give you more specificity around 2018 backlog and obviously the three-year period as well. But I would think of it this way rather than this year's transition for us, it just gives me at least builds a lot more confidence and comfort the numbers as we go into next year.

Okay, great. And just secondly, I was wondering if you thought there were any competitive implications from the strategic changes that were announced by your biggest competitor in Turbos; we've seen that actually happen in other segments where multi-industry companies have announced divestitures; so any kind of high-level thoughts on what have they been running the business today, how that's affected you and how that maybe run into future?

Yes, I would say from my point, Rod, that Honeywell has always been an excellent competitor, a very strong player, and I don't see that really necessarily changing. We will see how it plays out. The most important part for me though that I would want to reiterate is we just continue to see strong penetration growth at turbos internally, so we still see the turbo business as a strong growth engine for BorgWarner and we still see our one-third market share position that we have is very solid, very solid as we look this year and we look at a three-year and a five-year view. So, for us, it's kind of no change is the way I look at it right; we feel great about the turbo business. We love the growth and we love our strong competitive position and I think he will do what they need to do.

Good morning guys. Maybe just a follow-up on sort of the backlog question Rod just asked; you kind of highlighted in Drivetrain it's programs running a little bit better than you're expecting as far as new program are certainly your rate cap action, Ron, you tend to be pretty conservative or tight with capital. So it seems like something really positive is it is going on I think that is compliment around what's happening there. I mean is it higher volumes than you're expecting our new programs or actual wins they're manifesting faster than what you thought or say just pull ahead of launches and I'm sure we understand, what's going on there?

Hey, John, by the way, Ron really took that as a big compliment. He loves that comment. So, I think it's a little bit of all frankly. I think we've got some of the launches this year that are coming on maybe are faster ramp; some of the volumes have been a little stronger. So it's now one thing, John, it's been a combination. I would say the biggest link though between backlog strength on the Drivetrain side is the success in China; that's the biggest kind of mover if I can say that way, John, and that's a function of a real good BCC adoption and success for us in China, both with the Chinese domestics and the global guys, and that's just pulling forward a little bit as the capital in life for us. And I would say that's probably the biggest piece, but generally from the backlog, it's been strong across all the product line.

John had a couple things. James mentions in the call. This year, we're seeing every one of our product lines are growing really well; in the past, you have a couple product lines that have really good launches and then maybe the other ones are in a cycle where their launches are not hitting; this year here is where every one of our businesses, all the launches are hitting and they're hitting at that time that we would hope they would hit, which is good. And we're getting just tremendous growth across the whole portfolio and in addition we don't have the headwinds of commercial vehicle to impact.

Okay, that's helpful. Second question on acquisitions; I mean Sevcon looks interesting. I am just curious that just you think about Sevcon and potential future acquisitions, you're looking for more human capital or products? And if you can kind of just linear maybe in Sevcon, I mean it sounds like it doubles your engineers focused on electric Powertrain so, that sounds good but there also are product suite becomes along with it or you really want to be engineers you're going after an acquisition?

Yes, that was a good thought John. I would say the Sevcon is an example of kind of a combination; it brings a revenue stream; right? It brings an order book. They bring real product that they have put in boxes and ship it to us. So it's not just a pure engineers perspective, but I would also say clearly they bring to us terrific people capability on the engineering side. Particularly they bring a lot of that. So it's both. And I would say as we look forward, John, I'm thinking more of the same; our acquisition focus would be around electronics, power electronics capability and we look to obviously add people and talent, but our preference also is where we can actually have physical product content where we can, particularly around electronics and power electronics. So that's how we think about it. Obviously, priority one right now, John, is to integrate Sevcon and get that up and running well, which we're confident in, but we're going to keep our eyes and ears open for additional opportunities as well.

And just one last final question; I mean it looks like a lot of your peers are deepening or expect going in the opposite direction where there is splitting up iced and sort of electric powertrain components and what kind of position you think that you'll have competitively in the market which you go head to head with these folks and will you be at an advantage or disadvantage by having a full product suite that has been somewhat agnostic to where powertrain goes?

I believe we have a significant advantage because we can engage directly with OEMs to discuss the trade-offs between combustion, hybrid, and electric architectures. We facilitate these discussions by helping them understand how to integrate different hybrid applications into their vehicle lineups. Our involvement in these conversations is possible because we operate across this entire spectrum. Additionally, we provide the technology that supports their transition. What OEMs appreciate about us is that we do not push them towards just one platform, whether it's purely electric or hybrid, because we have expertise in both areas. This positions us as a neutral partner. Furthermore, we offer a comprehensive range of products, including electric motors, transmissions, and various combustion and hybrid solutions. So, while I may be biased, I truly believe we hold a considerable advantage.

Thanks. Good morning, everyone. First, just wanted to talk a little bit about the change in backlog relative to the change in CapEx because backlog, I think is 50% higher than what you indicated at the beginning at the midpoint, CapEx is only up 10%. So is that greater efficiency or does it speak to maybe there was just more conservatism on the revenue side versus the capital side?

Joe this is Ron. Remember that capital that goes in is a ramp cycle of what's happening right. So it's not a direct relationship with the sales increase, so it's not fair to say that for a 10% increase in sales you need to 10% more capital; it doesn't work the way you're putting capital over several years. So the capital tends on the ramp side would tend to lag the sales increase because in that my comment as that they were primarily due to ramp increases right near new programs, so that tends to lag the sales increase; is that clear?

Yes.

It's uplift. It's not new programs, yes.

Okay, well what about can you reach sort of help us I mentioned how much capital was put in place for a backlog coming in future years or it would seem like not much based on a comment that.

This is a long discussion Joe but typically it follows up on it and how far off with you I get some ratios that would take this offline. It's a long discussion, right Joe.

Good morning gentlemen.

Good morning Brett.

Good morning Brett.

Let's see I'm talking about your longer-term revenue outlook your organic guidance and so forth and then your backlog has been coming in stronger than expected you're talking quite enthusiastically about some of the higher contented products, hybrid electric etc., and it kind of just begs the question. As we look out over the next five years, could we see BorgWarner's revenue growth accelerating?

That's a good question I tell you what we laid out at the Investor Day there in New York that 7% guide over the next three years obviously as this year's played out we've just got. We were very comfortable with that outlook. I'm not in a position at this point but I want to start changing next I don't think we need to. But I think that 7% the point CAGER for us is an organic is a good number. Then let's just keep executing at that at least in the short run. We are going to take a good look at it obviously as we go into January plus and we'll provide any update from there but I think at this point I think the 7% organic CAGER is a good number to think about for us.

Okay, and then secondly, as we think about the backlog unfolding not necessarily over the next three years, but let's say over the next five to ten years and so forth and we think about the move in the direction of from these non-IT hard trying to so forth how should we think about margins. You typically is thought about contribution margins but is there the possibility that the margins could be better or worse on these products as we kind of move out into let's say the next five, ten years?

So Brett this is Ron. We get this question quite often and we've been addressed in several ways. Again referencing the Investor Day that we had here in August, I had a slide in there if you go back to that presentation, I think it is on the website where I gave returns on invested capital are very similar on hybridization in pure electric products as they are in combustion. And that side was to present that and the reason why we're comfortable is because that slide represents products that we have been awarded and are starting to ship as well and it's across customers and across regions. So, the evidence that we're seeing right now of the programs that we're winning don't substantiate a deterioration in margins or returns.

Hey, good morning guys.

Good morning, David.

Just a quick follow up on China. I believe you posted 30% growth Q4 last year; the production hurdles a tough one here; you obviously wanted in areas like DCT and with some early model hybrids and electrics. I guess, how do we think about some of the puts and takes as we weigh your China opportunity going into year end here and maybe a more difficult hurdle going into '18 as well.

I would say first of all, David, yes the third quarter is strong and we've been running pretty strong through the year and you're right it's driven by a lot of that technology that you could be referenced so, we ramping well with DCT but it's also on a combustion product line as well. So things are good; fourth quarters are more challenged. It will be a little bit more of a challenge income but will be over the market, so I would think about a high single to low double-digit over the market if that makes sense to. That's how we're thinking and going into fourth quarter and I would think that's a pretty good proxy David for going into next year as well. Think of us high single to low double-digit growth over the market in China.

Okay, great. Thanks appreciated. And just a quick shift gears, you referenced potentially accelerating diesel market declines in Q4; it's still early in the ballgame; are you seeing that mix shift go to ICE or is it more towards hybrids and EVs? And I know you've alluded to it before, but maybe if you could remind us on how you see your longer-term offset opportunity as we do see that mix shift ultimately switch to alternative powertrains and away from diesel.

Yes, now in the short run David it's clearly diesel out and gasoline in sort of speak. We've talked about this before. For Borg, for every hundred basis points of shift from diesel to gas. In the short run, it's had a $20 million, $25 million annual revenue, voice for us frankly which would offset in other areas. As it transitions over the next two, three, four years, it will be a couple of things; one, it will be even more advanced gasoline engines to be somewhat comparable to diesel technology. There will be obviously increased hybrid in Europe, so we're going to see that. And then longer term, in the more four, five, six, seven year outlook, you will see more pure EVs coming into the space; all of that adds up as positive news for us David, so as we go forward we got great content on hybrids and obviously we're growing our electric business.

Apologies for the mute.

Okay, go ahead.

Apologies, you addressed but just wanted to talk about it in overtime; the return on capital of the company has been pretty good and over the last few years for a variety of reasons, it's sort of moved to a lower level but we're seeing some stability here and I'm wondering as you sort of think through the new revenue opportunities that are emerging for you over the course of let's say the next two to five years, if you think there is an ability for you to sort of rethink the capital intensity or the profit profile of those businesses that will allow the company to resume its previous investment class returns on capital?

Matt, this is James. I'll give you, I guess, at least my quick high take and then Ron can weigh in. As you rightly pointed out, what serves our company really, really well is that after-tax 15% ROIC threshold and hurdle, and that's not, we continue to drive that metric pretty relentlessly, so I would start there and say that through minds the core and the primary metric for us. Ron might want to add specifically around cash flow, if you want to talk about?

Our capital deployment in general, I think with the organization going forward is going to have to do with, we're going to have to take a look at our product lines and determine which product lines get more capital and which product lines started to not have as much capital as the portfolio starts to evolve and change in different direction. But, as James mentioned, as we go through their process, we will reallocate resources but we are not going to give up on the goal of 15% after-tax return; that's not going to happen. We will redeploy our capital in the right resources in the growth to achieve the growth that we have in our portfolio. But, we are not going to give up on that return metric.

Hi, good morning everyone.

Hi, good morning Rich.

I will approach the backlog with a slightly different strategy. At the start of the year, the mid-point was 500 million, and you are now likely to be nearly double that amount. I imagine there is some expectation that you could exceed the upper limit of your initial range. Can you share your internal expectations compared to what has actually taken place?

I mean I would say, Rich, you know, we're obviously first of all, yes, we are ahead. It's coming stronger, it's coming stronger. But what I would also say Rich is, you know, you remember the history here and how we got to the methodology around the development of backlog. And I don't want to go back all the time and in history, but, you know, we took an approach where the roll-up for the data was the same, but we were maybe a little more prudent around the cadence and volumes over the launches, and we also, you know, built in some macro stuff. So I think we took that approach, and I think that has helped us. But, I think even with that said, from an internal perspective, you know, we are definitely running a little better ahead of what we had anticipated. And I think it's really what Ron said; it's a combination of across all of our products and across all of our regions we have just add, you know, the ramps either being a little quicker or the volumes have been a little stronger and when you add all that up around the world and across the products you get to the kind of results that we are at. So, yes, it's pleasing.

I know you said your cross products and regions but DCT seems like it's one of the areas that probably will contribute a little bit more than average and I know there are some positive payback, which is given their delays in prior years with customers and what not, so, is that a fair assessment?

I think that’s a good perspective. We have seen an improvement in the ramp, which has been stronger. I understand your point about our cautious approach based on the historical context, as it has taken some time to reach this point. Your assessment is fair.

Okay, great. And then last one, just on Sevcon, so we get back the penny impact the negative impacts in the quarter, do we just kind of flow that through on a quarterly basis for '18, just big picture?

At this point, I think that's probably a good assumption, Rich. We will soon have updates. We believe that you may need to moderate a little bit going forward, but I think you will have to provide more clarity probably in January.

Good morning. Dallas got a kind of bigger question. So, I think there has been through training and swamp on backlog, you know, the books wagons putting some of those businesses into our something that potentially could be by now I mean 20 years after the US OEMs to debt and this forma Delphi of course the Honeywell transaction, the spin-off of Delphi. So just because you look at broadly the powertrain space given here that the challenge of kind of managing the transition from ice given the challenge and see a huge ACN, American Actual Data, all investing in the e-modules make that look longer. Do you think that this is an industry that's going to consolidate over the next 10 years and if so what role do you BorgWarner playing in that kind of consolidation?

Yes, Brian, I'm going to give you the best answer I can. I'll start by saying that I love our proportion business and I'm very happy with how we've positioned ourselves and our product lines. I see a bright future for proportion companies like us. We're well-balanced in terms of combustion, hybrid, and electric options. We're open to the shifts in the market; whether there's a rapid increase in electric vehicle adoption or if hybrids become the main focus, we're well-prepared with strong products. We're strategically positioned to adapt to whatever changes come in the industry. What I do know is that we are a proportion company and we're committed to being a leading player in that space. We'll let others decide their paths, while we focus on excelling in our proportion business, addressing all the technical challenges that come our way.

As you examine the creative landscape, do you see any redundancies, or is there a flow of capital investments among competitors and OEMs? Could there be a need for consolidation not necessarily for strategic reasons but to optimize cash flows, considering that everyone is producing similar products?

I am not entirely certain. I wouldn't want to speculate too much, Brian. One thing I would mention is that when you focus on the core technology aspect, there is an abundance of players in the market. Think about how many companies are producing DC modules; there are numerous options available. In contrast, with less differentiated products, like thermostats, the situation is a bit different. I believe certain individual product lines may have more competition, but when it comes to core propulsion technologies, whether electric, hybrid, or combustion, I don't think there is an overabundance.

Thanks gentlemen, and congrats again on this good year and driving the detail on the PF side, and it's been really helpful for the call. I wanted to thank you just a follow up to the China question with a couple questions ago, you know, remembering that China was one of the issues that we only 15 on some of the new launch volumes. How do we start to think about China in 2018, but you know we have seen that Chinese stronger growth from 18 to 25 million. Is it crazy to fuel the 2018 could be down sort of low to the mid-single digits in China? And if that's the case, you know, how do you start to scenario plan, you know, around just a temporary blip in production and new launches, you know, you can start to grow again later in the year and going forward?

Yes, I thought as we get to think about 2018 heat is up, you know, I think you are going to see modest growth in large circulation production in China, you know, 1% or 2% we are not certain exactly the number. Yes, the days of 6% to 8% percent I think are behind us. So, from a market perspective here in a 1% or 2% growth environment for China next year, but we are in excess of that, you know, we are going to be high single to low double-digit growth over and above that market. So, even if there was a little bit adjustment in China ran flat slightly down for a year or so, you know, we are still going to be delivering a very significant growth that driven by, you know, penetration story of about products. So, not a big deal frankly if China is off a couple of percent next year; what we are focused on is launching flawlessly a products that are driving the high growth for first in China.

Okay, thank you so much.