BorgWarner Inc. (BWA) Q2 2012 Earnings Report, Transcript and Summary

Good morning. My name is Brandy and I will be your conference facilitator. At this time, I would like to welcome everyone to the BorgWarner 2012 Second Quarter Results Earnings Conference Call. [Operator Instructions] I would now like to turn the call over to Ken Lamb, Director, Investor Relations. Mr. Lamb, you may begin your conference.

Thank you, Brandy. Good morning, and thank you all for joining us. We issued our earnings release this morning at approximately 8 a.m. Eastern time. It's posted on our website, borgwarner.com, on our homepage. A replay of today's conference call will be available through August 3. The dial-in number for that replay is (800) 642-1687. You'll need the conference ID, which is 94006819. The replay will also be available on our website. With regards to our IR calendar, we will be attending several conferences over the next few months. August 13, we'll be at the JPMorgan Automotive Conference in New York. September 5, we'll be at the Credit Suisse Automotive Conference also in New York. September 11, we'll be at the RBC Globalists Industrials Conference in Las Vegas. And on September 13, we'll be at the Morgan Stanley Global Auto and Industrials Conference in New York. Before we begin, I need to inform you that during this call, we may make forward-looking statements, which involve risks and uncertainties as detailed on our 10-K. Our actual results may differ significantly from the matters discussed today. Now moving on to our results. Tim Manganello, Chairman and CEO, will comment on the second quarter and current industry trends. And then Ron Hundzinski, our CFO, will discuss the details of our operating results and also our outlook for the remainder of 2012. Also on the call, we'll have James Verrier, President and Chief Operating Officer; and Robin Adams, Vice Chairman and Chief Administrative Officer. With that, I'll turn it over to Tim.

Thank you, Ken, and good day, everyone. Today, I'm very pleased to review our strong second quarter results, as well as our second quarter accomplishments. First, our second quarter results. Reported sales were $1.9 billion, up 2% from the same period last year. However, foreign currencies were working against us during the quarter. On a comparable basis, excluding currency, BorgWarner sales were up nearly 10% versus about 2% for the global market if you exclude total Japanese vehicle production. U.S. GAAP earnings were $1 per share. Excluding noncomparable items, our earnings were $1.36 per share, a new record for the company. Our reported operating income margin was 10.4%. Excluding the impact of noncomparable items, our operating income margin was 12.5%, also a new record. This is an outstanding margin performance in a very challenging market. Two key factors drove our results. Increased global demand for our products and efficient execution by our operating units. And on the Engine Group, second quarter sales were about $1.3 billion, down 2% from a year ago. However, sales were up 7%, excluding currency and 2011 divestitures. The Engine Group continues to perform very well and results were led by strong sales growth in the engine timing systems, including variable cam timing; greater sales of emissions products; and higher turbochargers sales in Asia and North America. In the quarter, the Engine Group margin was 16.6%, another all-time record. Now the Drivetrain Group also had strong second quarter results. Sales were about $590 million, up 13% from the second quarter 2011. Excluding currency, sales were up 20%. Drivetrain results were driven by increased sales of DCT modules in Europe; growth in our traditional automatic transmission components in North America and Korea; and higher sales of all-wheel-drive systems around the world. In the quarter, the Drivetrain Group margin was 9.2%, up from a year ago. And Drivetrain Group is still on target to achieve a 9% or better operating margin we expect for the full year. Now BorgWarner also continues to reinvest in our business. Our near-term capital spending plan includes increased capacity for dual-clutch transmission modules in Europe, engine timing systems in Asia, transfer cases in North America and turbochargers all over the world. Now for the quarter, we spent about 5% of sales on CapEx and continued to invest in technology, which is a lifeblood of our company. We spent about 3.6% of sales in R&D for the quarter. Now I'm also proud to review some exciting accomplishments and announcements that we made during the quarter. BorgWarner's silent chain and compact hydraulic tensioner helped improve fuel economy for Daihatsu's 660cc I3 engine. In fact, Daihatsu presented us with a Supplier's Excellence Award for our contributions towards their engine's outstanding fuel economy. The engine launched on the Mira e:S and will drive several other minicars for the Japanese market. BorgWarner is also supplying turbochargers for BYD's new 1.5-liter GDI engine. This is the first GDI engine ever developed in-house by a domestic Chinese OEM. The engine launched in the top selling G6 sedan and will be available for other models. The engine is also Euro 5 compliant. BorgWarner's friction plates enabled ZF's new full hybrid 8-speed automatic transmission to shift smoothly between the electric motor and the engine. The transmission launched in the 2012 Audi Q5 Hybrid Quattro. It will also be featured in other vehicles soon. And BorgWarner recently announced the sale of its spark plug business, part of the BERU acquisition in 2005. Sales were approximately $80 million in 2011 and this will allow us to continue our focus on expanding BERU's core product lines, including glow plugs, diesel cold start systems and other gasoline ignition systems, including EcoFlash. Now on a personal note, I would like to congratulate the winners of this year's BorgWarner innovation awards. We honored over 90 employees for their outstanding contributions and operational excellence, collaboration, customer excellence and product development. Their passion and entrepreneurial spirit addressed real-world challenges and helped BorgWarner maintain its reputation as the technology leader for fuel economy, emissions and performance. So now let's take a look at our current outlook for 2012 light vehicle production. In North America, we now expect 14% year-over-year growth compared with our previous outlook of 11%. Strong monthly sales, better credit conditions and strong fleet demand have improved our outlook. Japanese OEMs continue to replenish their inventory and this is also driving a significant portion of this year's growth in North America. Our outlook for Europe is less optimistic. We are forecasting a 6% decline in annual production volumes and this appears to be in line with our previous guidance, or forecast, but our new outlook continues more -- includes more positive results in the first half that are offset by lower projections for the rest of the year. We expect more production cuts by French OEMs and weaker sales in France, Italy, Spain, for small cars. We also forecast slight production cuts in large- and medium-sized or mid-sized passenger cars. We have less conviction about this market segment than we did in January when we made our original guidance. In China, we now project 6% annual production growth, down slightly from 7% previously. Now looking at the rest of the year, our projection for global light vehicle production for the second half of 2012 light vehicle production as compared with the second half of 2011 production is relatively flat. Now given this, BorgWarner still expects to outperform the market by 8% to 10% on a comparable basis. Our 2012 outlook for the commercial truck market has also weakened. In all 4 markets where we compete -- Europe, North America, Brazil and China -- projected volumes have decreased. We still expect low double-digit growth in North America in 2012, but the other 3 markets are expected to contract. So finally, let's review our updated sales and earnings guidance. Our sales growth in 2012 is now expected to be 4% to 6% compared with our previous guidance of 10% to 12%. Excluding currency, our sales growth is now expected to be 9% to 11% compared with our previous guidance of 14% to 16%. The change in our sales guidance is primarily due to weakening global economy conditions and weaker foreign currencies. Despite weakening market conditions, we expect our sales growth to outperform the market for this year, and Ron will cover that shortly. Our 2012 earnings guidance, excluding noncomparable items, is now $5.05 to $5.25 per share, down from the $5.35 to $5.65 per share previously. The change is primarily due to our expectation of lower sales, weaker foreign currencies and higher effective tax rates. Again, Ron will discuss these items later. Our operating margin is still expected to be better than the 11.5% for the year. The 12.1% operating margin that we posted in the first half of this year, excluding noncomparable items, provides great momentum towards achieving this target and is a great start for the year. Now in conclusion, we have lowered our expectation for the remainder of the year but feel confident about our current guidance. We still expect to grow sales and profits in every major region of the world. And as I said earlier, we expect to outperform the market by 8% to 10% on a comparable basis. The new guidance still represents a record year for BorgWarner with an EPS increase of 13% to 18% over 2011. This is in spite of currency, volume and tax rate headwinds. So like I said many times, no company in the auto sector is better positioned to absorb short-term market fluctuations and to deliver long-term profitable growth than BorgWarner. I'm very proud and feel very good about our company's future and so should our shareholders. And now I'll turn the meeting over to Ron.

Good day, everyone. Before I begin reviewing the financials, I would like to put BorgWarner's performance into perspective within the larger auto industry. In the auto industry, global light vehicle production was up 10% in the second quarter compared with the same quarter last year. However, a substantial portion of that growth was related to Japanese vehicle manufacturers and their Q2 2011 tsunami-related production interruptions. So excluding the Japanese impact, global production was up less than 2% in the quarter. BorgWarner sales were up 2% from a year ago on a reported basis. As Tim explained earlier, if we exclude the impact of foreign currencies and M&A activity in 2011, our reported sales were up 10% in the quarter. Therefore, on a Japanese -- what I'm calling a Japanese tsunami adjusted comparable basis, the company outperformed the market by our typical 8% to 10% points in the second quarter. The favorable impact of the Japanese tsunami production recovery can be seen in our equity and affiliates earnings line, which was up 55% over 2011. Working down to income statement, gross profit as a percentage of sales was 20.6% for the quarter. That's up from 19.6% a year ago despite about $9 million in higher raw material prices. SG&A expenses were 8.2% of sales in the quarter versus 8.7% of sales in the second quarter last year. As a percentage of sales, R&D was 3.6%, in line with a year ago. Reported operating income in the quarter was $193 million, however, this includes a $38 million charge related to the disposal activities associated with the sale of our spark plug business. This charge shows up in other income expense line item of the income statement. Note that we anticipate future restructuring charges related to the sale of our spark plug business in the third quarter when the pending sale was closed. Excluding the $38 million charge, operating income was $230 million, or 12.5% of sales, compared with $199 million or 11% of sales on a comparable basis a year ago. This is 150 basis point improvement, which reflects outstanding cost controls. After excluding the impact of foreign currency and noncomparable items in both this quarter and the second quarter 2011, our incremental margin was about 26% in the quarter. As you look further down the income statement, equity and affiliate earnings was up $13 million, up over 50% from $8 million last year. This is where you see the Japanese effect for us on the favorable side. This represents a performance of, like I said, NSK-Warner 50-50 joint venture in Japan, which sells transmission components to our Japanese customers in Japan and China, as well as TEL, our turbocharger joint venture in India. The 50% year-over-year increase reflects our participation in the Japanese market growth, which due to accounting rules, do not allow us to show it in the top line sales numbers. Interest expense and finance charges were $13 million in the quarter, down $21 million a year ago. This was primarily due to the maturity of our convertible debt settled in treasury shares in mid-April. Note that this reduction in convertible related interest expense will not impact earnings per share since it has been excluded from our earnings per share calculations since the first quarter of 2010. We have been calculating EPS on an if-converted basis since then. Provision for income taxes was $69 million in the quarter. That equates to an effective tax rate of 35% on a GAAP basis. The provision includes 2 non-reoccurring items. The tax impact of the spark plug business transaction and an adjustment to our tax accounts reflecting new assumptions for the repatriation of earnings generated in certain foreign countries. Earnings generated in those certain foreign countries will no longer be permanently reinvested in those countries but instead will be available for repatriation back to the United States. This gives us future flexibility but it does come at a cost. Future profits generated in those jurisdictions will be taxed at the higher U.S. rate. This will affect our tax rate going forward. And as a result, our estimate for our full year effective tax rate, excluding noncomparable items, is now 27%. Also, an adjustment is required to true up the tax rate applied to those earnings previously generated in those jurisdictions to the higher U.S. tax rate, sort of a catch up. This noncomparable item shows up in the income tax line item of our income statement in the quarter. Net earnings attributable to noncontrolling interest was $5.6 million in the quarter, up slightly from $5.3 million a year ago. This line reflects our minority partners share in earnings performance of our Korean and Chinese consolidated joint ventures. The year-over-year increase reflects the growth in those businesses. This brings us back to net earnings which was $121 million in the quarter, or $1 per share, on a reported basis. On a comparable basis, net earnings were $164 million in the quarter, or $1.36 per share, up from $1.12 per share a year ago. That's a 21% earnings growth on 10% sales growth, excellent performance for the company for the quarter. Now let's look closer at our operating groups. Engine Group sales were $1.3 billion in the quarter. Excluding currency and 2011 dispositions, Engine Group sales were up 7% compared with the second quarter of 2011. We are seeing good growth in engine timing, including VCT, emission systems and turbochargers. However, the slowdown in light vehicle production in Southern Europe and in the commercial vehicle markets in Europe and China has had an impact. Adjusted EBIT for the Engine Group was $211 million in the quarter or 16.6% of sales, that's a significant improvement from the 15.2% adjusted EBIT margin reported a year ago and a new record for the Engine Group. The year-over-year incremental margin was 31%, excluding currency in 2011 dispositions, a very strong operational performance by the Engine Group. In the Drivetrain Group, sales were $594 million in the quarter. Excluding currency, Drivetrain Group sales were up 20% compared with the second quarter of 2011. Strong all-wheel drive system sales around the world, growth in traditional transmission component, sales in North America and Korea and higher dual-clutch transmission modules sales in Europe are key growth drivers. On a reported basis, adjusted EBIT was $55 million or 9.2% of sales, significantly higher than the 7.4% reported in the second quarter of 2011. As Tim said earlier, the first half performance provides a solid foundation for the Drivetrain Group to achieve EBIT margins of 9% or better this year. The year-over-year incremental margin for the Drivetrain Group was 18%, excluding currency -- excellent all-around performance for the Drivetrain Group. If you look at the balance sheet and cash flow, we generated about $310 million of net cash from operating activities in the first half of 2012, that's up $60 million from the first half of 2011. Capital spending was $188 million in the first half of 2012, up $28 million for the same period a year ago. This year-over-year increase is required to support our program launches around the world, particularly in Asia, South America, Eastern Europe, Mexico. Free cash flow, which we define as net cash from operating activities less capital spending, including tooling, was $122 million. Looking at the balance sheet itself, balance sheet debt increased by $176 million compared with the end of 2011. Cash increased by $122 million during the same period. This $298 million decrease in net debt was primarily due to the maturity of our convertible debt, partially offset by our typical seasonal investment in working capital and the first quarter share repurchases we did this year. During the first half of 2012, we purchased approximately 2.9 million shares. That left us with a net debt-to-capital ratio of 18.6% at the end of the second quarter compared with 28.3% at the end of 2011. Net debt to EBITDA at the end of the second quarter 2012 on a trailing 12-month basis was 0.6x. Our capital structure remains in excellent shape. Now I would like to discuss our guidance for 2012. As Tim mentioned earlier, our sales growth and earnings guidance has changed. We now expect sales growth between 4% to 6% compared with our previous guidance of 10% to 12%. Excluding currency, our sales growth is now expected to be 9% to 11% compared with our previous guidance of 14% to 16%. On a reported basis, that's a 6% decline in growth expectations. 1% is due to weaker currencies, the remaining 5% is due to weaker global economic conditions, primarily in Europe. However, we still expect our sales growth to outpace the market. We expect global production to be virtually flat in the second half of the year compared to second half of 2011, just like Tim mentioned earlier. During the same period, we expect our sales growth to be in our typical range of 8% to 10%, excluding currency and 2011 and '12 dispositions. We now expect our earnings to be within a range of $5.05 to $5.25 per diluted share compared with our previous guidance of $5.35 to $5.65 per diluted share. That's a $0.35 per share decline midpoint to midpoint. Of the $0.35 per share decline, $0.06 of the share decline is due to weaker foreign currencies, $0.08 is due to higher estimated effective tax rate, which is now at 27%; both of those are partially offset by favorable impact of share repurchases in the quarter and the remaining decline is due primarily to lower sales volumes driven by weakening economic conditions. Our updated guidance implies continued strong performance on the cost side and implies a decremental margin of approximately 20% on the lower sales. From a margin perspective, we still expect to achieve an operating margin of better than 11.5% for the full year. Our first half operating margin was 12.1%. It's a great start toward meeting that goal. However, we still need to get through the third quarter, which traditionally is a lower margin quarter due to customer summer shutdowns and model year changeovers. Year-over-year, incremental margin should be around 20%. We still believe that the impact of higher raw material costs will be in the $25 million to $30 million range in 2012. And as we said on our last earnings call, we will absorb and manage our inflationary costs, including raw materials. We will not permit them to have material impact to earnings expectations for the year. To summarize, our sales will outperform the global market Japanese tsunami-adjusted once again by 8 to 10 percentage points, which is our target. Our second quarter operating margins and earnings per share were all-time records for the company on a run-rate basis. The Engine Group margin was also a new record. The Drivetrain Group continues its strong sales growth and margin performance. The first half of 2012 was a very good start to the year. Weakening market conditions have resulted in a lower outlook for our sales growth and earnings growth for 2012, however, our overall growth story continues as we expect to outperform the global market for the rest of the year by our traditional 8 to 10 percentage points above the market top line growth rate. 2012 should be another year of solid growth, record margins and record profits for BorgWarner. And as we observe the trends in the market, we see more industry-leading growth and more record profits beyond 2012. Our confidence is based on a proven business strategy. Fuel costs continued to trend higher and the regulatory environment continues to become more stringent and yet drivers continue to demand better performance. BorgWarner's focus on advanced technologies to improve fuel economy, reduce emissions and enhance performance is right on target. We expect strong demand for our products to continue for years to come. Our technology leadership, strong global presence, financial discipline and focus on attracting and maintaining a talented workforce have been the keys to BorgWarner's long-term success. With that, I would like to turn the call back over to Ken.

Thanks, Ron. Now let's move to the Q&A portion of the call. Ron and James Verrier will be taking your questions. I would ask the call coordinator to please announce the Q&A procedures.

[Operator Instructions] Your first question comes from Rich Kwas with Wells Fargo Securities.

Ron, digging into the guidance a little bit. I thought the FX -- negative FX impact would have been a little greater. So just curious, what do you assume for the euro for the back half of the year?

The full-year guidance now is $1.27. If you like to look at year-to-date, it was about $1.30 slightly under. That was our guidance. Our guidance was $1.30, which is where we -- -- we're pretty much year-to-date. So the back half, obviously, is where the deterioration is coming and I'm taking an average on the back half that comes down to like a $1.22, $1.24 range. I think the spot rate was maybe $1.21 yesterday.

Okay. So there's some seepage if we stay at $1.20 or so here.

Yes, that's correct. There would be, yes.

Okay. And then, Tim, on the commercial vehicle guidance, North America still low double-digit growth. I think we had pretty good growth in the first half. So what does that imply for the second half because there's seems to be some potentially some backlogs coming down here and there could be some production cuts. What are you factoring in for second half for North America commercial?

Rich, this is Tim. I'm going to let James answer that, okay?

What we're seeing in the second half is just a little slower than the first half growth on commercial truck in North America, Rich.

Okay. So no big step down in commercial vehicle production first half to second half?

No, no.

There was some slighter -- some slightly-less positive growth.

Yes, you're right, Rich. It's just a little bit lighter. Nothing dramatic or nothing significant. But just [indiscernible].

Okay, okay. And then, Tim or James, could you just comment on quoting activity? You've had a couple of pretty good quarters in a row in Q4 and Q1. How did quoting activity play out this quarter?

Yes. The second quarter, Rich, was another strong quarter of quoting activity for us. I actually looked at -- if you look at the first and second half, so -- the first half of the year, I'm sorry, is a record for us. Very, very strong quoting activity. And I would say the good news is it's in all regions of the world and it's across all of our product segments. So we feel very proud. But it's a very, very strong first and second quarter for us.

Your next question comes from Ravi Shanker with Morgan Stanley.

Ron, another question on the guidance. It looks like about $0.25 of your guidance cut is actually coming from lower volumes or just a weaker macro. But I think you said that you're still looking for Europe down 6%, which is where you were before and you still have North America commercial vehicle up low double-digits. So what exactly is driving that, is it all European light vehicle?

The majority of it is European light vehicle, correct. If you take a look at Europe, IHS came in after the first quarter was finished and actually upped the production volume. So if we kept 6% for the full year, that meant that, that reduction in the second half of the year had to come down further and that's what basically we're looking at, is a lower outlook in Europe in the second half from what we saw previously.

Just maybe try to comment, Ravi, this is James. The second -- if you look at the second half for the year for European light vehicle production versus our prior forecast, it's about a 4% reduction versus our prior outlook.

Got it. Can you give as for the full year what you're expecting for your European light vehicle business, I think you've given that number before.

Year-over-year production?

Your European light vehicle business revenue.

Down 6% -- market.

Okay. And for you guys?

For us in Europe, we're actually up, Ravi, for the full year and that's in the first half and the second half.

Okay. So you're still going to be up for the full year?

Yes. For the full year, in Europe, we're up. If you exclude currency, we're up about 5% in Europe on light vehicle production.

Got it. Yes, that's what I was looking for.

Ravi, just one other comment maybe help a little bit. I give the change in the second half of the year from what we saw earlier in the year. In absolute numbers, the second half is down about 7% in Europe in light vehicle production and we -- we're outperforming that significantly.

Got it. Just moving to Q2 itself. The Drivetrain margin was down sequentially when, I think, typically your Drivetrain margin goes up 2Q versus 1Q. Anything going on there or is it just a reflection of what's going on in the macro?

No. Ravi, I would maybe describe it this way. When we look at the first half of the year for our Drivetrain performance, now that's an operating margin around 9.5%, which we feel very, very good about when you look at it versus where we were last year. And it's absolutely, I think, in line with where we've guided, where we are going to be coming out. You get a little bit of a noise just quarter-to-quarter but that's just more operational stuff going on. It's nothing significant just natural quarter-to-quarter, small percentage variations.

Got it. And finally, a couple of housekeeping items. Ron, I think, given the incentive comp delta versus last year in 2Q, also do you have updated guidance for free cash flow for the year?

No. We have not changed free cash flow guidance for the year. They will remain the same. CapEx will remain the same as well.

Okay. So you have EPS coming down, but you have FCF unchanged?

Correct.

Okay. And incentive comp for the quarter?

We froze the plans in the first quarter. So we don't have those large variations that we've seen in the past. So from a sequential basis going forward, you won't see large changes. However, I will state that the first quarter, we did record an amount in order to freeze the plan, the cash portion of that plan, which is on a sequential basis, there is a difference but going forward, it's going to be relatively the same.

Your next question comes from Matt Stover with Guggenheim Securities.

Two questions. Number one is I want to make sure I had the numbers right. In the revised guidance, the FX portion on the sales was 1% and on the EPS line, it was $0.06.

It was. Yes, that's correct.

That seems like an awfully large passthrough on the FX. Is there something unusual going on?

No. That's in line, 1%. It's $80 million, $90 million or so, I think, it was on the value. Remember that's only for the back half of the year. Our guidance was $1.30. It's an average rate we use.

Okay. Because I was looking -- the back half of the year last year, 1% delta is about $35 million and $0.06 is about $10 million pretax.

We're 1% for the full year.

Oh, 1% for the full year, okay. The second thing is in Europe, as you consider the revision of the guidance and sort of the macro uncertainty, your customers have been -- the earnings calls thus far expressed a greater degree of uncertainty as it relates to Europe, which would imply to me that the predictability of their schedules in the second half would be going down. And as you thought about the production assumptions underlying the second half, are you making any special adjustments with respect to customer that is either more or less optimistic than what you're seeing in the market right now? Because it would just seem that to take the guidance of production down below the 6% in the current environment might be more prudent.

No. I think we feel pretty good about the numbers we've given out there in terms of outlook. I agree with you there's natural continued uncertainty in that region of the world and there is certainly instability. But we feel pretty solid about the projections that we're making and as we said earlier, they're down 7% versus our prior guidance, so we feel we're very close to our customers in understanding their schedules. Obviously, we look at a lot of macroeconomic indicators as well and compare them with IHS-type data. So we feel pretty, pretty good about where we're guiding to. I would make one other comment, though. As we demonstrated year-to-date and also in prior years, if those numbers do fluctuate a little bit, we've done historically a very, very good job of adjusting costs in line with those reductions and we continue to feel good about our ability to flex our workforce and our cost structure. So may move another percent or so possibly, but we're ready for that if that comes along.

Your next question comes from David Leiker with Robert W. Baird & Co. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: I guess, to start off here. In past years, you've had a lot of upside opportunity from your backlog being pulled ahead, some of it showing up sooner than what you expected. What are you seeing in terms of that dynamic this year? Is it being pulled ahead, is it as you expected, is some of it getting pushed out?

I would say, David -- this is James. Slightly a little bit of a pushout as opposed to pulling in. I wouldn't say it's anything that significant but we're seeing just some small pushout would be the general view overall. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: Okay. And how much of -- I don't recall this number, but in Europe, how much commercial vehicle, how much of your European revenue is commercial vehicle?

About 5%. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: 5%. And how's that -- is there any way you can characterize in your backlog how much of that might have been driven by commercial vehicle, Euro 6 emission standards? Was that a big opportunity -- is that a big opportunity for you in the backlog?

Dave, I don't know if we could give you the answer right now. I'm sure it's an opportunity for us. We'd have to probably get back with you, or Ken would, on that, more details. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: Okay. And then in Brazil, I know you have a little bit of exposure there. We haven't really talked about that at all. Is that meaningful enough to move the needle one way or the other?

No, our European piece is not a significant piece for us. It is pretty much exclusively commercial vehicle business, David. But it's not a significant piece of our business. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: Okay. And lastly on China. Where are you in terms of building out your asset base there to launch the backlog of the business that you have there? I know you have several facilities that you've been putting up, but where are you on that?

Yes. We're continuing, David, to increase investments pretty well across the majority of our product lines in China. Ningbo is our primary campus where we produce a lot of our engine-based products and we've -- through this year, we're expanding both facility and equipment, obviously, in the facility, and we're also expanding in our Drivetrain segment, primarily in Dalian and Beijing. So those plans are continuing on and our performance for the Chinese market continues to be very, very strong, both this year and in future years. So we feel very good about placing that investment in to be ready for that growth that we'll see. David Leiker - Robert W. Baird & Co. Incorporated, Research Division: I think your China business is almost all automotive, right? I don't think there's any commercial vehicle there. Is that right?

Yes, we have a little bit of commercial vehicle business but you're right, the vast majority is certainly light vehicle.

Your next question comes from the line of Itay Michaeli with Citi.

Just wanted to go back to the guidance. I was hoping we could walk through the change in the ex currency sales growth of 14% to 16% to now 9% to 11%. Because production forecast didn't come down all that much. So you mentioned maybe the push out on backlog. It would be great if you could quantify that. And also are you seeing anything in terms of price downs or commercial settlement agreements changing around? Trying to get a bit more color on that walk.

We did not change the guidance in Europe on total year-over-year sale of volumes being down 6%. But I think we said earlier, what we did see is a shift from the first half to the second half that deteriorated in the second half from what we saw prior once IHS updated the first quarter production numbers. So basically, sequentially, we see a decrease in the second half of 7% sequentially going forward. And that's where most of the deterioration is coming from is basically a rebalancing of the year.

Any change at all in the pricing activity with customers, commercial settlement agreements?

We're always a target for pricing. That activity continues day in and day out. I wouldn't say anything changed. Those pressures are always there.

Yes.

Great. And just on the second half on margins, you guys had a terrific margin in the second quarter and really the first half. It looks like revenue, I guess, sequentially is sort of flattish in the second half for the year. So what brings that margin down? Is it just sort of the typical seasonality and the shutdowns or if you can you help us out in terms of the walk, H2 versus H1 on the operating margins?

I think you're right. The third quarter is an extremely low margin quarter historically because of the sequential reduction from the second quarter in sales. Then it rebounds in the fourth quarter. But I think the second -- the third quarter is what tends to drag that margin down is the third quarter.

Great. Just lastly, any initial thoughts for the tax rate next year? Is that 27% still a good placeholder for now or does it go up by...

We'll update guidance going into next year. At this point, it's 27% sort of run out this year. We'll evaluate that for next year.

Your next question comes from the line of John Murphy with Bank of America Merrill Lynch.

Just a first question and a follow-up on Europe. I mean, obviously, there's a lot of variability there. I'm just curious if we look at the back half of this year and potentially next year. If things are much worse than expected, which is a possibility, could you remind us the levers that you have to pull to respond to that potential weakness?

Yes. John, I would -- yes, we have a number of levers and I would say that primarily, we've got a lot more flexibility in our workforce. That's really one of the key things that we have in place. Historically, we've carried a percentage of temporary employees in the single-digit percentage range. We made some conscious choices over the last couple of years to increase that to the 20%-ish type of a number. And that's really a major, major advantage that we have and we'll absolutely use those levers to manage appropriately as volumes come up or down. So we feel very good about having that in place.

Okay. And then the second question, just a follow-up on backlog. I mean, it does sound like there's some pushing and pulling and tugging there. But you haven't seen any changes or cancellations in programs or anything like that and it sounds like the bidding activity is going pretty strong. So is it fair to characterize the quoting activity and capital allocation in the industry towards your products has really not changed in response to this macroenvironment whatsoever?

I would absolutely say yes. There's no fundamental change. I think it's natural you'll get some small pushes or small adjustments whether that be a launch may move out a quarter or some of the new business could be adjusted very slightly. But fundamentally, the growth story is intact, the need for our products is as strong as it's ever been. And as Ron outlined earlier, John, when you look at our second half of the year, that out-performance continues on versus the marketplace. And specifically, we're not seeing any cancellation of programs or projects, not at all, not for our product.

John, this is Ron. I would just add that our capital spending program is still on track and that's another indicator, I think, that you can look at.

Okay. And that brings me to my last question here, Ron, for you. As we look at the balance sheet strength, obviously, you're in a great position. Just trying to understand capital allocation, and where you're going to put your excess capital. Because it seems like you have that high-class issue of having a lot of extra cash in capital and also sort of in conjunction with that, why repatriate earnings if you're going to pay higher taxes on that? I'm just trying to understand why you think you need that money flow back to the U.S. and why not reinvest it internationally?

Well, first of all, I don't -- on a cash basis, I'm going to make sure this is clear. I don't pay the tax in cash until I repatriate it. So I just want to be clear there. But I'm setting myself up more for flexibility and in the countries or the units that we identified, the need for keeping that cash there for investments are no longer really required. So it's not very efficient just to keep the cash there if it's not really needed. So I'm setting myself flexibility. I'm going to really allocate that cash into the areas of the world that's more use for that cash. So it's a more of identifying those units not being able to consume that cash, John.

Okay. And the balance sheet strength. I mean, is there a share buyback on the horizon, God forbid a dividend if we get some relief on taxes? And obviously, I'm sure policy is a real hurdle there. I'm just trying to understand in return of cash to shareholders.

Well, we've talked about this in the past. M&A activity takes #1 priority and we have a lot of projects we're working on. That's #1. From that point on, I did do some buyback as you saw in the second quarter, as I just announced. That was more -- just an opportunity at that point from what I saw the share price at and what we think intrinsic value is ourselves. And then we review dividends annually with the board. And I think dividends is a bigger discussion around tax strategies for the company and personal income taxes. And I'm hoping that the U.S. government make some tax changes coming here next spring, or hopefully next year, that gives them some opportunities in that area.

But the dividend is very much tax-dependent, tax policy dependent, right?

I wouldn't say it's dependent. That's one element that we look into, that we consider for it.

Your next question comes from Rod Lache with Deutsche Bank.

You're going to think I'm kind of sick here for asking the same question again, but I just would appreciate if I just can get a little bit of help here understanding it. Your full year top line guidance organically went from 14% to 16%, down to 9% to 11%. You did say, okay, there is a shift in Europe from the first half to the second half. But your full year, again, your full year numbers are still down 6%. So that doesn't affect your guidance. You did talk a little bit about commercial vehicle in China being revised slightly. But that is again not -- doesn't seem like that's sufficient to drive that down. What am I missing in terms of that full year downward revision? You cited the French and Italian automakers. I'm not sure, I think, that they were only like 6% or 7% of your overall European sales. Is there something happening with respect to mix?

I think a couple of things, Rod. This is James. Again, lots of -- maybe keep going through it but the second half of the year in European light vehicle, as I said, is down 7% year-over-year. But I think most critically, when you look at it versus where we are at with our prior guidance, we've reduced the second half of Europe by 4% and that's a very, very meaningful adjustment that we've made. The other part that we talked about earlier was we're guiding down in all commercial vehicle markets with the exception of North America. So we've seen deterioration in China where we participate, Europe where we participate and Brazil. So it's not purely the light vehicle Europe piece, Rod, there is an effect of commercial vehicle, pretty much globally with the exception of North America.

I'll just point out, Rod, that the back half of the year is flat in production and we're still up 8 to 10 percentage points year-over-year. I just want to point that out. So we're still growing.

Rod, this is Tim. This may help you a little bit. We have North America up about a little over 6% for the second half of the year as compared to 2011. We have Europe down 7% as James and Ron said a couple of times. We have China up about 8% for the second half of the year over 2011. But then you get into Japan, we have Japan down 6.5% as compared to the second half of last year globally. And then Korea is flat. So that may help you understand why it's not just Europe, okay? You have a down Korea and you have a down Japan.

Okay. And if we're doing the math right, your margins in the second half of '12 versus the second half of '11, you're talking about maybe 11% to 11.5% in the second half of this year. Last year was 11.6%. Is this basically kind of -- in the past, you've said that you kind of need 8% to 10% organic growth to maintain margins and maybe you're anticipating 7% to 8% organic growth here. Is that essentially the function, just some kind of cost creep that you need to achieve a certain kind of speed of top line growth to mitigate?

Well, there's no question that if we're going sequentially and not having growth, the margins are going to be challenged. That's correct. But you also this third quarter effect as well dragging it down because that's typically a low-margin quarter. But you're right, as sequentially the growth rate is not there, the margin expansion is going to be more stressed.

Yes. I was thinking more year-over-year. So looking at third and fourth last year to third and fourth this year and that seems to be happening. It seems you would agree that that's more a function of just the growth rate as opposed to something happening with respect to mix or pricing changes.

Yes, yes, correct.

Your next question comes from Colin Langan with UBS.

Can you just clarify your comments on corporate expenses? I think you said that stock comp would no longer be -- it was a factor in Q1 so that's why there's this big decline in that line item. And it actually should stay flat through the rest of the year, is that correct, so it should be around $21 million?

What I would do is I would take the first half of the year maybe and take an average there on the corporate expenses running forward. I wouldn't just launch from the second quarter base. But back to your question, stock comp is not going to have the variation that we've seen historically. But I would kind of reset your numbers. I'd take maybe year-to-date average to go forward.

Okay. And not to keep honing on it, but you kind of gave your outlook for the second half of the year and your sales guidance. So what changed from the original guidance? Because you said Europe full year was the same. So is North America now weaker, is Japan now weaker than your original guidance had anticipated?

Yes. I think what I would say again is at a macro level, we see deteriorating economic conditions, particularly in the second half of the year. And as we were talking earlier, Europe is obviously the major driver for us. But it's other regions of the world as we outlined earlier. And also, commercial vehicle is a key driver there and then a little bit of a softening on some of the backlog as we also described earlier.

Okay. And then just last question, there is some news about in Europe some thermal investigations. I know you have some small components there. Any involvement in some of those investigations?

We are not involved at all as BorgWarner.

One final question from Ryan Brinkman with JPMorgan. Ryan Brinkman - JP Morgan Chase & Co, Research Division: Obviously, you just posted a very strong gross margin quarter. Several of your peers, though, have recently been citing greater automaker price-downs as pressuring margins. You were already asked about those pricing pressures today on the call. But perhaps you could update us on what actions you're taking on the cost side that are seemingly offsetting or more than offsetting the impact of these price-downs?

Yes. First, kind of, comment is from a price pressure point of view, that, for us, is always there. It's no different now to prior years and that's just part of our business. So we have not seen a fundamental shift in pricing pressure. It's always tough and it always will be. And what we do through productivity in our facilities and a lot of good cost control management, we go a long way to offsetting those price-downs. And I think that's what you've seen in prior years and prior quarters and it's what you've seen in this year. But that's a more, let me say, shorter-term tactical answer. I think on a more strategic or higher level perspective, which I think is absolutely critical, is our continued advanced technology and better technology enables us to have a stronger position in the marketplace as we go forward and offers us a competitive advantage, which continues to fuel our growth well above the market rates as we see. And that enables us to have a good position with our customer base. So it's a combination. To summarize, it's a combination of very, very good cost control and superior advanced technology that we bring to the market.

Okay, great. Last question then. Can you update us a little bit about the current dynamics in the turbochargers space? I believe there are some relatively newer competitors that are trying to gain market share. I'm just curious how you feel your book of business is holding up in the face of that.

Our book, our business, our turbocharger business continues to be extremely strong and it's a big part of our growth. It's a big part of our backlog. We've said before we're roughly about 1/3 of the market and we expect that to continue on. We do see, obviously, activity from the new entrants, which has been planned for a number of years. But we absolutely believe we have great technology and we absolutely have confidence that the turbocharger business will continue to grow and we don't anticipate any market share erosion in that segment and it will continue to be a huge part of our backlog.

I'd like to thank you all again for joining us. We expect to file our 10-Q before the end of the day, which will provide details on our results. If you have any follow-up questions about our earnings release, the matters discussed during this call or the Q, please direct them to me. Brandy, please close out the call.

That does conclude the BorgWarner 2012 Second Quarter Results Earnings Conference Call. Thank you for joining. You may now disconnect.