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Oshkosh Corp
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Greetings and welcome to the Oshkosh Corporation Reports Fiscal 2018 Third Quarter Results Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded.
I would now like to turn the conference over to your host, Pat Davidson, Senior VP of Investor Relations for Oshkosh Corporation. Thank you, Mr. Davidson. You may begin.
Good morning and thanks for joining us today. Earlier, we published our third quarter 2018 results. A copy of the release is available on our website at oshkoshcorporation.com. Today's call is being webcast and is accompanied by a slide presentation, which includes a reconciliation of GAAP to non-GAAP financial measures that we will use during this call and is also available on our website. The audio replay and slide presentation will be available on our website for approximately 12 months.
Please refer now to slide 2 of that presentation. Our remarks that follow, including answers to your questions, contain statements that we believe to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These forward-looking statements are subject to risks that could cause actual results to be materially different from those expressed or implied by such forward-looking statements. These risks include among others matters that we have described in our Form 8-K filed with the SEC this morning and other filings we make with the SEC. We disclaim any obligation to update these forward-looking statements, which may not be updated until our next quarterly earnings conference call, if at all. All references on this call to a quarter or a year are to our fiscal quarter or fiscal year, unless stated otherwise.
Our presenters today include: Wilson Jones, President and Chief Executive Officer; and Dave Sagehorn, Executive Vice President and Chief Financial Officer. Please turn to slide 3 and I'll turn it over to you, Wilson.
Thank you, Pat. Good morning, everyone. We're pleased to announce another quarter of solid results with $2.20 adjusted earnings per share as we head into the home stretch of 2018. Our team members continued to execute our MOVE strategy against the backdrop of uncertain trade policies and other challenges that we have previously discussed. Our performance through the first three quarters has been strong. We are executing well and maintaining discipline.
Despite the challenges we are facing, we are increasing our full year financial outlook. I'm pleased to announce that we are raising our expectations for full year adjusted earnings per share to a range of $6 to $6.10. We have many reasons to be optimistic. For example, our defense team is on track to achieve full rate production for the JLTV program before the end of the calendar year, which will allow more and more men and women of our armed forces an opportunity to use the world's best military tactical wheeled vehicle.
Our access equipment business just delivered a record quarter for revenues and is on track for strong double digit sales growth in the year. Our fire & emergency team is raising their profit expectations again and continues to lead the industry with new innovations that have kept us in front of the competition. And finally, our commercial group delivered significantly improved operating income margins in the quarter. This segment is also executing cultural and operational changes as they institutionalize simplification and realize the many benefits from reducing complexity in our business.
When we look at macroeconomics and industry specific indicators of activity for our markets, we remain encouraged. We have strong backlog across all four segments. In fact, backlogs in all four segments on June 30 were higher than the prior year. As we mentioned on our last call, we implement surcharges in our non-defense segments due to the extraordinary nature of raw materials inflation that's been occurring. While no customers want to pay higher prices, the reality is that input costs have increased substantially and have continued to increase as new tariffs have been announced. We cannot absorb those significant cost increases alone.
Please turn to slide 4 to begin the discussion for each of our business segments. I'll start it off as I typically do with our access equipment segment. The access equipment team recorded sales of more than $1 billion in the quarter for the second time in their history, achieving a new record for quarterly sales of $1.16 billion. As we expected, orders in the quarter moderated from their elevated levels in the first half of the year when they grew 63%. This segment exited the quarter with a strong backlog of $1.2 billion that puts us in a position to finish the year on a high note.
Our customers continue to benefit from a strong rental market for access equipment in North America and most regions around the globe. As we've talked about all year, fleet metrics such as utilization and rental rates have been solid and use values continue to be strong leading to a strong demand environment.
Last quarter, we discussed challenges we were facing and I'm pleased to say that our team has made progress addressing these challenges. Like many companies, we're experiencing a tight labor market, but we have a solid crew and we're seeing progress as new team members move up the learning curve. Our efficiency numbers still aren't where they need to be, but they did improve during the quarter. We continued to experience supply chain challenges in the third quarter leading to production disruptions. This remains a big focus area for us and we expect to continue to see improved operational execution by the end of the year.
Finally, we're spending considerable time and effort analyzing our cost as we prepare to update our pricing for calendar 2019. This involves looking at more than just higher commodity cost, other material cost and freight rates have also risen. We commented previously that we expect to announce a larger than typical price increase for the segment and that expectation remains the case today.
Please turn to slide 5 for discussion of the defense segment. The defense team delivered another quarter of strong results with operating income margins in excess of 10%. Much like last quarter, the ramp up of JLTV production along with higher FMTV sales helped to partially offset the M-ATV sales decline. The JLTV program is in great shape as we approach the planned timing to achieve the full rate production milestone. To further illustrate the strength and funding commitment for this program, in late June, we received an order for an additional 1,574 JLTVs, extending our production backlog for this program well into 2019.
I'd like to congratulate the defense team for their outstanding testing and reliability results as the JLTV program has taken shape over the last couple of years. Our team is delivering JLTVs that were evaluated to deliver more than twice the reliability called for by the program requirements. This is a great example of our team going the extra mile in delivering for our customers. We're also proud they have sold the first two JLTVs to a non-U.S. customer. The United Kingdom Ministry of Defense has purchased these units for testing and evaluation as they formulate their specific JLTV requirements. We remain firmly committed to our international customers and expect that they will become a significant part of our defense business over the next several years.
While the JLTV is approaching the full rate production milestone, we are still in the very early stages of development for the next-generation FMTV or A2 program. As we said in our last earnings call, we've been shipping the FMTV A1 units since winning the contract in 2009. Our team is executing the engineering phase of the A2 contract and we expect 2021 to be the transition year for delivery of FMTV A1 units to A2 units.
At the Congress conference on the fiscal 2019 National Defense Authorization Act, the House approved the NDAA on July 26. We were pleased with the funding for Oshkosh programs in the NDAA and it will be taken up by the Senate this week. We included a summary schedule on the slide for our primary domestic programs of record along with the expected delivery periods for each. We're well positioned for multiple years for all three programs. We have FHTV through 2022, JLTV through 2024 and FMTV through 2026. Now, of course, our intentions are to keep all three programs with Oshkosh for many years beyond these dates.
Let's turn to slide 6 to discuss the fire & emergency segment. Fire & emergency team delivered yet another strong quarter with significantly higher year-over-year operating income margins. We've talked about the benefits of simplifying processes and practices at this segment and these actions along with improved pricing continued to be a recipe for success for our team. We've made improvements to our operations as well as our order management processes to deliver strong results. We've also invested in new products and technologies that have allowed us to stay up in front for the competition.
Last quarter, our earnings call overlapped with the largest fire industry event in North America, the FDIC trade show, we were not able to discuss the launch of our mid-mount Ascendant aerial, but we can talk about it now. It was a big success and it was really the talk of the show in Indianapolis. Traffic in the Pierce booth and interest in the new mid-mount Ascendant was beyond our most optimistic expectations. Since this show, we've taken Ascendant mid-mount units out on the road, recording strong interest and excitement on demo tours in cities across the U.S. and Canada. These aerials offer best-in-class features including superior maneuverability, drivability, operator functionality and serviceability. Together this package addresses firefighters' essential mid-mount aerial apparatus needs.
Our airport business recently scored several big victories. We were awarded multiple orders from the U.S. Air Force for a total of 91 airport snow removal units and we were awarded an order for ten airport rescue firefighting units for the new airport being built to serve Beijing, China. These orders call for shipments to begin in 2019. Our view of the domestic fire apparatus market in 2018 continues to be positive, but measured. We don't expect to see the market grow by a significant amount in the near future, but we believe the positive tailwinds of municipal tax receipts growth and aged fleet dynamics will continue to benefit domestic demand.
Please turn to slide 7 and we'll talk about our commercial segment. The commercial segment delivered solid results with a meaningful improvement in operating income margin compared to the prior year. We have experienced growth in refuse collection vehicle demand this year and our team is working hard to respond to the opportunities. We also saw an increase in concrete mixer unit orders this quarter compared to the prior-year quarter.
Fire & emergency isn't the only segment that is undergoing a transformation through simplification actions. Our commercial team continued to execute on its simplification journey during the quarter. They delivered a few recent wins in the areas of concrete mixer configurations and different product options. We believe there is a lot more to be gained as the simplification culture takes root. We're excited about their progress so far and look forward to seeing the transformation continue in 2019 and beyond.
Most of you know that both residential and non-residential construction are important drivers to our commercial business. We remain encouraged and believe that these key industries will continue to grow as evidenced by the many forecasts and investment indicators that point toward additional construction activity.
That wraps it up for our four business segments, I'm going to turn it over to Dave to discuss our financials and updated outlook for 2018 in greater detail.
Thanks, Wilson, and good morning, everyone. Please turn to slide 8. Consolidated results for the quarter were better than the expectations we summarized on the last earnings call. Consolidated net sales for the quarter were $2.18 billion, up 6.8% from the prior-year quarter.
As we expected, access equipment segment sales were up double-digit percent versus the prior year, continuing the strong sales pattern exhibited over the past several quarters. Access equipment orders in the quarter were lower than the prior year, as Wilson noted, but that wasn't a surprise and should be taken in context given the exceptionally strong order rates in prior quarters. Defense segment sales were down 8% compared to the prior year, in line with our expectations as the prior-year quarter included a large quantity of international M-ATVs. And while JLTV and FMTV volumes were both up year-over-year, they weren't up enough to offset the lower M-ATV sales.
Fire & emergency and commercial segment sales were roughly unchanged from the prior year. The impact of improved pricing was offset by the timing of international sales at fire & emergency. Timing of commercial segment sales in the prior year was more heavily weighted to the second half of the year, which is atypical for that segment. Sales in the current year reflect a more normal seasonal pattern.
Adjusted consolidated operating income for the third quarter was $229.3 million or 10.5% of sales compared to $222.5 million or 10.9% of sales in the prior-year quarter. Higher operating income margins in the fire & emergency and commercial segments were offset by lower margins in the access equipment and defense segments.
The access equipment segment delivered higher operating income compared to the prior-year quarter as a result of the higher sales volume and improved pricing, but operating income margin was lower. Wilson talked about the issues that this segment continues to work through and they were the primary drivers of the lower operating income margin. In addition, the segment was negatively impacted by higher freight costs along with adverse customer and product mix, and foreign exchange headwinds.
Defense operating income margin was lower than the prior year due to a mix shift. International vehicle sales were down more than 90% compared to the prior year, which included a high percentage of M-ATVs, and JLTV sales were up more than 80%. While margins were down compared to the prior-year quarter, defense did experience better operational efficiencies than we expected coming into the quarter, continuing a pattern of improved execution.
Fire & emergency and commercial segment results were both meaningfully stronger than the prior year. Fire & emergency operating income margin was up 190 basis points and commercial operating income margin was up 120 basis points. The focus on simplification along with a more favorable pricing environment drove the higher fire & emergency segment margin. The commercial segment benefited from a favorable mix and lower SG&A costs. These items were partially offset by higher material costs. There's still more work to do, especially in the commercial segment, but we're pleased with the progress they have made this year and are encouraged by their momentum and enthusiasm.
Due to the timing of when the higher input costs began to roll through the income statement, we didn't see a lot of impact this quarter from increased steel and other commodity costs. We expect to see more of an impact in the fourth quarter and an even higher impact in the first quarter of 2019, although we also expect to realize higher surcharges in both the fourth quarter and first quarter of 2019. Expectations for fourth quarter impact of both of these items are incorporated in our revised outlook for the year.
Corporate costs increased approximately $3 million compared to the prior year driven by higher consulting and share-based compensation costs. Further information on segment third quarter results including information on segment backlog can be found in the appendix to the slide deck.
The adjusted tax rate for the quarter was 23.7%. This rate reflected the impact of tax reform in the U.S. Adjusted earnings per share for the quarter was $2.20 compared to $1.84 in the third quarter of 2017. The lower tax rate was the largest driver of the higher earnings followed by higher non-defense segment operating income. We repurchased 523,300 shares of our common stock in the quarter and, subsequent to the end of the quarter, we repurchased an additional 309,500 shares under a 10b5-1 plan. That brings year-to-date repurchases to more than 2.4 million shares.
Adjusted earnings per share compared to the prior-year quarter benefited $0.04 per share from repurchases completed during the previous 12 months. We also refinanced our credit agreement in the quarter, replacing it with a new five-year unsecured credit facility. In addition, we issued $300 million of ten-year notes and used a significant portion of the proceeds to call our 2022 notes. Both the new credit facility and the ten-year notes include lower interest rates or interest rate spreads than the credit they replaced.
Please turn to slide 9 for a review of our updated expectations. We are raising our expectations for 2018. At the consolidated level, we are increasing our estimated sales to a range of $7.6 billion to $7.65 billion compared to our previous estimate range of $7.4 billion to $7.6 billion. We are raising our consolidated adjusted operating income estimate range to approximately $630 million to $640 million compared to the previous estimate range of $575 million to $625 million.
And we are increasing our adjusted earnings per share estimate range to $6 to $6.10 compared to our previous estimate range of $5.40 to $5.85 per share. We are leaving the adjusted full year tax rate unchanged at 23% and reducing the average diluted share count from 75.5 million to 75.1 million to reflect the impact of third quarter share repurchases and repurchases completed to-date in the fourth quarter.
At the segment level, we are making the following changes: We are adjusting the access equipment sales estimate to $3.7 billion, the high end of the previous $3.6 billion to $3.7 billion estimate range. And we now expect the segment's adjusted operating income margin will be 10.5%, the high end of the previous range. We are leaving the defense sales estimate unchanged at $1.825 billion and increasing its operating income margin estimate to approximately 11.25%, reflecting the continued improvement in operational efficiencies in this segment.
We're also leaving the fire & emergency sales estimate unchanged at $1.1 billion and increasing its operating income margin estimate to approximately 12. 25% to reflect addition improved operational efficiencies. And in the commercial segment, we're raising the full year sales estimate to $1.025 billion compared to the previous estimate of $975 million, mostly reflecting higher RCV demand. We're raising the adjusted operating income margin estimate for this segment to approximately 6.25%, the high end of the previous range of 5.75% to 6.25%.
We're also increasing estimated corporate expenses to $160 million from $155 million. And we are reducing our free cash flow estimate from $400 million to $200 million, almost totally to adjust the estimated timing of receipt of payment on an international contract, which we now expect to receive in the next fiscal year. At high level, we expect flattish sales in the fourth quarter compared to the prior year with higher access equipment and fire & emergency segment sales offset by lower defense and commercial segment sales. And we expect modestly higher adjusted earnings per share compared to the prior-year quarter.
I'll turn it back over to Wilson now for some closing remarks.
Thanks, Dave. Just a brief comment about our team before we go to Q&A. Our People First culture continues to develop and supports our positive outlook in all four segments. Our team is motivated to finish strong in 2018 and is preparing a disciplined approach for 2019. I'm proud of this team and their performance, and I'm confident in our ability to navigate through the coming years.
I'll turn it back to Pat to get our Q&A started.
Thanks, Wilson. I'd like to remind everyone please limit your questions to one plus a follow-up. And after the follow-up, we ask that you get back in queue if you'd like to ask additional questions.
Operator, please begin the question-and-answer period of this call.
. Our first question comes from Charley Brady of SunTrust Robinson Humphrey. Please proceed with your question.
Hey, thanks. Good morning, guys.
Hi, Charley.
Just on – particularly on access on pricing and the surcharges you guys have put through and will continue to put through, are you guys in Q3 where you – are you even on cost price or will you be that way in Q4? And when you talk about 2019, do you expect what you're going to have to do there will put you even or is there still going to be a slight headwind against the margin on the pricing and surcharges?
I'll take that, Charley. And I guess a lot of components there. So, as you can imagine, when you think about trade policy, tariffs, a lot of moving pieces there. We're still in the process of developing our budget for fiscal 2019. But in terms of Q4, largely what we're dealing with is just the strength of the backlog that we had coming into the time when we announced the tariffs, and it's not only in access we had that, I'm sorry the surcharges. Thanks, Pat. And it's not only in access, it's the same dynamic really in fire & emergency and, to a lesser extent, commercial. But as we look at Q4 overall, we think absent (23:05) excluding the backlog that is not subject to the surcharges we think we're covered.
Dialing ahead to fiscal 2019, as we think about that, again we do have some backlog that was in place for Q1 that was not subject to the surcharges when we implemented those but we do believe that's largely a Q1 situation. So, we think it will be largely compartmentalized to that based on what we currently see. And with that, as we look across all the non-defense segments, in total, we think that will be a headwind somewhere in the range of $15 million to $25 million. And again that's all associated, we're just working through that backlog that was in place for Q1 at the time we implemented the surcharges.
We'll certainly take a look and as we go through the remainder of the year here in terms of what the landscape is in the way of tariffs and trade policy as to whether we need to make adjustments, but as Wilson commented on in his prepared remarks, as we're thinking about the price increases as we get into the calendar year 2019, we are likely looking at larger than normal price increases just as we see the inflation in the input costs. So, we're certainly still dealing with higher freight costs et cetera. But it's still a little bit of a moving picture and we'll continue to update it as we go.
And that $15 million to $25 million you referenced, that's Q4?
No, that's Q1 of fiscal 2019.
Okay, thanks. And then as a follow-up on the defense business, the UK MoD order for the two units to test, is there any sense on timing as to how long that test phase goes through and when they might go to put through a larger regular order?
No, Charley. That's going to be up to them from a timing standpoint. We know they want to do some testing. I think they're going to look at maybe adding some variance and things like that. So, not really a scheduled test time with us. As we've said before, most of the international activity we expect those orders to start after the full rate production decision is made, which will be end of this calendar year into the first part of the new calendar year.
Great. Thanks.
Thank you.
Our next question comes from Jamie Cook, Credit Suisse. Please proceed with your question.
Hi, good morning. A clarification first. You said $15 million to $25 million impact from steel in the first quarter. Is that the same number in the fourth quarter?
And then my second question, the free cash flow cut from $400 million to $200 million I'm assuming that was defense and you said you'd get back in 2019. But any clarity is it early 2019 or later 2019?
And then my last question, you talked about implementing price increases for 2019. To what degree do you think that that could potentially I mean create a pre buy? And how you're sort of thinking about order trends for access and as we progress throughout calendar year 2018? Thanks.
Good morning, Jamie, it's Dave. I'll take the first two and let Wilson address the second one. In terms of the surcharge and the impact from what we're seeing, as we said on the call, really, we really didn't see much in the third quarter. We think we will see more in the fourth quarter, somewhere I would say in that probably $6 million to $8 million range of impact based on how we're currently looking at it and then it will step up to that $15 million to $25 million into the first quarter of 2019. And largely why you're seeing that is with the lag effect of the timing of the steel increases coming through we'll feel kind of what I'll call the full brunt of that in our first fiscal quarter.
Okay. Thank you.
And then in terms of the change in the free cash flow, yes, it's a large international defense contract. This is a customer that we dealt with on a number of contracts and we have seen them in the past delay or stretch out payments as we executed this most recent large contract they've been performing very well in terms of adherence to the contract terms.
But as we got near the end of it, we saw them start stretch things out and that's what it appears they are doing. From our standpoint, it's just a push from this fiscal year into next fiscal year. Regarding is it first quarter? We're working with them on that. We would like to believe that it can be first quarter, but as we've seen them delay here, it's something that we're going to need to stay in close contact with them and encourage them, I guess, I would call it to get that payment in as soon as they can. But we certainly don't believe it's any issue around if we're going to collect it. It just a matter of when we're going to collect it.
Okay Jamie, I'll jump in price increase pre-buy question. We have signaled, as you heard us on the last two calls, that we're currently debating what will our pricing will be starting in calendar year 2019. This is our normal process that we go through. I would say that we're taking a real disciplined approach here to better understand where costs are going. And it's not just steel, as you know, there is other material cost. There is freight, there's other things that we have to consider going forward.
And, as you know, trade policies is changing on a weekly basis. So we're trying to be really thoughtful on our debate there. We'll start talking to our customers in the next month to two months that's as again the normal process. In terms of will that drive a pre-buy? As Dave mentioned, we feel like through our analysis we know about what our exposure is on the backlog that's already in Q1. The current surcharges that are in place that are going into Q1 we believe cover our costs for that quarter.
Now we do know our costs are going to increase based on what we're getting from supplier information coming in that would be an effect to us in the calendar year. So if it drives a little bit of a pre-buy, we believe we're covered in Q1.
Anything now that comes in to access in the form of delivering after January 1, there's a notation on the order receipt that those orders are subject to our price increase that will be announced this fall. So we believe we're covering that backlog as it does go in to the calendar year.
So I think we're in as good a shape as we can be in terms of any kind of pre-buy around our upcoming price increase.
All right. Thank you. I'll get back in queue.
Our next question comes from Steve Volkmann, Jefferies. Please proceed with your question.
Hi, good morning guys. Sorry to keep beating on this, but do you have any backlog in the next fiscal year that goes beyond the first quarter that would sort of have this extra surcharges with it?
Yes, Steve. We do have some, and I know there is through the planning cycle now that the JLG team is currently talking to some customers just again to plan out their purchasing for the next calendar year, very preliminary in discussions, but we have seen some orders come in. I wouldn't say it's a significant number, but we do have some.
Okay. Thanks. And then just back to defense for a second, you sort of touched on this, but if we go to full rate production soon, first question maybe for Dave, does that trigger any accounting change? Does anything with the program in terms of what we're going to see with numbers change relative to that or is that just kind of volume?
And then the second question, we keep kind of talking about the potential for foreign orders waiting for that full rate production, but given that that's pretty darn close, it sounds like we're getting a lot closer to some potential foreign orders there? And I guess the question is, do you expect those to follow on fairly quickly with that full rate production signpost having get past?
Yeah. So, Steve, the full rate production it's more of a contractual milestone than it is in terms of the actual volumes that are running through our factories. We will continue to ramp up really over the next year to two years from a production standpoint but that is something that we still believe that milestones will be achieved late calendar year.
In terms of the international opportunities there, certainly our defense team has been talking with a lot of foreign militaries. There's a lot of for interest out there in the vehicle. We've demo-ed it to quite a few countries. We are still, I would say, guided by the U.S. government's giving us the green light to accept production orders for the vehicle. The UK was kind of a little bit of one-off so they could do some testing, but we're certainly in a position where we'd be more than happy to take those orders and we think there are some that are fairly close in terms of countries making their final decisions But they're all got to have to wait until we get the green light from the U.S. government.
I think what I would add there Steve is, as you saw the UK, it's a process. They go to the State Department to get approval. So that's where you'll start to hear when those internationals are getting close to coming to where we actually receive them is when the actual State Department approvals start to become public. That's probably the kind of the box to check that you'll be hearing about.
So FRP doesn't automatically trigger that?
It does not, no.
Okay (33:13).
They still lack (33:13) approval.
And sorry Dave, there is no program review or anything that might move the margin once we get the FRP either?
No. We will go through our typical process of looking at the program estimate of completion at the end of every quarter and then we'll make a decision as to whether we are needing to make an adjustment to the profitability outlook for the program.
Okay. Thank you, guys.
I just wanted to make one comment. I can't help myself. I liked your headline, Stronger for Longer, and I think that's really kind of where we are. We know there is lots of questions about 2019 and we're working through those. But when you look at our defense segment over the next several years, a solid foundation and you've got fire and refuse, in municipal markets, you've got the eventual replacement demand, the cycle that should drive there in access. We're certainly with you on thinking long term. So appreciate that headline.
Okay. Well, hopefully we're right.
Our next question comes from Jerry Revich, Goldman Sachs. Please proceed with your question.
Hi. Good morning, everyone.
Hi, Jerry.
Hi, Jerry.
In access equipment, your guidance implies year-over-year margin expansion in the fourth quarter, so nice to see that progression. I'm wondering if you could talk about – is it mix that's improving? Is it production transition gaining traction? Can you just give us some more of your context because, as you mentioned, price/cost is still a headwind, so nice to see the improvement. Any color on the drivers would be helpful.
Sure, Jerry. The biggest thing that will be a difference I would say versus Q3 incrementals is better product mix. When we scrub the backlog to see what the mix in the quarter looked like, it is ending up being a more favorable mix.
The other thing I would say is when you look at the price increase that we put in place beginning of the calendar year, a little more traction there vis-à-vis, what we were seeing for input costs last year. So that's another year-over-year benefit that we didn't necessarily see in the third quarter.
But you're right, and as Wilson pointed out, we're still experiencing a number of the headwinds associated with the ramp up in production. From the workforce standpoint, the team members that we brought on that we talked about last quarter we did see good improvement there. The biggest thing that we're still, I would say, encountering are supply chain constraints as the supply chain continues to ramp up their production to meet our demands. And we did see a number of situations in the quarter where they actually – those constraints shut down the lines. We think we'll probably continue to see some of that in the fourth quarter, although we do expect some progression. But overall, as you pointed out, we are expecting better incremental margins year-over-year in the fourth quarter.
I think I would just add there, Jerry, too that JLG, our whole global procurement team has done a nice job of mobilizing into our supply base and helping there from quality supplier development standpoint. We did ramp up quick and they brought on people fast like we did too. So we are working closely with our supply chain to get them up to speed.
Okay. Thank you. And then in terms of the order cadence that you expect to play out over the remainder of this calendar year. Any difference versus normal seasonality that we should think about in access equipment since it's unclear yet what the industry price increases will be for 2019? How do you expect that to impact the order trends that we're going to see over the next few quarters?
I'll start Jerry, and Wilson if you have anything you want to add please do. But as we sit at the end of June 30 the backlog that we had for the first quarter of fiscal 2019 was actually several hundred million dollars better than we were looking at entering into the first quarter of fiscal 2018, a year ago. So from that standpoint, we're ahead of the game. You've seen the strong orders earlier in the year. In the first half orders were up 63%. And when you look at year-to-date through June, they are up 37%. So there's probably going to be a little bit of a moderation. We saw some of that in the third quarter that might continue, but that's just one piece. And then as you look at the normal negotiations I think we'll kick those off large national rental companies here in the next couple of months. So I don't know if there's – we're expecting anything meaningfully different other than the fact that we're stronger backlog already for the first quarter the next fiscal year than we were a year ago.
Thank you. I appreciate the color.
Thanks, Jerry.
Thanks, Jerry.
Our next question comes from Mig Dobre, Robert W. Baird & Company. Please proceed with your question.
Yes. Thank you, good morning.
Hey, Mig.
It could be that I'm stating the obvious here, but when I'm looking at order patterns for fiscal 2018 in access equipment, it looks to me that the pre-buy has already occurred and now we're talking about meaningfully higher prices that are to be implemented into fiscal 2019. And we've already seen some sequential softening in orders. So, I guess, my question is this, based on all your discussions with customers, how confident are you that the market at this point can support these price increases and that demand can remain stable in 2019 and maybe even into 2020?
Well, Mig, you're a little early with that question because as I said earlier, we're just – we haven't really started our negotiations because we haven't finalized our pricing for next year.
What we know today is – and I know you follow these metrics very close, but utilization, rental rates, used values there are all very positive. You look there's a good construction outlook. We still see replacement demand as a tailwind. We're seeing broader application of use of access products. So all the key indicators around the market and I think you've heard the public comments from some of the bigger rental companies that their outlook is positive going forward. So we'll know more through these next few months in our next call when we do come out with our 2019 guidance. But today, we do know there is demand for new machines with the activity that's in front of us. So we're not calling that yet. We have to get through the next several months and like I said, we'll be talking about that on the next conference call.
Well, fair enough. Then, in defense, maybe to ask the margin question there a little different. It clearly looks like next year you're going to have higher revenues, your backlog is up, you got orders. Is there any reason at this point to think that margin should look different next year versus this year on a revenue increase?
Mig, what I would point you to is what we've been pointing people to for some time now, when we go back really to the Analyst Day on what we said there a couple of years ago was, we were talking about top end or sales of $1.7 billion to $2 billion. We do think we'll be at the high end of that range probably in the next fiscal year.
We also talked about margins in the high-single digits. What you're going to see next year is a continued transition to a higher percentage of JLTVs. And with that, I think you're going to see, based on how we're thinking about things today, those margins tend or trend back towards that high-single digit range that we laid out at the Analyst Day at the end of 2016. So that all seems to still be squaring up. Certainly, we'll continue to look at the margin on the JLTV and if we come to a decision that the margin there needs to change that certainly could impact that but it's based on what we know now, I would still guide you toward that high-single digit range.
Thank you.
Thanks, Mig.
Our next question comes from Mike Shlisky, Seaport Global Securities. Please proceed with your question.
Good morning, guys.
Hi.
I had a defense question as well. At this time last year you gave a number, you said to us what was the backlog sign for fiscal 2018 as of July of, I guess, it was early August of 2017. Do you have that current number today? So what's been signed? What you have in your backlog in defense that's planned for delivery in 2019 at this point in time?
Sure. We exited June, Mike, that was about $1.550 billion.
Okay.
So $1.55 billion.
Okay, perfect. And then secondly on commercial, from a margin standpoint this was your best quarter, I think, in like 5 or 10 years, 8.6%. Can you give us a sense as to – is the range of margin in this segment now permanently gotten better? Do you feel like what you've done to restructure has been successful? You haven't really gotten much above, on an annual basis, 7% in last 5 or 10 years. But, at this point, are you back above that kind of 7% annualized run rate going forward?
Well, as much as I would like to say one quarter makes a year, that isn't necessarily the case. We're certainly pleased with the performance in the commercial segment this quarter. Mike, I thank a lot of this is – it still is work in process there. When you look at what we're doing in terms of simplifications the product platform teams that have been established earlier this year and we're starting to see some traction from that. We did benefit from a more favorable mix in the quarter than we had seen. There was also some timing of spend that benefited us a little bit there. But overall our expectation is we're going to see improved margins in the commercial segment.
We talked in the past and we talked for a long time about double digit margins at least for that segment and that's our goal. We are executing some of the same playbook that we executed in the fire & emergency segment. You've seen how it's been successful there. We believe it can be successful in the commercial segment as well. So I think we would be disappointed if we didn't see continued margin improvement out of that segment. But I don't think I'm ready to call that we're going to see 8.5% margins quarter upon quarter at this time.
Okay, fair enough. Thanks.
Thanks, Mike.
Our next question comes from Courtney Yakavonis, Morgan Stanley. Please proceed with your question.
Thanks guys. Just a quick clarification on the price increase you guys are contemplating. How should we think about that either replacing the surcharge for steel or the steel surcharge kind of falling off over the next year, because I think you had commented that a lot of this was due to other additional cost like freight et cetera?
Courtney, that's a good question. That's part of our debate now. In the past we've had surcharges that we kept in place and that way when things did moderate, go back to a more normal level, we could pull the surcharge back. So that's part of our debate now is determining what would that level of surcharge be, and then what is the additional price increase needed to cover the other material cost, the freight, the other issues that we talked about.
So I think today the way we'd be leaning is to keep a surcharge in place so we can eliminate that for our customers when and if that – those raw materials come back in line. But I guess I want to keep ourselves open a little bit because, again, we're still doing a lot of analysis around that and we're still waiting for some of our other supplier partners to come in and talk with us about 2019. So I guess today I would say we're leaning that way but we'll be telling you a lot more about that at the next call.
Okay, great. Thanks. And then just another clarification on the access margin rates, I think last quarter you had lowered it through a combination of some of the labor and efficiencies and then also customer mix and material cost. When you think about the raise back to the high end of that range now, was it mostly customer mix that's causing that, I think you kind of answered that in response to Jerry's question or was is it something else?
No, I think, well, Courtney, we're at the high end, I would tell you we just tightened the guidance to the prior high end. Overall, performance in the access equipment segment in Q3 was largely in line with what we're thinking and the full year outlook there, again, other than getting to the high end of that range really hasn't changed much.
Okay, thank you.
Thanks, Courtney.
The next question comes from Seth Weber, RBC Capital Markets. Please proceed with your question.
Hey, good morning, guys.
Hey, Seth.
Just going back to the defense margin dynamic again for a second. Dave you may have addressed this to an earlier question, but so the implied margin for the defense business for the fourth quarter is lower again sequentially even though revenue is higher. Is that a function of more JLTV or is there something in the mix over the last couple of quarters that kind of goes away here in the fourth quarter?
Seth, I would say there's a couple of things there. One, we have our annual shut down over the 4th of July in that segment so that from just a production and an absorption that's a little bit of a drag sequentially versus Q3. Also there's some spend timing on discretionary spend that is more heavily weighted this quarter or end of the fourth quarter than in the third quarter. And then the last thing, I would say is we're starting up another facility which there is some cost associated with that, that we will be incurring in the fourth quarter.
Okay. That's helpful. And then going back to your full rate or sort of your production ramp commentary earlier, is 3,000-ish units still a good way to think about FY 2019 for the JLTV? Or do you think you can get (49:23) to be above that at this point given your prior comment about yearend full rate levels?
I'm thinking in terms of dollars not units and I'm kind of looking at Pat here to see if he's got the units. But certainly we're...
It's been 3,000 kind of approximate rate detail (49:43) approximately 3,000 from 2019 has been our guidance.
So with that, Seth, that would be a meaningful jump over fiscal 2018 levels.
Right. That's been where you're at, so you are not moving off that number at this point?
Not at this point.
Okay. And then maybe just on the access side, you called out some relatively good trends in international markets, is there any color why you would – anything you'd call out there, regions or product in particular?
Yeah, Seth. I think we've seen more stabilization in Europe which has been good. The big jumps have really been Asia Pacific, primarily China. We're seeing further adoption of our products there. We've got some what I would call sophisticated rental companies that have gone in and established themselves in that market. So those would probably be the two that stand out the most.
Okay. Thanks very much guys. Appreciate it.
Yeah.
Our next question comes from Stanley Elliott, Stifel. Please proceed with your question.
Good morning, guys. Thank you for taking my question. A quick question on the fire & emergency business. Certainly, the margin profile and progression continues to be very good. When we think about 2019, would you guys care to update the margin kind of targets within this business? And then maybe kind of frame that on the context of some of the longer or some of the international orders that you have, what that does to the margin profile into next year?
Stanley, we'll give you a big A for effort there on trying to get us to call 2019. You're doing your job. So we're not going to – about 2019 as far as margins and things like that. I'll compliment our fire & emergency team because they continue to really work through this transformation and simplify their business. They're reducing complexity, doing a lot of good things inside the business, but now you're starting to see transfer and work in our commercial segment.
We've said at the start of this year, they had a couple of hundred basis point jump year-over-year last year. And we signaled that although we'd love to see that every year, we don't expect that every year. So they're going to stay the course here and continue to work and improve margins as they can.
International orders to your question, does that offer some upside. In some cases those situations are highly competitive. Others, there are products that we have good intellectual property and patents around and that provide us some margin enhancement opportunities. So tough to dial in on exactly which international orders we'll have in the mix for 2019 and the margin profile there, but something that we'll definitely be talking about through 2019 with you.
Perfect. That's been a fantastic part of the story. And then second one (52:51) switching gears to defense business, with a lot of the news flow around NATO allies and then kind of their allocation to defense spending. Have you all seen – I noted that the JLTV has been very successful in terms of demo-ing and interest, has that interest picked up post those headlines, just more curious directionally.
No. I would just say interest has been good. We continue to have some of our allies that are coming in and taking a look or doing some trials. So I think our outlook for international is similar today as it was three, six months ago. It's very positive. Something that's going to be, as you said, a good story. We believe that's going to be a really good story for us in the next several years.
Absolutely. Thanks, guys. Appreciate it.
Thank you.
Yeah.
Our next question comes from Gilardi, Ross (sic) [Ross Gilardi] (53:49), Bank of America Merrill Lynch. Please proceed with your question.
All right. Never heard of that one before. But...
Yeah...
Go ahead, Gilardi.
Mix it up, why don't we? So yeah, good morning, guys. So I just want to understand on the free cash flow into fiscal 2019. So what's the chance of an outsized free cash flow year, next year, I mean, any big puts and takes to consider? Is there an earnings or EBITDA conversion to free cash rate that you'd point us to, to help us think about next year, because you got an additional $200 million that's getting pushed into – in the next year and your business is still growing obviously?
Ross, that's the biggest outsized driver that immediately comes to mind is just the push of that large payment on the international defense contract. To think about the other businesses, it's still early as Wilson said. So we'll be putting the model together for that, but I don't really see any significant changes in terms of the dynamics around our thinking on DSO or inventory turns or anything like that in the rest of the business.
Okay. Thanks, Dave. And then just on the production challenges in access. Can you just talk about that a little bit more? I mean, are these component issues? Are you in any trouble getting engines? Is it a head count issue or kind of all the above?
Yeah, Ross, the production challenges started with that big first half we had. In Q1, we got that – we thought orders would moderate a little bit in Q2, they didn't. That caused us an additional hiring ramp. At the same time with this type of demand, we're driving that demand into our supply chain. So they are ramping up. I think we were probably two, maybe three months ahead of some of them in our ramp up of people, so our people challenges are certainly starting to subside and get our internal efficiencies back where they need to be. Some of the different components, it's not been anything one specific big item I could share with you. There's been a lot of smaller component issues that even though it's a small component, it can cause some major product disruptions on your line. So that's where we've deployed our supplier quality and supply development folks in to help some of the smaller suppliers really get up to speed and help their people get up to speed a little quicker. But it's nothing that I would say it's just one, two or three things, it's been a multiple of things, but I will say that our team at access is handling very well.
Unemployment is so low in Wisconsin, I mean, how were – obviously, it sounds like you've been able to hire people, but are you seeing wage inflation pick up pretty materially or are you able to contain that somehow?
So, we expect some wage inflation over our whole business area. In terms of Wisconsin, you're right, unemployment is very low here. We've talked before about access to skilled labor is going to be one of our big issues going forward. I will say this, our team – they call it operation kitchen sink, because we are throwing everything at it in terms of working with the technical schools, we're doing apprentice programs with a high school, we have a school-to-work program in our facilities now where they actually teach four hours of high school classroom and then they work four hours in our business.
A lot of military recruiting for us, so – and then you couple that, with just the up-skilling opportunities we've had. We have been successful in getting some grants to help an assembler learn the skill of welding, or learn the skill of becoming an electrician. So there is a lot of that going on. I think it's a case where we got to keep working at that because most of the areas where our facilities are the unemployment is very low and then when you look at what is available, there is not a lot of skills, trade skills available. So you have to take those into your own hands and train for those.
Got it. Thanks very much, Wilson.
Thanks, Ross.
Our last question comes from Steve Barger, KeyBanc Capital Markets. Please proceed with your question.
Hi. Good morning, guys.
Hi, Steve.
Just a quick follow-up on the production. You said some supply chain constraint shut down the AWP lines, yet you still put up a record revenue quarter, how many days did you miss and did you make that production up with overtime or did those deliveries push into 4Q?
It wasn't a significant number overall Steve, so I don't want to leave you with that impression. But there was a handful of times during the quarter when lines were down. In terms of dealing with that, you touched on it, it was really increased over time to try to make up for that. So just, if you look at the whole full year revenue guidance, we just ended up at the top end of the range. So it wasn't necessarily a push out of the year or anything. So, I think we're able to effectively manage it from the top line, but it does cause some challenges when you have those constraints popup from a production standpoint.
I think what we really want to get to Steve is the cadence now of our supply chain getting their teams up to speed like our team is up to speed, so next year all these issues are behind us in terms of manpower, trained labor that can build and deliver these products.
Yeah. As those constraints cease and you think about the price and mix in your backlog and what you see for FY 2019, any thought on what the upper limit on capacity could be on a dollar basis for an AWP quarter?
Upper limit for a quarter. We probably haven't gotten that granular on it, what we have said is we certainly could support additional demand without significant investment in brick-and-mortar. In that segment we are running at two shifts in most areas. But as you think about the efficiency picking up, that should free-up some excess capacity in the future.
Got it. Thank you.
Thanks, Steve.
Thanks, Steve.
Ladies and gentlemen, we have reached the end of the question-and-answer session and I would like to turn the call back to management for closing remarks.
Thanks, operator. Thanks all for joining us today. We look forward to speaking with you at the conference or our next earnings call. We appreciate your interest in the Oshkosh Corporation. Thank you.
This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.