NFI Group Inc

TSX:NFI

Earnings Call Transcript 2018-Q3

[Operator]

Good morning. My name is Julie, and I will be your conference operator today. At this time, I would like to welcome everyone to the NFI Third Quarter 2018 Earnings Conference Call. [Operator Instructions] Thank you. Stephen King, Corporate IR Relations Director, you begin your conference.

[Stephen King]

Thank you, Julie. Good morning, everyone, and welcome to NFI Group's 2018 Third Quarter Results Conference Call. This is Stephen King speaking. Joining me today are Paul Soubry, President and Chief Executive Officer; and Glenn Asham, Executive Vice President and Chief Financial Officer.For your information, this call is being recorded, and a replay will be made available shortly after the call. Details on the replay can be found on our website. As a reminder to all participants and others regarding this call, certain information provided today may be forward-looking and based on assumptions and anticipated results that are subject to uncertainties. Should any one or more of these uncertainties materialize or should the underlying assumptions prove incorrect, actual results may vary significantly from those expected. You're advised to review the risk factors found in the company's press releases and other public filings on SEDAR for more details.In addition, I'd encourage all participants to review the third quarter financial statements and the associated management discussion and analysis that are posted to our website and also on SEDAR. We'll start today's call with Paul providing an overview of the quarter, then Glenn will speak to the financial results and Paul will finish up with market insights and NFI's outlook. Following that, we'll open the call to analyst questions. I'll now hand it over to Paul.

[Paul Soubry, President, CEO & Non]

Thanks, Stephen, and good morning, everyone. While our third quarters are typically one of our slowest[Audio Gap]up 15% over 27 year-to-date. We received a number of key contract awards in the quarter with 757 EUs in new orders and 5,426 new orders over the past 12 months, which is an increase of 13% over LTM Q3 2017. Our total backlog is now at 11,110 EUs, of which 3,423 are firm and 7,687 are options, which equals USD 5.5 billion and represents approximately 2.6x our current annual production rate. Glenn will review the financial results, but I'd like to highlight that in Q3 2018 our revenue, our net earnings, our free cash flow and our dividends all increased compared to the same period in 2017.And while our adjusted EBITDA was down 1%, primarily impacted by sales mix and a number of costs associated with standing up our new Shepherdsville, Kentucky part fabrication facility and the adverse impact of Daimler's termination of the North American Setra distribution agreement for MCI. I'd also like to remind you that our business experiences significant variance quarter-to-quarter due to pricing, order size, propulsion systems, product type and customer specified modifications. As a result of the volatile nature of our market and products, performance metrics should be considered over a period of multiple quarters, which is why we tend to focus on LTM figures. On an LTM basis, our adjusted EBITDA was up $21.6 million or 7%.Now Q3 was very busy as we're active for a number of significant projects across the company to build new products, increase our part fabrication capability. We continue to harmonize our IT platforms and upgrade our facilities. I'd like to bring a few of these to your attention at this time. In 2018, New Flyer was awarded the largest ever battery-electric bus contract in Canadian history from the Société de Transport de Montréal or STM; and Société de Transport de Laval, STL. This was another strong sign of support for our battery-electric transit bus offering, what we call the Xcelsior CHARGE. In September 2018, we held the grand opening of our Shepherdsville, Kentucky part fabrication facility that now employs over 100 people and in fact, we're here today. The facility continues to ramp up operations, and will provide benefits in 2019 and beyond when it achieves full run rate of nearly 500 employees by the end of 2019. This new facility has started -- already started fabricating production parts for New Flyer and will ultimately make parts for all NFI brands, including MCI, ARBOC and NFI parts. It will not only have a positive financial contribution once fully commissioned, it was also a strategic investment to help New Flyer and MCI meet the increased U.S. material content requirements from 65% to 70% for Buy America that goes into effect in October of 2019. Third, our $25 million investment to expand the New Flyer Anniston, Alabama production and innovation campus is advancing on schedule. During the quarter, we moved our welding operations from an offsite leased facility into a brand-new weld shop that is adjacent to the production line. We expect to complete the entire project in Q4 of this year. And also in Q3 2018, we continue to take significant steps with our new motor coach and low floor products that will better serve our customers and end users of our vehicles.MC -- this includes MCI's new D45 CRT LE, which are low entry, which features revolutionary improvements to support people with physical disabilities. The bus passed its Altoona test and now qualifies for U.S. federally funded procurements, and we've already won some awards.MCI's also taking orders for the J3500, which is the smaller 35-foot coach, which is 10 foot shorter than the industry-leading 45-foot J4500 coach. Production of the J3500 begins in January 2019 with deliveries in the first quarter of next year. And MCI continues to complete testing protocols on its pilot, battery-electric coach and has begun design on the production versions. Production of our MCI electric coach is expected to begin in the second half of 2020. Once testing and design is complete, the battery electric propulsion system on this vehicle will be available across all MCI product portfolio.And finally, ARBOC's Spirit of Equess, which is a low floor medium duty transit bus, has completed its Altoona test, and we're just awaiting its final report. The Equess has been very well received, and we've already started to secure orders for it.IT harmonization continues to be a key focus area for us with 2 significant projects in process, one at MCI manufacturing operations and the other at NFI Parts, both of which are on budget and on schedule. Once complete, these new IT platforms will enable us to better implement just-in-time inventory, control costs and provide enhanced customer delivery performance. And finally, in October, we announced our new revolving credit facility. This new 5-year unsecured facility has a total borrowing limit of $1 billion plus an accordion feature, which allows for additional funding up to $250 million. The new facility leaves us very well positioned to pursue initiatives to grow and diversify our business. And finally, in Q3 2018, we continue to use our normal course issuer bid to repurchase and cancel NFI shares. Full details are disclosed in our MD&A but to date, we've purchased 514,000 NFI shares for a total of CAD 41 million. With that, I'll ask Glenn now to take you through the financial statements and following that, I'll provide some insights into our outlook and then we'll answer any questions you may have. Over to you, Glenn.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

Thank you, Paul, and good morning, everyone. I'll be highlighting certain third quarter 2018 results and provide comparisons to the same period in 2017. I would like to direct you to NFI's full Q3 2018 financial statements and management discussion and analysis of those financial statements, which are both available on SEDAR or NFI's website.I do want to remind you that our interim unaudited financial statements are presented in U.S. dollars, the company's functional currency and all amounts referred to are in U.S. dollars, unless otherwise noted.Please note that 2 organizational changes were made in 2017 and 2018 to better align business functions within operating segments, details of which are provided in the company's MD&A. To improve the comparability between periods, the related 2017 segment information has been restated to reflect these changes. NFI generated consolidated revenue of $605 million in the third quarter of 2018, an increase of 11.7% compared to the third quarter of 2017. Revenue from manufacturing operations increased by 12.8%, primarily from a 16.9% volume increase in new transit bus, coach and cutaway deliveries partially offset by a lower average selling price per equivalent unit. The selling price decrease in the third quarter 2018 from the third -- compared to the third quarter 2017 is due to sales mix and some margin pressure in the motor coach business, partially offset by a positive mix and margin in the transit bus business. In addition, the average equivalent unit selling price in the third quarter 2018 includes ARBOC cutaway buses, which have a substantially lower average selling price. Revenue from the aftermarket operations increased 6.4% in the third quarter 2018, primarily as a result of higher volume. Total adjusted EBITDA for Q3 2018 of $70.3 million was down 1% compared to the corresponding period in 2017. Manufacturing operations adjusted EBITDA increased 0.8% in the third quarter 2018, primarily as a result of increased volume, offset by startup costs associated with Shepherdsville, price reductions on sales of new and preowned Setra coaches following the termination of our Distribution Rights Agreement or DRA with Daimler and loss associated with the Wisconsin-based fiberglass reinforced polymer business. In total, these items had an impact of $4 million on manufacturing adjusted EBITDA. In addition, adjusted EBITDA was also impacted by favorable sales mix and margin in the transit business, offset by adverse sales mix and margins in the motor coach business. Aftermarket operations adjusted EBITDA decreased 5.9% due to sales mix, margin pressures and loss of parts sales resulting from Daimler's termination of the Setra agreement, which took effect for NFI parts on July 1, 2018. Net earnings increased by 6.9% and earnings per share of $0.59 increased by 7.2%, primarily from lower income taxes offset by increased finance cost and the previously mentioned impacts on adjusted EBITDA. Adjusted net earnings during the third quarter 2018 increased by 4.1% compared to the third quarter 2017 and adjusted earnings per share was up 3.6%. Our liquidity position of $192.2 million as of September 30, 2018, decreased compared to $210.6 million at July 1, 2018, primarily from initiatives taken to return capital to shareholders through increased dividends and repurchase of shares under the NCIB. The company generated free cash flow of $28.8 million during the third quarter of 2018, an increase of 38.5% compared to the third quarter 2017. The increase was primarily due to lower income taxes. The company declared dividends of CAD 23.4 million in the third quarter 2018, which is an increase of 14.1% from the third quarter of 2017 and represents a payout ratio of 62.9% for the quarter, down from 79.2% in the same period of 2017. Property plants (sic) [ plant ] and equipment cash expenditures for the third quarter 2018 increased by 23.2% compared to the third quarter 2017, primarily as a result of investments in Shepherdsville and in Anniston and other continuous improvement programs. Return on invested capital or ROIC during the 12-month period ended September 30, 2018, was 14.8% compared to 15.4% during the 12-month period ended October 1, 2017. The lower ROIC was primarily impacted by investments made in Shepherdsville and Anniston that are not expected to generate benefits until 2019. With that, I'll turn it back to Paul.

[Paul Soubry, President, CEO & Non]

Thanks, Glenn. NFI remains focused on maintaining and growing our leading market share position in heavy duty transit, motor coach, low floor cutaways and aftermarket parts distribution. We see opportunities to grow our business by enhancing our competitiveness and continuing to launch new products and disrupting traditional markets. We remain confident with our strategy, our execution and our business model. And we're focused on the future of our business and what's up next for us, not only in the bus manufacturing parts but the future of mobility and solutions needed to move groups of people safely, efficiently, responsibly and in style. While market share growth in our core markets is important, we're not interested in chasing volume for its own sake. Sustainable performance, profitable return, strong cash flow and customer satisfaction has and will guide our bidding and procurement approach. We're pleased with our backlog position, and we see positive signs for continued growth and profitability in the future. Based on aging fleets, the healthy economic conditions, defined U.S. federal funding through the FAST Act and the size of our bid universe, we expect the transit bus procurement activity through North America to remain healthy. We've experienced a slight reduction in active public sector competitions in the quarter but based on our market tell and commentary directly from customers, we anticipate that to recover to normal levels very shortly. With respect to private market motor coaches, we continue to anticipate stable demand through the rest of 2018 and into 2019. While there was some downward pressure on motor coach margins in the quarter, a result of sales mix, facility -- planned facility shutdowns and competitive dynamics, we remain focused on expanding our product portfolio, which includes as I previously mentioned, our D45 CRT LE, the J3500 and the battery-electric coach to enhance our competitiveness.New Flyer's award-winning heavy-duty transit bus platform, Xcelsior, continues to lead the market with the broadest variety of propulsion. And following the award of electric buses in Québec, New Flyer buses will now be used by all of the top 25 metropolitan transit agencies in North America, a very big deal for us.Zero-emission buses or what we refer to as ZEBs will include trolley, which include trolley, battery and fuel cell configurations remains a core area of focus. And while the current North American installed fleet of ZEBs is just over 1%, the demand for ZEB is expected to grow over time, and we expect to actively lead this segment in growth. We caution that adoption rates of ZEBs is not only about the technology of the bus, its batteries and electric motors, but also about the significant -- will be significantly governed by additional funding available and requirements for charging infrastructure. We continue to work closely with operators to help them understand the dynamics surrounding the required charging, and how we can assist to meet their goals and evolve their fleets to ZEBs over time. As the population ages and accessibility becomes more of a focus for operators in North America, we also believe demand for low floor cutaway and medium-duty buses with greater accessibility will continue to grow. The anticipated market trend is one of the key reasons why we sought out ARBOC and their patented low floor offerings, which provide a better customer experience compared to high floor buses with lifts.ARBOC's Spirit of Equess, as I mentioned earlier, is one of the vehicles we're particularly excited about. The Equess is designed, sourced and built in the U.S. and has received positive response from smaller transit agencies, airports, shuttles and universities and deliveries of this product will start to commence in the fourth quarter of this year. Our aftermarket segment has continued to experience adverse impacts on volume and margins in the quarter. To combat headwinds, we've been focusing on winning vendor managed inventory or VMI programs. NFI parts was awarded 6 VMI programs in the 2018 year-to-date. And while it's difficult to quantify exactly the incremental sales by the nature of those contracts, we expect them to provide volume benefits to our parts business in 2019. NFI parts has also been focusing on harmonizing the New Flyer and MCI parts business into our IT systems, which goes live in the fourth quarter of this year. NFI's master production schedule, combined with our current backlog and orders anticipated to be awarded under new procurements, allows us to reconfirm the fiscal 2018 delivery guidance has remained unchanged at approximately 4,390 equivalent units, which is an increase of 562 units over 2017. Similar to Q4 2017, we expect Q4 2018 to be a period of significant demand for the motor coach segment. We're also reaffirming our expected PPE expenditures for fiscal 2018 to be in the range of approximately USD 63 million to USD 73 million. As we all know, the governments of the United States, Mexico and Canada announced in the quarter that they've reached a deal in principle that would replace the North American Free Trade Agreement. We don't anticipate that the USMCA agreement will have any material impact on our business from this new agreement. And while the USMCA is a positive outcome for NFI, the previously announced U.S. Federal tariffs on Canadian steel and aluminum imported into the U.S. and Canadian surtaxes on U.S. steel and aluminum imported in Canada remain in effect. As we've mentioned many times before, NFI predominantly sources U.S. steel and aluminum and have been eligible for recovery of the surtaxes under the Canadian federal duty relief and duty drawback programs. And while commodity prices have gone up, we anticipate an immaterial impact on the remainder of 2018 as our components are purchased under fixed price or contract specific quotations. We also expect future cost increases should substantially be recoverable through new contract pricing or through the producer price index or PPI mechanisms in our multi-year contracts. And finally on the topic of global trade wars, the U.S. government recently launched tariffs on various goods originating from China. It's important to note that NFI makes minimal direct purchases from Chinese suppliers and therefore has limited direct exposure. We're monitoring the indirect impact that any tariffs might have on our component or subcomponent suppliers, but we anticipate future cost increases should largely be recovered through new contract pricing or through those contractual PPI mechanisms. Now as we previously mentioned, and after a significant effort by Glenn Asham and his finance team, NFI secured a new 5-year larger credit facility. This facility, combined with our strong core markets and our proven ability to generate cash flow, leaves us very well positioned to continue to explore further M&A and other opportunities to strategically grow and diversify our business. We've looked at a number of opportunities both domestically and international, but as we have in the past, any investment or acquisition will be strategic, prudent, measured and appropriate. Ladies and gentlemen, thank you for listening to our call today and for continuing to support NFI. I'm proud of the work and effort commitment we see every day from more than 6,000 team members across North America and the strategic decisions we've made to mold NFI into the company we are today. We're well positioned to continue to be North America's leading provider of buses, motor coaches and low floor cutaways. At NFI, we're proud of our history and excited about our future. With that, we'll invite your questions. Lisa (sic) [ Julie ], can you please provide instructions to our callers?

[Operator]

[Operator Instructions] Your first question comes from the line of Chris Murray.

[Christopher Allan Murray]

Maybe we can start with the coach business and your comments around some margin issues around mix. You just want to give us maybe some idea, some more color on what you're seeing there. And is this being driven by pricing, by competitors or is it a cost side thing? So any more color you can give us right now would be helpful.

[Paul Soubry, President, CEO & Non]

Thanks, Chris. Well, look, there's a couple of issues. First of all, every contract is different. In the motor coach space, we have large contracts like New Jersey or Houston or Connecticut and those kind of things and then 60% of that business is one-off or one, 2-off type transactions. And so on the contractual side, the pricing that we experience today was put in place in 2015 or '16 or '17 when bid those and so there hasn't been any change really on the pricing side or the costing side on most of that contractual stuff. The transactional stuff that we do and the smaller bids and things has different dynamics at all times. The loss of the Setra dynamic in our world had an impact of us returning unsold coaches to Daimler, and we took an EBITDA hit there. We also have now an aftermarket dynamic where the value of preowned coaches, specifically a big Setra pool that we had, has been adversely impacted and so that required us to write down or mark-to-market our pool. The other segments whether it be long-haul or linehaul type transportation has been under pressure, where there's been some other areas where the pricing has been relatively strong and robust. And so it's our -- a dynamic of the mix in the quarter adversely impacted the margins.

[Christopher Allan Murray]

Okay. I guess -- I mean, independent of Setra though, is there anything that you feel has changed kind of structurally as we go into Q4? Or is it just -- should we just think of it as you had an odd mix in the quarter and -- but things are normalizing?

[Paul Soubry, President, CEO & Non]

Well, you got to -- first of all, there isn't really anything structurally changing in our marketplace today, right? The demand of the motor coach is -- well, it's down a little bit. I think, it's down about 3.5% year-over-year of the whole motor coach market. But it's really not fundamentally driving pricing different. Don't discount the impact of the used market and POCs on what that has to do with our costs, because we have a very large pool and we mark to market that every quarter. And so that's why we highlighted the -- specifically the Setra, but we have all kinds of other buses in inventory that have a market valuation issue. The other part of Ian's business is that we've been investing throughout 2018 to set that business up for a common production line. And those are costs we've been absorbing that are not going to be at the same level that we've seen historically, won't be at the same level going forward.

[Christopher Allan Murray]

Okay. Fair enough. And just so we're clear on the Setra and the preowned coach issue. So the contract came to an end, as you said, as you entered the quarter. I think you called out $2.2 million. So at this particular point, is this basically now done? I think you made the comment that you've returned any unsold inventory. Are there any further write-downs or anything else that we should be expecting in Q4, anything like that?

[Paul Soubry, President, CEO & Non]

So to be clear, Chris, Daimler told us at the end of Q4 2017 that we're no longer the North American distributor for Setra. It was a fairly small business for us, but we had approximately 30 to 35 coaches on hand or on order, new coaches. And then we had a series of some more, close to 100, used coaches. So we returned those coaches in the first half of 2018 to Daimler. We got paid for that. We had to do that at a discount because they wouldn't take it -- take them back dollar for dollar so we absorbed that.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

The new coaches.

[Paul Soubry, President, CEO & Non]

The new coaches. The used coaches, we have been continuing to get rid of those and write them down and mark-to-market them every quarter. The other part of the size of the Setra agreement that maybe is a little bit confusing in our business here is that we also sell spare parts. We agreed with Daimler that we'd continue to sell the Setra spare parts all the way to July 1 of 2018. So as of July 1, we are in the process of packaging up parts and returning those to Daimler. But we're not able to sell them. So that's had an adverse impact on our parts business.

[Christopher Allan Murray]

All right. Are there any further write-downs we should be expecting, Glenn?

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

So on that, I guess it really depends on the market, right? So we've written them down to the market level as of the end of Q3.

[Paul Soubry, President, CEO & Non]

Which we do every quarter.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

We do every quarter. If the Setra market -- if the market for Setra POCs continues to decline, we may see more or we may see it leveling off. So it's very hard to predict at this point given the market for those units has been under pressure.

[Christopher Allan Murray]

Sure. Okay. Fair enough. And then just back to Shepherdsville. Yes. Go ahead, Paul.

[Paul Soubry, President, CEO & Non]

Just to -- we've got about 35 Setra preowned coaches on hand.

[Christopher Allan Murray]

All right. That's helpful. And then just turning to Shepherdsville, some early startup cost booked in the quarter. I think the comment you've made is, that should start to reverse and maybe be contributing to margin as we move further into '19 as that facility matures. Is that still the right way to think about that?

[Paul Soubry, President, CEO & Non]

Absolutely. I mean, look, it's a 300,000 square-foot facility. We've got 110 or whatever employees on hand. We're implementing about 12 different production cells here. So we've got a fairly substantial startup cost. You got to get every part that comes through here to go to first article inspection and on and on and on. Those are costs that are not normal operational costs. Once we get full steady state by mid to late next year, we think it can be a very strong contributor to our performance.

[Christopher Allan Murray]

Okay. Fair enough. And then finally for me and maybe I'll just take a shot at it. ARBOC had -- hit a number kind of key milestones in the quarter. Saw some nice orders both for the Equess as well. It seemed like good orders on the low floor. Any early thoughts on volume or anything like that into 2019, and where you think you can continue to drive this business?

[Paul Soubry, President, CEO & Non]

Well, it's a good question, Chris, and we're really pleased. There's another dynamic in addition to volume. So just on the volume, we're really pleased. I think last year, there were 343, 350 for the year. This year, we're forecast to deliver well over 500 units, which is the number we had targeted. But it also has a mix dynamic, a very small cutaway versus a medium-size cutaway versus now one of these Equess will have a very different margin profile. So that's a new thing that we're going to try and get our heads around in terms of kind of the average margin impact, but there's a mix issue. As far as 2019, we're deeply in reviews of our budgets as we did last year in the January, or as an options release we'll give the guidance for the year of all of the different products.

[Operator]

Your next question comes from the line of Cameron Doerksen.

[Cameron Doerksen, Analyst]

I guess, just maybe my first question just on back to the motor coach market. You mentioned that the blend, and we know that the long haul kind of fixed route to market has been a little softer in North America and maybe that's having some impact on pricing for those customers. I mean -- I think in your presentation, you talked about that sort of being roughly about 30% of the total kind of market out there for motor coaches in North America. Can you sort of discuss what your exposure is there? I mean, I think maybe you've got a little bit less than maybe the average industry.

[Paul Soubry, President, CEO & Non]

Well, that industry has been fairly healthy. We see the total number of units somewhere in the 2,400, 2,500 type range. Of the motor coach space, 20% of it is roughly public transit. So that's very common and consistent with the way we approach our transit bus businesses. The linehaul fixed route is about 29%, 30% of that market space. There was lots of noise in Western Canada, for example, about Greyhound pulling out and having a significant impact on MCI. And that's not really the case. They have a big MCI fleet that we sell spare parts to. But we haven't sold a new bus to Greyhound in 5 years, so that really hasn't had an impact on our volumes. The tour and charter operators are about 40-something percent of that total motor coach space. They've been fairly robust. There's been a couple of customers have some challenges financially, but for the most part, it's been fairly stable, healthy. Pleased with the number of competitions, the number of bids we've got going on. The limo part of that world so what we're seeing in certain markets is the black car kind of operators moving up into the limo space. It's about 6% of the installed fleet. It continues to be fairly healthy. It's spotty in the cities that will use those kinds of buses, but it's still 6% of the whole fleet. And then the last segment, which continues to be very healthy is fairly small but it's still a number of units, which is the employee shuttles. So the Facebook and Apple and Google type operators in the Bay Area. We now see them in the Seattle area and so forth. So the growth of employee shuttle using motor coaches continues to be fairly good. So overall, some of the dynamics in the linehaul space has possible impacts on our business over the long term, but it really hasn't had a short-term impact on demand or pricing in our environment.

[Cameron Doerksen, Analyst]

Okay. Good. Maybe just second question for me just on the aftermarket. You've mentioned the number of VMI programs that you've won year-to-date in 2018. I'm just wondering if you can, not necessarily quantify, but maybe, just sort of discuss about how material that might be as we go into 2019 on the aftermarket revenue and what the potential margin impact might be. I assume that those are, maybe, slightly -- and I think you talked about this in the past of, maybe, slightly lower-margin percentage business for you.

[Paul Soubry, President, CEO & Non]

Well, it's a really good question, Cameron. It is very, very hard to quantify because we bid on this XYZ cities of VMI. They put 10, 20, 50, 200, 1,000 part numbers on that contract. And of course, it's all a demand. It's not a guaranteed supply, but it's effectively like a standing offer that if they want to buy them, they buy them off that contract. And in some cases, they have min/max levels that we replace on their shelves and so on and so forth. In many cases, the customers that we're now putting from a contractual or a bidding quote type relationship, now onto a contractual relationship, it's hard to quantify how much will be incremental versus now kind of contractually supplied to that customer. The margins is a little bit early to kind of comment on. We inherently or intuitively feel hey, to give -- to get surety of contract, you may have to give a little bit in margin. At the same time, there's opportunities with many of those operators that we're already seeing where you have a contract for a certain basket of parts and after they like that kind of replenishment type relationship, they ask us to add more parts to that basket. And so we've been very cautious to give too much color or guidance or insight into incremental volumes or margin impacts until we get a couple of years of these VMIs under our belt. We've been pushing VMIs for 5 or 6 years, but haven't really been able to get much takeup. Ironically now, as we move into 2018 some of these larger customers that we've been talking to and working with are now actually putting the vehicle in place. So we're actually quite comfortable and excited, but it's really too early to try and give any of that volume or margin type guidance.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

And I think on the aftermarket parts on the VMI obviously, the parts business is pretty volatile quarter-to-quarter. We see that. You guys know that. Hopefully over time, we'll see the VMIs give us a bit more visibility in the parts space.

[Operator]

Your next question comes from the line of Kevin Chiang.

[Kevin Chiang]

If I could just maybe just go back to the coach margin commentary and questions. If I hold your margins flat from Q3 '17, it implies that your MCI margins might have -- on EBITDA per EU basis might be down, let's say, 15-plus-percent year-over-year, but it sounds like there's been other mark-to-market stuff that you didn't specifically call out in the MD&A. So I'm just wondering like if I just carve out all this stuff that -- the preowned coach issues you discussed. Just on a new coach, what was the type of margin pressure you were seeing? It sounds like it's less than this calculated number that I have.

[Paul Soubry, President, CEO & Non]

Well, yes, as you know every price, every contract is different. So it's hard to say that you have pricing pressure truly on the top line. You have a number of issues that maybe aren't totally understood. The first issue is, in the private world, for every 10 coaches we sell new, we take about 6 back in on trade. And so we've got to make a judgment of the price that we sell on the new coach, the value of the trade that we give to that customer. That changes daily, weekly depending on the age of the bus and so on and so forth. Then the other issues, once we put those used coaches on our balance sheet, we mark-to-market them every quarter based on blue book values. And that can have, depending on the scale and scope in the market, the number of used buses for sale, the economy and how many people want to buy them, the pace at which they're sold has constant impacts on our business. The core pricing has not really materially been affected. It's kind of in the general category that we've seen over last year. The trade in values, there's expectations from customers for a little bit more healthy trade-in values, which we've had to respond to. And then we've absolutely taken an impact on mark-to-market every quarter over the last couple of years on preowned coaches.

[Kevin Chiang]

Okay. But it does sound like maybe there's been an acceleration in the decline in the value of those preowned coaches in recent quarters. Is that a fair statement?

[Paul Soubry, President, CEO & Non]

Yes. I'd say that's probably fair.

[Kevin Chiang]

Okay. So when you think about 10:6 ratio, does that preowned coach strategy change then, given what you're seeing in the market today? Do you look to take in less or maybe willing to give up some new bus sales if you think the risk of taking on preowned coaches becomes more acute here in terms of weighing on your profitability -- your consolidated profitability?

[Paul Soubry, President, CEO & Non]

Well, absolutely. That -- we do that every single day. We make the decision about how much pricing, how much trade subsidy and all that stuff that we work on. The reality of it is, it's a macro market dynamic, and we've got competitors that will in some cases give higher subsidies today and lower subsidies tomorrow. It's not like there's a very clear thing we can point to. We've gotten way better now at analyzing the number of used coaches in the market and trying to come up with used market shares and who's got what inventories and what models and what propulsion systems and what features and on and on and on. We have somewhere in the neighborhood of 400, 450 used coaches on our shelves at any one time. We get into the fourth quarter and just like the new coach dynamic, we have a number of operators trying to use accelerated tax to take advantage of the used coaches. And so you know -- then what happens is, depending on what those are sold at, next quarter you've got a dynamic of the mark-to-market having an impact on your balance sheet. So it's way more complex than a transit world where we sell new buses and don't have to worry about used markets. So to summarize all that, the market continues to be roughly the same. It's down 3% year-over-year. We're not worried about that. There's mixed dynamic of the types of operators, some segments healthier than other subsegments. The pricing hasn't been ridiculous, but there has been impacts on trade subsidies and mark-to-market that has had impacts over the last kind of 2 or 3 quarters. And then you have us having the significant adverse impact of losing the Setra import -- or distribution rights, both on the new, the used and the parts.

[Kevin Chiang]

Okay. And maybe if I were to pivot here on your buyback, you've been active and you highlighted that in your quarter. When you think about your leverage ratio as an -- and I know -- or you mentioned in your prepared remarks that you continue to look at M&A opportunities. But given you're below your leverage targets and you're going to come off, let's call it, peak CapEx later this year, thoughts of using your balance sheet to maybe accelerate the buyback in the coming quarters. Getting your leverage ratio back to, say, sometime -- somewhere in between the 2 to 2.5 turns and using that capital to be more aggressive in repurchasing shares.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

Yes. So it's Glenn. So for sure -- I mean, you're correct. You have seen that we have been using our NCIB and I'm sure we made a bit of an error. There's 514,000 we did in the quarter, and we've done 800,000 since the start of the NCIB program in June. Our comfort level with leverage remains unchanged. We're very comfortable in the 2x to 2.5x range and as you point out, we're just south of that today. So from a liquidity standpoint, there is, for sure, ample room to use that liquidity to do share buyback if we so decide. Obviously, that's a decision we'll make as we go forward. There's definitely no impediments to using the share buyback today.

[Paul Soubry, President, CEO & Non]

Look, at the end of the day, Kevin, we are very transparent on the types of capital investments we are making to improve our business. We haven't been shy either on product enhancement, facility optimization, make versus buy fabrication, we're in the process of fixing and enhancing the fiberglass businesses and so on and so forth. We've used money in the past quite significantly, $670 something million to buy businesses, and we're continuing to look at those. But as I said, we're not going to be rushing out and paying -- making deals for the sake of the deal. It's got to be right, and it's got to be prudent and appropriate for our business going forward. Plus we don't only just buy an asset, we want to buy businesses just like ARBOC that we think we can take somewhere. The dividend is something we've continued to work on over the last couple of years. We're getting into a cycle now of kind of a serious review of the dividend around our AGM every year and in 2016, we went up 38%. Last year -- or this year we went up 15% so we're dead serious about the dividend. The NCIB is a new tool. We've talked about it for a number of years. And as Glenn said, we've been serious about using it. Not only is it good, solid utilization of cash and return value to the shareholders, but getting our leverage back into that range of where we want to be and feel comfortable. We got lots of flexibility. And now with an enhanced credit agreement, kind of the table set for us to kind of continue to grow and diversify our business.

[Operator]

Your next question comes from the line of Stephen Harris.

[Stephen C.A. Harris, Head of Research]

If I can follow up on the balance sheet theme. You've taken your credit line up pretty significantly. We're looking at a market here where share prices -- your own share price is down a bit, but a lot of your competitors are down even more and potential acquisition targets are down even more. You've been buying your own stock back. There's obviously opportunities to do other things with cash. How should we look at all of that? Is the timing of the credit line increase just opportunistic based on dealing with the banks? Or is it based on perceived need and optionality that you want to keep? And what's your sense of the acquisition market given the changes in prices out there?

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

I guess I'll start off and Paul can fill in. I guess, as we looked at the credit facility, we took -- we stepped back this time around and really reassessed where our banking was at and where do we want to get to. So I think we took the opportunity given the health of the banking market to really maximize our flexibility going forward in the future. So just things like, well, obviously the increase in size, expanding the leverage, not that we're looking to expand the leverage but to see if it was much -- the bigger cushion I can have, the better I sleep at night, so we'll do that every day. So we -- as you point out, we have the liquidity. We think our cash flow from our business has been strong. We expect it to continue to be strong so there's not a need for there. But do want to be in a position where should an opportunity come up or should we want to use some of our cash to further our NCIB, we have that ability without putting our operation at risk to squeezing our liquidity.

[Paul Soubry, President, CEO & Non]

As far as the kind of the M&A, like, I just remind our investors, it took us darn near 3 years to be able to close on the NABI deal. It took us a year in the bid to get the MCI deal. And so looking at privately held businesses, publicly held businesses have different dynamics. We have been very transparent and open that we're looking domestically as well as internationally. We're also -- continue to work and be focused inside the bus kind of envelope. And so that's been something that's allowed us to be fairly focused and strategic at what we're looking at. We're not going to -- as I said before, we're not going to just rush out to try and make a deal for the sake of the deal. It's got to be right. And so having that credit agreement, having a strong cash flow generating business, having the confidence of investors that the capital we've put in place in the past is fundamental to us. So we're feeling like we're in a great place and the fact that we had a bit of a soft quarter relative to expectations isn't to us the end of the world. We're really comfortable with what we're investing in and where our business is. And if we can find the right M&A to bolt on, we're going to do it.

[Stephen C.A. Harris, Head of Research]

Okay. Great. If I can turn to ARBOC. We talked in the past about the low floor cutaway bus as being a bus that would appeal to a broader audience, but it does come at a price premium to conventional cutaway buses. And that you were going to do -- take a bunch of effort to see if you could get that price premium lower to the point where the [ -- you ] would take a greater market share and then that would give you a reason to sort of ramp up capacity at ARBOC. Where are you in that process? And at what point do you think you become capacity constrained from manufacturing capacity at ARBOC?

[Paul Soubry, President, CEO & Non]

Well, as I said earlier, we're going to be north of 500 units this year. Wayne Joseph and the team have done a good job to help ARBOC think about facility layout as opposed to kind of a glorified job shop now into production lanes. That's done and in place. ARBOC is living in kind of the core RV and small bus capital of the world in Indiana. And so the supply base there is largely focused on RVs and has been -- as we've grown, our volume has been a little bit unstable for ARBOC itself because their volumes are relatively small compared to RVs. And so what Wayne's been doing and the team is starting to fabricate parts for ARBOC already in some of the New Flyer facilities. So we're building some parts in Anniston. We're building some parts now in Shepherdsville. And so we're working on the volume and the cost base in parallel. But we want to make sure on this case that we don't ramp up volume and then really sacrifice quality or margins or performance. And so it's not going to be a light switch from 500 units to 2,000 units. It's going to be a nice, slow steady growth. We're really pleased with the response from the market of ARBOC being part of New Flyer. We're really pleased with the new product, the Equess, that really, really strong performance at Altoona. We just -- we'll announce soon here where we'll get the final Altoona -- positive Altoona reports so that's another major milestone. And we start delivering those units at the end of this year. So look, to us it's absolutely doing what we want to do, and we're spending the time on it. The ability to make parts for us, we are hoping, will reduce our cost base and allow us to be a little bit more creative on some of the competitive bids and dynamics. And so we'll just continue to do -- execute on that plan.

[Operator]

[Operator Instructions] Our next question comes from the line of Jonathan Lamers.

[Jonathan Lamers, Analyst]

Just a point of clarification on Shepherdsville's startup costs. Will any portion of that continue into Q4?

[Paul Soubry, President, CEO & Non]

Of course.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

Yes. I mean, we've started, and we won't have this operation fully up and running until...

[Paul Soubry, President, CEO & Non]

Fully capacitized until the end of 2019. It's up and running.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

So I mean, the full benefits are going to -- not happen until we get into 2019. Obviously, we're ramping up and continuing to ramp up, adding more people. So there's, obviously, some startup costs associated with all that activity.

[Jonathan Lamers, Analyst]

Okay. I wasn't clear if it was breakeven or not. Okay. And are you prepared to discuss the earnings contribution or payback for that facility?I believe in the past, you indicated that any benefit would be offset by price pressure.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

Yes. So we've continued to believe in our business case on that, so there's been no change in that. The benefits that we see when we [ bulked up ] in the project, we think we're going to continue it, but we are going to realize as we get it up and running. As you know, we don't give specific targets out there in terms of what we expect to receive. But we are on case to achieve our business plan, which...

[Jonathan Lamers, Analyst]

Switching to production, so the production in Q3 was unusually low. Could you just review why the downtime was unusually high in Q3? I know there was little more summer shutdowns from MCI. You had quite a bit of activity there at the Winnipeg MCI plant. And I'm just looking at the 2018 guidance and that implies quite an increase for Q4 production on the transit and motor coach business versus Q3. So will you be doing any catch up in Q4, following the shutdowns in Q3 or is there any other reason?

[Paul Soubry, President, CEO & Non]

Careful about production versus deliveries, right? So we run our businesses at certain production rates. In the New Flyer world, it's -- deliveries can be hampered by inspection delays. And so there's always a bit of a time lag. Some customers are really efficient on inspection at our plant, and then we deliver it. There's an inspection again at the customer and so that -- those are the numbers that we record of deliveries in the MCI world, so we build for contracts like New Jersey, for example. The rest of that stuff we build either for a customer based on an order or a stock bus that we then sell as a completed unit. And so we had shutdowns in not only MCI, but in New Flyer that are kind of dependent on each of those productions, sales and cycles and locations that are planned summer shutdowns, where we do some facility upgrades and so forth, and we work with our employees to have certain appropriate time off over that period of time. Absolutely, the fourth quarter on -- a little bit of ARBOC and a little bit of -- on motor coach definitely, has this dynamic of seasonality that we didn't really see historically at the New Flyer facility.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

And just maybe one comment on the shutdowns. As Paul said, it's really a delivery issue. But the plants are shut down for 2 to 3 weeks. Obviously, a good portion of our variable overhead, which is -- it's not really related, they're taking the time off. So that's not hitting our earnings. It does have an impact on our margins though, because all that fixed overhead is not getting absorbed in the inventory and going straight to expense. So we do see a bit of an impact in the third quarter because of those shutdowns, and the fact that we're not absorbing them in our overheads like we would in a normal production period.

[Jonathan Lamers, Analyst]

Okay. So I'm backing out the implied production level for Q4 '18. I understand this is not something you provide in your disclosure. But I'm getting quite a historically high seasonal step up from Q3 to Q4 in production. So my question would be, is there anything going on in Q4 that's a catch up following the low Q3 level? Or should I consider that Q4 level indicative of kind of a run rate going forward?

[Paul Soubry, President, CEO & Non]

Jonathan, our production rate does not change between Q3 and Q4. Q4 has lots of inventory. Specifically, in the motor coach case, that gets sold in November and December and absolutely this is materially higher than it was in the third quarter.

[Jonathan Lamers, Analyst]

And on a year-over-year basis, are you planning to sell down additional inventory in Q4? Or is that...

[Paul Soubry, President, CEO & Non]

Correct. That we do every year.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

That's the case every year, right?

[Jonathan Lamers, Analyst]

Yes. Sorry. That's why I was switching to a year-over-year basis. I understand that there's usually some sell down seasonally. I was just wondering if there's any additional sell down happening.

[Glenn Asham, Executive VP of Finance, CFO & Treasurer]

Traditionally, we would expect our lowest work and process levels to always happen at year end. So for sure, it does raises not only -- but should exceed the production in Q4.

[Jonathan Lamers, Analyst]

Okay. If I could ask one high-level question. On the -- there's 2 competitors that seem to be adding capacity in North America, one building a new North American assembly plant and another that as you know built a large new plant in California and has been gradually adding equipment to that facility. Have they -- have you seen any change to industry pricing for transit, based on the new bid activity? And do you have an opinion as to whether these capacity issues will affect industry pricing going forward?

[Paul Soubry, President, CEO & Non]

Well, the capacity of the transit industry in 2018 compared to, say, 2015 is higher, right? We've ramped up our capacity. Our friends at Nova have done the same. Our friends at Gillig as you referred to in California added a new factory and added their capacity. We have the new players in the space like our friends at Proterra and BYD that have relatively small outputs but are now new entrants. So is overall pricing in transit materially different in 2018 that it was in 2015? It's a little bit more competitive, but I wouldn't point to material changes in the pricing. In the motor coach world, yes, we have a new competitor that's announced, Van Hool, that they're going to set up in North America. And I believe factory completion at the end of 2019 for deliveries in 2020. Exactly what they're going to build, whether it be motor coaches or transit buses, is not totally clear. Have they affected pricing in our current world? No.

[Operator]

There are no further questions at this time. I turn the call back over to the presenters.

[Stephen King]

Okay. Thanks, everyone. So you'll note, we've -- thanks for your questions. Thanks for listening. We've posted our updated investor deck on our website if you want to check that out. And at any time, please feel free to reach out if you have any follow-up questions.

[Paul Soubry, President, CEO & Non]

Look forward to talking to you in the -- after the fourth quarter. Thank you.

[Operator]

This concludes today's conference call. You may now disconnect.