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Edited Transcript of PCAR earnings conference call or presentation 30-Apr-19 3:00pm GMT

Q1 2019 Paccar Inc Earnings Call

BELLEVUE May 2, 2019 (Thomson StreetEvents) -- Edited Transcript of PACCAR Inc earnings conference call or presentation Tuesday, April 30, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Harrie C. A. M. Schippers

PACCAR Inc - President & CFO

* Ken Hastings

PACCAR Inc - Senior Director of IR

* R. Preston Feight

PACCAR Inc - EVP

* Ronald E. Armstrong

PACCAR Inc - CEO & Director

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Conference Call Participants

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* Adam William Uhlman

Cleveland Research Company - Partner & Senior Research Analyst

* David Michael Raso

Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team

* Faheem Farid Sabeiha

Longbow Research LLC - Research Analyst

* Jamie Lyn Cook

Crédit Suisse AG, Research Division - MD, Sector Head of United States Capital Goods Research, and Analyst

* Jerry David Revich

Goldman Sachs Group Inc., Research Division - VP

* Joel Gifford Tiss

BMO Capital Markets Equity Research - MD & Senior Research Analyst

* Joseph O'Dea

Vertical Research Partners, LLC - Principal

* Neil Andrew Frohnapple

The Buckingham Research Group Incorporated - Analyst

* Robert Cameron Wertheimer

Melius Research LLC - Founding Partner, Director of Research & Research Analyst of Global Machinery

* Robert Hudson Salmon

Wolfe Research, LLC - Research Analyst

* Ross Paul Gilardi

BofA Merrill Lynch, Research Division - Director

* Seth Robert Weber

RBC Capital Markets, LLC, Research Division - Analyst

* Steven Fisher

UBS Investment Bank, Research Division - Executive Director and Senior Analyst

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Presentation

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Operator [1]

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Good morning, and welcome to PACCAR's First Quarter 2019 Earnings Conference Call. (Operator Instructions)

Today's call is being recorded, and if anyone has an objection, they should disconnect at this time.

I would now like to introduce Mr. Ken Hastings, PACCAR's Director of Investor Relations. Mr. Hastings, please go ahead.

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Ken Hastings, PACCAR Inc - Senior Director of IR [2]

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Good morning. We would like to welcome those listening by phone and those on the webcast.

My name is Ken Hastings, PACCAR's Director of Investor Relations. And joining me this morning are Ron Armstrong, Chief Executive Officer; Preston Feight, Executive Vice President; Harrie Schippers, President and Chief Financial Officer; and Michael Barkley, Senior Vice President and Controller.

As with prior conference calls, we ask that any members of the media on the line participate in a listen-only mode. Certain information presented today will be forward-looking and involve risks and uncertainties, including general economic and competitive conditions that may affect expected results. A summary of risks and uncertainties is described in more detail in our periodic reports filed with the SEC. For additional information, please see our SEC filings and the Investor Relations page of paccar.com.

I would now like to introduce Ron Armstrong.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [3]

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Good morning. Preston Feight, Harrie Schippers and I will update you on PACCAR's excellent first quarter results and business highlights.

PACCAR reported record revenues and net income for the first quarter of 2019. PACCAR's first quarter sales and Financial Services revenues were $6.5 billion, and first quarter net income was $629 million, an excellent 9.7% after-tax return on revenues. Revenues were 15% higher and net income was 23% higher compared to the first quarter last year. PACCAR delivered a record 51,500 trucks during the first quarter. PACCAR Parts achieved record quarterly revenues of $1 billion, an increase of 7% compared to the first quarter last year. Parts pretax profits were also a record at $208 million. I'm very proud of our 28,000 employees who are passionate about delivering the industry's best products and services to our customers and achieving strong results for our shareholders.

PACCAR continues to outperform its peers and provide strong operating cash flow for reinvestment in future growth and distributions to stockholders. One key measure where PACCAR excels is return on invested capital. In the first quarter, PACCAR achieved a return on invested capital of 25%, and over the last 5 years, achieved an annual average return of 22%. PACCAR has delivered annual dividends of approximately 50% of net income for many years and has paid a dividend every year since 1941. PACCAR has increased its quarterly dividend at an average of 11% per year during the last 20 years and raised it another 14% in the first quarter to $0.32 per share. PACCAR repurchased 491,000 of its outstanding shares during the first quarter. The increase in truck production in the first quarter was primarily due to more build days in North America compared to the fourth quarter and good supplier performance.

Truck and Parts gross margins were 15% in the first quarter. Truck pricing was good with price realization of 3%. Our Peterbilt, Kenworth and DAF factories and purchasing and supplier management teams did a fantastic job of managing production, delivering a record number of trucks and achieving the highest operating margins in the industry. In the second quarter, we're expecting deliveries to be 2% to 4% higher than the first quarter due to increased production in North America. Truck, Parts and Other gross margins in the second quarter are estimated to be in a range of 14.5% to 15%.

Preston Feight will now provide an update on DAF and PACCAR Parts.

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R. Preston Feight, PACCAR Inc - EVP [4]

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Thanks, Ron. DAF achieved record market share of 17.1% in the first quarter. European economies and freight transport activity are projected to grow at a moderate pace in 2019. This year should be another good year in the European heavy truck market with registrations in a range of 290,000 to 320,000 trucks.

Turning to PACCAR Parts global results. Parts first quarter revenues were a record and for the first time, reached the $1 billion level. As Ron mentioned, Parts quarterly pretax profit was a record $208 million.

PACCAR has steadily increased its truck and engine market share over the years, resulting in a greater number of PACCAR trucks and engines in operation. This, combined with consistent investments in parts distribution capacity and customer-focused technologies, has created a very strong foundation for growth in PACCAR Parts.

To support this growth, PACCAR Parts has begun construction of 2 new parts distribution centers: one in Ponta Grossa, Brazil, and the other one is in Las Vegas, Nevada. We expect Parts sales to grow 5% to 8% for the full year 2019.

Harrie Schippers will now provide an update on Kenworth, Peterbilt and PACCAR Financial Services.

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Harrie C. A. M. Schippers, PACCAR Inc - President & CFO [5]

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Thanks, Preston. The U.S. economy and freight tonnage continue to grow this year. A consensus of economists predicts [2.4%] GDP and 2.6% industrial production growth for the full year 2019.

First quarter GDP growth was a strong 3.2%. Freight tonnage increased 3.8% in the first quarter compared to a year earlier. This provides a healthy backdrop for the 2019 truck market. First quarter 2019 U.S. and Canada Class 8 truck industry retail sales increased 23% compared to the same period last year. We have increased the midpoint of the U.S. and Canada Class 8 truck market projection to over 300,000 units due to the strong industry backlog.

PACCAR Financial Services pretax income was $84 million in the first quarter, an increase of 24% compared to a year earlier. First quarter revenues were $350 million. PACCAR Financial Services assets increased to a record $14.9 billion, with the portfolio performing well.

Kenworth and Peterbilt Class 8 used truck values increased again in the first quarter compared to the same period last year. Kenworth and Peterbilt truck resale values command a 10% to 20% premium over competitors' vehicles. In 2019, we're increasing capital investments to $625 million to $675 million and R&D expenses to $320 million to $340 million.

We're investing in new products and expanded facilities while increasing our funding for alternative powertrain development. As we mentioned in the press release, DAF has recently introduced electric and hybrid vehicles that are undergoing field testing throughout Europe. Peterbilt and Kenworth are also working on hydrogen fuel cell, hybrid and electric powertrains as well as autonomous vehicle technology in collaboration with our Silicon Valley Innovation Center.

Thank you. We'd be pleased to answer 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 the line of Jerry Revich with Goldman Sachs.

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Jerry David Revich, Goldman Sachs Group Inc., Research Division - VP [2]

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I'm wondering if you could talk about what booking trends you are seeing in your European business. How long are the lead times? Nice to hear about the share gain opportunity set. Maybe just flesh that out in terms of where book-to-bill is -- has tracked year-to-date? And any more color there would be helpful.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [3]

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Yes, the backlog is, I'd say, normal in terms of visibility that we have for our factory operations. And as we saw in the first quarter, registrations in the European market were up over last year, and you'll continue to see a good market for this year for the full year, as our forecast indicates.

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Jerry David Revich, Goldman Sachs Group Inc., Research Division - VP [4]

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And so your orders then are up year-over-year to support the comment about share gains of the market is at healthy levels, and you folks are picking up share. That's in the order book, Ron?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [5]

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Yes, the actual order intake is down a bit over the -- last year was a very strong first quarter. So order intake is down, similar to levels we've seen with our other European competitors.

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Jerry David Revich, Goldman Sachs Group Inc., Research Division - VP [6]

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Okay. And then in the U.S. business, can you talk about whether you've seen any shifts in the production requests from your customers? Or are you seeing any folks looking to get earlier in the queue or later in the queue relative to the production plan? I guess, how fluid is the backlog situation in North America? And how firm is the production plan for the third quarter, as you see it?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [7]

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I think it's all very firm. So I think all the movement of trucks in and out is just very normal and the backlog is very firm.

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Jerry David Revich, Goldman Sachs Group Inc., Research Division - VP [8]

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Okay. And then from an SG&A standpoint, you folks were able to keep SG&A flat on really strong sales growth. I'm wondering if there's any comp dynamic going on in the year ago period. Or if you folks, as you continue raise production year-over-year, can maintain a flat SG&A? Any moving pieces for us to think about?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [9]

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Well, as you know, Jerry, rigorous cost management is something that we're very focused on and managing that over the cycle. There was some benefit in the quarter from some currency movement, but for the most part, it's just our ongoing focus on managing our cost for the entire cycle.

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Operator [10]

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Our next question comes from the line of Joel Tiss with BMO.

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Joel Gifford Tiss, BMO Capital Markets Equity Research - MD & Senior Research Analyst [11]

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So I keep hearing you guys are gaining market share in parts, and some of your dealers are gaining market share in parts. And I just wonder if you can kind of illuminate for us a little bit, who's losing share? Or is there just such a big opportunity out there for everybody that there is a lot more room to keep going?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [12]

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I think a lot of that share gain comes from our engines, where we've been in the engine business in North America. This is our ninth year and so the -- as a percent of the total population of engines, the PACCAR MX engine is just becoming a bigger portion. And so that engine business is a nice add-on. Plus the -- we now have 175-or-so TRP stores around the globe, and so that enables the Parts group to get more penetration with all makes of customers' trailers, buses, et cetera. So I think those are probably the 2 key drivers of share growth in the Parts arena.

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Joel Gifford Tiss, BMO Capital Markets Equity Research - MD & Senior Research Analyst [13]

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So the more the pirates, I guess, who are losing out?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [14]

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Excuse me?

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Joel Gifford Tiss, BMO Capital Markets Equity Research - MD & Senior Research Analyst [15]

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The pirates, like the third party, like non-OEM guys are the ones who are losing out?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [16]

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On the TRP side, that would -- it could be the WDs, it could be other OEs. I don't know.

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Joel Gifford Tiss, BMO Capital Markets Equity Research - MD & Senior Research Analyst [17]

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Okay. And also can you talk a little bit about what you guys have been working on for the last couple of years to handle -- we've been hearing about a potential slowdown in fourth quarter production levels, and can you just give us a little sense of how you guys can work your decremental margins and your cost structure to balance that out?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [18]

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Yes, I mean, we're full ahead on our production. We're going to continue to produce trucks. We -- as I said, the backlog is firm. The demand, we're quoting business into 2020. So full ahead for us and we're -- we've -- because we -- as we mentioned earlier, we manage that cost structure prudently during all times, all phases of the cycle. We've proven historically that we can manage our cost structure quite efficiently, and this will be no exception. We'll be able to manage that quite effectively with our factories and with our other operations.

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Joel Gifford Tiss, BMO Capital Markets Equity Research - MD & Senior Research Analyst [19]

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And just one last one. Sorry to hog up all the time. Can you talk a little bit about Brazil? I see you highlighted it. And where your market share is, and what the market looks like for the next year or 2 there? And then I'm done.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [20]

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Yes, so we're at 6.7% share, last year. Similar in the first quarter. We are continuing to increase our production. We produced over 1,000 trucks in the first quarter. In 2018, we basically doubled production from the prior year, and we'll be in a similar kind of scale this year for 2019. So we -- the product has just been very well received by all of our customers and the industry as a whole, and we've been recognized as the brand of the year for the last 3 years. So we have great dealership representatives. We've got a good network to support the trucks, and so we're continuing to improve our positioning there, and we're also expanding our parts and service presence, and we're going to add a 160,000 square-foot PDC that we'll be opening probably in early first half of 2020. We've been using part of our truck factory as a parts warehouse, so we need to grow that and support that. So the future is very bright for our Brazilian operations.

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Operator [21]

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Our next question comes from the line of David Raso with Evercore ISI.

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David Michael Raso, Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team [22]

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Quick question. The second quarter, you have deliveries up 4% but you're implying gross margins flat to down. Can you help explain that?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [23]

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Yes, so the truck margins are in the 12%, 12.5% range. First quarter, the truck margins were 12.5%. So a lot of the incremental revenue will come from the truck side, and so that weighting effect of trucks versus parts will sort of keep us in a similar range as to the first quarter.

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David Michael Raso, Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team [24]

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Okay. And then also, I noticed the CapEx increase, but you'll hold the R&D or actually even tweaked it a little lower. And I am just trying to say -- this might be a question more for the meeting coming up in May, but just trying to understand with all the new drivetrain technology and so forth, and for a long time, people have always wondered how the R&D as a percent of sales is so low for PACCAR. Can you help explain, is there some capitalization of some of these dollars that maybe some people might think would be expenses, R&D? Can you just help us a little bit with the divergence between the CapEx increase and the R&D?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [25]

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Yes, the CapEx increase is purely just as we've gotten into the year, the ability of our teams to move things forward has gone quicker than what we anticipated. Our plans are still pretty much the same. But we're actually going to be able to get things done quicker than what we'd originally anticipated. So that's the capital increase. The R&D is just part of how we prudently manage our product development efforts and have for years. We're probably going to spend a record amount of R&D for our company this year, but it's well thought out, well positioned, and we feel good about we're doing everything we need to do to support the future needs for greenhouse gas changes, future products and also the advanced powertrain arena. So I think we feel really good about what we're doing and the things that we're investing in, both on the capital and R&D side.

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David Michael Raso, Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team [26]

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Well, I think this is an important issue because people are trying to figure out the cost pressures on the company with potentially some volume declines coming in the next year or 2. So the divergence of -- we were able to pull things forward and thus the CapEx goes up but not the R&D.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [27]

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The R&D has gone up.

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David Michael Raso, Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team [28]

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Can you help us understand a little better the -- No, but the change, the change from the start of the year that caused the CapEx to go up hasn't had a commensurate increase in the R&D.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [29]

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Yes, because the plans and projects that we're working on hasn't changed. It's just the pace at which those capital projects are being executed and the ability to get those done quicker than what we had originally anticipated. So there was no change in the projects. It's just recognition of the timing of incurring those capital-related costs.

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David Michael Raso, Evercore ISI Institutional Equities, Research Division - Senior MD & Head of Industrial Research Team [30]

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Can we -- I guess we can dive into this more in the May meeting, but I think the idea is, sure, if there's CapEx-related costs for the new introductions, the R&D has stayed at a relatively low level. And I think the ability to continue to do that the next couple of years or lack thereof is a big discussion around the earnings resiliency. So I'll look forward to going into a little more detail in May.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [31]

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Sure. Okay.

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Operator [32]

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Our next question comes from the line of Steven Fisher with UBS.

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Steven Fisher, UBS Investment Bank, Research Division - Executive Director and Senior Analyst [33]

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So Harrie mentioned that used truck values are up year-over-year. I am curious on used truck inventories. How do the levels in Q1 compare to Q4 2018, both on your own lots and on dealer lots, and what you're expecting for the used truck market later this year as trade-ins likely keep coming in?

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Harrie C. A. M. Schippers, PACCAR Inc - President & CFO [34]

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Used truck inventories are I think almost the same level as they were at the end of last year. The amount for used trucks in -- especially in North America has been really good. We see good pricing, good demand for premium trucks. So...

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [35]

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And we're continuing to fill out our used truck locations. We're going to be adding a new location on the property where our Denton factory is located to further supplement our ability to sell used trucks, and we're the biggest used truck seller for Peterbilt and Kenworth vehicles, and we continue to support those excellent residual values.

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Steven Fisher, UBS Investment Bank, Research Division - Executive Director and Senior Analyst [36]

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Okay. And then I know you guys generally frame oil and gas as being really only a very modest contributor to earnings. But curious just on order trends in oil and gas for trucks, and how the capacity expansion of pipelines later this year might affect some of the market assumptions you might have.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [37]

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Yes, if there is pipeline capacity expansion and more importantly, if there's an infrastructure program that gets approved, that will be -- we're the vocational truck leader in North America and both of those things would be big pluses for our business. But as we said, the backlog for this year is very firm.

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Operator [38]

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Our next question comes from the line of Jamie Cook with Crédit Suisse.

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Jamie Lyn Cook, Crédit Suisse AG, Research Division - MD, Sector Head of United States Capital Goods Research, and Analyst [39]

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I know you talked about price -- price realization in the quarter of 3%, I think you said, which was pretty good. Can you just -- was that better than your expectations? And sort of what are your assumptions for the remainder of the year? And then my second question, understanding a very good visibility into 2019, just based on conversations you're having with your customers, what are they saying about 2020? Is it in line with industry forecasts? And then I guess last, congratulations, Ron and Preston. But Preston, any initial views on -- as you take over, any top priorities?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [40]

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I'll let Preston go first or I can start with the [back then].

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R. Preston Feight, PACCAR Inc - EVP [41]

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No. I think that PACCAR has been performing exceptionally well. We're a long history. We've a great team in place, bringing great results, good strategy and we plan to continue with that.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [42]

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So back on the truck pricing. I think on a year-over-year basis, I think we'll see similar comparison when you look back to the same quarter of the prior year, similar performance. That offsets some increases in cost, but I think we'll see similar performance of what we saw in the first quarter.

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Jamie Lyn Cook, Crédit Suisse AG, Research Division - MD, Sector Head of United States Capital Goods Research, and Analyst [43]

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And then just color on what your customers are saying about 2020 relative to what industry forecasts are saying?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [44]

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Well, I mean we're having negotiations with customers on an ongoing basis about 2020 deliveries. So and I think there's still recognition that the economy is good, the demand for freight is good, discussions with customers, people that need to haul freight, it's -- there's still a pretty tight market to be able to get things delivered on a timely basis. So we're preparing for a continuation of the good market conditions into 2020.

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Harrie C. A. M. Schippers, PACCAR Inc - President & CFO [45]

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And with all the improvements in greenhouse gas emissions, our customers keep seeing that the trucks we're building today deliver up to 15% better fuel economy than the trucks they bought 4 years ago, and that really helps them when they have to decide in replacing their equipment.

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Operator [46]

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Our next question comes from the line of Joe O'Dea with Vertical Research.

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Joseph O'Dea, Vertical Research Partners, LLC - Principal [47]

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You continued to post share gains in Europe this quarter. Can you just give a little bit of detail within the region, where you're seeing some of that progress, and then if there's any mix effect within that as well? Are you seeing a little bit better traction with some of the larger fleets in Europe?

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R. Preston Feight, PACCAR Inc - EVP [48]

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Yes, I'll take that one. Really having excellent broad performance across Europe, but it's exceptionally strong in Poland, and the U.K. has produced nice results this year. I think that we, as DAF, have the best trucks, operating the best life cycle cost for our customers, and that's being borne out with the performance of them in the market, and we're seeing the fleets recognize that now. So we're gaining share with some of the larger fleets in Europe and growing broadly throughout Europe. That's what's leading to this strong performance.

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Joseph O'Dea, Vertical Research Partners, LLC - Principal [49]

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And then on the CapEx front and the investment in the engine plants, is that tied at all to things you see on the horizon as an opportunity to really catalyze the next stage of engine penetration for you? I don't know whether that's related to Phase 2 or anything else. But as we saw the initial progress on share gains since the launch in 2010, that plateaued a bit, kind of wondering what you see on the horizon, both contributing toward making the investments now and kind of triggering some potential share gains.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [50]

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Yes, I mean basically, we're selling every engine that we can produce, and so we need the additional capacity in our factories, and we need the additional capacity with our suppliers. So that's where the investment is focused, so we can go to those next plateaus and deliver great engines to our customers.

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Operator [51]

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Our next question comes from Neil Frohnapple with Buckingham Research.

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Neil Andrew Frohnapple, The Buckingham Research Group Incorporated - Analyst [52]

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Just a couple of follow-ups from earlier questions. So if I recall, PACCAR was the first in the industry to cut production in the fourth quarter of 2015, ahead of the 2016 decline in Class 8 production. You guys obviously still sound pretty positive on the fundamentals, but the industry is chewing through the backlog at a quick pace, so curious on what you're looking at on whether you'll start to take down the daily build rate later this year. Do you need Class 8 orders to rise in the summer or early fall time frame? Just any more thoughts there would be helpful.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [53]

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The back -- as I said the backlog's firm, we're moving full ahead. So...

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Neil Andrew Frohnapple, The Buckingham Research Group Incorporated - Analyst [54]

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Okay. And then you guys are continuing to build momentum in Brazil. What are the plans on launching more products in the region for some of the lower weight classes of vehicles?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [55]

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Yes, that's certainly on the drawing board and part of our process. We've obviously been balancing our entry into the market, and as we continue to grow and expand our business, we'll be introducing new products, just like we do in all markets around the world, to continue to enhance our position in that market as well. So yes, that's definitely on our road map.

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Neil Andrew Frohnapple, The Buckingham Research Group Incorporated - Analyst [56]

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Okay. And then one last one, Ron. So it sounds like the supplier constraints are largely improved. I mean are they completely behind at this point, or is that still an opportunity to benefit the margins as we move through the year?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [57]

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We're going to continue to work very closely with our suppliers to continue to move up our build rates in the second quarter and third quarters in North America, and so it's always an orchestrated effort with our suppliers. We feel good about -- obviously, the performance in the first quarter was much better than what we saw in the second half of the year, and we expect that to continue for the rest of this year.

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Operator [58]

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Our next question comes from the line of Ross Gilardi with Bank of America.

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Ross Paul Gilardi, BofA Merrill Lynch, Research Division - Director [59]

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I was just wondering if I can get some of your thoughts and how they're evolving in alternative powertrain. What are you in-sourcing versus outsourcing? And as things develop, are you leaning more towards doing more in-house versus outsourcing and why?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [60]

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Yes, I think it's a real exploratory time with respect to a lot of the new technologies, and we're taking multiple paths in terms of developing our own internal capabilities, working closely with a variety of suppliers who are developing their capabilities. As we progress over the next 12 to 24 months, we'll be sort of figuring out what the best path is for us for the long term. And there's still quite a bit of challenge with respect to the economic viability of some of these powertrain choices and can they survive without a high degree of subsidization? So in our mind, it's still early days. I know we have a lot of customers who want to have some initial trucks to have in their fleet so they can understand the capability, and we're supporting those, and so we'll continue to explore our avenues. And as I say, the next 12 to 24 months will be critical for us to sort of define our way forward.

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Ross Paul Gilardi, BofA Merrill Lynch, Research Division - Director [61]

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What about, Ron, your Silicon Valley office? What are you learning out there, particularly on the autonomous development?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [62]

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A lot. When we first made the decision to open up that office, that was -- it was clear there was a lot of research that was being done on that area, and so our team in Silicon Valley, that's where we're really developing our internal capabilities for autonomy. We have a great team there, and they're really working closely with some third-party suppliers to develop our own packages, and then as I said, we're working with others who have their packages and want to incorporate those into our vehicles, and so we have multiple paths that we're working on there. But the Silicon Valley office and Silicon Valley team has been very helpful as well as our technical teams in our tech center up here in Mount Vernon in Washington and in Eindhoven. They're all working together quite well to help further our efforts and be smarter about what's possible and all the things you have to think about to accomplish successful implementation.

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Ross Paul Gilardi, BofA Merrill Lynch, Research Division - Director [63]

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And then just lastly, geographically, I mean now that you've had the real success with Brazil and gotten that off the ground. And I think when you originally launched that investment, the idea was you get to a 10% market share in first 5 years or so, and you seem like you're well on the path to doing that. Might we hear something relatively soon about other geographies, be it China and India, which you've talked about on and off for years? Are you getting any closer to making an investment in one of those regions?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [64]

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Well, the way I think of it, every day that goes by, we're a day closer. But there's nothing on the horizon. We continue to -- we have offices in Beijing, we have offices in Shanghai, we have an office in Pune, India with hundreds of employees working in those areas, and they're providing valuable support for sourcing from suppliers, for engineering technology, embedded software. So we get a lot of support from those teams, and we make a lot of trips and have a lot of discussions with potential partners, both on the OEM side, the component side to evaluate what -- where's that opportunity that's going to provide us a good return for our shareholders. And so we'll continue to evaluate because it is -- they are large markets, and there's opportunity there. It just has to be a situation that's going to make sense for us as a company and provide us a reasonable return.

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Operator [65]

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Our next question comes from the line of Rob Wertheimer with Melius Research.

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Robert Cameron Wertheimer, Melius Research LLC - Founding Partner, Director of Research & Research Analyst of Global Machinery [66]

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Just a quick follow-up, you discussed the Parts business where you've a long run of success in both improving revenues and margins. Has the mix of those more proprietary engine parts been a material contributor to your margin gains? Or has that been more operational? Is the mix on the come still? I don't know if you're willing to segment that margin gain, but that's the question.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [67]

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Yes, I think there has been a positive impact on the margin performance of our operations in North America. Europe, we've always had our own engine, and so we've enjoyed those margins for quite some time, and we've seen margin enhancement in North America as a result of selling -- the engine parts sales have sort of outsized the total growth in North America and so that's a contributor.

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Robert Cameron Wertheimer, Melius Research LLC - Founding Partner, Director of Research & Research Analyst of Global Machinery [68]

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And then have we seen that gain flow through from the market share gain you've had on your engine in North America? Or -- I don't know the full lag of when parts sales come versus the engine. I don't know if there's still some maturity to come in that margin mix.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [69]

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Yes, so I mean as the engines mature, and you get to -- we're getting to the point now where you're starting to get into more replacement and overhaul kinds of activities for our engines, and so we're just starting to see the benefits of that phase of the aftermarket opportunity.

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Operator [70]

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Our next question comes from the line of Adam Uhlman with Cleveland Research.

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Adam William Uhlman, Cleveland Research Company - Partner & Senior Research Analyst [71]

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Congrats on all the records. And congrats on the retirement, Ron and Preston.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [72]

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Yes.

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Adam William Uhlman, Cleveland Research Company - Partner & Senior Research Analyst [73]

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Hey, first to start with the step-up in CapEx for the year. I might have missed it earlier on the call, but what exact projects were pulled forward? Is this the paint facility or some of the distribution centers you're landing in this year? Or could you expand on that a bit, please?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [74]

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Yes, there's really nothing -- I guess I would say no projects pulled forward. It's just the execution of the projects that we have been planning all along. We have new PDCs, we have factory expansions, we had a nice grand -- groundbreaking for the Chillicothe paint shop, and those things are just that -- we're going to be able to get those projects done faster and moving quicker than what we had originally anticipated. So our spending, it's just -- is purely just a matter of the timing of the spend. Those have always been part of our plan.

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Adam William Uhlman, Cleveland Research Company - Partner & Senior Research Analyst [75]

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Got you. And then with the build rates expected to be up 2% to 4% sequentially in the second quarter, could you help us understand how that plays out between North America and Europe? And then I guess I think you'd mentioned a minute ago that builds would be increasing again in the third quarter for North America. Did I hear that right? And by how much?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [76]

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Yes, I think what we'll see is -- the production, that 2% to 4% is pretty much all North America driven, and I think in the third quarter, we'd probably see a similar level of production. We have the 2-week summer shutdown at DAF in the third quarter. So that -- we'll see a reduction in production in Europe, but it should be, for the most part, offset by production levels in North America.

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Adam William Uhlman, Cleveland Research Company - Partner & Senior Research Analyst [77]

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Okay. Got you. And then just a clarification. I think you mentioned that the orders were down in Europe. Could you tell us by about how much? And what the orders in North America have been looking like year-over-year?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [78]

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Yes, the orders in North America are -- because of the strength of the backlog, I think they're reflective of just the customers that are really filling in the few open slots that exist for 2019, but mostly it's for 2020 build. And again, in Europe, we saw a reduction in orders from -- last year's first quarter was when the backlog really got built up for DAF, and so we saw a reduction in the first quarter to I guess I'd say more normal levels of order intake.

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Operator [79]

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(Operator Instructions) Our next question comes from the line of Scott Group with Wolfe Research.

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Robert Hudson Salmon, Wolfe Research, LLC - Research Analyst [80]

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It's Rob on for Scott. With a quick follow-up on -- in terms of the North America production outlook that you guys are expecting to ramp up. You guys generated some very good incremental margins that I'm backing into on the truck in the first quarter. Should we be thinking about similar incremental margins as we look out into the second quarter based on the roughly 3% pricing you guys were talking to as the production ramps as well?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [81]

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Yes, I'd say similar. I mean it depends a little bit on the customer mix, the model mix, the geography mix, so there's lot of factors that weigh into that. So something in a similar range would be...

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Robert Hudson Salmon, Wolfe Research, LLC - Research Analyst [82]

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And the past couple quarters on the finance side, you guys have had very low provisions for losses on receivables. Is this a good run rate looking forward based on your outlook of the market at around 0.6% of revenue? Or should we be expecting that to kind of move as we look forward?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [83]

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Well, I mean, because of the strength of the freight markets, our customers have enjoyed excellent performance. Our credit teams and our finance teams have done a lot of work to really apply lot of intelligent data analytics to our credit underwriting. We feel really good about the capabilities there. And so as long as the economy is good, the freight markets are good, the portfolio will continue to perform very well. We've seen improvement in used trucks, and the portfolio is growing. The team has some great technology that they've made available to our customers, and so I think all of that is playing to our finance company's capabilities and performance.

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Robert Hudson Salmon, Wolfe Research, LLC - Research Analyst [84]

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That makes sense. And can you remind me what your used truck pricing was up in the quarter and the type of volumes that you guys saw?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [85]

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Yes, it was up 2% to 3% compared to the first quarter of last year. I don't have the used truck volumes last year. For 2018, we sold about 15,000 Kenworth, Peterbilt and DAF used trucks, and so that's 3,000 to 4,000 a quarter, so I would guess that we're probably somewhere in the 3,000, 3,500 range for used trucks sales in the first quarter.

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Operator [86]

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Our next question comes from the line of Seth Weber with RBC Capital.

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Seth Robert Weber, RBC Capital Markets, LLC, Research Division - Analyst [87]

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Just a quick -- couple of quick follow-ups. I guess just thinking about the Parts business again, I mean would you -- do you think it's fair to think about that business being -- that, that business could be up next year even if new truck demand is lower, is my first question?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [88]

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That surely would be our aim. Again, we're continuing to add additional TRP stores, we're continuing to add additional Peterbilt and Kenworth dealer locations, adding locations in markets like Brazil and other areas. And so our goal is to continue to have the new programs in place, the additional technology to continue to build that business throughout all cycles.

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Seth Robert Weber, RBC Capital Markets, LLC, Research Division - Analyst [89]

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Okay, so you think like a low to mid-single digit kind of number for next year is reasonable?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [90]

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Yes, it's probably a little bit early to commit to something.

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Seth Robert Weber, RBC Capital Markets, LLC, Research Division - Analyst [91]

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Okay. Fair enough. And then just going back to the pricing and the incremental margin questions. I mean, are you assuming that input costs kind of stay where they are for the rest of the year? I mean I guess some companies are talking about input costs coming down for the balance of the year, so just trying to kind of frame operating leverage going forward.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [92]

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I think that our assumption is probably a pretty steady input cost. We have -- most of our components are purchased under long-term agreements, and so it takes a little while to blend cost movements into the cost of the vehicles, et cetera. So I think that's pretty much our assumption, is a pretty stable cost environment.

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Operator [93]

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Our next question comes from the line of Faheem Sabeiha with Longbow Research.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [94]

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Congrats on a great quarter. Just a question on the MX production. Is there maybe some plans or an ability to accelerate that production capacity coming online sooner? It just seems like with your share remaining in the -- where it's at now exiting the cycle, it could maybe stall engine parts growth opportunity that you laid out in your Investor Day last year.

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [95]

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Yes, as a company, we produced last year 97,500 engines, which is the highest that we've ever produced, and obviously, of that -- every one of those -- DAF had record production, and so every DAF truck has a PACCAR engine. And so as time goes on, we'll have -- see more penetration of those engines into Kenworth and Peterbilt trucks, and we are -- we've committed the money to get the capacity in place as quickly as we can. I think most of that will be being implemented in the 2019, '20 time frame for having full availability at the 2021-ish time frame.

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Faheem Farid Sabeiha, Longbow Research LLC - Research Analyst [96]

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Okay. And kind of adding to Seth's question, I guess with the looming decline in Class 8 production, do you think, say, a more favorable price cost environment, lower premium freight costs and lower overtime, to the extent you're at that level today, will maybe offset the decline in volumes when you look at your gross margin next year?

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Ronald E. Armstrong, PACCAR Inc - CEO & Director [97]

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Yes, I -- the demand for trucks is there, and we're all ahead, and as I had mentioned before, when things do adjust down, we've proven over many, many cycles that we're very adept at managing through those. So we'll continue to execute that very well, at whatever point that may happen.

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Operator [98]

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There are no other questions in queue at this time. Are there any additional remarks from the company?

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Ken Hastings, PACCAR Inc - Senior Director of IR [99]

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Yes, we'd like to thank everyone for joining the call and thank you, operator.

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Operator [100]

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Ladies and gentlemen, this concludes PACCAR's earnings call. Thank you for your participation. You may now disconnect.