Goodyear Tire & Rubber Co
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Goodyear Tire & Rubber Co
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Good morning. My name is Keith and I’ll be your conference operator today.
At this time, I would like to welcome everyone to Goodyear’s fourth quarter 2020 earnings call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star and one on your telephone keypad. If you would like to withdraw your question, press the pound key.
I’ll now hand the program over to Nick Mitchell, Senior Director, Investor Relations. Please go ahead.
Thank you Keith, and thank you everyone for joining us for Goodyear’s fourth quarter of 2020 earnings call. I’m joined here today by Rich Kramer, Chairman and Chief Executive Officer; Darren Wells, Executive Vice President and Chief Financial Officer, and Christina Zamarro, Vice President, Finance and Treasurer.
The supporting slide presentation for today’s call can be found on our website at investor.goodyear.com, and a replay of this call will be available later today. Replay instructions were included in our earnings release issued earlier this morning.
If I could now draw your attention to the Safe Harbor statement on Slide 2, I would like to remind participants on today’s call that our presentation includes some forward-looking statements about Goodyear’s future performance. Actual results could differ materially from those suggested by our comments today. The most significant factors that could affect future results are outlined in Goodyear’s filings with the SEC and in our earnings release. The company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.
Our financial results are presented on a GAAP basis and in some cases a non-GAAP basis. The non-GAAP financial measures discussed on the call are reconciled to the U.S. GAAP equivalent as part of the appendix to the slide presentation.
With that, I’ll now turn the call over to Rich.
Great, thank you Nick, and good morning everyone. Good to be with you today.
As you saw in our news release this morning, the fourth quarter was an outstanding conclusion to a truly unprecedented and challenging year. Our segment operating income in the quarter was $302 million, up 25% from last year. Our volume improved sequentially, reflecting a modest uptick in global industry demand compared to the third quarter as well as improvements in market share in several of our businesses.
We also continued to benefit from execution on cost savings initiatives, including actions we’ve taken to improve our structural costs. At the same time, we saw improvements in both price mix and raw material costs. These factors helped us deliver significant earnings growth and margin expansion during the quarter. In addition, we delivered $1.2 billion in free cash flow, our highest fourth quarter cash flow since 2011 after a strong Q3.
I’m incredibly proud of our team’s ability to persevere and finish the year strong. The prospects of fourth quarter earnings growth and this level of cash flow frankly were not something we had imagined six months ago, or even three months ago; yet with the determination to win with our products in the marketplace and a relentless focus on cost and cash, we finished the year on a high note with our businesses well positioned for continued recovery. Each of our strategic business units contributed to this outcome.
In the Americas, our commercial business continued to perform well. Volume increased 7% as we benefited from significant share gains in both OE and in replacement. The momentum we have with our commercial customers is a testament to our market backed approach to developing products and services that help owner-operators and fleets of all sizes maximize out time and lower operating costs per mile. We believe we can build on this strength in 2021. Chart tonnage, freight rates and Class A truck orders are trending favorably in the U.S., suggesting we are likely to see accomodative industry conditions.
We also see a significant benefit from recent customer wins, including Ryder, Albertsons, Dart, and Pepsi Mid-America just to name a few. We are expanding our suite of digital tools and fuel efficient products to help us continue winning with fleets in the new year. We recently introduced Fleet Central, an interactive tool designed to help fleets lower costs and make faster and more informed decisions regarding their tire and maintenance needs. Later this year, we will roll out the Fuel Max LHD2 and the Fuel Max RSD.
The Fuel Max LHD2 is a drive tire designed for long haul fleets looking to lower fuel costs and reduce their carbon footprint. This tire offers low rolling resistance that meets Phase 2 greenhouse gas emissions and fuel efficiency standards.
The Fuel Max RSD will allow us to differentiate our product portfolio further. This tire is designed for regional haul carriers that demand fuel efficiency for highway travel but also require robust durability and traction to navigate city routes. These type of customer-backed products combined with an increasingly digital-based service proposition will help us advance our strong industry-leading proposition.
Turning to the Americas consumer business, our OE volume increased 6%, outperforming the industry for the fourth consecutive quarter. While I’m pleased with our recent performance, I’m even more excited about the gains we expect in our OE business in 2021 and beyond. Winning the right fitments, such as the award-winning 2021 Ram 1500 TRS, which is equipped with Goodyear Wrangler Territory all-terrain tires, allows us to strengthen our brand and build customer loyalty, both of which are key drivers of demand in the replacement market. As you’ve heard from us in the past, it’s these types of platforms that generate the highest customer loyalty in replacement.
We’ve demonstrated that we can maintain our competitive advantage in the all important light truck category on electric fitments as well. The Goodyear Wrangler Territory MT off-road tire was selected to be fitted on GM’s new EV Hummer, a strong win for our consumer OE business and a nod to how we are transforming our capabilities to meet customers’ changing needs.
Turning to our U.S. consumer replacement business, while lower demand in the mass merchant channel continued to impact our absolute results, our relative performance in the U.S. improved with our share in targeted segments increasing more than two full points compared to the third quarter. Outside the mass market channel, we grew share with customers. The award-winning Eagle Exhilarate and Assurance WeatherReady, along with customer favorites such as the Assurance Max Life, were instrumental in our ability to perform well in other retail channels.
Our new product rollouts will continue in 2021. This month, we will introduce the Comfort Drive, a premium tire designed for the commuter touring category, a segment that accounts for half of the consumer replacement tires sold in the U.S. The Wrangler Workhorse power line will debut later in the year as well. This product line is designed for those who rely on hardworking dependability for their tires to get the job done.
Shifting to EMEA, our commercial business delivered another impressive quarter. By tailoring our products to the needs of our commercial customers and building a fully integrated service business, we have been able to grow share for two consecutive years. We expect to maintain this strong momentum in 2021 by strengthening our mobility solutions offering, expanding our service network, and broadening our reach with small and medium fleets.
I’m excited to say that we’re off to a terrific start as well. In January, Ryder selected Goodyear as its sole mobility partner in Europe, becoming the latest fleet to recognize the substantial value of our end-to-end mobility solutions.
Now turning to the consumer segment, our OE business is beginning to see the impact of higher win rates on targeted fitments, particularly on EVs. Our volume increased 16% in a relatively flat market. Winning with customers who place tremendous emphasis on tire technology and performance demonstrates our capabilities. We continue to see strong win rates for future fitments.
OEMs are recognizing the commitment we have made to developing tires that will help them transform their portfolios to more energy efficient and eco-friendly vehicles while delivering performing capabilities consumers demand. For example, Volkswagen selected the Goodyear Efficient Grip Performance and the Goodyear Ultra Grip Performance for its ID3, its first vehicle to be designed exclusively for electric mobility. Both tires will feature our proprietary sealant technology. Mobility solutions like these have helped us secure a leadership position in electric mobility; in fact, EVs now account for approximately half of our OE development projects in Europe.
In EMEA’s consumer replacement business, the continuation of consolidating our distribution footprint has temporarily affected our volume; however, the changes were necessary and will enhance the value of our brands and our products over time. We continue to see positive effects on the value of our products in the market and in our results as a result of this initiative. This momentum increases our confidence that we will deliver on our goal of increasing our margins by $2 to $4 per tire over the coming years, and we saw improvements in our share compared to Q3, momentum we believe will carry forward into 2021.
Turning to Asia-Pacific, our consumer replacement business continued to be the highlight, outperforming the industry and turning in its highest quarterly volume ever. Once again, we benefited from strong growth in China where we increased replacement units by more than 10%. This growth is supported by the work we’re doing to transform distribution. Last quarter, we announced a pilot for an app-based direct-to-retail distribution model in China. In 2021, we expect to add approximately 600 new branded retail stores across Asia to support future replacement growth, with more than half of the locations planned for China. We’re also continuing to enhance our product portfolio to ensure we meet the evolving needs of the consumer. This year, we will launch the Goodyear Assurance MaxGuard to capture growth in the mid-SUV segment.
Turning to Asia’s consumer OE business, where 2020 was impacted by the discontinuation of some high volume fitments in China, we see a very different story in 2021. In addition to the favorable impact from higher light vehicle production this year, we expect to benefit from a strong OE pipeline. We are focused on being on platforms with high replacement pull. This will help drive strong replacement demand in the years ahead.
While it’s important that we focus our efforts on the opportunities that lie ahead, we cannot lose sight of all that we accomplished to position Goodyear for recovery. We increased our OE pipeline, winning fitments representing more than 9 million units, we made it easier for consumers to buy our tires by launching Goodyear Mobile Install in new U.S. markets and doubling our fleet of service vans, we expanded our commercial fleet services and added significant fleet accounts, and we continued advancing our future mobility capabilities. We know there’s been a lot of public focus around the experience being accumulated with regards to connected tire technology. Our primary focus hasn’t been around these statistics, but given the interest we went back and calculated our accumulated connected miles, and it’s a large number. As of year-end, we have over a billion miles of data on connected tires and no plans of slowing down this learning.
I’m very satisfied with the solid progress we’ve made in the second half of this year. I’d like to thank each and every Goodyear associate for their sacrifices and commitment throughout the year and for the strong fourth quarter finish. We have good momentum as we enter into 2021.
Now I’ll turn the call over to Darren.
Thanks Rich. You can see from our results and from Rich’s remarks that the fourth quarter reflected a combination of continued industry recovery and strong performance by our team, including on market share, cost efficiency, and cash generation.
Our consumer OE business continued to gain momentum, building on our share gains in the third quarter. We discussed in 2019 our expectation that our OE share would begin to recover by 2021 after the declines we were seeing at that time. This recovery started earlier than we expected and will continue given the fitment wins that we’ve had over the last several years.
Our replacement share improved sequentially as the impact of last year’s customer store closures in the U.S. continues to improve and the impact of actions to address our distribution network in Europe begin to dissipate. We also continued to see the impact of restructuring actions in our manufacturing footprint. We delivered net cost savings of $70 million for the quarter. Finally, despite strong cash performance in Q3, we’ve delivered historically strong Q4 cash and working capital improvements, leading to positive cash flow for the full year and one of our highest levels of cash and liquidity.
Overall, I’m very pleased with our performance for the quarter. While we continue to face a high level of uncertainty, we’re encouraged by the trends in our markets and in our business as we enter 2021.
Turning to Slide 9, our fourth quarter sales were $3.7 billion, down only 2% from the prior year. Our unit volume declined 5% versus a decline of 9% that we saw in the third quarter. Our segment operating income for the quarter was $302 million, up $60 million from a year ago. Our reported segment operating income included two items that were excluded from our adjusted earnings per share: first, a $34 million benefit from a legal settlement, and second, a $13 million charge for the establishment of an environmental reserve associated with a closed facility. After adjusting for these and other items, earnings per share on a diluted basis were $0.44, up from $0.19 in the prior year.
The step chart on Slide 10 summarizes the change in segment operating income versus last year. The impact from lower volume was $40 million, reflecting a decline in unit sales of $1.9 million. Reduced factory utilization in the third quarter compared to a year ago resulted in a $32 million decrease in overhead absorption in Q4 results. Production in the fourth quarter was flat compared to 2019.
Price mix improved $33 million, and overall material costs declined $25 million compared to a year ago. Note that we benefited to some degree from the three to six-month lag as raw material costs moved through our inventory. Recent raw material price increases will catch up some over the coming quarters.
Cost savings of $103 million more than offset $33 million of inflation. Savings associated with the closure of Gadsden totaled $33 million, consistent with the third quarter. Foreign currency translation negatively impacted the results by $5 million driven by weaker currencies in South America, primarily the Brazilian real.
The $9 million increase in the other category includes the benefit of a legal settlement of $34 million, which more than offset lower earnings in our other tire-related businesses and the establishment of the environmental reserve of $13 million.
Turning to the balance sheet on Slide 11, net debt totaled $4.5 billion, a decline of more than $300 million from the prior year. Slide 12 summarizes our cash flows during the quarter and for the year. We generated $1.1 billion of cash flow from operating activities in 2020. Capital expenditures were $647 million. Free cash flow totaled approximately $470 million for the year, up about $30 million from the prior year despite pandemic disrupted earnings.
Working capital inflows exceeded our expectations in the fourth quarter. Since the beginning of the pandemic, driving cash flow and ensuring strong cash and liquidity have been our top priority and results over the last three quarters reflect that focus.
Turning to Slide 13, we had total cash and available liquidity of $5.4 billion at year end. This is over $900 million higher than at the end of 2019 and marks the highest liquidity level in recent history.
Turning to our segment results beginning on Slide 14, unit volume in the Americas declined 6%, an improvement from the nearly 10% decline in the third quarter. Replacement volume was down 9%, driven by our consumer business. While the adverse impact of lower sales through Wal-Mart’s auto care centers was less in Q4 than in Q3, so it’s trending the right way, it continued to drive the year-over-year decline in our volume relative to others in the industry. Our commercial replacement volume, on the other hand, increased 9% driven by strength in the transport industry and growth in our fleet business. OE volume was up 6%.
Segment operating income for the Americas totaled $190 million or $38 million higher than last year. Excluding the impact of the one-time legal settlement and the environmental remediation reserve, America segment operating income would have been $169 million, still up $17 million from the prior year. The benefits of our cost saving actions and prudence in price mix contributed meaningfully to the earnings growth. Savings associated with the closure of Gadsden were $33 million for the quarter, and our aviation and off-road earnings remained down from the prior year.
Turning to Slide 15, Europe, Middle East and Africa’s unit sales totaled $12.4 million, down 5% from a year ago. OE volume increased 16%, reflecting the impact of several new fitment launches as auto production was essentially flat during the quarter. Replacement volume fell 11%. Lower volume in our consumer business more than explains the decline in replacement volume. Our commercial replacement business performed very well driven by continued momentum in our fleet business. EMEA’s segment operating income increased $31 million to $69 million. The increase was driven by lower raw material costs and improvements in price mix.
Turning to Slide 16, Asia-Pacific’s units totaled $7.8 million, down 2% from the prior year and a significant improvement compared to the third quarter. This sequential improvement in our volume was driven by our consumer replacement business which increased 5% in the latest period. While our business in China remained a growth engine, we also grew consumer replacement volume outside of China during the quarter. Our OE business results year over year continue to be affected by discontinued fitments in China. Segment operating income was $43 million, down $9 million from the prior year’s quarter driven by lower earnings in our other tire-related businesses.
Turning to our outlook items on Slide 17, while markets have recovered considerably since the middle of last year, we continue to face a high level of uncertainty. Despite these uncertainties, we wanted to share with you some thoughts on how we’re currently thinking about the business during the first quarter.
First, we expect volume will be similar to what we experienced in Q4 with overall levels below 2019, reflecting lower auto production and continued softness in vehicles miles travelled. Second, we expect our production levels to be about 3 million units higher than last year, positively impacting our fixed cost absorption. Third, we expect to see continued improvements in price mix. While we still expect our raw material costs to be lower than the first quarter of 2020, the year-over-year benefit will be significantly less than in the fourth quarter.
Slide 18 summarizes several of our full-year financial assumptions. Based on current spot price, we would expect our raw material costs to increase $125 million to $175 million net of cost savings, largely in the second half of the year. Our planned capital expenditures total about $850 million, which includes some catch-up for the investments that were deferred as a result of the pandemic.
Given the industry recovery in the second half of last year and the resulting impact on our inventory levels, we’ll need to reinvest in working capital in 2021. At this point, we expect to reinvest around half of the cash we pulled out of working capital last year. Rationalization payments are expected to be similar to last year’s levels as we complete the plans we’ve announced in Europe and the U.S. to strengthen the competitiveness of our manufacturing footprint.
We expect our book tax rate will continue to be very sensitive to small variations in income, so hard to estimate with any precision. At this point, we anticipate paying cash taxes of $125 million to $150 million, which includes payments deferred from 2020.
Last year, we suspended our quarterly dividend in response to COVID-19 and expect this suspension to continue while the impact of COVID-19 persists.
Finally, you’ll find several updated reference slides in our presentation. Slide 20 contains updated modeling assumptions that will be useful as you develop your forecasts. The most significant changes compared to the prior year’s version are in the section on volume sensitivities, reflecting the impact of lower industry volume in 2020. Slide 21 provides an updated percentage breakdown of our raw material costs by commodity. Note that our overall spend in 2020 was significantly impacted by lower production. Slide 22 provides an update on the percentage of our consumer business made up of large rim diameter tires. You’ll notice the significant increases in the percentage of 17 inch and above in our OE businesses.
Now we’ll open up the line for questions.
[Operator instructions]
We’ll take today’s first question from Rod Lache with Wolfe Research. Please go ahead.
Good morning. Was hoping you might be able to talk a little bit about what you’re seeing in terms of price and mix, and in particular just the supply-demand impact of these tariffs on the four Asian countries. They accounted for at least a quarter of U.S. replacement supply in the past couple years, so how do you see that starting to trickle through the market?
Rod, maybe I’ll take it in two pieces, one just to give a few remarks or some thoughts on the tariffs, and then talk a little bit about the pricing environment - obviously a relevant question.
I would say as we think about it, leveling the playing field in the U.S. is really no question a good thing for the health of the domestic tire industry, and I know you know it, going back to the last tariffs we saw in 2014, you could go back and look at the numbers, there was a clear benefit to the U.S. industry.
I think there is a bit of a distinction because, back to 2014, we did see much of the import volume quickly shift out of China into a lot of the other Southeast Asian countries, as you know, many of which now are the ones who are actually the ones subject to the potential anti-dumping and countervailing duties and tariffs, so I think as we look at this and given that history, the benefits of these more recent tariffs potentially may be longer lived, may have a bit longer life. Just as you think about it, there’s just simply fewer locations and places to put those tires to send them back into the U.S.
Taking a step back, we think that the industry is doing pretty well. We see good recovery in demand. Demand is running ahead of supply, particularly in the premium product - that’s a good thing for us, and as you see in the fourth quarter, the positive benefits that we got of price and mix, and we see that even relative to what we see are higher raw material costs coming in next year.
Then if you just take a step back and look at what’s happened to price or how we’re thinking about price and what we’re seeing, I should say right now, in 2020 we did see a net recovery of price mix versus raw materials, building on that momentum that we kind of saw in the second half of 2019 - that’s a good thing, but I’d also remind you and everyone else, we’re still not fully recovered from those high raw material costs we saw in 2017 and 2018, so really a net positive and really important evidence in what we’re seeing, that that cycle is kind of turning around to help us recover all those raw materials.
Again, you see it in our price per tire ex-FX was up about 3%, so good outlook on the replacement side. Remember, the OE business has some RMIs that could have an impact as well.
Then if we just look around the globe, we’ll start in the U.S., the PPI was up about 1% in Q4 versus the prior year - always a good sign, and then as we look around, we saw nine of 10 of our consumer tire manufacturers out there, the ones that we monitor, they’ve announced price increases since November of about 5% to 8%. We announced up to 5% on our consumer replacement business effective December 1. Then if we go to the commercial side, we saw more than half of the truck tire manufacturers that we track, they’ve also announced price increases of that same amount, about 5% to 8% since November, and we’ve announced up to a 6% price increase that was effective November 1.
Then if we switch to Europe, remember we’re in the summer selling season right now, and we’ve seen several tire companies there announce price increases as they start selling those tires. Relative to us, we implemented a price increase of about 2% on both summer and all-season, effective December 1, and also in the truck business as the truck business, as Darren and I both referenced in our remarks, is very robust in Europe and right now, and we’ve had some pricing actions there as well.
Then if we just broadly speaking look at emerging markets, we do what we always do there, is use price to offset weak currencies and raw materials. I’d say a pretty constructive environment all round.
I was hoping just secondly you’d be able to touch on what you still think you need to do longer term to achieve competitiveness. You’ve kind of referenced the low cost country versus high cost country manufacturing - is that something that you see getting executed over the relatively near term, and if you can just remind us what kind of cost savings you’ve got between Gadsden and Europe restructuring as you look out to 2021.
Yes, so the competitive position point that you made, which we’ve been open about, is our cost for manufacturing consumer tires is significantly above what we see as the industry median, and that’s the competitive issue that we have been working to address. The restructuring in Gadsden and the restructuring in our factories in Germany, Hanau and Fulda, are an important first step toward addressing that cost position, and we’ve started to get the benefits of that in the second half of 2020, so we got essentially full benefit of Gadsden in the second half, which was around $33 million a quarter, and obviously we’ll get the remainder of that savings as we go into Q1 and Q2 of 2021.
We’ve only just started to get some savings from the German restructuring, and that will ultimately be $60 million to $70 million, so if we take the two together it’s approaching $200 million when we compare--if we compare 2022 to where we were in 2019. That’s going to be a significant move in the right direction.
Obviously we’re filling in with some expansions that we’re making in some of our lower cost factories, including our factory in Slovenia, and obviously the Mexican factory has ramped up as well. We’ve gotten some moves in the right direction. I think we’re continuing to stay focused on cost, and that improvement can come from additional investment, including some investment in automation and streamlining some of the production we have in our existing factories, as well as some continued expansion of some of our most efficient facilities. I think we feel like we’re on the right track there, but there’s still more work to do.
Thank you.
The next question comes from James Picariello with Keybanc Capital Markets. Please go ahead.
Hey, good morning guys. On the 2021 outlook, do you expect global industry volumes to be down in the first quarter, or does the color you provided relate to Goodyear’s? And Darren, you mentioned volumes similar to the fourth quarter - was that a reference to the year-over-year comp? Just given the full reopening of your largest North America replacement customer, should we expect sustained sequential improvement through the year in terms of the company has regained share and eventual volume outperformance? How should we be thinking about that? Thanks.
Yes, so let me take our thoughts on the industry first beyond first quarter, but give you a little bit of a feel for how we’re thinking about the industry. Ultimately the comment we made about the first quarter, it was essentially a reference to the fact that we believed our volume would still be down somewhat in the beginning, in Q1, but that comparison is versus 2019. We still believe we’d be running below 2019 levels. I think we feel comfortable we’re going to be up versus the 2020 levels, but that may be an obvious thing given the beginning of the pandemic last March.
If we step back from it, though, for consumer replacement in the U.S., it’s probably the most complicated of the industry volumes to assess, and that’s as a result of the spike in imports that we saw in the second half of last year. 2020 volume consumer replacement volume in the U.S. was down 7%, but member volume was down effectively 12% or 13%, and the non-member volume were up about 15%. Most of that differential happens in the second half, so the comparisons for the first half are relatively balanced and we should get some good recovery versus 2020 levels.
When we get to the second half, it becomes a little bit hard to analyze. I think we’d expect the members, including ourselves, will still have some volume improvement coming in the second half, but non-members given there was pre-buy ahead of the tariffs, I think non-members we would expect to be down. Therefore if we were to give an overall outlook for the industry, I think it’s probably a flattish outlook if we take the members and non-members together. We also would see the first half with significant improvement and the second half not as clear, so likely down if you’re incorporating the impact of those imports.
I think that’s how we’re looking at the U.S. consumer replacement industry volume, and that’s part of what goes into the assessment that we offered on the first quarter - you know, some good recovery versus 2020, but still below 2019 levels.
If we run quickly through the other industry factors that would affect our volume, in consumer OE I don’t think our outlook is probably that much different than what you would read. I think in the U.S., we would expect that we would recover most, if not all of the 2020 decline during 2021 as it was down--you know, consumer OE was down 19% last year. I think we’d expect to recover that this year. Commercial replacement was up about 1% last year, and I think we expect it to be up single digits this year, so there wasn’t really a decline but I think we’d continue to see good volumes. In commercial OE, which took the hardest hit last year, down about 30%, I think we’d expect to recover something on the order of half of that, based on the production outlook that we see right now. That’s what we’re seeing in the U.S. industry.
The European industry, we saw consumer replacement last year down 12%. I think we’d expect to recover over half of that decline this year, but certainly not all of it. Consumer OE in Europe was down about 25%, expect to recover something over half of that as well, but recovery not as strong as we see in the U.S. Commercial replacement was down about 7% in Europe last year - we expect that to be fully recovered, and commercial OE in Europe down about 18%, we also expect full recovery on, so we expect a good bounce back in the commercial business there. A little bit slower recovery in the consumer business than we’re seeing in the U.S. Overall, I think that’s our backdrop.
To circle back to the question on our Q1, we’re expecting to see a decline versus ’19 that is directionally similar to what we saw in the fourth quarter.
Got it, that’s super helpful. Thank you for all that color.
As we think about your TBR OE business, would you venture to say that the margin profile of that business is higher or at least in line with the margin profile of your consumer replacement mix?
Sorry, was the question--it was commercial OE?
Yes, TBR OE. Yes.
Our commercial--I mean, we model our margins on commercial OE tires at essentially the same level that we do commercial replacement tires, so there’s not a distinct difference there. I mean, they’re obviously different products, have different margin character, but we tend to model those as being similar, where in consumer margins on OE tend to be lower than margins on replacement.
And James, part of the reason for that, remember, is a lot of those tires on OE are being spec’ed by our fleet customers, so there is much more integration between what happens at the fleet level and then what gets pulled out of OE. Our customer sort of flows right through, where OE are essentially two different customers.
Got it. Yes, just given the strong industry production backdrop for this year, I just wanted to ask about TBR.
My one follow-on, your other tire-related businesses, I think amounted to about $150 million headwind for the full year. Aviation will be the ongoing headwind that sustains - no surprise, but how much of the $150 million do you think can be recaptured in 2021? Thanks guys.
I think our view here is given the continued challenges in aviation, we’re probably looking to recover something on the order of half of the $150 million that we lost in 2020, and then would expect the remainder of that to come back over the coming years. But the aviation industry, I think we’ll probably have a three or four year outlook for a full recovery.
Understood, thanks.
We’ll take our next question from Victoria Greer. Please go ahead.
Good morning. Two questions for me, please. Firstly on the Q1, could you just give us a little bit more detail around the absolute amount you’d expect of a raw materials headwind in Q1? You mentioned that you expect the Q1 price mix versus raw to be positive but less of a tailwind net than it was in Q4. Could you talk us through a bit the different drivers that you’ll have in Q1 versus Q4?
Then a second question really around inventory levels. We know the industry has been running production pretty high to catch back up in the second half of 2020, it seems like that’s been the case for you as well. You were expecting to rebuild some inventories in Q4, but I guess looking at the working capital inflow you had, that probably happens more in 2021. Could you talk a bit about, firstly, where you think inventories are now, both for your own business and then also into the dealer channels? Is there still catch-up needed there? Thanks.
Let me--Rich, maybe we’d start by commenting on where we see channel inventory.
Yes, sure. There’s a lot there, and all absolutely right questions as well. From a channel inventory perspective, I would say we--maybe I’ll break it down between the U.S. and Europe because it’s the easiest way to look at it. I would tell you that in the U.S. during Q4, we saw what I’d say was sort of a modest re-stocking by our wholesalers and retailers, and as we think about that, sell-in was essentially at prior year levels but sell-out was down about double digits. Again, this included but, I would say, is not limited to the impact that Darren referred to earlier, which was that the impact of the pre-buy of the Asian tires that we saw.
Now having said that, there is evidence of the U.S. TMA members’ inventory growing as well. For us, our third party distributions, our inventory was down versus--our Goodyear tires in that inventory was lower versus the prior year, but we would say that’s very consistent with the reduction in sell-out, which tracks to VMT, which we view as a good indicator over time of how to match supply and demand on what’s going on, and we certainly see a recovery of some of that as we go into 2021.
In Europe, our third party channel inventory, again the distribution in the retailers, our brand was down at the end of December versus the prior year, again driven by what we always see at this time, and that’s lower winter tire inventory. But remember, this is a really significant change from what we saw at the end of Q2, where we saw declines of 13%. I think we’ve seen that re-stocking start in the second half of 2020, so I’d say good shape overall as we look at it.
But clearly, Victoria, I think your question, I’ll send it back to Darren, one of the things that we’re looking at is we tried to catch up on some of that inventory this year, but as you said, demand was in better shape and to get those plants working to meet both demand and to rebuild inventories is the challenge that’s front and center and what we have to do in 2021.
Darren, maybe you can walk through some of the numbers and how we’re thinking about that.
I think that’s fair, that the channels have started to do their catch-up on their inventory, but we haven’t had a chance to catch up on our inventory. You’re right to point out the fact that we had hoped--you know, we said in the third quarter call we were hoping to rebuild some of our inventory in the fourth quarter, and that did not happen, so we’ve ended the year with inventory down about $700 million from a year ago. Our plan effectively is to realize about half of that [indiscernible]. We would have liked if we could have made some progress on that in [indiscernible] doing that during the course of 2021. That makes up the biggest part of the $450 million to [indiscernible].
I want to come back to your raw material question, but Victoria, did that cover your question related to inventory?
Yes, that’s clear on the inventory, thanks.
Raw materials for the first quarter--you know, we’re coming off fourth quarter where we had $25 million of benefit in raw materials. I will say that that $25 million benefit in the fourth quarter was made up of $75 million or $80 million of benefit from raw material feedstocks, offset to a great degree by transactional foreign exchange, adverse transactional foreign exchange, particularly the Turkish lira and the Brazilian real that drove up [indiscernible] in those countries, so our raw material net benefit was $25 million. We expect both that number before and the number after the currency effect to net out to something [indiscernible] first quarter [indiscernible] probably half the benefit in the first quarter that we saw in Q4.
Does that hit that one? Victoria?
Okay, we’ll move on next to John Healy with Northcoast Research. Please go ahead.
Thank you. Wanted to ask a big picture question, just about the EV market. I know you guys highlighted the success and the momentum you had there, but I was hoping you could spend a little bit of time educating us a bit more about what is it about the R&D that you’ve put into place, or what’s going on specifically that you guys think is allowing you to garner some good share opportunities there, and any way you could kind of frame for us how you think you’re doing relative to the market on the EV side of things?
John, I would tell you--I’ll start with your last question, I think that we’re doing really well, and you’ve kind of heard some of the fitments that we won over time, and we mentioned one of them just in the call today. But I think you have to look at this as really putting a combination of things together. To start with, it’s really core tire technology that again, frankly, we have, I would say, an excellent team of engineers and scientists working on how to solve those problems. Remember, one of the EV problems - there’s a couple of them I’ll touch on, but one of the main ones is around rolling resistance, and Goodyear, I feel very confident in telling you, is the leader in rolling resistance in many of the markets around the world, I would say in all the markets around the world, really - in Asia, in Europe, in the U.S. That science around everything from tread compounding to material uses to different ways to put that work is where we have expertise, and that expertise grows in value when you’re trying to solve a range issue on an EV vehicle. That’s one of the areas.
But remember, meeting the requirements in these EVs isn’t just rolling resistance. It’s clearly that, it’s clearly being able to have and hold the extra weight of an EV that has the batteries around it, it’s the durability because the incremental torque that goes to those tires, and it’s also things like sound and noise, because as we’ve said before, you don’t hear the engine so any tire noise is going to become very prevalent in an EV versus an internal combustion engine. Those are things like foaming tire that we have and other elements to do that.
Then on top of that, you can’t give up--in fact, I’d say you have to increase the actual ride and handling perspectives as how these EVs want to perform in consumers’ hands, so it’s the combination of all those things, not just one that really puts Goodyear, I would say, as a leader in EV technologies.
Then add to that where we’re going around, let’s call it the integrated tire, the intelligent tire. EV tires are where that intelligence is going to show itself, so why we have--we made mention of the billion miles that we have on connected fleets out there today, to learn about how we can make sure we’re getting all those properties from the tire, all the data off the tire on the road to integrate with those vehicles going forward, and as you might imagine, the first users of that are going to be EV companies and EV operators.
I would tell you that’s why when you look at us versus some of our competitors, it’s just not building the plant and making the tires. We’ve always said it’s integrating all those things together in ways that adds value to the customer, and we think about that, about changing, hey, what service are we bringing, what problem are we solving, and what product are we bringing to our customers to help them drive their future. That’s how we think about the EV business.
Great, and then just one follow-up question for me on pricing, maybe specifically on the U.S. replacement market. I think you guys mentioned nine of 10 manufacturers raising prices. With the industry inventories being in a lean position and with the tariffs coming, do you think there’s an opportunity for further price increases in 2021, or do you think that the industry has already turned the page for what 2021 pricing might be for replacement units?
John, hard first to comment about the industry. I will say that given our outlook on raw materials, which is for raw material cost increases principally in the second half in the range of $125 million to $175 million, if today’s commodity spot prices hold, the pricing actions that we took at the end of the year would generate enough pricing to cover about half of that cost in Q3 and Q4. There is more that we would have to do in order to fully offset raw material costs, so mathematically I think that’s it. I think what we’re focused on is continuing to manage raw material costs with price and mix - that’s how we’ve handled it in the past and that’s how we would expect to continue to handle it.
Great, thank you guys.
Your next question is from Ryan Brinkman with JP Morgan. Please go ahead.
Hi, thanks. I’d like to ask what’s the latest you are seeing in Latin America. I recall before you rolled that reporting segment up into the Americas, that you were disproportionately commercial tire focused with strong franchise, the margin was historically high down there. Since then, there’s been a downturn, but more recently we’ve been hearing, including from some of the suppliers that have reported so far this quarter, that the run rate--you know, the outlook for commercial truck production has considerably improved there recently, maybe helped by the stronger agricultural commodity prices. I don’t know if you’re seeing the same, and if that’s a tailwind for you.
Yes Ryan, I would say we’re pleased with the way Latin America is shaping up, and I’m very pleased with how hard our team is operating. As you know, Latin America has been in what would be, I think, lightly described as a pretty difficult economic circumstance for a really elongated period of time. In that environment, I would tell you a couple things. One, in our passenger business, we continue to mix up to larger rim diameter tires and continue to expand our distribution throughout the region. We have more points of sale, we’ve been adding in each year over the course of the last few years. We’ve completely redone our product line there, and I would tell you that business is going very well.
On the commercial side, a very similar story, that the industry has rebounded a bit. Our product line has been completely revamped. Our product performance, I think is leading in the industry and is broad-based across all the Latin America countries, and we also continue to expand our distribution points and notably continue now in a region that was a little bit harder to do it, are really moving ahead with some of the fleet solutions that you hear us talk about in North America and Europe.
I would say we feel very good. If you asked me what’s the biggest challenge, I would still say it’s the economy, getting the economies to recover down there. But in that environment, I would say I’m very pleased with the way the team’s executing.
Okay, thanks. Then just lastly, there have been a lot of questions already on price mix versus raw - most of mine are answered, the potential for future price increases, etc. But I guess I’d just like to ask around that in a little bit of a broader way. Obviously this past year has been very exciting from a macroeconomic perspective. There’s been a lot of inflation already in financial and real and alternative assets and increasingly in commodities, but it does seem that economists are more debating what the outlook is going to be for consumer prices, with some not projecting as much of a rise. I don’t know how you feel about that. We all have our own opinions. You pushed through some price increases already, the tariffs will help, the industry generally has a good track record of passing on costs long term, but there was that softer period back in ’17 and ’18, so I don’t know - I just thought to check in with you, generally how you think the industry is positioned relative to what seems to be more of inflation in input costs relative to consumer prices generally. Is this going to be the gating factor for your earnings over the next couple of years as the price mix versus raws trends, potentially?
Maybe I’ll take a step back, and certainly I appreciate you bringing up ’17 and ’18 because that was a period that we didn’t recover raw materials, certainly for us and I’d say as an industry. But if I take a step back, I kind of look at this from a macro perspective and think about where we’re headed.
You have to start with a combination of the vaccines coming out, with herd immunity moving forward, even with the variant coming putting a little headwind to that, I’d say we all see light at the end of the tunnel. What does that mean? It means the way we think about it - you know, people and spending have been sort of sidelined, we all know that. If we look at the macro comments, and you know this as well as anyone, second half could see a bit of a turn as we get beyond the vaccine. People want to get out, they want to travel, they want to go places - that’s good for Goodyear, it’s good for our industry as VMT goes up, as travel comes back, albeit maybe at a slower pace. That’s a positive.
Add to that, we’re already seeing the combination, as I think Darren and I both mentioned, demand running ahead of supply, particularly in the premium segment, and as one of the questions was that’s coming off low inventories, in our industry but one might say in every industry that’s out there, and you look at that with some of the raw material inflation that Darren mentioned we see coming particularly in the second half of the year, and then you add to it the stimulus money that’s coming out there, you have people that are going to be liquid and that are going to want to spend.
I think if you put all that together, I would say that we view that as a constructive environment. Now, what does that exactly mean? I think we have to tell--we have to see how that plays out because, if anything, what we’ve learned in the last year, nothing moves in a straight line. But having taken a step back, I think that that to me is a very constructive environment that we’re looking at into the future.
First, we’ve got to get by this virus, we’ve got to stay safe, we’ve got to defeat this thing, but on the other side of it, I think there is good stuff.
All right, very helpful. Thank you.
We’ll go next to Emmanuel Rosner with Deutsche Bank. Please go ahead.
Hi, good morning everybody. Was hoping to ask you first about free cash flow, both in terms of near term outlook and maybe how to think about it longer term. It seems, based on some of the pieces of outlook you’re giving for this year, you see a need to reinvest in inventory, obviously continued restructuring, a catch-up on capex. Is it the right way to think about it that free cash flow could be a decent use in 2021, and on a go-forward basis, how should we think about it in terms of free cash flow outlook and recovery under your--I guess the business plan?
Emmanuel, if we look forward, I think your conclusion is right - it’s when we take into account the need to reinvest $450 million to $500 million in working capital in 2021. You’re right to conclude that’s going to cause us to have some use of cash in 2021. If we look out longer term and set aside working capital, even heading into the pandemic, if we took the 12 months that were leading up to Q2 last year, we were running at a pace where we sold just under 150 million tires, we’re generating $700 million of segment operating income, add back $800 million of depreciation, take out $100 million of corporate costs, and you get effectively a cash flow that is at the level required to pay for the items that we have in our cash flow guidance this year, if I exclude the working capital and the restructuring payments.
Now, we’ve taken some actions that are going to reduce that breakeven point. Our restructuring actions in Germany and in Gadsden, Alabama ought to take that breakeven point down by over 6 million units, and by doing that it gets us down to effectively the level of volumes that we’re running at. As we see volumes grow above where they are right now, that should start to open up the possibility of generating positive cash flow even at the slightly higher capex levels that we’ve got in our plan, taking into account the other items that we’ve got in our cash flow outlook.
Does that--
Great clarity--yes, that’s super helpful. Then I guess following up specifically on these restructuring actions, can you please just go back and summarize some of the expected benefits, both this year and next, to the extent that they have been quantified in terms of discrete actions, impact and timing of some of these lower cost points?
The first in the U.S. restructuring action, it’s principally the closure of the Gadsden, Alabama facility. That was effectively completed in the second quarter of last year, so we got full savings in Q3 and Q4, which was about $33 million a quarter. We will get that--continue to get that or similar amount in Q1 and Q2, and that will represent sort of the full run rate savings. We’ll anniversary that in Q3 this year, so we wouldn’t necessarily expect additional savings in the second half of this year because we’ll have already gotten the full savings from Gadsden.
The cost savings from the restructuring in Europe are going to be more weighted towards this year and 2022, and we haven’t given precise timing but if we look at 2022, we should have the savings, $60 million to $70 million relative to ’19, and most of that relative to 2020. You have to split that between 2021 and 2022, thinking about when we’re getting those savings for the factory restructurings in Germany.
The one other thing that I might point out here, as long as we’re on this question around our cost savings, because 2020 was sort of an odd year for tracking cost savings given some of the extreme measures that we took to address the hard shutdown that the pandemic created, and there’s no question cost efficiency is still one of our top priorities, but if we look at 2021, even getting the benefit of the restructurings, the way that we’ve traditionally reported our net cost savings, our cost savings net of inflation, that number is going to end up appearing negative for the full year given the one-time nature of some of the savings actions we took in 2020.
For the first quarter, we’re going to see solid net cost savings given those temporary actions for the pandemic didn’t really start until Q2, but when we get into Q2 and Q3, we are going to get some cost being restored versus pandemic levels, and that’s going to make that net cost comparison, which was really favorable in 2020, it’s going to make it look less favorable in 2021. We’re still going to get the savings on restructuring, but that is just a little bit to watch as you model the cost savings year-over-year in 2021.
Great, thanks for the color.
This will conclude today’s Q&A session, and also conclude Goodyear’s fourth quarter 2020 earnings call. We want to thank you for your participation. You may now disconnect, and have a great day.