Adient plc (ADNT) Q3 2018 Earnings Report, Transcript and Summary

Good morning and thank you all for standing by. I would like to inform all participants that your lines have been placed on a listen-only mode until the question-and-answer session of today’s call. [Operator Instructions] Today’s conference is being recorded. If anyone has any objections you may disconnect at this time. And I would now like to turn the call over to Mr. Mark Oswald. Sir, you may begin.

Thank you, Sue. Good morning. And thank you for joining us as we review Adient’s results for the Third Quarter of Fiscal Year 2018. The press release and presentation slides for the call today have been posted to the Investors section of our website at adient.com. This morning, I’m joined by Fritz Henderson, our Interim Chief Executive Officer; and Jeff Stafeil, our Executive Vice President and Chief Financial Officer. On today’s call, Fritz will provide an update of the business, followed by Jeff who will review the financial results in greater detail. After our prepared remarks, we will open the call to your questions. Before I turn the call over to Fritz and Jeff there are a few items I’d like to cover. First today’s conference call will include forward-looking statements. These statements are based on the environment as we see it today and therefore involve risks and uncertainties. I would caution you that our actual results could differ materially from these forward-looking statements. Please refer to slide two of the presentation for our complete Safe Harbor statement. In addition to the financial results presented on a GAAP basis, we will be discussing non-GAAP information that we believe is useful in evaluating the company’s operating performance. Reconciliations to these non-GAAP measures to the closest GAAP equivalent can be found in the appendix of our full earnings release. This concludes my comments. I’ll now turn the call over to Fritz.

Thanks Mark. Good morning and thanks to investors and analysts for joining us this morning and spending the time reviewing our third quarter results. In addition to providing an update in the business, I’ll also spend a few minutes discussing my near-term priorities and initial observations since assuming this role approximately six weeks ago. Looking at slide four, Jeff will discuss the numbers in detail for our third quarter financials, but I would just make a couple of broad comments. Our adjusted EBITDA for the quarter totaled $319 million, down $105 million year-over-year or 25%, driven primarily by performance within both our Seat Structures & Mechanisms segment, as well as our Seating Segment. Adjusted EPS fell to $1.45 in the most recent quarter the lower level basically as a result of lower level operating performance dropped right to the bottomline. Third quarter free cash flow was $252 million. This included the benefit of $94 million associated with the factory program receivable financing program that was actually put in place in the quarter. Without that, we are $158 million which was good progress and this was all about collecting receivables, completing our key paths, building our tooling, getting the basics executed within our business. We also received dividends from one of our Chinese joint ventures this was substantial one in the quarter. So it was good to see the free cash flow start to turn in the right direction in the third quarter. The adjusted results exclude various items that we view as either onetime in nature or otherwise skewed trends in the NOI business for the quarter for example. The largest special item related to an impairment charge of $52 million associated with certain assets are being held for sale specifically the market building headquarters building in Detroit was previously expected to be our headquarters and two planes that we’re selling. Although, we made positive sequential progress within Seat Structures & Mechanisms segment, we -- I and we continue to view these financial results as disappointing. Disappointing relative to the pace at which we’re improving we can do better and certainly on an absolute basis they are nowhere near satisfactory. So while we’re encouraged to see the progress sequentially we know this is work in process. Another quick comment on the CEO search, which is well underway, the search committee was convened I think the day after I came on board that Monday so they were meeting on Tuesday, and I would say they’re doing their work and we’re supported in process, but I am not involved in the process, because I got my head full working with the team and they’re doing that and I’m working with the team at Adient. Happy to answer questions about that later as well. So slide five. My near-term priorities or our near-term priority is a better way to put it. First, accelerating better operational execution, to drive meaningful improvements in profitability and cash flow that starts with eliminating waste from flood program execution. I view that, the key priority for me is to make sure that team has the resources to do the jobs properly with launches. This is an organization that has history of being superb in launch excellence and we’re not that has been one of the principal drivers of our underperformance this year and so my key priority is to help the team get back to basics. We’re also reviewing all facets of the business to identify additional cost opportunities. The areas of the business that aren’t called to the mission of bringing business in developing products, launching products and manufactured products and satisfying customers, and then supporting the corporation. If we’re not doing well in those two things and everything else is on the table. So that’s how we’re looking at cost and then in capital is to make sure we’re prioritizing capital in the right way for the right benefit for the benefit of again our customers and our shareholders. And lastly, we’re prioritizing new business wins and looking upstream to ensure future launches are better and are properly executed. So those are near term priorities, I would say initial observations within the company. We have good processes. Processes existed for quite some time but they’re not always followed not always followed either in their entirety or in important parts of it and virtually all the cases where we’ve had flawed launches we haven’t followed the processes. So we’re doing parts of it that has been late or have not executed the way we expect and so we take it back to executing our processes. We do need to bring in some expertise from within the company. We’re working on that to enhance the strength of the leadership team. My assessment is our operational challenges can be fixed. They can’t. Not only at Seat Structures & Mechanisms, but also seating’s this company has a history of doing things well we’re not doing things well today we need to back to it and so it’s not like the organization doesn’t have a roadmap on how to do things well. We do. It’s about getting back to that. We’re moving with a sense of urgency. I don’t know I don’t have it in my DNA to be interim. So I’m not planning -- I don’t spend any time on that so with the exception of three things which I want to talk about at the end of my comments. And a number of actions I’ve executed since my appointment in June so we’re not waiting around to take action. We’re taking action where we can make sense and we’re doing it as quickly as we possibly can. So looking at page six. Seat Structures & Mechanisms, as I said, the turnarounds progressing but not at the pace we expect and the absolute levels are still not satisfactory. The results improved for the second conservative quarter. Our focus here is on operational excellence and commercial discipline it is beginning to move the organization in the right direction. We’ve seen positive improvement in our next generation mechanisms production output. We’ve seen our production stabilize for the rearview structures for the forward expedition look at navigator programs which we talked about earlier this year, and therefore, we’ve seen a reduction in cost premiums, we’re seen reductions in premium freight another key KPI that we’ve been tracking and that’s been declining month over month. On the commercial side, because that’s where my prior comments, we’ve become more selective we’re quoting new business and so we’ve begun to reduce our business intake to a level that we think we can effectively execute. Setting a goal to reduce business isn’t per say a very intelligent thing to do. Setting a goal to prioritize business to that which you can execute well is the goal and that’s what we’re doing within Seat Structures & Mechanisms. And really focusing on programs with higher margin potential including programs where Adient has seating and component responsibility. Progress is being tracked at the highest levels of the organization has been for quite some time at the CEO level and with the Board. So the focus on Seat Structures & Mechanisms continues within the company is very important for us. We do expect the trends improving to continue in the fourth quarter and throughout 2019. I know I’ll recognize number one question will be when can we expect the -- understand what the results are for fiscal year 2019. We’ve begun that planning I want to come back and talk about that before I conclude my remarks. Slide seven, few comments on the Seating segment. We saw headwinds that began to surface late in the second quarter intensified and progressed in the third quarter. North America, we identified in the last call that we faced a fairly complex launch and we -- that’s been a big launch and a complex one. And what we have seen is the cost of that had really been seen in the third quarter. I do think we are making progress in that regard. But nonetheless, the cost of that launch as we saw in the third quarter that program and that launch we have programs joining concurrently within the plant which did for us spend high grade rating of the launch cost. I would, I guess, the last point I’d make about that particular launch is that we’re in the process of correcting our problem and stabilizing the operation. We have impacted the customer that’s obviously the last thing you wish to do and we’re getting back to making sure that plan is able to take care of the customer and then we can take the waste out of the system and the our commitment to do that. I guess the last point I’d make about the Seating segment, while this -- the one launch I talked about is large we have other launches within the segment which have had challenges. So it’s not just one and we know what we need to do within this segment as well to get back to the basics of launching programs well. Jeff is going to talk about the numbers here in a minute, but as I think about it conceptually. When you’re experiencing launch difficulties like we are you are not only incurred the cost of those launch difficulties but you also repeat your ability to execute your own processes whether it continues improvement processes manufacturing efficiency all the things that we can do to offset economics, to offset price reductions, all the things we can do within our plants and within our company in order to continuously improve, pretty much stops when you’re having launch difficulties because you need -- you have all hands on deck to correct those problems, and therefore, the resources you would have working on things like continuous improvement is not happening and so when you see it at just numbers I think you’re going to see not only will it cost of flawed launches, but the opportunity cost of flawed launches is equal if not even more. So it again tells us what the right answer is which is to get back to launching correctly. So slide eight. In summary, our financial results continued to be negatively affected by these operational challenges. As I talk to the team -- teams across the company, have either two types of problems in the industry in the automotive industry whether you’re in an OEM or a supplier. One is too little business. One is too much business at not being able to handle it well. We’re in the latter not the former, and frankly, I prefer that problem than the former problem. And so it’s getting -- the problems are in front of us we know what we need to do to fix them. We just need to get at them to fix them. We’re moving with sense of urgency to accelerate the pace of improvements. Actions haven’t taken the stabilize Seat Structures & Mechanisms getting traction. As I said, we do expect continued improvement in the fourth quarter and for the fiscal ‘19 and the challenges in the seating segment are being addressed. Our industry and our end markets are strong. So when I look at it unconsolidated seating business in China continues to perform at high levels. Europe is tracking in line with prior year results and earned expectations. So there are pockets in the company where -- what we’re seeing continued, what I would say results that we view as satisfactory and/or in some cases quite good. So I see a lot of positives for our business it’s correcting the areas where we fall short. Its right track to meet our EBITDA outlook for fiscal ‘18 of approximately $1,250 million, while being on track is a start. I recognize we’re down 30% from the targets that we set for coming into the year. So while it’s a start it’s not satisfactory and I think the leadership team for me, undown including the Board understands that those results are not satisfactory we’ve got to get back to operations excellence within this company and do it fast. Our free cash flow, Jeff will talk about it we provided guidance between zero and negative $100 million. We expect it to be in that range. And the last point, I’d make is we are finalized -- we’re in the process not finalized, we’re in the process of developing our fiscal ‘19 plan. I think at six weeks. Our focus has been on diagnosis problem solving and my personal focus has been on working with the team to get back to executing to get their processes. We had good look at our people and the need to the organization at the leadership level and into some plants and in the launch teams. We owe our investors answers. We owe our customers better performance and as a leadership team we owe our people better support. We -- as I said I don’t have an interim mindset but there are three things that I’m not doing because I don’t think it’s appropriate. One is we’re not focused on strategy. Strategy of the company is what it is. Sitting in my role on an interim basis this is something that the strategy needs to be owned by a CEO and as collectively with the Board. So I’m not working on strategy. Second is, we’re not reorganizing the company while we’re looking at resources and bringing resources in, again the organization of the company needs to be owned by a CEO after collaboration with the Board and in my judgment this is not one of the biggest problems in the company at least in the short term. So not working on that. And third, and finally, while we are working on our plans for 2019, both in terms of profitability, capital and resource allocation we’re going to go through that process with our Board. We’re going to do that over the next several months. We would normally communicate our targets for fiscal ‘19 in early November. I believe strongly believe that those commitments need to be owned by the leadership team and the leadership team includes whoever the permanent CEO is for this company. So my view is when we communicate those targets they need to be communicated when the permanent CEO is in place and he or she owns those targets and so I’m going to get a lot questions about fiscal ‘19 today. We will get them. We’re just not going to talk about fiscal ‘19 because I just don’t think it’s appropriate before we get our full board fully engaged to brought in and before the management team is including our permanent CEO follows them. So thanks very much. I’ll turn it over to Jeff.

Great. Thanks Fritz, and good morning to everyone. Turning to our financial performance as Fritz stated in his remarks, Adient third quarter results were significantly impacted by operational headwinds in both Seating and Seat Structures & Mechanisms. Although, the SS&M business demonstrated sequential improvement for the second quarter headwinds within the seating segment intensified as we progressed through Q3. More on that in a minute. Turning to slide 10. Adhering to our typical format the page is formatted with our reported results on the left-hand side of the page and our adjusted results on the right side. We will focus our commentary on the adjusted results. These numbers exclude various items that we view as either onetime in nature or otherwise skew important trends and underlying performance. In the quarter, the largest of these special items related to an impairment charge of $52 million. As background and as Fritz mentioned a moment ago during the quarter the company committed to a plan to sell the building in Detroit previously designated to be our new headquarters, as well as our corporate airplanes. Accordingly, we have classified these as assets held for sale. As a result of this classification, we were required to write-down the value of these assets to fair value resulting in the $52 million impairment charge. Other adjustments include the coming Adient charges, restructuring related charges and purchase accounting amortization. These adjustments are detailed along with the bridge to our reported results in the appendix. Moving on adjusted EBITDA at $319 million fell $105 million year-on-year more than explained by a decline in operating performance. I’ll cover this in detail in a few minutes. Meanwhile, adjusted equity income for the quarter was down $4 million compared with the same period last year. When adjusting for the JV consolidation equity income was flat year-on-year. Finally, adjusted net income and EPS were down approximately 42% year-over-year at $136 million and $1.45 per share, respectively, as operational challenges are having a significant impact on the bottomline. Now let’s break down our third quarter results in more detail. Starting with revenue on slide 11. We recorded consolidated sales of $4.5 billion, an increase of nearly $500 million compared to the same period a year ago. Benefits of the Futuris acquisition and the China’s JV consolidation amounted to $250 million. Volume and pricing added just under $100 million. In addition foreign exchange had a positive impact of $141 million versus the same period of last year. The primary driver was the euro as it averaged $1.19 in Q3 versus $1.10 last year. Moving on with regards to Adient unconsolidated revenue growth remained strong. Unconsolidated Seating revenue driven primarily through our strategic JV network in China grew about 11% year-on-year. Adjusting for FX and the China JV that is now consolidated, sales were up about 8%, which is relatively in line with vehicle production in the quarter. Through the first three quarters of fiscal ‘18 sales on the same basis are up approximately 9% versus the 2% increase in vehicle production. Sales for unconsolidated interiors recognized through our 30% ownership stake in Yanfeng Automotive Interiors was up 6% year-on-year. When adjusting for FX sales were slightly down say about 1%. Moving to slide 12, we provide a bridge of adjusted EBITDA to show the performance of our segments between periods. The bucket labeled corporate represents central costs that are not allocated back to the operations. These core costs include our executive office, communications, corporate finance, legal and marketing. Big picture, adjusted EBITDA was $319 million in the current quarter versus $424 million last year. The corresponding margin of 7.1% was down approximately 350 basis points versus Q3 last year. Weakness in our Seating and SS&M business, primarily attributable to negative operating performance combined with a rise in net commodity costs drove the year-on-year declined. I’ll talk more about these segments in a few moments. Our positive SG&A benefits, call it $32 million more than offset approximately $23 million in growth investments, primarily related to higher engineering costs to support future sales growth. It’s important to mention consistent with comments made in previous quarters, a portion of the SG& A improvements made in the quarter should be viewed as temporary and certain of the near-term actions we’re taking such as extremely tight control over discretionary spending or taking down our bonus accruals will not be part of our run rate of the business going forward. Assuming we would be at plan or target performance anticipate that our SG&A expense would have been approximately $20 million higher for the quarter. Interiors recognized through our 30% ownership stake in Wi-Fi was flat versus last year’s Q3. Similar to last quarter we’ve included detailed bridges for both the Seating and SS&M segments on slide 13 and 14. Starting with seating on slide 13, adjusted EBITDA decreased to $344 million, down $69 million compared to the same period a year ago. The primary drivers between the periods include, benefits associated with the Futuris acquisition and China JV consolidation that occurred late last year contributed about $27 million, of which Futuris was approximately $15 million. Further benefits associated with SG&A savings initiatives along with our incentive comp production had a $20 million impact on the most recent quarter. Currency movements had an approximate $12 million benefit in Q3 versus the same period last year, but were offset by $12 million in commodity inflation net of price recoveries. Volume and mix benefited the quarter by about $4 million. However and unfortunately, these improvements were more than offset by a variety of factors. Most significantly, the business incurred a little over $90 million in operating inefficiencies during the quarter as it struggled with a variety of new launches. Unpacking this variance involves into three main categories. First, operational waste and freight accounted for just under half of the inefficiencies of approximately $40 million. Operational waste includes scrap and cost of poor quality. Second, the business incurred it’s deterioration in material margin where the difference between our price changes to customers versus the price changes we reached with our suppliers. This resulted in $28 million of reduced margin in the quarter. Finally, our remaining operating conversion costs were the costs we incurred to convert base material into finished product increased to $23 million versus last year. It should be noted that we would typically expect these three items to offset as operating productivity improvements year-over-year would be expected to offset pricing. That said, our operating teams are obviously working to reverse the current situation. The team’s first priority is to eliminate the operational waste and excess freight as these stabilize and, as Fritz said a moment ago, we would expect the team to start deliver -- to deliver on our normal continuous productivity improvement actions that have stalled as we struggle to deliver products. In addition to our operating performance, additional investments to support Adient’s future growth of $20 million also impacted the year-on-year results. This was primarily increased engineering spend including approximately $3 million in aircraft spending. And finally, but to a lesser extent, negative performance in equity income of approximately $9 million was realized in the quarter. Approximately, half of the decline is attributable to the consolidation of a previously unconsolidated JV in the fourth quarter of last year. In addition, our JV has increased engineering spent by approximately $5 million to support program launches. And finally, a small part of the decline relates to a slightly lower mix of business and higher margin products. For example, Ford volumes in China were down approximately 20% and could not be fully offset by increased volumes of domestic customers. One last point on Seating. One of the reasons we’ve moved to adjusted EBITDA is to provide more cash flow transparency and we’ll continue to do that by segments. Our CapEx for the Seating business was approximately $75 million in the quarter. In addition, we’ve included some historical metrics by segment in the appendix for your review and modeling. Turning to slide 14 and our SS&M segment performance. Despite continuing to improve sequentially for the past two quarters, adjusted EBITDA was negative $18 million or $49 million lower than Q3, 2017. The primary drivers between Q3 this year and last year’s third quarter include, first, the negative impact related to operating performance. These include things such as operational inefficiencies, premium freight, containment actions and a lower level of equity income. In total, this was $34 million headwind versus last year’s Q3. Important to recognize, sequentially versus Q2 of this year, the team is making continuous progress in reducing these operational headwinds. Premium freight within SS&M, for example, decreased $5 million compared with Q2 and operational waste improved $9 million sequentially. The team recognizes, we have a lot of work ahead of us, however, these results demonstrate stabilization, turnaround, actions implemented earlier and are gaining traction. We expect the positive trend to continue into the fourth quarter and into 2019. In addition to the operating performance, but to a much lesser degree, commodities FX and growth investments weighed on the quarter. In total, FX and commodities totaled about $8 million and our growth investments were approximately $3 million. And finally, the segment was negatively impacted by approximately $4 million as a result of volume and mix. Said a different may, the $50 million of higher sales compared to last year when adjusting for FX was detrimental earnings in the quarter. Regarding SS&M’s CapEx for the quarter, they spend approximately $63 million. Let me now shift to our cash and capital structure on slide 15. On the left hand side of the page, we break down our cash flow, adjusted free cash flow defined as operating cash flow less CapEx was $252 million for the quarter, compared with $42 million last year. The negative year-on-year operating performance was more than offset by positive trade working capital performance which benefited from the launch of our new accounts receivable financing facility by approximately $94 million, also increased dividends from our joint ventures and lower cash restructuring costs. Note that the increase in dividends is largely due to the timing -- is due to timing as our largest JV in terms of both profits and dividends paid its dividend in Q3 this year versus last year where paid it in Q4. When adjusting for the newly launched financing -- AR financing facility free cash flow for the quarter would have been $158 million as shown in the color box. Capital expenditures for the quarter were $138 million, compared with $115 million last year. As you can see in the footnote, we continue to break out CapEx by segment. On the right-hand side of the page, we detailed our cash and leverage position. At June 30, 2018 we ended the quarter with $378 million in cash and cash equivalents. Gross debt and net debt totaled $3.439 billion and $3.061 billion respectively at June 30, 2018. Q3 net debt was about $264 million lower, compared with our Q2 net debt. As a result of our cash balance debt level and operating performance Adient’s net leverage ratio at June 30, 2018 was 2.29 times. Now turning to slide 16, let me conclude with our thoughts on the remainder of fiscal ‘18. As you know we adjusted our guidance for a few figures in early June, but we did not update all our key metrics. While nothing has changed for those figures we did update, I’ll provide a more complete look now. Starting with revenue based on our performance to-date and our assumptions for foreign exchange, we continue to expect consolidated revenue of about $17.5 billion consistent with our expectations. With regard to adjusted EBITDA, and as Fritz mentioned earlier, we are on track to achieve approximately $1.25 billion for the year. Equity income which is included in the EBITDA guidance was adjusted down slightly, call it, approximately $380 million to account for current FX rates. Moving on adjusted EBIT should settle in at around $810 million. For modeling purposes given our increased growth investments depreciation is tracking at about $400 million. With regard to interest, dividend increase in rates and FX we have seen our interest expense run a bit higher and now project full year interest expense of approximately $140 million versus our prior guide of $135 million. Moving on to taxes, based on the geographic composition of our earnings and the lower performance we now expect in effective tax rate of between 5% and 7% for the year. Although, lower operating performance is driving a lower effective tax rate this year the lower level of profitability creates increased pressure to utilize certain deferred tax assets it has been established. Depending on the actual and forecast of future earnings, valuation allowances maybe warranted in the coming quarters. Regarding such evaluation allowance -- recording such evaluation allowance, could significantly increase our tax expense going forward, but wouldn’t have any immediate impact on our cash tax paid. Our net income and aligned with our expectations for our operating results and the lower effective tax rate, we’re expecting our adjusted net income will settle in the range of $535 million and $555 million. Based on year-to-date performance and actions to scale back expenditures, CapEx is now expected to come in at approximately $575 million in 2018. This is down about $25 million from previous expectations. Finally, with regard to cash flow, we continue to expect free cash flow between zero and negative $100 million for the year. Important to note, this excludes the impact of the recently launched accounts receivable facility. Before moving into the Q&A portion of the call, let me make a few comments on certain of the macro influences that are impacting the business, which have been factored into the guidance just provided. Starting with the positives, global automotive demand remains strong and as a result appears to be the quarter of current production levels and forecast, a good environment as we execute our self health initiatives. Unfortunately though, we continue to experience downward pressures from rising commodity prices, rising freight cost, uncertainty related to trade and volatility and foreign exchange. First in commodities, steel prices continued to escalate. As we mentioned on our last call, for Adient specifically imposed tariffs in the country exemptions from Canada and Mexico that expired on May 31st are not the big risks as very little of our North American steel is sourced offshore. Our primary risk is the rapid escalation of, sorry, the rapid escalation of prices at the U.S. mills. To put this into context prices have increased close to $300 per ton or 40% since January. Although, we have escalators and contracts in place to help offset these price movements, it’s important to remember a time lag, call it, a couple of quarters exist between the time we experienced the price increase and the reimbursements we received from our customers. Our team is working to mitigate this impact and revise some of our agreements, but their ultimate success and associated timing cannot be certain. Sticking with commodities, some good news is beginning to service in regard to TDI prices, which have fallen off their highs. However, with the start of the BIFFs facility in Germany, our excitement has tempered though as other chemicals that go into our foam operations such as MBI and Polyol remain at a tight supply. In addition to commodities, we are also managing -- we are managing rising freight cost driven by driver shortages and the full impact of recent legislation. Unfortunately, this does not appear to be temporary. As such, the team is focused on operational logistics and inventory management to limit and mitigate our exposure. And finally, we continue to monitor trade negotiations that are currently taking place. We’re hopeful that the U.S. and China can avoid the implementation of additional U.S. proposed duties, which if implemented would negatively impact the industry including Adient. The impact today of 301 duties is minimal. However, the next round of proposed duties is implemented it could result in the $5 million to $6 billion annual headwind. Outside to China, we’re also monitoring potential retaliatory duties that maybe imposed on the U.S. by various countries that ultimately could have a negative impact on the industry and Adient. As we gain clarity on the potential outcomes including the potential for any additional actions taken in the U.S. we’ll provide updates as appropriate. With that, let’s move on to the question-and-answers portion of the call. Operator, for the first question?

Thank you. [Operator Instructions] Our first question comes from Colin Langan with UBS. You may go ahead.

Oh! Great. Thanks for taking my question. I guess to start off, I mean, Fritz, can you just clarify based on your comments, I mean, are you considering being the permanent CEO or are you kind of -- starting to be a bridge CEO? And then in your comments you also mentioned you’re looking to strengthen the leadership team any color there and what kind of people you’re looking to bring in?

So, Colin, the first question I made a comment I’m not involved in the search process. To read this for that one I’m really busy. And then two, if I do want to be considered I don’t want to be involved in that process. So I am not ruling myself out. I am just really focused on the company today. So, hopefully, that helps you understand where I am, working hard not to behave as an interim. Then the second thing is in terms of the team. I have seen where we’ve got shortages in manufacturing some in engineering, manufacturing engineering, quality. I mean most of -- and it’s not best as I look through whether it’s in Seat Structures & Mechanisms or in seats that -- we just got some whole we need to fill and we’re basically filling them. I mean some of them are -- all of them are important now, obviously, but most of them are in operating side of the business. Some of it actually, Colin was, I mean, when I look back when the problem surfaced in the Seat Structures & Mechanisms business within the company, many people volunteered to go where the problems were. One of the great parts and it’s a great company with a lot of really fine people. People raised their hand and said we want to be -- we want to go help them we want to be part of the turnaround Seat Structures & Mechanisms we did create some -- in the seat side of the business and so we need to back all those and so that’s the type of talent we are looking for.

Got it. And if I look at slide 13 that $91 million of operating performance, I mean, is that the main driver for the recent cuts? Because it looks like the SS&M business while it’s still struggling actually has been kind of in the right direction and is that the latest surprise that drove that the cut in June?

I would say when we cut it the guidance in June we said it was in part Seat Structures & Mechanisms in part seating. And Seat Structures & Mechanisms is going in the right direction but not at the pace that we had outlined for ourselves. So while we’re encouraged by getting the trajectory we’re just behind where we thought we’d be. And then the second part of it was the pretty significant pressure we saw in the quarter in seats. Jeff, anything you want to add to that?

No. I think you’ve got it.

I mean and then just lastly, I mean, where do you stand right now on the launch issues? Any quantification in the number of plants that are facing issues, any sense of the timing both in SS&M of getting rid of all of this side of freight over time, same thing now I guess on the Seating side?

Colin, we’ll have more to say about that when we communicate our 2019 target. I mean, we like the trajectory we’re on but we’re not satisfied with it. So I do think we have continued opportunity in front of us and not just in Seat Structures & Mechanisms we have in seats too.

Got it. Any sense though maybe the number of plants impacted right now. There is anything in past like you had a map of the plants that are underperforming does that come down at all or any directional color?

It’s changed a little bit, Colin. One of the -- there are some nice things that have happened we have highlighted for instance Clanton plant we have in Alabama that has been a huge part of our problem in the first quarter of the fiscal year, fourth quarter of last calendar year. That plant was hugely negative there was a big problem launch. That problem has turned into the blackest or that plant has turned into blackest, it’s not above breakeven and improving. We have experienced some other launches. So the problems has shifted around a little bit and I think to Fritz’s point, it’s the processes and the people and making sure we adhere to these processes and make sure we have all the people, especially the operations and engineering community tied together on launching this program successfully.

Got it. All right. Thanks for taking my question.

Thanks, Colin.

Thank you. The next question comes from John Murphy from Bank of America Merrill Lynch. You may go ahead.

Good morning, guys and it’s great to hear from you again, Fritz.

Thanks, John.

Welcome to the call.

Thanks.

As you’re looking at there is another component to this other than sort of the near-term service structuring it’s sort of the long-term embedding on business. I’m just curious as you’re going out and quoting on Seating business what kind of margin requirements do you need to hit your return requirements, really more simply can you bid business at a 5% to 6% margin and still make good returns or do you need to do something a lot higher? I’m just curious how aggressive you can be in the market to rebuild the book?

So John, thanks for the question. I would say, my focus here started on Seat Structures & Mechanisms. And what’s interesting to me is, I think, we now have a good handle on where our capacity is, whether it’s the capacity, I’m not talking about just physical capacity in the plants, but also people capacity and the launch programs effectively. And that capacity is less spent the business, which has been brought in. So in part that created the challenges we’ve had. A number of components, John, we are full and so we’re -- it’s basically -- to the extent we’re going to be quoting in those areas where we’re full, we’re going to get a good return on that investment. And to be honest in the past when I look at it, we probably didn’t get the return. We have probably certainly have not. So I do think in Seat Structures & Mechanisms, as I said in my comments, we already are being more selective. We’re full in the number of areas and we’re going to be disciplined about really focusing on areas where we have both seats, as well as components. On the Seat side, capital intensity per program is less per dollar revenue. On the other hand to me material margin is half of what you might see in a Seat Structures & Mechanisms program. So you’re -- you’ve got to make sure that you can launch them well, because when you have issues like premium freight and cost of product quality and your disrupting customers, there’s no room in a program for that. So, again, my focus is really about what is the capacity organization to execute and as we think about sitting, are we doing it strategically, are we managing for I call the front end of the following within the company to refer to as TBL, but are we looking at programs strategic customers, where we have the capability, obviously, replace this business generally as lower risk then new business. New business can be very strategic. I wish there was an algorithm I can apply. But I do think that when I look at seating programs they have the ability to have a good return on investment, because the lower level of capital intensity per program, but there is really -- there’s no room for inefficiency and launch and waste. And so I just want to make sure that the bidding business we’re bidding on we’re going to be able to execute and not have problems for whoever is sitting on this chair two years from now.

Okay. And then just to, kind of, follow-up on that on a near-term, we look at slide 13, Jeff when you went through sort of the three buckets there at 91 million, kind of two questions, the operating waste and premium freight of $40 million, I mean, is that usually sort of the inverse and a good guy? If we were to think about normal terms of a positive $40 million to offset the material and the other cost increases?

Yeah. Great question. I would say -- I wouldn’t say it’s good guy, because there’s always some element of launch that goes in, but on a quarter-over-quarter basis you would expect it to be relatively neutral, right. So depending on getting a little bit more launch activity and one year than the next maybe you’ll have little bit more operational waste floating through. But the part that was really off on those three equations was the third one. Our operations really need to have -- part of this industry as we get priced down to customers. That’s a part of our industry unfortunate that’s been there for a long time. We get a little bit of that recovers from our supply base, but what we really need to do is by improving efficiency on the floor. And as we run units as we start to get in second, third, fourth years of production, we need to find those efficiencies improve, and not the key element of the trade-off between what we get from a pricing perspective. In this quarter not only did we not make those improvements, we actually went backwards in the improvements and it performed at a worse productivity level than we did in the previous year. All that really exaggerated the problems that you see here in these numbers.

Got it. And assuming the second factor there you kind of mentioned material margin, I am sorry, I kind of missed the language. But it mean, it sounded like the spread between what you’re charging customers versus what you’re buying from suppliers shrunk and that created a $28 million headwind. Is that sort of subcomponents that you’re buying, or I’m just trying to understand that?

Yeah. Let me be more clear. So, I was just mentioning a part of our business as we generally give reduced prices to our customers in the second year and the third year of a program being in production. And that’s to really reflect the fact that we should be getting more efficient on our factory floor. That’s fairly normal that $28 million, which I mentioned, which is the price reductions we give to our customers on a total basis less the price reductions we’re able to get from our material vendors, and we really need to go and offset that, so the bogey if we would have done this right is we wouldn’t have had operational waste or we wouldn’t have had any debt increases. We would have still have that $28 million and we would’ve delivered 28 or more of operational improvements from a productivity standpoint, which would offset that whole equation.

Okay. And then on…

What I’d say is the operating typical or the way that we intend to operate the business.

Got it. And then the Chinese JV equity income, I think has been guided down a couple of times? Is that all FX or is there something going on there in the JV?

So when we, I mean, the biggest piece relating to equity income has been Wi-Fi, which was our Interiors operation. And mostly almost exclusively due to production on programs in North America and Europe a real shortage of labor in Eastern Europe, so that has been sort of the earlier guide related to that business. Sales are there for the most part, but getting people and having from an operating standpoint that business has struggled a bit particularly in Europe but a little bit in the U.S. too. They’re most recent sort of movement that since we have done it has really just been FX. The RMB raises you have seen went from 6.3% and has moved quite a bit and as the RMB has weakened. That is a big hurt to us just in general as the RMB weakens.

And just lastly as you think about total liquidity, just curious what your thoughts are there and why you put the AR facility in place now? Is there something that is this sort of a measure of safety or was there something else specifically that motivated you to do that?

Yeah. One it’s cheap financing. It’s cheaper financing on our revolver and it’s pretty stable financing. It’s a good form. We have a very big pool of receivables. So it’s cheap. Its diversified risk for creditors so they like it and it does give us a little extra liquidity. So it’s kind of a win-win in those two markets.

Okay. Great. Thank you very much.

Thanks, John.

Thanks, John.

Thank you. The next question comes from David Tamberrino with Goldman Sachs. You may go ahead.

Yeah. Great. Thanks for taking the questions. Just a couple of follow ups on the operational I guess performance for the quarter. From a Seating perspective taking a step back from where you were and the trajectory looks a little bit worse. Are you expecting improvement quarter over quarter as you head into the fourth quarter or could this be similarly a longer time period to kind of ride the ship on what are now seating issues and not just the SS&M side?

Yeah. Good question, David. I’d -- as you look through the whole year, we had guided for the 1250-ish EBITDA, you can kind of look to our quarterly projections and see we’re not expecting a whole lot different in the fourth quarter at least within those numbers, recognizing that it does take some time to drive those improvements. And as Fritz mentioned earlier on the call we have all hands on deck working our 2019 plan and improvement actions et cetera, and we’ll give you more color around post that as we get a little further. But for the fourth quarter some of those problems and what’s really built into our guidance is kind of continuing that employment through the fourth quarter.

Okay. And then maybe just switching gears when we think about going to market and some of the unprofitable programs from an SS&M perspective, Fritz since the company is looking to have these high level conversations with OEM. Do you think that it’s possible to price up with what the level of costs have been historically from the significant amount of request or changes that happened throughout the process from a structures perspective or in the event that you’re not able to -- are you prepared to potentially walk away from some of that unprofitable business as it comes back up for bid?

So for many years I was looking at this equation from one side of the lens. Now I’m looking at the equation from the other side of the same lens. I would say couple of things with respect to Seat Structures & Mechanisms. First, obviously, as Jeff talked about, you have the actual commodity escalation we have recovery mechanisms in our contracts. They do lag. The question we have is can we improve the efficiency of those recovery mechanisms, but they are -- they do exist in there. Second is, when our engineering changes made and there are costs that are put into the operation as a result of that we as a general rule as many suppliers we approach our customer. And I do think that we will not think I know we will continue to do that because as program changes we need to -- you quote on a particular program and you have a certain expectation of the changes you need to have a realistic discussion with your customer early. I should think in some cases, we didn’t have the discussions early enough at a number of the programs that we have going on. You tried not to do, obviously, is in the company has got a history of this of not walking away from business and not leading customers is stranded and not impacting customers. Unfortunately, we have impacted customers this year’s as a result of a number of our large difficulties, which is exactly what you don’t want to do. What you described it as what I would call an ultimate escalation, which you tried to avoid by having intelligent discussions with your customers about factors that are enclosing your business. I haven’t ruled anything out, but I just think that from a practical perspective we do business with virtually every OEM around the globe. Looking for the best parts of the company as the diversity of our customer base and our tight focus is the seating supplier including Seat Structures & Mechanisms. We have business with customers in multiple regions and so I think as a look at that ultimate question would you walk away from business, would you give this to the next customer. That’s a premature question. I mean, ultimately you can get to that point, but we’ve been historically not gotten to that point. You’ll find an answer and then you move on and then you have new programs. So it’s just the nature of the business.

That’s fair. But as we think about the progression for SS&M some of the headwinds that you’ve gotten or company has seen I should say for the last couple of quarters it doesn’t appear that is fully transpired from coming back to your customers and kind of extracting that price for the value that you’re providing?

It’s a definitely fair to say that it’s been slow relative to whatever request has been without a doubt in part why our recoveries been slower our progression has been slower. I think my own view is continued to work on the programs that we have and the plants today focus on the programs that we have in development with our SBT teams to make sure that we’re not making the mistakes we’ve had in the past and be much more disciplined on how we quote the future. That’s how I think about it rather than at one point we just give business back to customers because that’s really a very extreme step. So our focus is really on each of those three steps to try to improve the situation. In some of the cases, where we have programs in our underwater capital sunk, I can do anything about some capital. A learned a long time ago don’t worry about some capital just learn from it and get the business back and corrected so that you generate a margin and not repeat the mistakes of the past.

Understood. I appreciate the viewpoints. Thank you.

Thank you.

Thanks, David.

Thank you. The next question comes from Brian Johnson with Barclays Bank. You may go ahead.

Yes. Good morning and also good to hear you, Fritz.

Thanks, Brian.

So a couple of questions. First and especially given where you were a decade or so ago you’ve talked about both going back to the customer as around some of the programs where frankly it sounds like you misquoted. Second, you kind of talked about material recoveries which will require some compensate or some of which may be in the indexes, some of which might recorded discussions. So just putting on your head as a CFO, as a major OEM, given the Detroit three kind of were three up three down with missed profit expectations. How will those conversations go and maybe as a predicate to that, how much of the commodity recovery is just locked-in at a percentage of timing, and how much do you have to go begging for?

Thanks, Brian, for the comments. I don’t think most of it is locked-in. I mean, in other words, our customers have pretty clear policies with respect to metals escalation for example and it’s different. So, I mean, it’s interesting, I think, from program reviews where every customer is probably half of -- just about every customer has one, some of you has to have a dialogue, most of you actually have an index and every index is different. And some like a year, some like a quarter, some like six months, some average, it’s still over the map. But the reason is I think about it and totally now if I compare my former position with this one is business like ours, you quote, you provide LTH of price reduction, business like Seating has got naturally entire margins and you are doing price balance through lateral program. There is no room actually. I mean if you think about the margins in the business, there is no room for substantial absorption of material cost escalation for a supplier like us, or frankly, for any other supplier. Ultimately an OEM can make a decision about how they trade the product in the market. Our prices are generally going down, as a result of negotiations with our customers. So, as I think about it, relative to my former position or this one, that risk, if you will, is really concentrated at the OEM level. That’s how I think about it and it sounds like before actually because they can actually do something about it. When our pricing going down. So and you quote Seat Structures & Mechanisms program three years before the start of production, if you didn’t have escalation provisions I don’t know how you run this business, because you quote three years before you’ve got substantial amount of materials in your cost and then it runs for six years. So I don’t know how we would actually effectively run the business without having those sorts of mechanisms in place or have the ability to have a dialogue with your customer.

Right. But then the pushback is well supplier margins are often higher than OEM margins and everyone is going to have to share in this commodity burden?

I can guarantee you that’s not the case in our case.

I mean that’s good news bad news about where your margins are?

Well, but I would also say, I mean, I knew what the contribution margins were for car or for truck or for SUV and in the end they have -- in OEM, I mean, I can’t speak for them today, but they have levers they can pull. Our levers are price goes down in terms of our value add, so that that’s my perspective.

Okay. And second question on China, I mean the equity income has been a little bit mushy. How do you get confidence, and how do we get confidence to even greater distance that they aren’t, A, operational issues over there, B, customer issues, or C, an erosion just as the competitors target your 40% share, and how do you in terms of how you’re spending your time work with the Chinese JVs?

Okay. Brian. So what I would say is this is week six for me, week seven in China and actually that’s where I’m going to next week. What I would say is when I look objectively at the performance of our ventures in China. Obviously, we’ve had pressures at YFAI which Jeff talked about. We’ve had pressures at one of our ventures that’s been impacted by one OEMs volume. The rest of our businesses were unaffected, performed well actually. And relative to the operational difficulties, I’ll just make a comment. I made the comment in my presentation that the company has good processes, but when we’ve had flawed launches we haven’t followed them. Those processes are -- have been shared and have been ingrained in our ventures over time in China. They followed the processes. They don’t have the same launch problems. It’s not like its perfect, but it’s nowhere near the issues we’re facing in either the metals business over there or the seat business over there and to me, it’s as good a case study as I’ve seen about what happens when you follow your processes, good things happen. That’s what happens over here. So we’ve not had the operational issues. I won’t say it’s perfect, because David, for example, in one of our ventures over there, we’re tooling up a substantial amount of components. But, no, we do not have the operational issues there be faced in the U.S. or in Europe for that matter and it’s because they generally follow the processes with for more discipline.

Okay. Thanks.

Thanks.

Thank you. Our last question comes from Joe Spak with RBC Capital Markets. You may go ahead.

Thanks for squeezing me in. Jeff, just -- you talked about some challenges that popped up late in the quarter. And I guess, I just wanted to get your view or comfort with some of the European production schedules related to WLTP. It seems like some of those issues came more to head after that June announcement?

Yeah. I would say, things that would have -- anything that’s going to hurt revenue isn’t our problem, Joe. To be honest, we probably could have used a little less volume in places in our business, and I would say, those are not the challenges. I’d say the bigger issues that we’ve been fighting with is exchanged definitely has moved a little bit out since we gave that. But we’re working to offset that and that’s going to have a bigger impact just on bringing the money back or the equity income we have in China.

Okay. And then, I guess, related to China may be building off the prior question, you talked about some moves you made, including asset sales to improved cash flow, have you had -- or are you planning to have conversations with some of those JV partners to try to improve the cash flow situation via those ventures?

Do you mean dividend flow, Joe?

Well, either dividends or potential monetization or sale.

Yeah. I mean, I think the last one is really hard to comment on but we have -- Fritz said he’s going on over there next week.

Yeah. Week seven.

Yeah. And I spent a fair amount of time over there and with our partners and they come over here, so we have lots of dialogue. The good news is they like cash out of these ventures as well. One of the big things we are building and we’ve talked to you before is, our metals operation there has been going through a bit of new facility and some expansion. That business is mid-teen EBIT. It has growing up to three-quarters of $1 billion or so. It’s got big potential to grow. It can probably help offset some of our issues as it sort of goes up. That’s a big source of activity there and they’ve done it as Fritz said, they’ve done it really well. We talk to them about all those ventures, we talk to them about what’s going on in each of the 19 or so ventures we have I’d say we’re very connected, probably looking to maximize cash and always talking about the future as well. It’s just hard for us to -- a lot of those…

It’s a joint venture?

It’s a joint venture, right, and we’ve got to jointly agree on whatever we do.

Okay. Thanks a lot.

Thanks, Joe.

Thanks, Joe.

I think, just wrapping it up. Again, thanks very much for joining the call with us this morning for both the analysts that cover us appreciate very much your support and your questions and the dialogue. And for our investors, thank you very much for being an investor in Adient. It’s been a tough ride, we understand that and we understand our responsibility to fix our problems and get back to the kind of operational performance that you should expect. So thanks very much for the time this morning. That’s all we have. Thanks a lot.

Thank you.

Thank you. And that concludes today’s conference. Thank you all for participating. You may now disconnect.