U.S. Markets close in 6 hrs 22 mins

Edited Transcript of TEN earnings conference call or presentation 26-Oct-18 1:00pm GMT

Q3 2018 Tenneco Inc Earnings Call

LAKE FOREST Oct 30, 2018 (Thomson StreetEvents) -- Edited Transcript of Tenneco Inc earnings conference call or presentation Friday, October 26, 2018 at 1:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Brian J. Kesseler

Tenneco Inc. - Co-CEO & Director

* Jason M. Hollar

Tenneco Inc. - CFO & Executive VP

* Linae Golla

Tenneco Inc. - VP of IR

* Roger J. Wood

Tenneco Inc. - Co-CEO & Director

================================================================================

Conference Call Participants

================================================================================

* Colin Langan

UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst

* Frits Lieuw-Kie-Song

* Joseph Robert Spak

RBC Capital Markets, LLC, Research Division - Analyst

* Mariel Kennedy

Goldman Sachs Group Inc., Research Division - Business Analyst

* Richard Michael Kwas

Wells Fargo Securities, LLC, Research Division - MD & Senior Equity Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning, and welcome to the Third Quarter 2018 Tenneco Inc. Earnings Conference Call. (Operator Instructions) Please note that this event is being recorded. I would now like to turn the conference over to Linae Golla, Vice President, Investor Relations. Please go ahead.

--------------------------------------------------------------------------------

Linae Golla, Tenneco Inc. - VP of IR [2]

--------------------------------------------------------------------------------

Thank you, and good morning. This morning, we released our third quarter earnings results and related financial information. On today's call to discuss our results are Brian Kesseler and Roger Wood, Co-Chief Executive Officers; and Jason Hollar, Chief Financial Officer.

Slides corresponding to our prepared remarks are available on the Investors section of our website. After our comments this morning, we will open the line up for questions.

Before we begin, please be aware that our discussion today will include information on non-GAAP financial measures, all of which are reconciled with GAAP measures in our press release attachments. The earnings release and attachments are available on our website. Additionally, some of our comments will include forward-looking statements. Please keep in mind that our actual results could differ materially from those projected in any of our forward-looking statements.

And needless to say, today's earnings release and our remarks do not include any results from Federal-Mogul for the third quarter as we closed that acquisition on October 1.

With that, I will now turn the call over to Brian.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [3]

--------------------------------------------------------------------------------

Thanks, Linae. Good morning, and thanks for joining the call today. Beginning with our third quarter highlights on Slide 4. We delivered another solid quarter with record revenue and adjusted earnings per share, spurred by strong organic growth across all product applications.

Revenue for the third quarter was up 4% year-over-year or up 7% in constant currency, outpacing industry production by 9 percentage points. Our strong organic revenue growth continues to be supported in part by strength in our commercial truck and off-highway business, which was up 27%.

Value-add adjusted EBIT margins in the quarter were 8.4%, which is consistent with our previous outlook.

Our solid results this quarter come against backdrop of dynamic economic conditions we are seeing across the industry, including concerns over trade and the impact of tariffs, as well as currency fluctuations. The team's ability to execute in this environment demonstrates the strength of our business and how well we are positioned relative to key industry revenue drivers, some of which are shown on Slide 5.

In China, we have a strong platform position with a customer base that includes all of the leading global automakers, as well as select domestic manufacturers. Regarding WLTP and diesel declines, our light vehicle product mix is relatively insulated from diesel. In fact, approximately 85% of our value-add revenue in Europe is unaffected by passenger car diesel take rates. Additionally, for the remaining 15%, we often have the offsetting gasoline share further mitigating the impact.

In North America, we continue to capitalize on a strong and positive mix trend with pickup trucks and SUVs, which account for more than 80% of our light vehicle revenue. And our strength in both commercial truck and off-highway applications position us well to capture global growth opportunities, as evidenced by the strong revenue increases this quarter.

Taking a closer look at value-add revenue on Slide 6. Value-add revenue was up 5% in constant currency, strongly outpacing light vehicle industry production, which was down 2%. Higher commercial truck and off-highway revenue was a major contributor to our results, supported by the strength of our diversified portfolio in each of the other product applications. Earnings for the quarter are on Slide 7. Adjusted EBIT was EUR 149 million for a value-add adjusted EBIT margin of 8.4%, in line with our previous outlook.

Similar to last quarter, we were impacted by steel economics and tariff-related costs, primarily in Ride Performance. The overall impact to the company's EBIT margin was about 30 basis points year-over-year. Currency also had a negative impact on margins of about 20 basis points, mainly related to transactional losses in Argentina.

Adjusted EPS for the third quarter was up $0.03, to a record $1.70 per share. Our results this quarter attribute to the hard-working Tenneco team members around the world, and I want to thank them for all they do every day to make our customers and Tenneco successful.

On October 1, we officially closed the Federal-Mogul acquisition, marking an important first step in this process for us. Since closing day, Roger and I have met and talked with hundreds of employees who are as passionate about serving our customers today as they are to capitalize on tomorrow's opportunities. Their enthusiasm is truly inspiring and their energy has already begun fueling our transformation into 2 strong, leading global businesses.

With that, I'll now turn the call over to Jason to discuss our results in more detail.

--------------------------------------------------------------------------------

Jason M. Hollar, Tenneco Inc. - CFO & Executive VP [4]

--------------------------------------------------------------------------------

Thanks, Brian. As we turn to the segment results for the quarter, I'll remind you that all revenue numbers are value-add, with the year-over-year performance calculated in constant currency.

Beginning with Clean Air results on Slide 8. Value-add revenue was up 6% in the quarter. Some of the highlights include: 16 platform wins in China, the majority of which are incremental awards with leading global and domestic OEs; 7 new platform awards in India, including 4 commercial truck programs; and 2 additional hybrid wins in the Asia Pacific region for a total of 9 hybrid program awards in 2018 year-to-date.

In commercial truck and off-highway, strong revenue growth continued, driven by the Americas and EMEA regions, with higher volumes, new program launches and regulatory-driven content all contributing to 25% revenue growth versus last year.

In the Americas, higher volumes with CAT and John Deere and the ramp-up on our new medium-duty commercial truck business with Daimler Truck contributed to revenue gains.

In EMEA, similar to last quarter, new programs with Deutz and MAN, combined strength on existing programs with Caterpillar and Daimler Truck, drove higher revenues.

The Asia Pacific region was basically flat, with lower commercial truck volumes in China offsetting growth in India, driven by the ramp-up of new content to meet the Bharat Stage IV regulations, as well as higher volumes on existing off-highway platforms for Kubota in Japan.

Turning to light vehicles. Tenneco's global Clean Air light vehicle revenues in the third quarter were up 2% versus last year. In North America, revenues increased 7%, outpacing industry production growth as we benefited from our strong position in SUVs, crossovers and pickups. As Brian mentioned, pickups and SUVs represent more than 80% of our light vehicle revenue, and we continue to benefit from this positive trend. Some of the models contributing to year-over-year growth were Ford SUVs and F-Series trucks, Chevy mid-sized SUVs and the Jeep Cherokee and Wrangler. South America revenue was down slightly in the quarter.

Light vehicle revenue in EMEA rose 3%, strongly outpacing industry production that was down 5%. Strong growth was driven by new content and recent launches for Daimler, BMW and Ford.

In the Asia Pacific, revenue revenues were lower versus last year. China revenue was down about 4%, which was in line with industry production.

The end of OE customer production in Australia had a 500 basis point impact on our year-over-year revenue results, which accounted for more than half the decline in the region. However, revenue growth remained strong in India, driven by higher revenue on programs of Fiat, Audi, BMW and Ford.

Clean Air adjusted EBIT was $108 million in the quarter and value-add adjusted EBIT margin was 10.7%.

Turning now to Ride Performance on Slide 9. Revenue in the third quarter was up 5%. We continue to have steady growth in our secured revenue from intelligent suspension systems as highlighted by the addition of 2 new program wins and launches on 2 new platforms in the quarter.

In the Americas, we outperformed the market again this quarter, with growth driven mainly by higher revenue on new light vehicle programs with VW and FCA and NVH content growth, including on a recently launched battery electric vehicle program.

EMEA revenue was down 4%, which was in line with lower industry production. We saw lower volumes with several programs, which more than offset growth on a number of new and existing platforms with Ford, BMW, Daimler and Jaguar.

Revenue growth continued in the Asia Pacific region as we outpaced industry production in China and India. Growth in India included higher revenues on new programs with Fiat and Tata, as well as growth on current business with Ford, Maruti Suzuki and Toyota.

CTOH revenue increased by double digits again this quarter, supported by growth with PACCAR, Daimler Truck and Hendrickson in the Americas.

Year-over-year revenue growth in EMEA was driven by higher volumes with Volvo Truck, PACCAR and Scania.

Ride Performance adjusted EBIT was $17 million and value-add adjusted EBIT margin was 3.7%. Included in these results are steel economics and tariff costs impacting year-over-year margins by approximately 90 basis points.

We've talked about the impact steel costs have on margins, particularly in Ride Performance, and we've continued to make good progress in recovery mechanisms and managing our exposure through indexing. We now have formal agreements in place with all but one customer, and we expect to have that resolved by the end of the calendar year.

During last quarter's call, Brian talked about the need to address our long-term cost positioning in conventional shocks and struts, particularly in North America. Earlier today, we announced plans to restructure our conventional shock and strut operations in North America, which will result in the closure of 2 of our 4 manufacturing facilities in the region. We expect the actions announced today will strengthen our competitiveness in this critically important region by lowering our fixed cost structure, resulting in annual run rate fixed cost savings of between $20 million and $25 million, which we would expect to be realized by the end of 2020.

Keep in mind that these operational improvements are completely separate from the synergy-related actions related to the Federal-Mogul acquisition.

The Aftermarket results for the quarter are on Slide 10. Global Aftermarket revenue for the quarter was up 1% versus last year. Aftermarket continues to win new business and expand product coverage. Some third quarter highlights include: continued growth in China, with a 44% increase in sales versus last year; 18 new distributors; 430 new Monroe service providers and coverage expanded with 120 new SKUs launched. We continue to expand our product portfolio and coverage reach in North America with 160 new ride control SKUs, and key new distributors were added in both North and South America.

Aftermarket revenue in the Americas was up 2%, driven mainly by continued double-digit growth in South America. North America revenue was about even versus last year, with continuing improvement in retail customers out-the-door sales, which we saw beginning in late second quarter.

The EMEA region sales were down 4% versus last year. During the quarter, we saw continued customer warehouse consolidation in established markets and lower revenue in Turkey, due to economic pressures.

Good growth continued this quarter in this Asia Pacific Aftermarket, with double-digit revenue growth in both China and India, fueled by the investments we're making to build our brands and distribution networks.

Aftermarket adjusted EBIT was $48 million and value-add adjusted EBIT margin was 15.5%.

Moving on to Slide 11, with the Q3 adjustments affecting year-over-year comparability of our results. We recorded restructuring-related expense of $12 million, primarily related to cost for the accelerated move of our Beijing Ride Performance plant. We expect all assemblies be relocated to the new facility by the end of the year, and the component manufacturing relocation to be complete during the first quarter of 2019.

Related to the Federal-Mogul acquisition, we incurred costs in the third quarter, including $12 million of acquisition advisory costs, and $4 million in structural cost improvements, primarily for the reduction of salaried headcount in advance of the closing of the transaction. This quarter, we also recorded $10 million for costs associated with the litigation resolution.

Turning to taxes on Slide 12. Before adjustments, third quarter tax expense was $28 million for an effective tax rate of 22% in the quarter and 23% year-to-date. Our tax rate improved this quarter as a result of securing the high-tech designation on our Chinese operations.

With the addition of the Federal-Mogul business in our fourth quarter results, we expect a Q4 effective tax rate in the range of 25% to 28%.

Cash tax payments in the quarter were $23 million. In the fourth quarter, we expect cash payments for the combined business of between $45 million and $55 million.

Although we anticipate providing additional 2019 guidance early next year, it is important to realize that this Q4 effective tax rate range is lower than the anticipated 2019 rate by approximately 200 basis points as a result of the inclusion of the full year Federal-Mogul results.

Tax planning considerations are underway for long-term improvements to the effective tax rate, with the objective to improve them in a manner consistent with what Tenneco has experienced for the past several years.

Moving to cash flow on Slide 13. Cash used by operations in the third quarter was $41 million, driven by investment in working capital to support revenue growth as well as cash payments for transaction costs. Capital investments in the quarter were $77 million. That is down from $92 million spent in the third quarter last year as the timing of capital expenditures is often lumpy from quarter-to-quarter.

In the third quarter, we paid a $0.25 per share dividend to stockholders totaling $14 million. As a result of the Federal-Mogul transaction and the resulting higher share count, this quarterly dividend payment will increase to $20 million beginning in the fourth quarter.

In view of our current stock price and overall sector valuations, we plan to evaluate the best methodology to return this value to our shareholders next quarter. This may result in a change in the dividend and returning that capital via share buybacks in a comparable amount.

Turning to Slide 14. At quarter end, net debt was $1,341,000,000. Interest expense in the quarter was $21 million, $2 million higher than last year due to higher interest rates on our floating rate debt. Our net leverage ratio improved to 1.5x.

With that, I'll turn the call back to Brian.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [5]

--------------------------------------------------------------------------------

Thanks, Jason. Turning now to Slide 15 and our outlook for the fourth quarter. Because this quarter will include Federal-Mogul results for the first time, we are providing more information than typical for this outlook.

Beginning with revenue and looking just at legacy Tenneco revenue, we expect constant currency organic growth of 3% in the quarter, which would outpace forecasted light vehicle industry production growth of 1%. Based on the September month end exchange rate, we anticipate currency would have a negative 3% year-over-year impact on revenue. In addition to this organic growth, we expect Federal-Mogul revenue of approximately $1.9 billion in the fourth quarter, resulting in a total combined revenue of about $4.3 billion for the fourth quarter.

On the right side of the chart, you'll see a table of outlook information for the combined Tenneco and Federal-Mogul businesses. Notably, in the fourth quarter, we expect value-add adjusted EBITDA margin in the range of 11% to 11.4%. Additionally, you'll find other financial assumptions in this table, and I'll remind you that all these figures refer to the combined companies in the fourth quarter.

For the full year outlook, on Slide 16, we are raising our Tenneco revenue outlook and now expect 6% constant currency organic revenue growth outpacing industry production by 5 percentage points. Because of this strong organic growth as well as the acquisition of Federal-Mogul, we expect full year combined revenues of approximately $11.8 billion, which represents the fourth quarter of Federal-Mogul revenue, plus a full year of Tenneco revenue.

For the full year, we expect to combine Tenneco and Federal-Mogul value-add adjusted EBITDA margin in the range of 11.3% to 11.5%. We expect Tenneco-only value-add adjusted EBIT margin of approximately 8.5%, which is within the previous guidance range.

Because of the unique position we're in, combining the businesses and creating 2 new companies, I thought it would be helpful to provide some insight as to what you can expect as we report our results for the fourth quarter and first quarter of next year. You'll find this on Slide 17.

We will report our fourth quarter and full year 2018 results in early February. For the remainder of 2018, we will measure our results under the existing segmentation and add 2 segments to represent the 2 Federal-Mogul businesses. As part of our transition of the operations towards the separation into 2 companies, we expect to revise our segments, beginning in the first quarter 2019, to reflect how the business will be managed going forward. We expect the segments will be Clean Air and Powertrain, which will transition to the new Tenneco company; and Aftermarket and OE, which will continue as segments in the SpinCo.

We plan to provide our 2019 full year guidance when we release our fourth quarter results in February.

Our results this quarter reflect the strength of our growth strategies, as well as our commitment to improve our profitability, by continuing to focus on sound fundamentals, including achieving cost leadership, investing in advanced technology and capitalizing on global trends to drive growth.

As I mentioned when we spoke last quarter, I see tremendous upside in growth and earnings potential for the Ride Performance business, and the path to success begins with a cost-competitive manufacturing footprint. The restructuring actions we announced this morning will help us respond to the changing market and capacity conditions in North America, significantly enhancing our operational efficiency, and improving our competitiveness in the region.

Our focus on cost leadership accelerates profitable growth by enabling investments in advanced technologies and innovative products and systems. Our intelligence suspension portfolio is a technology with the power to set Tenneco apart from the competition and help our customers' products stand out in the marketplace at the same time. The latest example of this is our CVSAe intelligent suspension system we're now supplying on the all-new Volvo XC40, the compact SUV that was named European car of the Year for 2018.

We are also well positioned for steady growth in the global Aftermarket, supported by a growing and aging car parc, particularly in high-growth areas like Asia Pacific and China in particular, with the average vehicle age going from 4 years today to 8 years by 2025.

With a stable of industry-leading brands and unmatched capabilities in distribution, training and service, the combination of Tenneco and Federal-Mogul will be poised to capitalize on the long-term growth of the global Aftermarket.

Another enabler of our success is our ongoing focus on understanding and aligning with the global market and regulatory trends shaping the business landscape and creating opportunities for growth. Our commercial truck and off-highway business is a perfect example of this. The results we see today are the product of years of hard work and investment to develop the winning combination of after-treatment technologies and global engineering and manufacturing capabilities, to design specific solutions that meet customer requirements in any regulated market anywhere in the world.

Before I turn it over to Roger, I'll summarize by saying that our results during the third quarter are a testament to the strength and diversity of our business. Between our geographic footprint, our strong platform position with the world's leading OEMs and an unmatched portfolio of technologies, products and brands, we are well positioned to continue to outperform the industry.

With that, I'd like to invite Roger to provide a brief Federal-Mogul update on Slide 18.

--------------------------------------------------------------------------------

Roger J. Wood, Tenneco Inc. - Co-CEO & Director [6]

--------------------------------------------------------------------------------

Thanks, Brian. As I'm sure you are all aware, the acquisition officially closed on October 1, and integration teams are continuing the work of combining the best of Tenneco and Federal-Mogul to create 2 industry leaders in their respective markets.

A major focus of the integration team is developing road maps to achieve the financial synergies targeted as part of the acquisition, and I can report that we have a clear line of sight to achieving our targets of $200 million in EBITDA synergies and $250 million in working capital synergies. Brian and I are both putting the leadership teams in place for both companies and working on the brand positioning and identities for both as well.

As Brian mentioned, you can expect to hear much more from us regarding our business strategies, organizations and details about the new companies early next year.

Looking further out in 2019, some of the major milestones as we prepare for separation include: the preliminary Form 10 filing; financing for the new Aftermarket and Ride Performance company; and legal separation, complete in late 2019.

To sum it up, while I've only been an official employee since October 1, I've been extremely impressed with the engagement and the growing excitement among the Tenneco and Federal-Mogul team members that I've seen firsthand in my visits to plants, technical centers and offices. We have lots to do. There's teams of talented and hard-working people addressing every challenge, and I'm looking forward to continuing to update you as we celebrate our progress. Back to you, Brian.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [7]

--------------------------------------------------------------------------------

Thanks, Roger. I'm excited to be working alongside Roger during this transformational time, creating 2 strong, purpose-built global businesses. With an increasingly dynamic global landscape, a focus in market-leading positions of the 2 post-spin companies will become increasingly important. With the close of the transaction now behind us, our teams are laser-focused on the integration and separation late next year.

Thank you for your continued interest in Tenneco and for joining us this morning. And with that, we're ready to take your questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) And our first question comes from Rich Kwas with Wells Fargo Securities.

--------------------------------------------------------------------------------

Richard Michael Kwas, Wells Fargo Securities, LLC, Research Division - MD & Senior Equity Research Analyst [2]

--------------------------------------------------------------------------------

Just on -- I think Jason talked about the indexing. So at this point, what percentage on Ride Performance is now indexed for legacy Tenneco? And I guess, early on, I guess, Brian or Roger could comment on this. But with regards to kind of capital efficiency, et cetera, with Federal-Mogul now under the umbrella, what are you seeing? I mean, I know it's been less than a month, but what are your expectations around trying to rationalize some of the capital intensity of the business as you look forward?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [3]

--------------------------------------------------------------------------------

Yes, so I'll grab the steel index and the agreements that we have with our customers. As Jason mentioned, we're down to one customer to get to an agreement. Our intention is to have that completed by the end of the year. Right now, with the agreements we have, we're about 75% to 80% indexed in the Ride Performance business. And with the conclusion and agreement that we reached with the final customer, we'll be closer to 90% indexed and with other formal agreements. So I think the team has made good progress there. As from the Motorparts side of Federal-Mogul, we look at their capital with CapEx spending as a percentage of revenue on the OE side. It's roughly in line with what we see on our Ride Performance, but we'll always look for the opportunities to maximize capacity utilization there to lower it off. I think maybe from a powertrain side, I'll let Roger speak to it.

--------------------------------------------------------------------------------

Roger J. Wood, Tenneco Inc. - Co-CEO & Director [4]

--------------------------------------------------------------------------------

Yes, I think it's not that much different, Rich, than Brian's answer for that side of the business. We're looking at that right now, and the real positive news from my perspective is that Federal-Mogul invested, I think, quite well in the capabilities of the organization. And so looking out forward, the investments, as opposed to infrastructure investments, will be more in line with the business that we're able to capture. So we're looking at how we can rationalize those right now, and we'll have better data for you at the beginning of next year.

--------------------------------------------------------------------------------

Richard Michael Kwas, Wells Fargo Securities, LLC, Research Division - MD & Senior Equity Research Analyst [5]

--------------------------------------------------------------------------------

Okay. And then just a follow-up on the indexing. So with Federal-Mogul, my recollection was when you first announced the transaction, the thought was they weren't as covered with regard relative to legacy Tenneco. Is there a lot more work to do with them under the umbrella on this front on Motorparts?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [6]

--------------------------------------------------------------------------------

Yes, I think on the Motorparts side, we're pretty well indexed. Remember, on that Motorparts business, they're kind of the inverse of us on mix. They're more 30% OE and 70% Aftermarket. And as you know, on the Aftermarket, with 90-day notice, we go for recoveries there. On the powertrain side, obviously, they've been hit with steel, but they also have a couple more commodities that come into play, aluminum being a primary one. They've done a nice job of getting offsets, and I know Rainer and the team are continuing to work for clear, formal indexing as we go. As we look at where they're at to date, there's a lot of movement yet this quarter. And I think we'll be able to give some pretty good insight there when we get into the first quarter.

--------------------------------------------------------------------------------

Richard Michael Kwas, Wells Fargo Securities, LLC, Research Division - MD & Senior Equity Research Analyst [7]

--------------------------------------------------------------------------------

Okay. And then just last one. On the Aftermarket, with Section 301 in effect now for China, how is this going to affect the business for the Aftermarket piece, either cost or competitive?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [8]

--------------------------------------------------------------------------------

Yes. So I think 2 kind of dimensions there. On the cost side, our team has done a nice of working with the customer base and are passing through those costs as they came into the first quarter -- or into the fourth quarter. On both sides, maybe about a 30-day difference between the 2 business, the Motorparts and the Tenneco Aftermarket side. And on the 301, as it comes into the beginning of the year, there's a lot of moving pieces there. On the Aftermarket, it opens up some opportunity for us. We've got some capacity that we can activate and bring back into the U.S., some production that was currently or formerly in the in [rigby] in China. And then, we are finding good ways to offset even some of the 232 with duty drawbacks between -- steel movements between Canada and the U.S. So a lot of moving pieces there and a pretty dynamic environment. We're working with our customers for design changes and reclassification of parts. So I think we'll -- our guidance last quarter was the tariffs will be about a $5 million, $10 million impact. I think as we look at it now...

--------------------------------------------------------------------------------

Jason M. Hollar, Tenneco Inc. - CFO & Executive VP [9]

--------------------------------------------------------------------------------

On the second half.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [10]

--------------------------------------------------------------------------------

On the second half of the year. As we look at it now, we're probably on the lower end of that range, and that's contemplated in the margin and guidance that we highlighted in our discussion earlier today.

--------------------------------------------------------------------------------

Operator [11]

--------------------------------------------------------------------------------

And our next question comes from Colin Langan from UBS.

--------------------------------------------------------------------------------

Colin Langan, UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst [12]

--------------------------------------------------------------------------------

Just a follow-up on that. I mean, any sense of what percent of the market and the aftermarket is coming from China today? And how much are you sourcing from China for your Aftermarket business?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [13]

--------------------------------------------------------------------------------

Yes, that's a little difficult to get our arms around from a total industry perspective. But probably the best way to think about it is the opening price point lines into the Aftermarket are primarily coming from overseas. And so there's a lot of pressure there that obviously started on October 1. From our perspective, on our ride control business, you're probably in the teens as a percent on the ride control side, so that's an opportunity for us. On the Motorparts side, it really moves all over the place based on the product line. So it'd be real tough to give you a number that would make any sense.

--------------------------------------------------------------------------------

Colin Langan, UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst [14]

--------------------------------------------------------------------------------

I mean, do you think you have an advantage or a disadvantage from the potential for tariffs? They may go to 25% by the end of the year. So do you think you could maybe capitalize because you have a U.S. base and the Chinese competition gets pushed out? Or is it neutral? I mean, any thoughts there?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [15]

--------------------------------------------------------------------------------

In several of our product lines, I think it's an opportunity for us. A couple of them where we may not have domestic capacity on the grounds, we'll be at least neutral on those. So no worse off on any of the categories and upside on 3 or 4 of them for sure.

--------------------------------------------------------------------------------

Colin Langan, UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst [16]

--------------------------------------------------------------------------------

Okay. If we just cover the overall organic growth, it clearly was a pretty good positive outlier and relative to other companies in the quarter. And you mentioned a lot of factors. I mean, what are the key drivers in your view if we were to bucket in just 2 or 3 buckets. I mean, was it a lot of customer mix that helped, because you mentioned a lot of products? Was there any help from WLTP? Is there some content being added in Europe as a result of that? Or was it really like the commercial vehicle and off-highway being a big driver? And what were those in the big bucket?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [17]

--------------------------------------------------------------------------------

Yes, I guess, if I go -- I'll maybe sum it up into 4. In the U.S., where a lot of pressure on the reduction in production comes from the cars, we're not mixed there very much at all. That's above 80% of our U.S. business is truck, SUV, CUV. So that's a major factor. Obviously, we had great growth in our commercial truck off-highway business. So that was a major contributor. Our Aftermarket business was steady. So it holds there, and that helps the overall mix from a revenue perspective in a declining industry production light vehicle mix. And then from a Europe perspective, WLTP, we don't see a lot of impact on our business there. And even with the RDE coming into effect, the first run, which came into effect last year, the second run, which is coming here in September 2019, most of our business, if not all of our business, are already RDE compliant, and some of them are even more compliant, especially in the new diesel programs coming in. So with less than 85% of our Europe revenue, kind of diesel impacted, we're not getting hit very hard at all on that. And in fact, as we mentioned, even if there's a switch to gas in most applications, we probably have the gas side, too. So it doesn't impact us nearly as much.

--------------------------------------------------------------------------------

Colin Langan, UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst [18]

--------------------------------------------------------------------------------

Got it. And just lastly, the Ride Performance restructuring, margins there are, obviously, clearly much lower in Ride Performance than the rest of the business. Any color on how -- what is the North America opportunity? Is that a big drag today, is that driving the overall segment down? Is Europe much better? I mean, any color on where we -- I guess, what I'm trying to get at is where margin could go once the restructuring is completed? And is there a good precedent around the rest of the world for kind of hitting a higher margin?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [19]

--------------------------------------------------------------------------------

Yes, I think if you look at Ride Performance as a segment, obviously, we're way overweighted there from the steel and tariff impacts that have happened over the last -- since the beginning of 2017. So that's been a major drag. You saw this year-over-year, even in a lighter impact than it was last year, 90 basis points year-over-year margin drag, and that's both U.S. and Europe. We're probably better positioned from a Europe perspective more closely to that 90% today. So most of our opportunities with the one customer we have left is in the U.S. So steel is the biggest impact. But you see that $20 million to $25 million fixed cost improvement as we realign our manufacturing footprint. That is a big drag. As we mentioned last quarter, I'm very pleased with the profitability that we see on our Intelligent Suspension product line. Our NDH group just continues to do a fantastic job. So satisfied with where we're at there. The conventional business in China, with the investments we're making there, very pleased with. We've -- the conventional business in North America is by far the most challenged business. And by getting this fixed cost out of the system and a couple of other moves that we're going to make and getting that steel commodity wrestled to the ground finally, I think we can get more into a normalized OE margin on that conventional product line.

--------------------------------------------------------------------------------

Colin Langan, UBS Investment Bank, Research Division - Director in the General Industrials Group and Analyst [20]

--------------------------------------------------------------------------------

What do you mean by normalized OE margin? Because it looks like year to date you're at like a 4. I think it looks like it's even up slightly year-over-year? Do you still like the 10 or something like that in that range?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [21]

--------------------------------------------------------------------------------

I think high singles, low 10, 11s is on a product line that is maybe a lower technology. We would expect higher technology would have better margins.

--------------------------------------------------------------------------------

Jason M. Hollar, Tenneco Inc. - CFO & Executive VP [22]

--------------------------------------------------------------------------------

Yes, and just another way of thinking about that, as Brian mentioned, it's nearly 100 basis points just this year in terms of the impact of steel. It was twice that amount roughly last year. So just to get it back to where we were a few years ago implies that we need to get at least 300 basis points. And of course, then we have the excess capacity, which these restructuring actions are focused on as well. So that gets you into that same range Brian was talking about, which also, I think, is going to be the range that's needed to get the right return on invested capital. This business, at this level, we can't justify additional investments. But with that type of margin, we certainly can. And that's where we need to build to get it to have a long-term, strong, stable business.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [23]

--------------------------------------------------------------------------------

Yes, our intent, both in Europe and in North America, is we're going to cap our capacity on the conventional product line and make sure that it goes to kind of that customer set that's rounding out the portfolio with our Intelligent Suspension product line and their need then for the conventional to round out their platforms.

--------------------------------------------------------------------------------

Operator [24]

--------------------------------------------------------------------------------

And our next question comes from David Tamberrino from Goldman Sachs.

--------------------------------------------------------------------------------

Mariel Kennedy, Goldman Sachs Group Inc., Research Division - Business Analyst [25]

--------------------------------------------------------------------------------

This is Mariel Kennedy on for David Tamberrino. So just the first question we have is, it seems like you guys did a really good job of sort of mitigating like China as well as European headwinds in the quarter. Can you speak a little bit to your customer mix in those regions? And I guess, how much of that mitigation would be attributable to just better customer mix?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [26]

--------------------------------------------------------------------------------

I think a lot of it is with our customer mix. I'll start with China. China, we're very heavily mixed towards the global OE JVs. And we've been pretty selective over the years around specific domestic OEs. There's different characteristics that we look at, and there's 3 or 4 domestic OEs that we enjoyed great business with, and they've been impacted less so than some of the other domestics. So I think that helps. We also got good content growth with the new regulations that are going on in Clean Air. And then, we've been growing good share on our ride control -- Ride Performance business over in China. If I flip it over to Europe, a lot of the movement that we hear and that we see related to WLTP and to diesel, most of our customers, if not all, are already compliant, and so they're not having to take product lines out or delay product lines. And so I think that helps a lot also. And don't forget that our commercial off-highway truck business had nice growth, both in North America and in Europe.

--------------------------------------------------------------------------------

Mariel Kennedy, Goldman Sachs Group Inc., Research Division - Business Analyst [27]

--------------------------------------------------------------------------------

I guess, just on the commercial truck and off-highway. I think there's been a tailwind for you guys for a while. What are your guy's expectations going forward for that to continue being a tailwind or sort of like, I guess, to dampen a little bit?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [28]

--------------------------------------------------------------------------------

Yes, I think that we've really been looking forward to the recovery of the commercial truck off-highway for a number of years. They're a little stronger this quarter than we initially expected coming in, which was good to see because we were lapping a pretty strong quarter last year. So do we see the same double digits in the 20s in Q4? No, I think we're probably slowing down high single digits, at least on the year-over-year comparison. And that's still good because Q4 was a real strong growth for us there. But a lot of that is one that's the recovery in the marketplace, but we're also launching and lapping some great launches that we had in Europe last year, we had MAN, we had Deutz lapping. Kubota continues to do well out of Japan. And from a regulated region perspective, the growth with CAT and Deere is also helping us quite a bit, too. So more and more as the emissions regulations get stricter in that commercial truck off-highway space, especially in APAC. That is a huge growth engine for the Clean Air business and for the Federal-Mogul powertrain business going forward. So that's why we're so optimistic about the growth characteristics in that business.

--------------------------------------------------------------------------------

Operator [29]

--------------------------------------------------------------------------------

And the next question comes from Frits Lieuw from Allianz.

--------------------------------------------------------------------------------

Frits Lieuw-Kie-Song, [30]

--------------------------------------------------------------------------------

Just 2 questions. Can you just remind me and really as a -- either ideally as a combined company, if you don't have that, I'll just take Tenneco's, kind of what proportion of your production facilities are actually based in China?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [31]

--------------------------------------------------------------------------------

Proportion, we've got 20-plus Tenneco locations there between Clean Air. Very heavy Clean Air. This is legacy Tenneco and a handful on the Ride Performance side in China. I don't have the Federal-Mogul numbers memorized in my head like I did with Tenneco. But it's at least equivalent. It's in the 20-plus range, 20%.

--------------------------------------------------------------------------------

Roger J. Wood, Tenneco Inc. - Co-CEO & Director [32]

--------------------------------------------------------------------------------

It's similar, yes, a good 20%.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [33]

--------------------------------------------------------------------------------

20%.

--------------------------------------------------------------------------------

Frits Lieuw-Kie-Song, [34]

--------------------------------------------------------------------------------

And how many facilities in total? So the 20% is what percent of your total globally?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [35]

--------------------------------------------------------------------------------

Well, for -- if I take tech centers and plants, 20% to 25%. That's legacy Tenneco.

--------------------------------------------------------------------------------

Frits Lieuw-Kie-Song, [36]

--------------------------------------------------------------------------------

Okay. And then can you remind me, I know that NewCo is going to be split again into a new kind of -- gave a leverage target of 3 and 2.3 at initial spinoff. But can you remind me now that the Tenneco acquisition is -- the Federal-Mogul acquisition is closed, what is your kind of pro forma leverage now as a consolidated company in this country?

--------------------------------------------------------------------------------

Jason M. Hollar, Tenneco Inc. - CFO & Executive VP [37]

--------------------------------------------------------------------------------

Yes, what we communicated in the past was 3x leverage at close, and that will be -- it's still the best estimate that we have for -- what the first quarter here of. Remember, that transaction closed within the fourth quarter, so you'll see that at Q4 ending. That's what we anticipated it being.

--------------------------------------------------------------------------------

Operator [38]

--------------------------------------------------------------------------------

And our next question comes from Joseph Spak with RBC Capital Markets.

--------------------------------------------------------------------------------

Joseph Robert Spak, RBC Capital Markets, LLC, Research Division - Analyst [39]

--------------------------------------------------------------------------------

Just to go back to the possibilities of reopening some U.S. capacity on the Aftermarket. Is that initiative taken on your own? Or is that in conjunction with some customers that have asked you to do so? And if so, are there some secured potential [things like that]?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [40]

--------------------------------------------------------------------------------

Yes, let me split this answer in 2. From the OE side, really not impacted very much at all with the 301. Long-standing policy that Tenneco's had around making where we sell, especially on the OE side. So there's really not a lot of impact on our OE side for the 301, specifically in the Ride Performance. A little bit in Clean Air with some of those smaller parts, but all in the process of being mitigated. There's really an aftermarket opportunity that we see, particularly on the ride control. So that's really the opportunity that we're doing. One, we're going to be more cost competitive, with the tariffs now applied to the delivered costs formula. And so it's really something we're doing to be more competitive in the marketplace, also to help our Aftermarket customers be successful and get done what they want to get done.

--------------------------------------------------------------------------------

Joseph Robert Spak, RBC Capital Markets, LLC, Research Division - Analyst [41]

--------------------------------------------------------------------------------

Right. So I guess, like those aftermarket customers, is that something you're offering to them or they're coming to you? Or how is that segment working?

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [42]

--------------------------------------------------------------------------------

Yes. Proactively, when we started seeing this coming with all the noise in the system earlier in the summer, we activated the necessary changes to be able to bring in production. We'll be able to have it here in the States within the first quarter.

--------------------------------------------------------------------------------

Joseph Robert Spak, RBC Capital Markets, LLC, Research Division - Analyst [43]

--------------------------------------------------------------------------------

Okay. And then, I guess, staying with the Aftermarket. And correct me if I'm wrong, but I believe on the Fed-Mogul side, when it was under Icahn ownership, there were some customers who sort of moved away from Fed-Mogul as a supplier. I was wondering now that, that it seems to be maybe more independent, is the best way to put it, is there an opportunity for some of that business to come back? Are you seeing any of that? Are there discussions about that? And can you help us, if it's true, help us quantify the potential magnitude.

--------------------------------------------------------------------------------

Brian J. Kesseler, Tenneco Inc. - Co-CEO & Director [44]

--------------------------------------------------------------------------------

Yes, I think there was some concerns from the big customers inside North America, and this is really a North America-specific discussion, back 2, 3 years ago around the perceived channel conflict and other activities that were going on. And there was momentum built up to seek alternative sources. That was all contemplated within our discussion during the acquisition. So we think there's a couple of $100 million of revenue that, over the last several years, has leaked out of the potential. But all of those things are up on the table, and we're talking to every one of those customers to go earn that back. And our intent is to go get it back, but we're going to get it at the right profit margins and the right returns. But we've -- the Tenneco team and the Federal-Mogul team, for the overwhelming majority, have great relationships with the OEs. And I think now that maybe that conflict there in their eyes being mitigated some opens the door for us to go back and get that business and earn it back with each of the customers.

--------------------------------------------------------------------------------

Operator [45]

--------------------------------------------------------------------------------

And this concludes our question-and-answer session. I'd like to turn the conference back over to Linae Golla for any closing remarks.

--------------------------------------------------------------------------------

Linae Golla, Tenneco Inc. - VP of IR [46]

--------------------------------------------------------------------------------

Thank you, and thanks to everyone for joining our call today. An audio replay will be available on our website in about an hour. You can also access a recording of this call by telephone, and the playback information is available in our press release. Thank you. This concludes our call.

--------------------------------------------------------------------------------

Operator [47]

--------------------------------------------------------------------------------

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.