Nexteer Automotive Group Ltd

HKEX:1316

Earnings Call Transcript 2018-Q3

[Operator]

Ladies and gentlemen, welcome to the Nexteer Automotive 2018 Third Quarter Investors Communication. [Operator Instructions] I would now like to turn the conference over to Investor Relations Director, Mr. Cameron Wang. Please go ahead.

[Cameron Wang, executive]

Thank you, Case. Good day, welcome, everyone, to our third quarter global investor conference call. Today, in our global head office in the U.S., we are pleased to have our executive board directors, President, Michael Richardson; Senior Vice President, CFO, Bill Quigley; and the Senior Vice President and the Global COO, Tao Liu, to speak with you over the company's latest development for the third quarter this year. Mike will first give us the business update, then we will remain available to respond to your questions. We will keep today's meeting with 40 minutes. Today's presentation slides are available on our company's website under Investor Relations. Before I turn over to Mike, as always, I will remind you of the safe harbor statement for today's communication. Welcome, Mike.

[Michael Richardson, executive]

Cameron, thank you, and thanks to everybody for joining us today. As Cam mentioned, we're connecting with you from our Auburn Hills headquarters, in Michigan. After this call, we're leaving for Poland, to conduct our final regional operating review there for the balance [ of the week ] . We spoke with many of you on August 14, so just 60 days ago at the release of the first half results. So there are really no surprises today. We'll use the next few minutes to provide context for current status and direction. As always, the Q1 and Q3 updates are brief and generally qualitative. The primary intent is to briefly share a few highlights from Q3 and in some cases year-to-date. We maintain our 6 strategies for profitable growth beginning with expansion and diversification of the revenue base. I'll give you an update on backlog and Q3 product launches. Strength in technology leadership that comprehends the generation of intellectual property. Capitalize on EPS as an enabler for ADAS features and functions, we're demonstrating viable solutions designed to deliver advanced levels of ADAS capabilities, optimize cost structure. You see an evidence of margin accretion in our most recent connection, we're not going to highlight that today. Pursue select acquisitions and alliances. I want to highlight 2 recent alliances and increasing interaction with academia. And finally, target China and emerging market growth opportunities with exposure to both emerging-market customers and new electric vehicle platforms. The backlog at the close of Q3 stands at USD 25 billion. This is a slight uptick from 60 days ago with EPS representing now 70% of all secured business.

Last time, we also shared with you for the first time backlog exposure to ADAS, defined as Levels 3, 4 and 5 and NEVs. This should not change significantly quarter-to-quarter, but we'll plan to share an update at full year results in March. For those keeping score, our detailed pursuit plan for '18, as we began the year, showed significant bookings in Q3, and I had mentioned that in our first contact. The good news is all planned pursuits are still in process, nothing has been lost, but we're subject to the OEM timetable on the date of booking and their own rigorous rules for adding a booking to the backlog.

We still expect strong 2018 booking performance by end of year. And as evidenced, in spite of challenging ourselves to deliver significant Conquest business, and I'd like to spend a minute with you on that. For the automotive industry largely completed conversion to engine independent steering, we were successful in business Conquest. And I would say, more successful than any global competitor, meaning that we secured business from our competitors. During that season, there were incumbent supplies of the precedent product application that being generally hydraulic power steering, HPS. And we took them out at the moment of technical conversion to engine independent steering.

At one point, our backlog reached 50% Conquest business, and we talked about that. This success ultimately moved us from #6 in the world, volume-based, to #3, where we are today. So today, I want to share that we've, again, reached that point objectively measuring our performance in new business at 48% Conquest during the first 3 quarters of 2018.

So again, this is an example of our taking business from our competitive peers. But in this case, they were incumbent on EPS, and we've replaced them securing the next generation business. So I think about it 2 ways: on the absolute scale, we'll continue to show current period top line and earnings and backlog as a measure of total new business secured in an indication of what's yet to come. But on the relative scale, it's worth noting that we're making progress in competitive Conquest.

I'll let you know how we finish full year, certainly, when we connect, again, in March. Business expansion in emerging markets has yielded encouraging results in booking new business with targeted customers. This is a very deliberate process, where we select those specific opportunities that we see bringing the greatest economic impact. And our filter would prioritize high revenue opportunities, efficiency and engineering spend and [ adoption ] value for the future.

Through the third quarter, we've added 4 new EPS customers. BYD has been a current driveline customer and will become a steering customer, capitalizing on China new energy vehicle strategy with 2 different EV column-based EPS programs. GAC, now multiple product wins in the last 12 months including EVs and export vehicles. Renault, a mainstream global OEM with a breakthrough win in Asia-Pacific division with brush-based EPS including our Dongfeng Motors partners. And Geely, another historical driveline customer, has granted us a new steering award in Q3 including their highest volume EV platform. This increased exposure to NEV, as mentioned, positions us to supply major electric vehicle OEMs in China.

I'd just spend a minute on major program launches. 2018 will be a 24-program launch year. There have been 15 major program launches year to date, 8 reported in the first half and additional 7 in the third quarter and 9 more planned in the Q4. They include GM Holden Acadia, right-hand drive, D-segment SUV with 2 products, REPS and intermediate shafts and that's regionally in North America. Second, GMC Sierra and Chevrolet Silverado full-size trucks, high content per vehicle on these REPS, immediate shaft and half shaft in North America. And then 2 launches with our Changan partner, the Changan V3, a B-segment Sedan, applying CEPS in China and the CS35 Plus, a C-segment SUV, again, applying CEPS in China. Continuing on the theme of business expansion, we've got tangible evidence of increasing technical capability with market acceptance of high-availability EPS. ADAS-enabled products capable of delivering Level 3 and higher performance are becoming increasingly important in securing new business.

We mentioned in the first half update that 10% of the total backlog is now enabled for Level 3, 4 and 5 ADAS capability. The attainment of Level 3 and higher system-level performance requires a significant amount of added product content. And there are things mentioned on the slide here, dual position -- dual-motor position, cyber-security capability and then many of the features we're doubling up on to have dual capability to ensure that no single-point failure can take the system offline. These products are rich in content and becoming visible and measurable in our backlog.

And again, I'll update you on this exposure at full year results in March. Continuing on business expansion, many in the automotive sector seek clarity around the frontier of new mobility. At Nexteer, we're specifically focused on studying the evolving role we can play in the domain of intuitive motion control. And briefly stated, we're approaching this through 3 current initiatives: partnerships with academia, would include in Germany, a linkage with Braunschweig technical university, their institute of automotive engineering. Last month, we completed a study on how Steer-by-Wire unlocks a range of vehicle dynamic breakthroughs, as an example, dynamic steering ratio without physical constraints, something that has never been available. University of Leeds, in the U.K., we're studying human factors in varying levels of automated steering. We'll leverage vehicle simulators in the pedestrian laboratory as part of our study with the University of Leeds. And then, Virginia Tech, in the U.S., we co-design a human factor study, and they have been advising us on various Nexteer internal clinic. Particularly important to us is the human machine interface as the industry moves to a very long period of mixed-mode driving. And I think of mixed-mode driving really in 2 dimensions: the first being autonomous vehicles operating in a traditional world, because that adds unpredictability to the operating environment, much more difficult than a future state scenario when all vehicles may be autonomous in certain situations. And the second mixed-mode will be transitioning from human control to machine control modes. This is where we are at the center of a very important future vehicle interface. Second, CNXMotion, our joint venture with Continental and other industry partnerships or collaborating technologies complement our portfolio.

Together we're studying new integrated solution for various levels of automation. We're exploring new ways to achieve greater levels of safety and vehicle performance, and we are engaging OEMs as a thought leader engaging them early in their future platform concept development. Third and finally, on this topic, we leverage our own test track facilities to get instant consumer feedback on advanced technologies. We get actionable insights by cross-sampling demographics and global regions. Our internal studies cover a wide range of consumer preferences and steering interactions, including the safe transition between traditional and automated steering. All of these activities ultimately enhance Nexteer's product development, securing our technology leadership as well as positioning us as a thought leader. We prioritize global customers, who will be at the cutting edge, and we want to win with the winners in the evolving role of intuitive motion control. I've shared before my personal bias that ADAS functionality only becomes relevant at Level 3, because many people can deal with Level 1 and 2, so this is the standard by which we measure ourselves.

With this in mind, we've been preparing for this horizon for quite a while, our earliest record of invention for Level 3 plus was submitted in 2001.

As we close the third quarter, 19% of pending patent applications are focused on ADAS Levels 3, 4 and 5. And I mentioned this because much like backlog, it gives us a view into how bookings translate to future revenue, the composition of [ IP ] gives an indication of what will come next in product evolution and composition.

CNXMotion, our joint venture between Nexteer and Continental, just a quick update. We established this partnership in recognition of the need to coordinate both lateral and longitudinal motion control, so very complementary marriage. We continue to make technology demonstrations to OEMs in both Continental-hosted and Nexteer-hosted events.

I shared previously that during winter testing in Sweden, our vehicle was driven by 150 skilled evaluators representing 14 OEMs. We rolled this valuable feedback into product refinements that went into summer testing and that just completed.

During this session, we had an additional 150 evaluators representing 21 OEMs. And for the most part, these are new evaluators that came to drive summer testing in North America. We've received very positive reaction and recognition that our current generation product is an industry leader in performance. The question might be on your mind when can this work be monetized. We think about this a bit differently. We have a different question in mind. On the one hand, there's tremendous interest in the potential of Steer by Wire. It's a game changer in terms of vehicle dynamics, interior styling, ASP opportunities driven by richer content. There are also cost-savings opportunities at the OEM as chassis can be mechanically simplified with vehicle character derived through software.

This ultimately can be a major win-win, although the higher ASP will accrue to the Tier 1 base, Nexteer in this case. Realistically, it will take time for a widespread industry adoption. That said, we are using Steer-by-Wire as a demonstration platform to share our competencies with winning OEMs in every major market.

We're very aware of our technical bandwidth. We cannot work with everyone. So once we establish interest at the OEM, we shift the conversation to current business booking opportunities. Saying, in a sense, if you're sincerely interested in us, and by that I mean, Steer-by-Wire and what we've just shown you, you've got to recognize that there's an opportunity cost. We need you to [ feed ] us now. We're currently pursuing several current-period bookings driven by interest in Steer-by-Wire demonstration.

And just a word on our alliance with WABCO. Our basic play here is to apply unique, the electromagnetic over hydraulic product solution, to provide steering assist in large vehicles in Class 8 commercial vehicles.

These vehicles have remained hydraulic given the high steering loads they generate. This means that the power required to steer them comes from the vehicle engine driving hydraulic pump.

The opportunity we see is to use our current production product, MTO, Magnasteer Torque Overlay, to power the hydraulic valve with relatively low torque and low hysteresis.

By the way, this is in the market today. If you Google digital steering assist, you'll find this MTO product on GM Silverado and Sierra 3/4 ton trucks, because they have remained hydraulic today. The opportunity also allows us to build fungible scale on the fairly standard product yet adapt to a range of vehicle applications. Demonstrations are going very well. We're prototyping key elements off of our production cell. We're keeping an eye on legislation and [ may require laying keeping assist ] on commercial vehicles in major vehicle markets.

This is an elegant and proven technical solution that requires minimal tear up on the part of the OEM. So on that quantitative update, I wanted to share where we're heading in the CV market and as the WABCO alliance and the MTO product become material in the backlog, we'll talk about this further.

And I'll stop there for prepared remarks, and Cam, turn it back over to you.

[Operator]

[Operator Instructions] And the first question comes from Tim Hsiao with Morgan Stanley.

[Tim Hsiao, analyst]

Mike, Billy and Liu Tao, just have 2 quick questions. My first question is about the impact and renegotiation about our contract, because, I know, Nexteer is relatively new from the -- impact on the trade frictions, because more diversified capacity allocation. But having said that, I think, the next year, we might face further tariff hike, so in that case, have we started renegotiating the contract with our clients? And could you share a little bit more about progress? And how is the client feedback? And my second question is about general weakness about auto market, because not only in China, but also in the U.S., our major customer, apparently, they faced increasing challenge. So third quarter, in general, we saw some weakness in terms of volume sales. How should we read about that? Does that mean we might see further slowdown in terms of revenue or potential impact to the margin, because of lower utilization rate or further delays in new project launch? That's my 2 questions.

[William Quigley, executive]

Tim Hsiao, I'll go quickly and really appreciate the questions. I'll take a shot at both of them and I and my colleagues, kind of, clean up on areas and add maybe a little more detail on. But for your second question first, just broadly speaking, from a Q3 perspective, we saw pretty strong production in North America and continued strength in production, certainly in our number of platforms largely around the GM platform as well as FCA. So in fact, we feel pretty good about the North American market at least through the third quarter. I would say from a European perspective, largely seasonal as you know with summer shutdowns, so we saw that impact there as well. But last, but not least, obviously, is from an Asia-Pac perspective, as we've talked to all of you in the past, we've continued to see some sluggish production coming out of our key customers. But certainly, I think, it maybe a little more accelerated with respect to some weakness that is arising in, in particular, the China market in the lateral part of Q3. So we're monitoring that very closely. But overall, really the mix of the business given the size of North America vis-à-vis Asia-Pac and Europe and South America, we would suggest it will probably perform higher than a year ago from a revenue perspective in Q3. If we go to your first question with respect to trade frictions and resulting, I would say, tariff regimes, certainly, I would say, it's been kind of a busy quarter, again, with respect to implementation of additional tariffs, one obviously being out of the 301 Section on the incremental tariffs with -- and between China, the $200 billion list as we referred to it, that came into play on September 24. It's about 10% tariff initially and that can rise [ to ] an incremental 25% starting January 1 of 2019. As we have talked to all of you as well in the past, largely given our localized production in the region of customer support, we've been somewhat, I won't say, insulated, but certainly, not materially impacted by the tariffs that have been [ implemented ] to date. But certainly, as we look into 2019, to your point, and if this continues on, there could be more impact, and we are very much in discussion with not only our supply chain, but with our customers as well. If this continues on, what is that impact, I would say, to both sides of the income statement, revenue side as well as the expense side. Suppliers, I suggest you, our Tier 1 suppliers, are doing the same thing with their Tier 2 suppliers. So I think, there's going to be more to come on that front, but certainly, I think, duration is important, certainly, if we have a continued, kind of, standoff, if you will, between U.S. and China. I think you'll start to see more moves being made by the end of the year and into the first of next year. But to date, not really a material impact to us.

[Operator]

And the next question comes from Jia Lou with BOCI Research.

[Jia Lou, analyst]

I just have only 1 question because you know that the news with U.S., Mexico and Canada agreement has just been signed up. And since we have 20% of our revenue comes from Mexico plants, so I would like to know if the new agreement have any potential impact on us?

[William Quigley, executive]

Sure, this is Bill. And I'll take a shot at that one. Certainly, I think 1st of October was important as the United States, Mexico and Canada have now reached, at least, an agreement in principle with respect to replacing NAFTA with the new USMCA agreement. And to your point, there are a number of provisions in that agreement, which would be effective in 2020, around content, if you will, or what was referred to as regional value content for fast cars and light trucks. We're in the process of analyzing that in [ concert ] with our customers as well. I think, from an OEM perspective, it's been largely supported and really these provisions impact the OEM directly more than they do the supply base. We're obviously a key input into our customers' ultimate assembly and production, but at the same time, the OEs are going to have a number of [ abilities ] and levers to meet the requirements of USMCA moving forward. One area that we've got questions on, just for context, is the requirement that some percentage or 30% of [ content ] -- fast cars and 45% of light trucks be produced by workers earning at least $16 per hour, that is an OEM requirement, not a Tier 1 supplier requirement. But again, the OEs will now have a way to, kind of, map what their cost structures look like and their supply chains, and it will be up to the OE really to, kind of, move around, if you will, and/or modify their supply chain to meet the requirements of this proposed trade agreement, which, again, is, I would say, expected to go or be approved at least by the House or the Senate later this year and probably moved into legislation during the course of 2019. But overall, I think it's in better position than we were at prior with now an agreement between the U.S., Canada and Mexico.

[Operator]

[Operator Instructions] Okay, there are no more questions at the present time. So thank you so much all for your questions and for joining today's -- for today's participation. If there are further queries, please contact us at [e-mail]. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.