BorgWarner Inc (BWA) — Q4 2020 Earnings Call Transcript

Thank you, Sharon. Good morning, everyone, and thank you for joining us today. We issued our earnings release this morning. It is posted on our website, borgwarner.com on our home page and on our Investor Relations home page. With regard to our Investor Relations calendar, we will be attending multiple conferences between now and our next earnings release. Please see the Events section of our Investor Relations home page 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 as detailed in our 10-K. Our actual results may differ significantly from the matters discussed today. During today's presentation, we will highlight certain non-GAAP measures in order to provide a clearer picture of how the core business performed and for comparison purposes of prior periods. When you hear us say on a comparable basis, that means excluding the impact of FX, net M&A and other noncomparable items. When you hear us say adjusted, that means excluding noncomparable items. When you hear us say organic, that means excluding the impact of FX and net M&A. We will also refer to our growth compared to our markets. When you hear us say market, that means the change in light and commercial vehicle production weighted for our geographic exposure. Our outgrowth is defined as our organic revenue change versus this market. Please note that we've posted an earnings call presentation to the IR page of our website. We encourage you to follow along with these slides during our discussion. With that, I'm happy to turn the call over to Fred.

Thank you, Pat, and good morning, everyone. We're very pleased to share our results for 2020 and provide an overall company update. Starting on Slide 5. I'm very proud of our stronger-than-expected top line and cash flow performance for the year. With approximately $10.2 billion in sales, we were down about 11% organically. This compares to our market being down approximately 17%. And so outgrowth was about 630 basis points for the year, which was ahead of our expectations going into the fourth quarter. For the full year, we saw our growth in all major regions. We delivered close to 15% outgrowth in China. Our European and North American operations outgrowth were both in the low single-digit range. While our full year earnings per share declined year-over-year due to the impact of COVID-19, our decremental margin performance was in line with our expectations. Importantly, our margin performance was achieved while preserving R&D spending to support future growth. We delivered very strong free cash flow of $743 million for the year. This represents a record for free cash flow generation for the company. This is a testament to the intense focus we've put on improving free cash flow generation over the last few years. While managing the operational challenges of 2020, we successfully completed the largest acquisition in the company's history and secured numerous business awards for electrified vehicles over the course of the year. Now let's discuss some of those new business awards. First, I'm happy to announce on Slide 6 that we have secured an 800-volt electric motor award with a global commercial vehicle customer launching in 2024. This program will use four different variants of our latest airplane motor design. Using our 800 volts rated machine, customers can significantly reduce charging time and achieve a higher power density through the 800-volt architecture, enabling an even brighter future for electric trucks and buses. I am very pleased with this program. We will continue to focus on the electrification opportunities in commercial vehicles in addition to opportunities in our light vehicle market. Next, I would like to highlight another inverter win on Slide 7. We are partnering with a major European OEM to supply our 400-volt silicon carbide inverter for the next-generation BEVs that are expected to launch in 2022. While I can't share the details of this program, I can tell you that this is our second largest inverter program to date. This illustrates our ongoing innovation in power electronics as we're leading the market trend to upgrade from silicon to silicon carbide. This enables lower energy losses and drives higher efficiency. With the latest win, I would like to give you an update of our positioning in the European inverter market on Slide 8. We've had tremendous success establishing ourselves in this market. When I think about BorgWarner's competitive advantages in power electronics, it's driven by first, the breadth of our product portfolio. This allows us to be faster and more effective at bringing products to market. Second, our ability to innovate. We continue our innovations in part by our vertical integration strategy. We have in-house capabilities for power modules, integrated circuit development and software. I think that the last driver is our ability to leverage the electronic scale that we already have, especially in our engine control unit business. The result is that we've secured significant new business awards. On the chart on the right side of the slide, you will see the inverter programs we've secured with three large European OEs. As you can see, we expect that we'll be delivering around 1.1 million inverters in 2025. As a result of the successes we're achieving, we're increasing our R&D spending in 2021 to support our continued innovation and new business awards in our power electronics portfolio. Kevin will touch on that a little later. Next, I would like to give you an update on the Delphi Technologies integration on Slide 9. Bottom line, all is on track. Starting with Q4 results. The Delphi Technologies contribution to both revenue and operating income was ahead of our expectations. I'm seeing good progress across all the former Delphi businesses. The cost synergies related to the Delphi transaction are tracking in line with our plan, as Kevin will discuss later. And the customer feedback remains very positive. In addition to inverter wins that I just highlighted, we won new businesses across the rest of the Delphi portfolio, including awards in GDI. My overall takeaway is that the integration is on track from all perspectives. Before I wrap up on Slide 10, we are announcing our plan to hold an upcoming Investor Day on March 23. The event will be virtually broadcasted from the BorgWarner world headquarters in Auburn Hills, Michigan. It will provide insights into our technologies and into the acceleration of our positioning in an electrified world. I look forward to interacting with you during the event. So let me summarize our 2020 results and our outlook on Slide 11. 2020 was an extremely challenging year in terms of the operating environment, and we've put the health and safety of our people first. Even in this challenging environment, we delivered better-than-expected outgrowth and generated record free cash flow, and our bookings on BEVs are accelerating. We closed on the Delphi transaction. We're successfully integrating the companies, and we are on track to deliver the synergies as planned. As we look ahead, we expect to deliver another record year of free cash flow in 2021, which enables us to continue to invest in the business to successfully position the company for the future. The demand for our efficiency-improving products is growing, leading to a continued increase in our content per vehicle. In fact, as Kevin will highlight, when you look at our three-year backlog, 45% of it is already coming from e-products. And finally, I'm excited about our long-term positioning as we look to capitalize on the profound industry shift towards electrification. We are winning. We are ramping up R&D and focusing heavily on the acceleration of the company towards electrification. With that, I'll turn the call over to you, Kevin.

Thank you, Fred, and good morning, everyone. Before I review the financials in detail, I'd like to provide an overview of the three key takeaways from our fourth quarter results. First, our revenue was ahead of our guidance, driven by stronger-than-expected outgrowth and higher levels of sales from the Delphi Technologies acquisition. Second, our margin performance was better than expected, both in the legacy BorgWarner business and in the legacy Delphi business. And third, our free cash flow was very strong at $197 million in the quarter, which resulted in record free cash flow for the full year. So let's turn to Slide 12. As we look at our year-over-year revenue walk for Q4, you can see that foreign currencies increased revenue by about 3.4% from a year ago. Excluding this impact, our organic sales were up more than 6% compared to a less than 2% increase in weighted average market production. That means we delivered 460 basis points of outgrowth in the quarter, which breaks down as follows: In China, we outperformed the light vehicle market by about 13%. Strong DCT demand continues to be a key contributor to our sizable outgrowth in the region. In Europe, our light vehicle organic revenue performed roughly in line with the market. In North America, we underperformed the market by approximately 3%, just as we expected, primarily due to the impact of the changeover of the Ford F-150. And finally, our commercial vehicle and off-highway businesses drove about 50 basis points of our outgrowth in the quarter as our China business more than offset declining commercial vehicle revenue in other regions. Now some of the strong outgrowth we delivered in Q4 and for the full year, particularly in China, was a pull forward of 2021 outgrowth. That will have an impact on our expected 2021 year-over-year outgrowth. But on a cumulative two-year basis, we're tracking right in line with our longer-term expectations. So in the end, we're pleased with the strong finish of 2020. Moving past our backlog and outgrowth, you can see that the Delphi Technologies acquisition added a little more than $1.1 billion to our fourth quarter revenue. The sum of all this was just over $3.9 billion of revenue in Q4. Now let's look at our earnings and cash flow performance on Slide 13. Our fourth quarter adjusted operating income was $448 million compared to $340 million in the fourth quarter of 2019. This yielded an adjusted operating margin of 11.4%, which was well ahead of our margin guidance of 8.8% to 9.6% for the quarter. On a comparable basis, adjusted operating income decreased $7 million on $159 million of higher sales. Remember, we delivered outsized margin performance of 13.3% in Q4 2019, which makes for a tough year-over-year comparable. If you look at the legacy BorgWarner margin excluding the impact of Delphi Technologies, we delivered just over 12% for the quarter, which is consistent with the company's historical top quartile margin profile. Then the Delphi Technologies business added $109 million to adjusted operating income. This was well ahead of our expectations due to the higher-than-expected revenue and stronger underlying margins in the business. Moving on to cash flow. We're proud of the fact that we generated $197 million of positive free cash flow during the fourth quarter. As a result of that, our full year 2020 free cash flow came in at $743 million, which was a record level for the company. With those strong cash flow results and with our confidence in the business looking ahead to 2021, we repurchased $216 million of our shares during the fourth quarter. Let's now turn to Slide 14, where you can see our perspectives on global industry production for 2021. First, let me point out that our market assumptions now incorporate our view of the commercial vehicle and off-highway markets, given our increasing exposure to those markets. With that background in mind, we expect our global weighted light vehicle and commercial vehicle markets to increase in the range of 11% to 14% this year. Looking at this by region, we're planning for North America to be up 22% to 25%. In Europe, we expect a blended market increase of 11% to 14%. And in China, we expect the overall market to be roughly flat year-over-year, as growth in light vehicle production is offset by anticipated declines in the commercial vehicle market. Now let's talk about our full year financial outlook on Slide 15. Starting with our pro forma 2020 sales, which adds back the $2.6 billion of revenue from the first three quarters of Delphi Technologies in 2020. As you know, those revenues were not part of our P&L last year, but in order to provide year-over-year comparability, we thought this pro forma revenue approach for the 2020 baseline would be useful. Building on that pro forma revenue base, you can see that our end market assumptions from the prior slide are expected to drive an increase in revenue of roughly $1.2 billion to $1.5 billion. Next, we expect to drive market outgrowth for the full year of approximately 100 to 300 basis points. Embedded in that outgrowth range is a roughly 200 basis point headwind from declining light-duty diesel and a 40 basis point headwind from an expectation of normalized market share in our China commercial vehicle business after considering outsized market share in 2020. Based on these assumptions, we expect our 2021 organic revenue to increase 12% to 17% relative to 2020 pro forma revenue. Then adding a $355 million benefit from stronger foreign currencies, we're projecting total 2021 revenue to be in the range of $14.7 billion to $15.3 billion. From a margin perspective, we expect our full year adjusted operating margin to be in the range of 10.0% to 10.5% compared to a pro forma 2020 adjusted operating margin of 8.3%. This contemplates the business delivering full year incrementals in the low 20% range before the impact of Delphi-related cost synergies and purchase price accounting. From a cost synergy perspective, our margin guidance includes $70 million to $80 million of incremental benefit in 2021. That puts us right on track to achieve 50% of our total expected cost synergies in 2021, just as we've previously told you to expect. One more point on our margin outlook. It's important to note that this outlook is inclusive of a planned increase in R&D spending to 5% of revenue to continue to drive the growth we're seeing in electrification opportunities. That's fully baked into the guidance. So based on this revenue and margin outlook, we're expecting full year adjusted EPS of $3.85 to $4.25 per diluted share. And finally, we have line of sight to delivering free cash flow of $800 million to $900 million, which is a significant increase over our record year in 2020. That's our 2021 outlook. Let's turn to Slide 16 to review our medium-term growth outlook. As I mentioned earlier, we expect light vehicle diesel to be a headwind to our outgrowth in 2021. The largest portion of this headwind comes from the legacy Delphi portfolio. As you can see on the left side of this slide, we expect the impact within this business to be approximately $140 million in revenue decline in 2021. However, you can also see that this headwind is expected to lessen each year as we head towards 2024. This is what we saw in due diligence, which simply means that it's in line with our original planning assumptions. Now let's move to the right side of the slide, where we profile our multiyear backlog. As you know, our backlog is a net backlog, which means it reflects increases in revenue net of decreases in revenue. So the diesel headwinds from the left side are incorporated into this net backlog. And what you can see is that even with this headwind, we still expect to deliver 100 to 300 basis points of outgrowth in 2021. Then as you look ahead to 2022 to 2024, we expect a combined net new business backlog inclusive of aftermarket growth to be approximately $2.8 billion. Importantly, we believe this 2022 to 2024 backlog supports our previously communicated midterm outgrowth for the combined company in the mid-4% range. And there's one more critical point to note about this backlog. About 45% of this net backlog is driven by our e-products, 45%. We're winning business and positioning the company for continued growth in this area. So let me summarize my financial remarks. Overall we had a really solid year despite the headwinds resulting from COVID-19. We delivered 630 basis points of market outgrowth and $743 million of free cash flow. Not only did these results significantly exceed our most recent guidance, they also exceeded the guidance that we provided in January of last year prior to the pandemic. Now as we head into the new year, we're focused on leveraging our financial strength to drive continued long-term profitable growth in the business. In 2021, that means we'll be keenly focused on delivering on our near-term financial commitments, successfully integrating the Delphi acquisition, and continuing to make the necessary investments to win electrification business that will secure outgrowth and financial strength long into the future. With that, I'd like to turn the call back over to Pat.

Thank you, Kevin. Sharon, let's open it up for questions.

Fred, if I can ask two questions on EVs. The first is around market share. I really appreciate the color on the three big inverter wins with the units attached. And I know you can't give explicit numbers, but sort of if we work into what that means on a market share basis, assuming you have some Asian wins as well, you could be getting roughly a 20% share of the outsourced business. Would just love some color about the competitive environment, because that would probably put you in the top three external suppliers. And obviously there's a lot of players here. It's not only inverters. We obviously have a heavily competitive in-source for motors and drivetrain. So if you could just talk about the competitive environment for e-business right now?

Chris, we're definitely a leader in this field, and I feel really good about the progress. I feel really good about the momentum. I feel really good about the fact that the technology that we got with Delphi is really strong, high-voltage silicon carbide, driving efficiency. And I feel really good about the combination. We bring financial strength and customer intimacy, and we're booking business. And so the positioning is strong. The customer feedback is positive. I'm just happy where the company is right now and more to come.

That's great. We received a lot of questions about this idea of sort of the legacy OEMs, right? I'd put maybe three European OEMs in that camp versus this next generation of startups. Could you talk about just what does it like to win business on the startups? Are you seeing them at a similar proportion of in-sourced versus outsourced, just because it's such a new environment for everyone involved?

Yes. We are working with both, right, both the legacy OEM, as you call them, and new startups. We have actually been pretty successful towards those two customer market segments. Obviously, in our business, we are in the business of long-term relationships. That solid foundation that we have and the solid customer intimacy that we have across the world certainly matters.

Could you provide insights into the profitability ramp of the EV business? It’s clear that new ventures typically have lower margins, and given the longer and more aggressive ramp for EVs, can you elaborate on how the EV business is expected to perform starting in 2022? Specifically, how might this impact margins, and do you have any guidelines for when the EV business might achieve corporate-level profitability?

Yes, Chris, this is Kevin. I want to emphasize that we remain focused on achieving a return on invested capital target across both our legacy combustion business and our new EV portfolios. However, as we ramp up our EV business, we are investing significantly more upfront, and we have not reached a steady revenue level yet. The ROIC targets apply over the life of the program, but costs tend to be higher initially, especially in R&D. As we mentioned today, we are increasing our R&D to 5% to account for the higher investments in our EV portfolio as we secure new business wins. This does create some pressure on margins in the short term, but we are managing it within our overall portfolio, as reflected in our margin guidance. Our target of 10.0% to 10.5% accommodates this increase in R&D, and we are pleased to see our backlog shifting more towards e-products. We are confident about maintaining our 2023 margin target and aim to achieve over an 11% operating margin. While this investment in the business does put some pressure on margins, we are managing it effectively and are on track to meet our long-term margin goals.

Just a first question on the change in segmentation. And I'm just curious as you look at the new four segments, now that you've carved off or identified fuel injection and aftermarket as separate segments, are those maybe more separable and potentially could be up for sale over time, as it might be much slower growth than the other two segments?

Yes, I guess that's not how we're thinking about it. I mean we look at those businesses, they're businesses that, from an accounting perspective, needed to be reported separately. And that's part of the reason that they reported that way. Our focus is really on growing the profitability of those two portfolios. As you look at the FIS business, as Fred talked about in his remarks, we're seeing wins in GDI, and we see some real growth prospects in that business along with the leading positions that that business already has. I think as we look at it, we see opportunity to improve the profitability of that portfolio, and that's really the focus there. And from an aftermarket perspective, we feel good about the margin progress that we saw in that business in the fourth quarter. We would expect to continue to drive margin performance in that business. So that's really how we look at those right now.

Okay. Kevin, could you share your thoughts on the chip disruption, its implications, the resulting production shortage, and any potential impact on lost sales? Also, regarding the outlook, I believe you're being quite modest about your fourth-quarter performance, especially considering the significance of the F-150's decline. How do you foresee the recovery as production ramps back up, and what effect do you think the mix will have on the F-150 and the overall industry in 2021?

John, what we see is certainly some kind of disruption, mostly in the first half. The second half recovery is currently unknown. What we have put in the low end of our guidance, John, is a net production impact greater than 1 million vehicles, and that's reflected in the low end of the guidance. That's for the full year.

That's helpful. And then on the mix, particularly around the F-150?

What's your question on the mix?

No, I mean it was a benefit for most in the industry in the fourth quarter and through most of 2020. But obviously, you got dinged a bit with the F-150 being down in the fourth quarter, so your performance was probably even better than it looked. I'm just curious, as you think about mix going forward in the 2021 guidance, how strong is mix going to remain? And particularly with the ramp back up in the F-150, how big a benefit will that be?

Yes. I mean the F-150 will definitely help us from just an overall revenue outgrowth perspective. It is the reason that we underperformed in North America in the fourth quarter. I want to say it was probably around a $25 million, $30 million type of revenue impact on us. So we would expect obviously that headwind to abate and not be an overhang on outgrowth as we look ahead to 2021.

Just on the Delphi upside in the quarter, what were the primary drivers of that relative to your outlook? And because cost synergies and purchase accounting obviously came in as expected, just curious what drove that. And then can you dimension at all what's baked in for the full year guide related to Delphi's inorganic contribution?

Yes. On the fourth quarter, I mean we were pleased with the results that came in from Delphi, both from a top line perspective and from a margin perspective. The biggest upside that we saw in terms of revenue being up effectively from the midpoint of our guide by about $145 million really came in the fuel injection and the legacy powertrain products portfolio. And so we are pleased with that performance, because that also actually helps from a margin perspective because those are two of the stronger portions of the business from a margin contribution perspective. So that's a big driver of what caused us to generate some upside. I'd say also it's probably fair to say we were one month into owning Delphi and just starting to really get our hands around some top line and bottom line drivers in the business. And so we did make some cautious assumptions as we gave Q4 guidance with respect to the Delphi portfolio, and those proved to be too conservative at the end of the day.

Does that conservatism carry through to this year and related to the accretion framework that you laid out a few months ago?

Yes. I think with respect to 2021, we feel really good about our ability to deliver on the guidance that we're giving, with the outgrowth of 100 to 300 basis points in totality, which basically assumes that Delphi outgrowth is flat to actually slightly negative because of that diesel headwind. So we feel good about our ability to deliver on that outgrowth for the year, to deliver on that improving margin profile, the 10% to 10.5% in totality for the company, and delivering strong cash flow. And in terms of what that means for us as we look to 2021 and even beyond, we think we're right on track to deliver the greater than 11% operating margin as we progress toward 2023.

Okay. Got it. And then just to clarify, the 45% of your $2.8 billion backlog tied to e-products, that excludes hybrid, correct? That's just battery electric? And then for the free cash flow strength, clearly apparent in the guide. The company already repurchased $216 million this past quarter. I mean how should we be thinking about the buyback effort for this year?

It includes a small portion of high-voltage plug-in hybrids under the new energy vehicle credits in China, which is a minor part of the 45%. Kevin, would you like to address that?

Yes. As we look ahead to capital allocation priorities in 2021, we are actively exploring several M&A opportunities that we believe will enhance our position and growth in electrification. This is a priority for us as we approach 2021. We will evaluate our buyback capacity throughout the year based on how these M&A opportunities develop. Our focus is definitely shifting towards more aggressively using capital to support growth initiatives and our positioning in electrification. This is reflected in our R&D investment increasing to 5% this year, and you will continue to see our pursuit of M&A opportunities.

Do that supplement some of the $1 billion buyback target?

I'm sorry, say that again?

With the potential M&A, that would supplement the $1 billion targeted buybacks? Or it doesn't...

It doesn't supplement. It's just how we look at deploying the $800 million to $900 million of free cash flow this year that we expect to generate in 2021. Our priority is going to be really focused on some of these M&A opportunities that improve our positioning and growth in electrification. In terms of the $1 billion program, we remain committed to the program, as you can see by the evidence of what we did in our Q4 repurchase activity. But as it relates to how we're looking ahead here in '21 and beyond, we're definitely focused on exploring some of these key M&A opportunities that we're pursuing.

Yes, why don't I first ask you about the backlog data that you show on Slide 16? Have you historically included aftermarket in that backlog forecast? I know that last year, you had, over a four-year period 2.5 billion to 2.6 billion prospectively. Now it's 3.2 to 3.4. I was hoping you can give us some of the pluses and minuses as you look out as far as how much Delphi contributed, what backlog contributed, and what kind of headwind you've got from combustion technologies.

Yes. I guess the backlog has always included all of our revenue relative to the measurement of our market performance. And so as you look at this as well, it's included on the same basis. I mean it's a much smaller piece of the backlog than the rest of it on the OE side, primarily because our focus on the aftermarket business isn't necessarily driving rapid growth. It's making sure we sustain strong levels of profitability.

Okay. And how much did Delphi contribute to this backlog?

We don't have a detailed breakdown, as we are moving away from distinguishing between Delphi and non-Delphi. However, when you examine the overall situation, the 4.5% growth is effectively what this 2022 to 2024 backlog suggests. This aligns directionally with the 4.5% or mid-4% growth we discussed a year prior for the combined portfolio. While we are not separating it that way anymore, it's reasonable to consider that perspective. Looking ahead, Delphi likely represents a larger portion of that backlog, as we are now projecting 22% to 24% growth instead of the previous 21% to 23%, taking into account the earlier diesel headwind.

Okay. And just secondly, you did north of 11% margin in the quarter. And I'm wondering if that says anything about your longer-term 2023 target of 11%. I think that you'd be annualizing it at more than the $15.5 billion or so that you annualize at in Q4. So is that starting to look conservative? And if you could just repeat, did you say that inorganic or strategic actions might include divestitures as well? Or you're simply looking at more acquisitions?

Yes. When we examine the Q4 performance, we are extremely pleased to have achieved an 11.4% margin, translating to an annualized revenue of $15.7 billion. This figure exceeds the run rate for 2021, which is at $15 billion at the midpoint of our guidance, with $300 million attributed to currency effects. Therefore, Q4 reflects an annualized revenue that is approximately $1 billion higher than what we forecasted for 2021 when excluding foreign currency impacts. We believe we're on the right track, especially with the additional synergies we expect to realize beyond 2021, which will generate another $85 million, alongside the margin improvements we're seeing in certain segments of the legacy Delphi businesses. Coupled with our revenue growth and the ability to convert on our backlog, we feel confident in achieving greater than an 11% margin in 2023. Regarding your inquiry about M&A, I was referring more to acquisition opportunities, but we also have a proactive approach to portfolio management. We are dedicating considerable time to this as we plan for the future, and you can anticipate that this will become a more prominent aspect of our strategy moving forward. My comments were primarily focused on M&A opportunities that could leverage the cash flow we're generating this year.

First, I wanted to ask on Delphi. You've had the Delphi result. I believe the margin they just posted in the quarter was the best quarterly operating margin for Delphi since 2018. Maybe you could just walk us through some of the moving pieces that drove the recovered margin in Delphi? Was it just restructuring paying off? Is it good mix? Any color would be helpful on the Delphi piece, which obviously came in much better not only versus what you were talking about in your guidance, but versus what we've seen in the recent years.

Yes. I mean I think the first thing you look at when you look at the Q4 performance, which was in the upper 9% margin range for that as a stand-alone business, keep in mind Q4 was a really strong revenue quarter, going back to the highest levels relative to maybe a couple of years ago. So $1.1 billion in the quarter, on an annualized basis almost $4.5 billion, so that's a pretty strong level of revenue. And part of the upside that the business was seeing there came in some of the portions of the portfolio that have had historically stronger margins. So I think that's an important piece to keep in mind. That said, I think the restructuring actions that the company had been taking pre-closing and that we're continuing on a post-closing basis will continue to support that margin profile. But remember, we're continuing to offset that headwind that's coming from that legacy diesel business. You see from my slides that in 2021, that's expected to be about a $140 million revenue decline. That comes with some outsized margin because it's a strong margin performing piece of the portfolio. And that's where the restructuring actions that we're continuing to execute on in the legacy Project Pioneer are helping to mitigate the impact of those headwinds. But overall when you look at it, it was strong margin and getting some tailwind from some of the cost performance actions that the business has been executing over the last couple of years.

Okay. I'd like to follow up on Delphi. Now that you’ve had Delphi for a quarter, could you provide an update on your restructuring programs? You have your own core restructuring program running alongside Delphi's Pioneer program. When might we see incremental restructuring actions? You've mentioned an ongoing portfolio process, but what about aspects like headcount and footprint? How long until we see BorgWarner in a steady state with everything fully optimized?

Well, I...

So what I would say is restructuring is part of what we do, and we always want to do that in a position of strength. We did restructuring, we are on track. Delphi did Pioneer, we are continuing that, we are on track. And on top of that, we have the synergies, and also we are on track.

And potential for additional actions? Or...

Yes, I think we're really focused on completing the actions that we're already in the midst on. The restructuring program that we announced about a year ago on the legacy BorgWarner side is going well. We have more actions that we're executing on as we go through '21 and '22, so we're focused on executing that. Project Pioneer still has some more work to do predominantly in 2021, and we're going to continue to execute that program through '21 and a little bit into '22. And then we have the cost synergies that we're executing on. So we have a lot on our plate right now already that we're really focused on delivering on, and we would expect those to be completed over the next couple of years. Then we'll take stock of where we are and if there's anything else we need to do at that point.

I wanted to revisit a couple of questions regarding the backlog. From a different perspective, I'm trying to understand which segments are growing and at what rate, as well as which parts of the business may be slowing down or diminishing. Looking at last year's backlog, on a BorgWarner stand-alone basis, it was 2.1 billion for the half-year three-year period, translating to about 700 million per year. Now you're discussing an estimated 700 million a year or about 2.8 billion over four years. However, it's clear the outlook for light vehicle production has worsened, although you have also integrated Delphi into the equation. Can you provide insight on how your backlog is breaking down, and whether you're seeing a similar level of revenue growth? What are the key factors influencing this?

I would say, Emmanuel, that the backlog is in line with what we discussed over the past quarter, leading to outgrowth to south of 500 basis points. I'm very, very happy with the fact that, as we discussed before, 45% of that backlog is on e-products. The rest is all-wheel drive and turbos and a little bit of emissions. But 45% pure e, except those products that go in high-voltage BEV in China, which is small within that 45%. This is a very, very good performance. I think it speaks volumes about our ability to win. And it speaks volumes about our ability to deliver growth in this growing segment, leading to additional content per vehicle in this segment. So I feel pretty good about where we are.

And just one thing to correct, Emmanuel, the $2.8 billion we display is a three-year number, just 2022 to 2024.

Okay, yes. No, that makes sense. And then I guess one way you used to break it down as well the backlog was maybe is versus hybrid versus EVs, I guess across technologies. So would you have a similar breakdown for your current backlog?

So 45% is in electric vehicles, and the remainder is either in conventional engines or hybrids, but 45% of the backlog consists of products that are related to battery electric vehicles.

And then on a net basis if you're referring to how we've broken it out a little bit, electrification including hybrid, over 100% of that net backlog on a net basis is coming from hybrid and electric. But we're really starting to focus more and more as we talk to you about the e-products, to make sure you have visibility on the e-products that are truly applicable to battery electric vehicles. And that's the point of this 45% of the backlog that we're really focused on. But over 100% of the net backlog is effectively hybrid and electric vehicles.

That's right.

Okay. Great. And then as a follow-up, the R&D needs towards electrification going to 5% of revenue, you view it as a sort of new steady state or multiyear state? Or is it sort of like an initial larger investment?

Yes. We expect as we look ahead that our R&D is going to be at that level, 5%. Maybe even a little bit higher than that 5% to the low 5s as we look out over the next couple of years, and still in line with our ability to deliver on our margin targets as we look ahead to 2023. So I think you should think from a planning perspective, because of the momentum that we have and the wins that we're seeing in the marketplace in electrification, that we're going to continue to invest more aggressively, probably in that 5% to even upwards of 5.5% range over the coming years.

I'm glad we got to touch a little bit already on cash flow. Because the free cash flow performance was very strong, and the guide is very strong compared to consensus. So can we talk a little bit about the CapEx component of that 4.5% of sales, I guess? Near the low end of the historical range after you conserved CapEx in 2020. Can you give us a little bit of color on what drives sort of this relatively low CapEx level? Are there fewer product launches this year? When, if at all, would you see that reverting back towards sort of the 5% or 5.5% level?

As you look at us over the last few years, I mean I know we've talked about being in that 5.5% range or even progressing toward 5%. I think you can see over the last few years, we've actually been more in that mid- to high 4% range. And as we've really scrubbed our planning and looked at that on a go-forward basis, I think we're probably going to be in that 5%-ish range on a go-forward basis. This year a little bit lighter, but it's actually pretty comparable to the types of CapEx investment we've been investing over the last few years. So I think for this year, you can see it's kind of in the 4.5%. Maybe it will trend up a little bit higher towards the upper end of that guidance range; we'll see. But I think as you think about planning ahead for the coming years, it's probably in that 5% ZIP code is the right way to think about us.

And then maybe a follow-up question on the M&A landscape and opportunity, really what you're looking for here. And I think the company has talked in the past, and particularly after announcing Delphi, about pretty unmatched capabilities around integration and a broad portfolio for powertrain electrification. So at this point, as you look at M&A needs, would it be more about competencies or about scale? Can you help us understand what the priorities might be?

I'm very pleased with the progress at Delphi. It was established to enhance our scale in power electronics and electronic software. Now, we can focus on accelerating our efforts with this new base, portfolio, and technological capabilities. As I mentioned, we'll share our strategy at Investor Day. We're committed to the Delphi integration and will not interfere with it. Our priority will be to enhance technologies that enable us to improve all aspects related to electric vehicles, whether for passenger cars or commercial vehicles. The Delphi integration remains a critical focus for us.

Free cash flow...

And those two questions, the two questions are linked to each other. Free cash flow is a strong enabler of us being able to do what I just said. Our focus on free cash flow since about three, four years ago has been the right thing to do with that strategy in mind.

Regarding the announcement of the 800-volt electric motor for commercial vehicles, can you talk about the four different variants? Do they have different use cases? What kind of commercial vehicles will the motor be used in? And how are you thinking about the potential for other commercial vehicle OEMs to potentially use this motor? Are you able to provide an overview of the different products that you supply into or could supply into commercial vehicles to facilitate electrification? So there's this motor. I think there's some thermal management. But are your silicon carbide inverters or other products for the light vehicle industry also applicable for the commercial industry?

All the products we offer for passenger cars are also available for commercial vehicles. Different variants will cater to the varying power and functional demands of our customers. It is a range of products that can be adapted to meet other commercial vehicle needs. In addition to those motors, we provide motor controllers. We are also involved in the commercial vehicle battery pack sector. This market segment is very important for us. We believe the electrification of these vehicles will be significant, and we are prepared for it.

Okay. And I see you have incorporated in your guidance global light and commercial vehicle production up 11% to 14% in '21 weighted for your geographies, which is seemingly more conservative at the midpoint versus IHS' mid-January expectation for plus 14% for light vehicles globally. But at the same time, maybe a bit more optimistic than some supplier peers have assumed, given the semiconductor shortage issue, which I thought I heard you quantify at about 1 million units. Are you able to tell us what your outlook is for global light vehicle production that rolls up into that 11% to 14% across light and commercial end markets weighted for your geographies? And I'd be interested to know too if you expect any direct exposure to the semiconductor issue, I don't know, in your power electronics or any of your other components. Or if you're just looking at it for more of an indirect impact from lower customer production at this point.

Ryan, with respect to the specific market assumptions that we're using in the breakdown by geography even of light vehicle, commercial vehicle and in total, we actually included a slide in our backup; it's Slide 21 in the appendix materials to help you have that visibility. So our global weighted light vehicle market range is 12.5% to 15.5% growth in 2021, which that's the portion for light vehicle. Commercial vehicle global weighted is 3.5% to 6.5%. That blend gets you to the 11% to 14%.

I see, super helpful. And on the semiconductor issue, do you think it's just indirect or any direct exposure?

So we have direct exposures since we are delivering a vast amount of electronic systems and subsystems. We've been jumping through hoops over the past two, three months to keep everything going. So far, so good, I would say, from a direct exposure. Overall, we are including, in the low end of our guide, an impact of slightly more than 1 million vehicles for the full year. That's the exposure that we see on the low end of the guide, being direct or indirect.

I wanted to ask first about post-Delphi customer conversations. So I assume based on the timeline that you've put out, you've probably completed most of those meetings at this point. And Fred, just wondering if there's any additional color you can provide on the tone of those conversations versus your expectations going into the process. You said that customer feedback is very positive, and yes, just wondering if you could expand on that.

Yes, it's very positive. We have covered more than 75% of all customers globally, including those in passenger cars and commercial vehicles. I identify three areas of synergies. The first is when Delphi introduces technologies that we previously lacked, such as silicon carbide, which BorgWarner is now adopting. Secondly, BorgWarner contributes its financial strength and customer relationships, exemplified by one of the products I mentioned in my prepared remarks that BorgWarner is pursuing. Lastly, there are opportunities for combining products and systems. Although this process will require some additional time, BorgWarner will be moving forward.

Great, and then if I could ask another customer-related question, specifically regarding U.S. emission standards. So now that the Biden administration has been in place for a month, we're seeing sort of the lawmakers back away from their support for the Trump-era emissions rules. And I'm just wondering, has that changed yet at least your conversations around turbochargers, GDI, et cetera, specific to the U.S.?

We're not seeing any impact on our discussion with our North American customers. And from a product portfolio perspective, from a technology perspective, we are ready to accelerate at the pace they would like to accelerate. We're already with great technologies leading to very, very good efficiency gains in battery electric vehicles.

One more maybe crack at the backlog. I think previously, you talked about 3% combustion outgrowth, 10% on hybrid, 17% on electric. What does that look like now under the new backlog? Recognizing there's a bunch of moving pieces, both with customer plans and hybrids, but also the integration of Delphi.

For today's meeting, we weren't going to go through that in detail. We wanted to give a profile that made sure you understood how we're tracking toward our midterm outgrowth performance. We still expect to be in that mid-4.5% range, just as we talked about a year ago. The big-picture items that we wanted to make sure you're aware of coming out of today are the fact that 45% plus is in e-products, and we continue to have the greater than 100% of the backlog on a net basis in hybrid and electric. But today we're not going to be breaking down anything further than that from a combustion, hybrid or electric perspective.

Okay. Maybe just as a follow-up, and recognizing we'll probably hear more about that later. Like one thing you did sort of update, right, was the addressable content. Because I think the last time you gave those numbers were pre-Delphi. So now it looks like on electric, it's like 2.4k. And before it was I think just under two. And on combustion, it's a little bit over 900, and it was 600 before. So a couple of hundred bucks higher on each. You also used to give like an average CPV content. And I think that assumed your participation rate of about 1/3 on electric. Can you let us know if that has changed at all? Is that still roughly what you think you can get post-Delphi? Or have the numbers changed, especially with some of the inverter stuff you were talking about?

Yes. I think back on the content per vehicle opportunity that we talked about on the earlier slide, we've actually put those numbers out here a couple of months ago. So they're consistent with what we've been sharing for the last couple of months, which contemplated basically combining the legacy BorgWarner and Delphi content opportunities. When you look at the electric side, you can obviously see the number has increased quite a bit. Before, we did have inverters in there because we had capability in inverters even prior to Delphi. But we didn't have it at scale and with the technological leadership position in light vehicle that Delphi has. So I think the probability of us delivering on that content opportunity has increased. And then the dollar amounts actually increased because of some of the other power electronics capabilities, in particular that Delphi brings to the table. As we talk about possibly peeling back the onion here or giving a little bit more data, I think you should be on the watch for Investor Day. We'll give more color to how we expect the business to be evolving over the coming years.

Yes. Instead of asking general housekeeping questions, I want to focus on your strategy. I’m curious about the breakdown within your backlog of e-motors versus inverters. In December, you shared some informative slides regarding what is produced in-house versus what is outsourced for e-motors and inverters. You mentioned that 50% of e-motors are in-sourced and 50% are outsourced. Do you have any updates on that based on current market conditions? Additionally, with the recent commercial vehicle win and Kevin’s experience in that sector, are you considering a greater focus on commercial vehicles, especially since it seems that most, if not all, CV motors will be outsourced? Lastly, Meritor and Dana have discussed integrating motors into axle sets. Could you explain how that product functions, possibly in terms of application, such as under the hood of a freight line operating through a traditional transmission?

Brian, our view of in-sourcing versus outsourcing has not changed from what we presented in December. Our view that our family of motors can be applicable in both passenger cars and commercial vehicles has not changed either. So we started booking some CV business a few years ago, and this one is certainly getting it to another dimension. But we've always planned our product portfolio across passenger cars and CV and learned from those two market segments to be at the forefront of technology and reliability.

And in terms of being in the axle versus away from the axle?

For us, it doesn't matter if the motor is integrated into the axle or located away from it. A high-power density motor paired with an advanced controller is always necessary. We are noticing that more customers prefer not to place the motor controller directly in the motor, and we believe these synergies will simplify things for our customers in the future as we provide both a quality motor and an excellent motor controller together.

I have a question and a follow-up regarding asset write-downs. Auto companies are announcing plans to aggressively phase out internal combustion engine technology, with some intending to stop sales within the next 15 years. This makes me wonder if this could lead to any asset impairment or write-down of some of your long-lived intellectual property and assets due to the reduction in their useful lives. Are we at a stage where you could conduct such assessments with your auditors? Could we expect potential write-downs in the next year or two? Additionally, could BorgWarner receive compensation from OEMs for these curtailments, considering the upfront research and development investments you made that may not allow all advanced internal combustion engine technology to complete its engineering cycle?

Yes, I think as we look at it at the moment, we don't see any sort of accelerated asset write-down. I mean the bulk of the investment we make when it comes to Capex, for instance, is depreciated over the life of the programs. And so we're really supporting programs and amortizing on that basis. And then just keep in mind, some of our core businesses are continuing to grow even in the ICE space as we see some movement towards hybrids, whether you think of turbos and VCT and EDR. But again, the basis of the way we depreciate assets is predominantly over the life of the programs that those assets are there to support. And then when you think of footprint, remember, we are predominantly an assembly model business in terms of our manufacturing footprint. And so we actually can leverage using that footprint in different ways as we look ahead if we need to pivot.

Great. I have a follow-up regarding Slide 16. It's a straightforward question. Previously, you referred to the backlog as just net light vehicle, but now it includes a more detailed definition: light vehicle, CV, net backlog, plus aftermarket. I want to confirm that there hasn't been any definitional or scope change from your earlier description of the backlog to this one. Additionally, I'm interested in understanding how much aftermarket growth contributes to the mid-4% range and what that percentage would be without that additional component to the right of the ampersand.

Yes. Good questions, Adam. The backlog has always included aftermarket as from a dollar perspective in totality measured against those markets. When we measure the outgrowth, though, what we do is we're measuring the outgrowth, but we're excluding aftermarket as a measure of that outgrowth against the markets. Because we're really measuring against the OE markets, and we're measuring the revenue that we're generating. So when you see that mid-4% range, the math actually doesn't include any tailwind from aftermarket in the mid-4% range, but the backlog is comprehensive.

And maybe just a follow-up on the inverter discussion. I believe you had previously noted a $4 billion or 4-plus billion addressable inverter market by 2025. We were just curious as to how much of that, in your view, is likely to be tied directly to silicon carbide? And also curious to hear your thoughts on how the competitive landscape might shift as the inverter market appears to be transitioning to silicon carbide.

So we're leading the market with high-voltage and silicon carbide. And in our world, it's all about efficiency. It's certainly a fact that high voltage and silicon carbide enables lower losses and higher efficiency. And we're laser-focused into enhancing this technology to the highest possible level. And I'm very happy with what we're seeing. The fact that we have vertically integrated power modules, ASICs, software development is also an advantage that we have that the customer also values quite a bit.

Okay. Got it. And then maybe one quick follow-up, I believe Delphi had established a partnership with Cree as the silicon supplier for 800-volt silicon carbide inverters. That was prior to your acquisition. So I guess a, is that partnership still at play here? And also, are they the supplier for the 400-volt transition you referenced that should be a big part of some of the growth going forward?

The relationship still exists. I will not comment on sourcing of the silicon carbide, but the partnership with Cree has not changed and is being nurtured.

Thank you. With that, I'd like to thank you all for your great questions today. If you have any follow-ups, feel free to reach out to me or ready. With that, Sharon, please close the call.