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Edited Transcript of MTOR earnings conference call or presentation 30-Apr-20 1:00pm GMT

Q2 2020 Meritor Inc Earnings Call

TROY May 7, 2020 (Thomson StreetEvents) -- Edited Transcript of Meritor Inc earnings conference call or presentation Thursday, April 30, 2020 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Carl D. Anderson

Meritor, Inc. - Senior VP & CFO

* Chrishan Anthon Sebastian Villavarayan

Meritor, Inc. - Executive VP & COO

* Jeffrey A. Craig

Meritor, Inc. - President, CEO & Director

* Todd Chirillo

Meritor, Inc. - Senior Director of IR

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Conference Call Participants

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* Alexander Eugene Potter

Piper Sandler & Co., Research Division - MD & Senior Research Analyst

* Faheem Farid Sabeiha

Longbow Research LLC - Research Analyst

* James Albert Picariello

KeyBanc Capital Markets Inc., Research Division - Analyst

* Jason Flynn Stuhldreher

Barclays Bank PLC, Research Division - Research Analyst

* Joseph Robert Spak

RBC Capital Markets, Research Division - Analyst

* Ryan J. Brinkman

JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Q2 2020 Meritor, Inc. Earnings Conference Call. (Operator Instructions) As a reminder, this call may be recorded.

I would now like to introduce your host for today's conference, Todd Chirillo, Senior Director of Investor Relations.

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Todd Chirillo, Meritor, Inc. - Senior Director of IR [2]

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Thank you, Josh. Good morning everyone, and welcome to Meritor's Second Quarter 2020 Earnings Call. On the call today we have Jay Craig, CEO and President; Carl Anderson, Senior Vice President and Chief Financial Officer; and Chris Villavarayan, Executive Vice President & Chief Operating Officer, all of whom will be available for questions following the call. The slides accompanying today's call are available at meritor.com. We'll refer to the slides in our discussion this morning. The content of this conference call, which we're recording, is the property of Meritor, Inc. It's protected by U.S. and international copyright law and may not be rebroadcast without the express written consent of Meritor. We consider your continued participation to be your consent to our recording. Our discussion may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995.

Let me now refer you to Slide 2 for a more complete disclosure of the risk that could affect our results. To the extent we refer to any non-GAAP measures in our call, you'll find a reconciliation to GAAP in the slides on our website.

Now I'll turn the call over to Jay.

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [3]

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Thanks, Todd, and good morning. I'd like to begin by expressing my thanks to all Meritor employees for their dedication and hard work as we take on the challenges we face today. As part of an essential business, Meritor employees remain committed to supporting the delivery of medical, food, and other critical products for our communities around the world. I also want to express my thanks to the frontline workers that Meritor has had the privilege to support in the fight against COVID-19.

I will now spend just a couple of minutes talking about the second quarter before providing an update on the status of the business today in light of COVID-19. Let's turn to Slide 3. The company was performing extremely well before the pandemic began to impact production, first in China, beginning in mid-January, then throughout the rest of the world, beginning late in the second quarter and continuing into the third. Carl will share more detail, but here you can see the highlights from the quarter.

Sales were down $285 million from last year due to lower volumes. We finished the quarter however with a 12.3% adjusted EBITDA margin, up from 12% in the same quarter last year. That income was $240 million, up $167 million from the same period last year. This was driven by $203 million of after-tax income associated with the termination of the distribution arrangement with WABCO.

Our liquidity position at the end of the second quarter was $829 million. This represents approximately 20% of our trailing 12 months sales. Cash on the balance sheet was $508 million. We have access to the remaining $321 million of availability under our revolving credit facility, and expect to be in compliance with our covenants under this facility for the remainder of the year. Although it is still early to accurately forecast the extent of the pandemic's impact on the industry, the strong foundation we built over the past several years will provide advantages as we work through this crisis.

Let's go to Slide 4. As we bring operations up around the world, the safety of our employees is our highest priority. Over time, we have improved our safety record to be comparable with the best companies in the world. And it is my intent to maintain that level of excellence as we face the challenge of protecting our employees during this global health crisis.

We have developed a comprehensive set of procedures that make up SAFE START. This plan outlines protocols for operating in this new reality. It includes procedures and policies that will be audited at each of our global locations, whether it's a manufacturing plant, office, distribution center, or test environment. These practices include preventative measures in entryways and common locations; heat mapping to identify areas that require special attention, personal protective equipment, wellness checks, more frequent and in-depth cleanings, visual indicators and the addition of social distance coaches. To ensure that we are following and sharing best practices across the company, I have asked Meritor's general auditor to assume the additional role of chief safety compliance officer. People consult with outside experts as needed to ensure that best practices are being implemented and followed.

On Slide 5, we provide a current update on our global operations. Meritor's Aftermarket distribution business ran without interruption over the past 2 months to maintain the supply of critical replacement parts for trucks and trailers. Our industrial business operated at lower volumes to support the production of vehicles considered critical for defense, bus and coach, terminal tractor, fire and rescue and other off-highway applications. We also maintain delivery of battery electric kits from our TransPower facility in California, primarily for Kalmar terminal tractors for delivery to companies like Amazon and Walmart. And we continue to work on critical electric vehicle integration projects for our customers.

Currently the majority of our operations in North America and Europe have resumed limited production. Over the coming weeks, we also expect to restart operations in South America and India. China resumed full operations last month. We acted swiftly to implement a series of actions that took effect in early April. This allowed us time to look at the business longer term and evaluate next steps. These actions included a reduction in pay per salaried employees, in addition to reduced discretionary spending and capital expenditures.

Since that time, we have lessened the salary reduction for most employees. Beginning May 1st, the current reduction in pay of 40% to 50% of base salaries will be reduced to 20% to 25%. Salary reductions for the executive committee, including me, will remain at the previously set levels of 50% to 60%. Other actions announced in March are in effect indefinitely.

Now I'll turn the call over to Carl.

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [4]

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Thanks, Jay, and good morning. On today's call, I'll review our second quarter financial results, liquidity position, debt maturity profile, and retirement-related liabilities. Before I begin, I wanted to take an opportunity to express how proud I am of our team's ability to quickly mobilize and rise to the challenges which have been placed before us.

Now let's walk through our second quarter financial results compared to the prior year on Slide 6. Overall, sales were $871 million, down 25% from the same period last year. Sales in our commercial trucks segment decreased by 33% year-over-year to $588 million. The decrease in revenue was in line with global truck market conditions as all regions saw lower production levels.

The suspension of production due to COVID-19, first in China in mid-January, and then late March in Europe, also contributed to lower sales. In our Aftermarket, Industrial and Trailer segment, sales were $319 million, down $10 million or 3% from last year. Lower sales were primarily driven by decreased volumes across the segment, including the beginning impacts of COVID-19 and overall market demand, partially offset by $43 million in revenue generated from our AxleTech business.

Net income from continuing operations attributable to the company was $240 million compared to $73 million in the same period last year. As Jay mentioned, higher net income year-over-year was driven by $203 million of after tax income associated with the termination of the Aftermarket distribution arrangement with WABCO.

Adjusted EBITDA was $107 million in the second quarter of fiscal 2020 compared to $139 million in the same period last year. Adjusted EBITDA margin was 12.3% compared to 12% a year ago. The improvement in margin was largely driven by a $10 million adjustment of lower incentive compensation expense to align with the revised performance expectations due to COVID-19. We also recognized a $4 million benefit resulting from a tax law change in India.

Segment adjusted EBITDA for Commercial Truck was $55 million, down $33 million from last year. Segment adjusted EBITDA margin for Commercial Truck came in at 9.4%, down from 10% in the prior year. The decrease in segment adjusted EBITDA and EBITDA margin were driven primarily by lower volumes, partially offset by lower incentive compensation costs, lower net steel costs and other material costs. Segment adjusted EBITDA in our Aftermarket, Industrial and Trailer segment was $49 million, a decrease of $3 million compared to the second quarter of last year. Segment adjusted EBITDA margin decreased 40 basis points to 15.4%.

Free cash flow for the quarter was $292 million compared to $19 million in the same period last year. The increase in free cash flow was driven primarily by the $265 million of cash received from WABCO.

Next I'll review the debt covenant which governs our revolving credit facility on Slide 7. The credit facility as a sole financial covenant based on priority debt, which is a subset of our total outstanding debt. The calculation states priority debt cannot exceed trailing 12-month compliance EBITDA by more than 2.25x. It is important to know that $265 million pretax income we recorded associated with the WABCO termination is included in trailing 12-month compliance EBITDA.

Now let me walk you through the calculation in detail. First, priority debt is comprised of any outstanding borrowings under the revolver, inclusive of any term loan funding, any outstanding U.S. factoring and U.S. securitization balances, plus any secured liens for us consists of our capital leases. In total, priority debt as of the second quarter was $633 million.

Secondly, priority debt is compared to trailing 12 months compliance EBITDA, which starts with consolidated net income, and then added back our depreciation, amortization, interest and taxes. Including other minor adjustments, the total 12 months trailing compliance EBITDA at the end of the second quarter was $701 million. The resulting ratio is 0.9x priority debt compared to compliance EBITDA, significantly under the limit of 2.25x. Furthermore, the covenant is only measured on the last day of each quarter. If a compliance is achieved, the covenant is deemed met for the entire following quarter. As the income from the WABCO termination will be included in our priority debt calculation for 4 fiscal quarters going forward, at this time we expect to be in compliance with our covenant throughout the year and maintain access to the full credit facility.

Let's move to Slide 8, which details our extended debt maturity profile and retirement liabilities. As you can see on the chart on the left, we have no significant debt maturities until 2024. In fact, we only have $4 million of debt coming due for the remainder of this year, and $32 million in total debt maturities in fiscal year 2021. You will note in fiscal year 2023, we show the maturity for our U.S. securitization facility. We typically extend this facility annually for an additional year, which we would expect to do again later this year. The bottom line is that we have a clear runway with our debt maturities with no significant calls on cash through 2024.

At the end of 2019, our net pension liability was $122 million, which translated to a 93% overall funded status. Based on this, we expect very manageable required contributions over the next several years. And while we have obviously seen challenging financial markets as we ended the second quarter, our estimated funding status has actually improved from the end of 2019. This has been driven by a combination of strong U.S. asset returns in the plan, which are up over 10% through March, and higher discount rates as corporate spreads have widened.

While our plans will continue to be susceptible to changes in asset returns and discount rates as we move through the remainder of the year, our asset allocation is skewed more towards fixed income given our liability hedging strategy. Overall, we are pleased with the performance today.

Turning to our OPEB liability, as we have previously discussed, we have taken steps in recent years to significantly reduce this obligation. At the end of 2019, this liability was only $67 million. Overall, with an extended debt maturity profile and well-funded pension plan, we don't have any significant calls on cash from these liabilities in the near term.

In summary, the balance sheet actions we have executed over the last several years along with our current liquidity position makes us well-positioned to navigate the current environment.

Now I'll turn the call back over to Jay.

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [5]

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Thanks, Carl. Please turn to Slide 9 for our third quarter outlook. Let me highlight our assumptions. As I said earlier, segments of our operations have continued to run. We expect these businesses to contribute between 50% to 60% of our revenue during the third quarter. The restart and ramp up of our Commercial Truck business is not as clear. While we expect most of our plants around the world will be running in early May, there is uncertainty on timing and volume, which is driving the large range of our revenue outlook of $400 million to $500 million.

Negative cash flow from operations is expected to be in the range of $150 million to $225 million. This includes the one-time impact of the unwind of our factoring programs. These programs allow us to monetize our receivables quickly after they are generated. Removing the impact of factoring, we expect negative cash flow from operations of $25 million to $50 million during the third quarter.

Turning to margins, we expect to hold sequential decrementals in the third quarter in the range of 20% to 30%. This includes additional investment required to implement new safety protocols. We are able to achieve this due to the quick and aggressive cost containment measures we have already taken. I want to emphasize that we are running the business to focus on operational cash flow in the near term.

Let's move to Slide 10. As we entered the second half of the fiscal year and restart production, we are making sure that every safety protocol is in place, including providing the necessary [PPE]. With the existing challenges in obtaining large quantities of masks, gloves, cleaning supplies and disinfectants, we will first make sure that each of our plants, distribution centers and testing labs have the necessary quantities on hand before we start allocating these supplies to global administrative offices.

I have been pleased with the adjustment that our salaried employees have made to working remotely. With that in mind, our salaried employees will work from home until further notice.

We have begun to see the favorable impact of our aggressive cost reduction initiatives. As I mentioned, we believe these initiatives will provide the stability necessary to minimize negative operating cash outflow in the near term. We are working closely with our customers to run production as needed to meet their schedules. Our assumptions include a significant decreased level of production for the remainder of 2020. And we will evaluate and implement additional fast actions, with a focus on minimizing operating cash flow in the near term.

As we now turn our attention to the longer term outlook for the company, we are evaluating the appropriate strategies for a global environment where demand for our products may be weak for many quarters. We plan to provide you with a longer term outlook for fiscal 2021 and our M2022 plan performance on our third quarter earnings call, if there is a set of market forecasts that we are comfortable with modeling for modeling purposes.

This outlook will include a summation of the benefits we expect to see from the longer-term actions we are in the planning phase of executing. While the pandemic created the situation unlike any we have faced in the past, with the full repercussions as yet unknown, we are taking the actions we believe will put the company in the best position for the long term.

I want to thank Meritor employees for their focus during this unprecedented crisis. Our employees' dedication and responsiveness to customers and to each other has been overwhelming.

Now we'll take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Joseph Spak with RBC Capital Markets.

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Joseph Robert Spak, RBC Capital Markets, Research Division - Analyst [2]

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I guess first question is even if we sort of look at the decrementals in this quarter, some of the incentive benefit, it still seems like there's a step down on the decrementals into the next quarter. Is that just all sort of volume-driven? (inaudible) feeling the bigger declines or is there anything else that can sort of bridge that gap between the performance?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [3]

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Yes, Joe. Good to talk to you as well. Yes, I think we look at the next quarter, one, this -- what we provided was a sequential look relative to the second quarter. I think when you cut through the math in a year-over-year basis, it's kind of running a little bit in the low 20% range. And as far as, we look specifically for the second quarter, we -- as you pointed out, we did benefit from lower incentive comps in our actuals as well as the -- in the onetime kind of tax impact that ran through EBITDA.

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Joseph Robert Spak, RBC Capital Markets, Research Division - Analyst [4]

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Okay. And Jay, just -- or, well, I guess actually somewhat related, you obviously sort of taken out a bunch of cost in the short term, and I guess some of that can be viewed as temporary, but as you mentioned, sort of maybe new world, new era, is there an opportunity to sort of maybe as you reevaluate make some of those temporary savings more permanent in the mid to long term as you reevaluate the cost structure?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [5]

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Now Joe, this is Jay. Thanks, pretty good question. Obviously, that was what I was referring to in my comments. We think the aggressive actions we took, including 40% to 50% to 60% salary reductions in a very short order, allowed us the time to sit back and say what does the longer term impact of this crisis look like to Meritor and what additional actions should we take that can allow us to be successful throughout what potentially could be a longer term downturn. So we are looking at strategies as I mentioned in my comments, and beginning to execute them that we think will set our cost structure on the right basis for what we would expect to see for fiscal year 2021 and beyond.

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Joseph Robert Spak, RBC Capital Markets, Research Division - Analyst [6]

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Jay, that's helpful and sort of I guess plan for the worst -- hope for the best mentality, but as a veteran of the industry, I wanted to I guess pick your brain on what you thought could be the potential snapback ability of the market and maybe what you're sort of hearing maybe from some of even your customers because even -- if you look at sort of typical peak to trough timing, probably would have normally come to the end of this sort of cycle sometime around the end of the calendar year, maybe a little bit later.

And COVID obviously made it much steeper, but even if you sort of don't return to replacement levels next year, it seems like there could be some pretty healthy growth versus obviously a very depressed 2020. So what are -- do you have any high-level thoughts on that?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [7]

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Well, I think it's difficult for us to say in the near-term and you've heard the comments from our customers who have had their calls so far and they've been very reticent to project what the outlook looks like in the future. And I think that goes for us as well. What I believe and what our team is working on is -- as you mentioned, is setting up to plan for the worst and hope for the best and make sure we retain the capabilities in the company to respond to the aggressive snapback that ultimately will occur, most likely in one quarter's time, as it always does. We're going to make certain we've retained that expertise to be as successful as we have been, and capturing the value on the snapback in those volumes.

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Operator [8]

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Our next question comes from Alex Potter with Piper Sandler.

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Alexander Eugene Potter, Piper Sandler & Co., Research Division - MD & Senior Research Analyst [9]

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You mentioned cutting back on CapEx, on discretionary spending. Can you just give maybe a few examples of things that you are and are not reducing spending on just trying to get a better idea of the sort of initiatives that you think are sufficiently important to continue investing in even in this macro?

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Chrishan Anthon Sebastian Villavarayan, Meritor, Inc. - Executive VP & COO [10]

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Sure, Alex. I think maybe -- this is Chris Villavarayan. If you look at it for example, last quarter we talked about launching our or building a new facility in Brazil where we were looking at making a significant investment. As we see the current market we might look at, for example, slowing down on that investment, and just really modeling out, where we see the market snapback and then making decisions like that. We are very definitely proceeding with the long-term prospects for Brazil, but in the short term, we might look at slowing down our investment.

Also when you think about sustaining investments through our facilities, imagine for markets that we're running almost 60% to 70% from where we forecast, you could look and make decisions in the short term on what we do. However, I think one thing that Jay is driving that as we think of the long-term strategy, in terms of investment in electrification, we are not slowing down on that process. And as he also mentioned in how we're running the facilities in delivering the propulsion or the systems, we're continuing our investments into TransPower as well as electrification through the next quarter.

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Alexander Eugene Potter, Piper Sandler & Co., Research Division - MD & Senior Research Analyst [11]

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Okay. Very good. That's helpful. I was wondering if you could comment also on the supply chain risk. Not all companies end up having this sort of balance sheet that you guys have. I'm thinking particularly of risks that you see upstream potentially for smaller suppliers, is this going to be an issue? Do you have solvency risk concerns for any of the suppliers that you rely on?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [12]

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Well, that's a good question, Alex. And we're using the same playbook that we put in place during the '08-'09 recession, where we immediately put up a multi-discipline team together, including finance, purchasing, supply chain, manufacturing expertise to do much more active monitoring of suppliers, particularly those who we think do not have the balance sheets that may provide them enough liquidity through this time period. So far, we have not seen any disruptions, but we're monitoring it extremely closely and that playbook that we did execute in '08-'09 was very successful for us. Included in that is engagement of outside experts that we can send in to these suppliers to assist them with operational and financial challenges and we've already locked those same experts into agreements if they're necessary.

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Alexander Eugene Potter, Piper Sandler & Co., Research Division - MD & Senior Research Analyst [13]

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Interesting. Okay. That's good to hear. I -- one thing obviously this WABCO infusion was well-timed. Can you update me -- us on the ongoing relationship with WABCO, if there is any? What is the relationship between the 2 companies going forward? Have you essentially severed all historical relationships now going forward or not?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [14]

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We have a much smaller relationship here through our Aftermarket business as a distributor for certain products, but it -- I don't want to misrepresent it, it's a fraction of what the business was previously and those expected revenues are embedded in our outlook for the third quarter.

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Alexander Eugene Potter, Piper Sandler & Co., Research Division - MD & Senior Research Analyst [15]

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Okay. Very good. Last question, I know that you had historically looked at some of the smaller sort of (inaudible) machine shop type operation to support Aftermarket gearing and off-highway and that always struck me as sort of an interesting business. I don't know -- I guess maybe 2 questions. First, do you want to continue building that part of the business through acquisition of these little companies? And question number two is do you think COVID-19 will potentially prevent you with opportunities to do that?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [16]

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That's a very good question, Alex. I think it gets on the broader question is obviously there will be M&A opportunities that present themselves through this crisis for people who may be the operators as well have the financial wherewithal to withstand the downturn. At this point in time we are focused to make certain that our company operates successfully as it's currently configured and we'd like the growth prospects of the company in areas like electrification, like our recent off-highway acquisition of AxleTech, so we don't see a burning need to add bolt-on acquisitions at this time. Now as we come out of the crisis, if there is just some incredible opportunity on the landscape and we see our revenues growing during that time period, we may revisit it at that time.

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Alexander Eugene Potter, Piper Sandler & Co., Research Division - MD & Senior Research Analyst [17]

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Okay. Very good.

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Operator [18]

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Our next question comes from Brian Johnson with Barclays.

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Jason Flynn Stuhldreher, Barclays Bank PLC, Research Division - Research Analyst [19]

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This is Jason Stuhldreher on for Brian. Just first question on margins, maybe first in the Commercial Truck space. In the past we've talked about sort of layered capacity giving you the ability to sort of flex that debt, the footprint, the direct labor footprint, given with the variations in Commercial Truck. Just curious, I mean in the margins that we saw this quarter which I frankly thought were pretty good, did any of those benefits from offloading that layered capacity or did that layered capacity pretty much already hit bottom by last quarter? And then similarly on Aftermarket, Industrial and Trailer I was also impressed by the margins this quarter was thinking the AxleTech acquisition would be a little bit dilutive. Is that not the case sort of now?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [20]

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Good questions. This is Carl Anderson. Just on your first question as relates to Commercial Truck, as we look at those layered capacity cost for the most part those have pretty much been eliminated in the second quarter. We did have some that carried a little bit in the first quarter and as we go forward as we're kind of back in ramp up mode depending on the supply chains, you could see a little bit maybe some incremental cost kind of coming in over the next couple of quarters, but nowhere near where we're running last year with the high truck markets kind of at that point. And then as relates to your Aftermarket question, I think the AxleTech business, I think we're very pleased with the amount of synergies we've been able to achieve as relates to that. The one thing that's running a little bit softer than initial plan is just overall revenue for that business. And so I think the margins aren't exactly where we want them to be currently but as -- over time as revenue begins hopefully at some point to pick up, I think we're going to be in good position with that acquisition in that business.

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Chrishan Anthon Sebastian Villavarayan, Meritor, Inc. - Executive VP & COO [21]

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And just adding to Carl's comments, I think one of the benefits we got with also the layered capacity cost coming down is also a benefit from not seeing the premium freight cost associated with all of that. So we have seen some benefit both from the layered capacity as well as the premium freight. And I think in terms of the overall cost of purchase components versus our own internal cost, there's also the benefit that we are seeing from that as well.

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Jason Flynn Stuhldreher, Barclays Bank PLC, Research Division - Research Analyst [22]

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Got it. Okay. Very helpful color. And then just I guess more broadly, as we think about the electrification opportunity, Jay, I think you had mentioned, the team had mentioned how pivotal of a year 2020 was shaping out to be in terms of the awards activity pipeline that was going to be coming here in the few quarters. Just curious if that pipeline is still full or if that -- if the industry has basically pushed that out 8 to 12 months as we deal with the current situation?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [23]

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That's a very good question, Jason. Obviously I think it's a question on the industry's mind will this would be viewed as something that can be deferred to preserve capital. But so far all of the programs we're associated with, particularly the largest program, the PACCAR program, it remains on schedule. I've had tactical updates with the PACCAR team recently. Our products are performing extremely well and so we see no sign that our customers, not too dissimilar from us, are not continuing to prioritize that spend. And as Chris mentioned in one of his comments, we -- this is one area with all the cost reductions we've made both on the CapEx and expense side, we are retaining our investments in electrification and we continually continue to respond to active quote opportunities and still look at this year to be a very big year for us.

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Jason Flynn Stuhldreher, Barclays Bank PLC, Research Division - Research Analyst [24]

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Understood. Okay.

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Operator [25]

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Our next question comes from Ryan Brinkman with JP Morgan.

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Ryan J. Brinkman, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [26]

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Is there anything that you can relate about customer order books in the back half of the calendar year after lockdowns are presumably lifted? I'm sure their visibility is also low, but when you look across your various customers and your various end-markets, commercial and highway, off-highway, specialty trailer, et cetera, are there notable differences in how you expect these end-markets to bounce back or hold up?

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Chrishan Anthon Sebastian Villavarayan, Meritor, Inc. - Executive VP & COO [27]

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Maybe I'll take this one, Ryan. Just as you can see that we're not giving much guidance beyond the next quarter again it's from the perspective that we are seeing from our customers as well. We had a very high level. Let's just break it down into maybe the 3 areas and if you think about Aftermarket and we've looked through last quarter as well as what we're seeing at least in the short-term window, Aftermarket is obviously holding well when you think about 75% of the products that we use travel by truck. The Aftermarket seems to be holding strong. We see a slight weakening but nothing that's dramatic in the near future.

Moving to the specialty defense off-highway space, as I think Carl pointed out we have noticed -- we did notice that the back end of that order board was getting weaker, we could say maybe about 20%-30%, but nothing of significance, obviously consistent demand on that side and we've got to see how that plays out. The truck market is obviously the big one as we see the customers coming up in April or late April and early May, that's where we're going to probably see what the real order boards come in. So we -- all the customers will be up as of -- as we see most will be up as of May 4th.

So that would be probably a good time to see a perspective. But then breaking it up by region maybe I'll just address it that way, China as all of you know I think we've seen a quick V and markets are back. Now whether that will hold up is all based on stimulus, and then India and South America are still under a pretty hard shutdown. And so time will tell how those 2 markets will come up. But in those 2 markets inventories were low as you know which we have fixed, and the other 2 markets I've addressed previously I think we just have to see where our customers come back at.

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Ryan J. Brinkman, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [28]

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Okay. That was a helpful rundown. Just lastly for me, why are you -- it looks like unwinding some of your factory and facilities, can you remind us was that something that was previously planned prior to your mention in that March 25 release? And does it relate to the various Volvo facilities mentioned in the K, or the U.S. one with [P&C] I think has a covenant attached. I'm just asking because it would seem maintaining the facilities might help bolster liquidity in the current environment or am I missing something?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [29]

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Yes, Ryan. It's Carl. Good question. No, I think that the (inaudible) unwind is it's really just a function of having a lot lower sales really in Europe where we are utilizers of the supply chain financing program. So if the unwind is more -- it's more natural because we're not able to sell receivables in normal course because the sales are a lot lower. The real impact is just because you have a timing mismatch as far as -- obviously the payables need to kind of run off from a working capital perspective, and you're unable to sell the receivables. So yes, it is consistent with what we kind of provided back in the March 25 AK that we put out as well.

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Ryan J. Brinkman, JP Morgan Chase & Co, Research Division - Senior Equity Research Analyst [30]

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Okay. Got it. Great to hear it's still there available for you.

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Operator [31]

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Our next question comes from James Picariello with KeyBanc.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [32]

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Just regarding your covenant, the total priority debt over trailing EBITDA, I mean it seems very encouraging how the EBITDA is calculated. Just to clarify this includes the gain on the WABCO Aftermarket sale now, is that right? And then has there been any change on that point? And then just based on your third quarter outlook, that will clearly be the most challenged environment. Is it safe to assume that Meritor can now avoid any covenant breach over the next 12 months?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [33]

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Yes, thanks, James. Yes, I mean I think what you're seeing from the WABCO income, yes, it is included in the trailing 12 month calculation. And so as I was highlighting that will kind of carry through for the next really 4 quarters as well as we look to calculate the overall compliance EBITDA. So as we look at what's in front of us nearly a third quarter for the rest of this year, our expectation is we will not have any issues with our debt covenant, and we feel that coupled with overall liquidity of the company (inaudible) the amount of cash on hand, I think we're in a pretty good spot to be able to manage the current environment.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [34]

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Okay. No, that's great to hear. And then just on that factor receivable, the previous question, can that reverse partially by as early as fourth quarter?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [35]

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Yes, that's exactly right. And so that's how we are characterizing it, there is, we call it a onetime impact, is that sales levels has dropped significantly based off the lower production volume. But as the fourth quarter, if there is some pick up and production kind of comes back you will see the cash benefit at that point in time.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [36]

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Got it. And then it sounds as though you guys are not stepping off the accelerator in terms of future ED investment for this year. But just in terms of CapEx is a good starting point in assumption of maybe a similar level of CapEx as a percentage of sales for this year? Or early to be...

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [37]

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I think that -- that's a good way to think about. I think the last quarter we had guided about $115 million of CapEx, so it's probably closer in the $80 million $85 million range at this point as we think for the remainder -- for the full year. So that kind of around 3% is probably the right way to think about it.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [38]

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Got it. And then -- my apologies if I missed this. Did you mention the AxleTech contribution in the quarter, so just wondering on that point? And then how the synergies are trending, does the current environment accelerate or maybe delay the synergy culture?

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [39]

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No, I would say on the synergy side in AxleTech, we're coming in right on plan. And actually we're looking -- and we feel very good with all the actions that we have been able to take since we acquired the company last year. As a reference obviously we're seeing some softness in overall just revenue levels specifically in the off-highway market as well as in Aftermarket. So overall, the margin performance is still probably not where we want it to be, but a lot of that now is driven more on the revenue side as opposed to any of the cost action that we've taken today.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [40]

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And what about just the revenue contribution in the quarter? If you could get...

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Carl D. Anderson, Meritor, Inc. - Senior VP & CFO [41]

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Yes, it was about -- it was $43 million, very consistent with what we saw in the first quarter as well.

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James Albert Picariello, KeyBanc Capital Markets Inc., Research Division - Analyst [42]

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Got it. All right. Great quarter guys.

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Operator [43]

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Our first question comes from Faheem Sabeiha with Longbow Research.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [44]

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I appreciate the guidance you're able to provide for FY 3Q and the additional color regarding the revenue breakdown, but can you provide a little more color around Aftermarket, Industrial and Trailer? I mean, that implied a sizable hit and I know Chris talked about Aftermarket coming down a little. Just wondering if most of that's in Trailer or equally across all 3 parts of that business?

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Chrishan Anthon Sebastian Villavarayan, Meritor, Inc. - Executive VP & COO [45]

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I think one of the things that's in there is the impact from the WABCO agreement being -- our distribution agreement being terminated. And so prior to the crisis, that was a book of business about $150 million. So you are seeing ahead when now in the -- in this quarter that we're in as well and that will continue on as we kind of go forward. So a significant piece of that really relates to that particular business.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [46]

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Okay. And how much are you baking in from the AxleTech acquisition in 3Q?

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Chrishan Anthon Sebastian Villavarayan, Meritor, Inc. - Executive VP & COO [47]

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Well, again I would say we're not giving line by line guidance on the revenue, but I would just say the first 2 quarters that we've seen this year in AxleTech has been running a little bit north of $40 million of revenue. And I would expect -- we don't expect probably some little bit further softness for a period of time for that business.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [48]

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Okay. And then you commented a little on the visibility in the back half of the year, but as far as 3Q -- I mean you guys provided a pretty wide band, and I'm curious if that's based solely on orders received thus far as truck production restarts or if there could be some upside later in the quarter?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [49]

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I think it's really almost entirely based on the lack of visibility on the OE manufacturing side. So if you take the business that your questions are called, you were just discussing the Aftermarket business and industrial, that represents roughly 50% of our expected revenue in that guidance. So if you took the remaining revenue, we have almost a 50% range of estimate on the truck business. And I think that's very consistent with what we're hearing from our customers both in our private discussions, and what you've heard them discuss publicly as they've released their earnings. It's just it's a very opaque visibility window right now, and after this quarter. And so that's why we put as wide a range on revenue as we did. But understand this revenue estimate was important for us internally as well because it gave us the markers on which we have to manage the business to achieve our objectives of having the operating cash outflow be a very limited amount.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [50]

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Okay. And as far as the 20% to 30% sequential downside earnings convergence, I mean, is that going to be balanced between Commercial Truck and Aftermarket, Industrial and Trailer, or one of those segments look a little weaker?

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Jeffrey A. Craig, Meritor, Inc. - President, CEO & Director [51]

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I don't think we're providing that level of guidance just given the volatility I mentioned on the revenue outlook. But what I would make note of is included in that downside sequential guidance is the incremental cost of providing the safety materials that we need to ramp up our production such as masks, face shields, sanitary products, [acquisitional] cleaning. So there is some incremental cost that's being incurred right now that's outside our norms in running the business.

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Operator [52]

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And I'm not showing any further questions at this time. I would now like to turn the call back over to Todd Chirillo for any further remarks.

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Todd Chirillo, Meritor, Inc. - Senior Director of IR [53]

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The second quarter 2020 conference call, please reach out to me directly with any questions. Thank you.

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Operator [54]

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Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.