BorgWarner Inc. (BWA) Q4 2018 Earnings Report, Transcript and Summary

Good morning. My name is Sharon and I will be your conference facilitator. At this time, I would like to welcome everyone to the BorgWarner 2018 Fourth Quarter and Full-Year Results Conference Call. [Operator Instructions] I would now like to turn the call over to Patrick Nolan, Vice President of Investor Relations. Mr. Nolan, you may begin your conference.

Thank you, Sharon. Good morning, everyone and thank you for joining us. We issued our earnings and backlog releases at 6:30 AM Eastern Time. We posted on our website for borgwarner.com, on our homepage and on our Investor Relations homepage. A replay of today's call will be available through March 1st. The dial-in number is 855-859-2056 and the conference id is 6778077, where you can simply listen to the replay on our website. With regard to our Investor Relations calendar, we will be attending multiple conferences between now and our next earnings release. Please see the Events section of our IR page for a full list. 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 in our 10-K/A. Our actual results may differ significantly from matters discussed today. Also during today's presentation, we will highlight certain non-GAAP measures in order to provide a clear picture of how the core business performed for comparison purposes with prior period. When you hear us say on a comparable basis, that means excluding the impact of FX, net M&A and other non-comparable item. When you hear us say adjusted, that means excluding non-comparable item. When you hear us say on a reported basis, that means U.S. GAAP. We will also refer to our growth compared to our market. When you hear us say market, that means the change in light vehicle production weighted for our geographic exposure. Our outgrowth is defined as our organic revenue change versus our market. Now back to today's call. First Fred Lissalde, our President and CEO will discuss our achievements of 2018. Fred will then comment on the industry outlook. This will be followed by a high level overview of our Q4 results, as well as our 2019 outlook. Fred will conclude our highlights of our three-year net new business backlog. And Tom McGill, our Interim CFO and Treasurer, will discuss the details of our results as well as our guidance. Please note that we have posted an earnings call presentation to the IR page of our website. We encourage you to follow along with these slides during our discussion. With that, I'm happy to turn it over to Fred. Frédéric Lissalde: Thanks Pat, and good morning everyone. Today we're pleased to share our results for 2018, our initial guidance for 2019 and our three years backlog. I'd like to start by sharing a few thoughts on 2018 on slide 6. 2018 was the year of strong execution for BorgWarner. Despite the industry volatility, we delivered more than 600 basis points of our growth. This is an amazing performance. We had significant launches and wins across combustion, hybrid and electric vehicles. Specifically, wins in hybrid and electric included multiple P2 programs, including three complete module awards, multiple high-voltage coolant heater awards for battery electric vehicles and continued electric motor and electric drive module bookings. At our Investor Day, we shared a 2023 revenue outlook of $14 billion before any M&A and a free cash flow outlook of $1 billion. As you will see later, our backlog supports the necessary outgrowth to reach these goals. We continue to approach our customers as a balanced propulsion partner. Looking at the win flows, we expect to be overweight in hybrid and electric by 2023. Turning to the industry on slide 7, and starting with Q4, the global light vehicle production came down about 3% versus our expectation of about 1% decline going into the quarter. So this was a 200 basis point headwind versus our expectation. However, I'm very proud to say that our outgrowth in Q4 was slightly stronger than what we expected, which allowed us to achieve our growth guidance. The biggest impact to industry volume expectation were, once again, Europe and China. European light vehicle production was down 6% year-over-year as our customers continued to work through WLTP certification. China light vehicle production was down 15% year-over-year and nearly 20% in December. Now for 2019, we expect that the challenging conditions in China and Europe will continue into 2019. In Europe, we still expect first half industrial volume to decline as customers work through the final WLTP impacts. In China, we expect double-digit industry declines in Q1 as customers reduce inventory. As a result, this is also impacting the launch of some of our backlog. As we look to the full year, we expect a market decline in the minus 2% to minus 5% range. At the midpoint of our guide, we're factoring in China down 10%, Europe down 3% and North America down 2%. But the key is that we expect to continue to outgrow the market in 2019 based on continued strong demand for our product. Let me now move to Slide 8. First, a brief summary of the Q4 results. Overall, we're very pleased with the way the teams reacted to the weaker industry backdrop. With $2.6 billion in sales, we are up 2% organically. This compares to our market being down approximately 3%. So our outgrowth was very strong in the quarter at approximately 500 basis points. Looking at our regional light vehicle growth, our North America revenue grew high-single digits. We saw a low-single digit revenue decline in China or more than 10% better than the industrial decline. Europe, revenue declined low-single digits. This light vehicle growth was supplemented by positive revenue trends in commercial vehicle and off-road. We reached our goal of a double-digit incremental margin despite the industry volume volatility. Our earnings per share is at $1.21 and was above our guidance range due to a year and tax true-up. Now for the full-year 2019, we expect revenue to be down 2.5% to up 2% organically. This represents an outgrowth of 250 basis points to 400 basis points over our expected market decline. Excluding the first quarter, which is being impacted by launch timing and customer inventory adjustments, our outgrowth is expected to be 400 basis points to 550 basis points above market. We expect our earnings per share to be at $4.00 to $4.35 with a wider than typical range reflecting the end market uncertainty. While we continue to deliver strong outgrowth in 2019, we will also look at ways to adjust our cost structure to adapt to the current environment without compromising our longer-term aspirations. Now let's look at this exciting longer-term view for BorgWarner with a snapshot of our outdated backlog. Starting on slide 10, from a product perspective, we see growth across the portfolio, 20% of our backlog will be related to vehicles with combustion propulsion systems, 70% of our backlog will be related to hybrid, and 10% of our backlog will be related to battery electric vehicles. So 80% of our backlog is from the hybrid and electric. This is a great example on how we are executing our proportional growth strategy with overweight hybrid and electric. Turning to Slide 11. From a regional perspective, we see outgrowth in all our major markets; 25% of the backlog is in the Americas, 15% is in Europe as continued diesel declines impact the net new business backlog, 60% of the backlog is in Asia. Within this, China accounts for 50%. China is where the music is being played for hybrids and electrics, and we're doing very, very well there. This is playing an increased factor in our growth. From a customer perspective, our very diverse customer base is increasingly important. This gives us great insight to what's happening across the entire propulsion landscape. Wrapping up on slide 12, our '19 to '21 backlog is expected to be within the range of $2 billion to $2.4 billion. You'll notice that the 2019 backlog is down from last year's disclosure due to [indiscernible] industry volumes and launch timing impact in 2019. However, you notice strong backlog for 2020 and 2021. Importantly, this backlog will support an average outgrowth of 500 basis points to 600 basis points for the next three years, and keep us on track to reach $14 billion of revenue by 2023. These targets are achievable because electrification accelerates the opportunities for BorgWarner. With that, I will hand it over to Tom.

Thank you, Fred. Good morning everyone. Before I review the financial details, I'd like to provide some of the highlights as I see them for the fourth quarter. First, our outgrowth remains strong at 500 basis points. This allowed us to deliver our guidance despite end markets that continue to weaken throughout Q4. Second, incremental margin performance was in line with our expectations due to strong performance in our Drivetrain segment and corporate cost controls. And finally free cash flow generation was better than expected due to lower working capital and capital spending requirements. So let's turn to Slide 14. On a comparable basis, our organic sales were up 2%. This is solid performance compared to our weighted average light vehicle industry production for the quarter, which was down approximately 3% year-over-year. We saw a 3% decline in China against the production market that was down more than 15%. Europe revenue was down 2% compared to the 6% industry production decline in the quarter. North America revenue was up high-single digit versus the 2% production growth in the quarter. Commercial vehicle was a benefit contributing about 50 basis points to our growth. Now let's look at the year-over-year comparison for operating income which can be found on slide 15. Q4 adjusted operating profit was $323 million compared to $327 million in Q4 '17. Our operating margin of 12.6% was flat year-over-year. On a comparable basis, operating income was up $6 million on $52 million of higher sales. That gives us an incremental margin of 11% in the quarter which was in line with our double-digit goal going into the quarter. However, this is below our long-term mid teens target due to the rapid decline in industry volume and tariff-related cost inflation. Earnings per share on a reported basis were $1.10 per diluted share and on an adjusted basis net earnings were a $1.21 per diluted share. So, now let's take a closer look at our operating segments in the quarter, beginning on slide 16 of the deck. Reported Engine segment net sales were $1.54 billion in the quarter. Sales growth for the Engine segment on a comparable basis was 0.4% as growth in North America was offset by lower Europe and China volumes. Adjusted EBIT was $243 million for the Engine segment or 15.7% of sales. On a comparable basis, the Engine segment's adjusted EBIT was down to $16 million and $6 million of higher sales. This weak incremental margin performance was driven by the rapid decline in industry volumes. We are not satisfied by this performance and are exploring additional cost actions within the Engine segment. Now turning to Slide 17; the Drivetrain segment net sales were $1.05 billion in the quarter. Sales growth for the Drivetrain segment on a comparable basis was 4.4%, primarily due to strong DCT growth in China, as well as transmission components in all-wheel drive growth in North America. Growth was partially mitigated by lower volumes on European customers with higher than average drivetrain content. Adjusted EBIT was $131 million for the Drivetrain segment, or 12.5% of sales. On a comparable basis, the Drivetrain segment's adjusted EBIT was up $9 million and $45 million of higher sales for an incremental margin of 20%. The strong performance was driven by the benefit of new programs. Before I move on to our guidance, I would like to discuss our cash performance for Q4. Our annual free cash flow came in at $580 million and that's ahead of about $550 million to $575 million guidance and our expectations going into Q4. There are two factors driving the strong performance. Number one is that the working capital pressures that we expected in Q4 were not as bad as we originally feared. And number two, was due to the push-out of some of our new programs from first half '19 to second half '19, some of our planned Q4 capital spending was delayed into 2019. Now I'd like to discuss our 2019 full-year guidance. So turning to sales growth guidance for the full year on slide 19, our guidance is based on a market assumption of down 2% to 5%. We expect our organic revenue change of negative 2.5% to positive 2% or 250 basis points to 400 basis points of outgrowth. The thermostat divestiture is expected to reduce sales by approximately $98 million in 2019. Currency is expected to be at $280 million headwind. So total revenue is expected to be in the range of $9.9 billion to $10.37 billion. Our operating income walk is on slide 20. Our consolidated operating income margin is expected to be flat to down in 2019. This margin performance is due to the relatively low organic growth combined with costs related to tariffs, supplier bankruptcy costs in Europe and changes to launch timing throughout 2019. To finish up our full-year guidance, please turn to Slide 21. Our EPS guidance range is in the $4.00 per dilute share to $4.35 per diluted share range. Our guidance range is wider than typical. We're targeting a free cash flow of $550 million to $600 million. The midpoint of this guidance implies flat free cash flow year-over-year as higher CapEx spending is expected to be offset by lower working capital usage. The tax rate for 2019 is expected to be approximately 26%. On Slide 23 is our first quarter guidance. First, sales. We expect an organic sales decline of 5.5% to 7.5%, and this is roughly in line with our market forecast as our outgrowth is impacted by the timing of launches in 2019 and customer inventories of programs launched during 2018. Our earnings per share is expected to be in the range of $0.92 per share to $0.96 per share and this guidance is based on a 26% tax rate and incorporates a $130 million FX revenue headwind year-over-year. So in conclusion, let me summarize our Q4 and our outlook. Our overall execution was solid in light of the challenging industry volume. Our organic sales growth was 2.0% or 500 basis points of outgrowth. The Q4 incremental margin of 11% was in line with our expectations driven by strong performance in our Drivetrain segment and corporate cost controls. As we look into 2019, the environment will remain challenging. However, we are continuing to outgrow the industry and we'll take the necessary steps to adjust our costs to the changing industry volume outlook. With that, I'd like to turn the call back over to Pat.

Thank you Tom. Sharon, we're ready to open up for questions.

[Operator Instructions] And your first question comes from Emmanuel Rosner with Deutsche Bank.

First question on - are on the first quarter's - the first quarter factors and can you maybe highlight what your production assumptions are maybe by market or for the first quarter? And then just maybe a little bit more color around how some of these factors impact your backlog. It looks like you're - I mean you are essentially saying you want to really outperform the underlying markets in Q1. So I assume there's minimal amount of backlog. And so how do these new production and dynamics around the various market impact the backlog in Q1? Frédéric Lissalde: So if you all focus on Q1, it's essentially Europe and China. And in China, we think that the run rate in Q1 is not going to be much better than the run rate we saw in December. So it's you know - it's below minus 20%. And in Europe - also we see Europe around minus 5%, minus 6% which also is pretty much the run rate that we saw in Q4 last year. Now when it comes to the backlog, it impacts the backlog where actually - literally there is no backlog in Q1. If you look at the backlog evolution and if you are removing Q1, we're pretty much absolutely in line with what we've announced and marching towards this $2 billion to $2.4 billion. And the outgrowth of the market actually, if you take Q1 out, if you do the math on outgrowth of the market in Q2 to Q4, we are around 400 basis points to 550 basis points, which supports our long-term view of $14 billion by 2023.

No, I really saw that and that's helpful color. I'm just - curious on the ground, how does that actually sort of translate in the first quarter, because obviously the whole beauty of the backlog is, it is growth above market. So the markets are extremely weak in Q1 and that's a - I think it's a fair conservative assumption. I'm just curious what it is that's on the ground in your plans that drives the lack of backlog in the first quarter? Frédéric Lissalde: Well, it's essentially the China volume of new programs that are - that are lower right. And it's because of - of the market being down so much. Also we have and I think we talked about it before, some Europe and North America timing, but the majority of the impact is in China.

And I guess my second question then is, you mentioned maybe three margin drivers for the 2019 guidance. The - obviously, I understand the low organic gross piece of it, but then you also mentioned tariffs, supplier bankruptcies and then changes in the launch timing. Can you maybe give a little more color on each of these - on each of these buckets and any numbers you are able to share? Frédéric Lissalde: So from a - from a full-year basis at the high end of our guide, we have an incremental of single digit. I think it's around 6% and that's essentially linked to the weaker Q1. At the low end of our guide, we have - have a decremental. that is, a little bit on the high side and it's also linked in Q1 from - a volume and conversion standpoint. Supplier bankruptcy is around $5 million, if I had to show a number. And as you know, tariff is also impacting us. And on the announced perspective we're not - we're not slowing down on any R&D announced support and that has an impact of about $10 million.

And the tariffs? Frédéric Lissalde: The tariff impact is about $20 million, mostly in first half.

Your next question comes from Joseph Spak with RBC Capital Markets.

I just wanted to maybe follow along some of that and, Fred, some of your comments because if you look at the implied guidance beyond the first quarter on a total revenue basis, it looks like you're flat year-over-year, but then the outgrowth is like 4%, which I think is the number you said. So I know that's sort of just in the math, so I was wondering if you can provide a little bit more texture to the cadence because it would seem like what you're basically saying is still some issues in the second quarter and then maybe a little bit stronger outgrowth in the back half. Is that fair? Frédéric Lissalde: The outgrowth, if you remove Q1 with inventory adjustment in China, launch timing is actually improving quarter-over-quarter. And the back half of 2019, the outgrowth is close to 500 basis points, which was - which is in line with the outgrowth of last year, and which is in line with the backlog and in line with the $14 billion by 2023. So that's the cadence and that's the sequence of that backlog and outgrowth of the market.

And then on the backlog, I was wondering if you could just give a little bit more - you mentioned the China number and that's where all the action is, and it's actually a big percentage of the backlog. Can you talk a little bit more about the type of business you're running there, who you're running it with? And then also, maybe just if you care to add, like how much of the backlog is turbochargers and maybe even how much of that is turbos for hybrid vehicles? Frédéric Lissalde: All right. So let me give you some color on the backlog. About 15% of the backlog is related to turbos, about 30% of the backlog is related to transmission products including DCT and including hybrid products, 20% of the backlog is all-wheel drive and 15% of the backlog is around rotating electric components and motors. In China, most of our backlog is advanced hybrids battery electric vehicle. But we also grow in some of our combustion products. So I would say it's pretty much across the board, 80% of the backlog being hybrid and electric, and I think this is a great example on how we execute the strategy of being overweight in hybrid and electric by 2023.

And then within China, is it domestic? Is it the global OEs? Any color there? Frédéric Lissalde: So it's about 50/50. We are 50% working with the Chinese, the big ones and we're doing well with them and the other 50% are with the western JVs.

Your next question comes from Noah Kaye with Oppenheimer.

And actually just to follow up on Joe's question, it's really around the methodology and assumptions that you're making to derisk that three-year backlog number. You know I think we have a sense that the number of new energy vehicle car makers there is unsustainable. So what should investors know about your methodology and your conviction level in this three-year backlog number? Frédéric Lissalde: So Noah, we incorporate risk factors and we put in a lot of intelligence in volume adjustments. And we've done that since a few years. There is no change in what we do. We are taking all that in account when we look at the three-year backlog.

And then maybe switching gears, how should we think about priorities for cash at '19? You kept your dividend unchanged. You know in 4Q, could you get more aggressive on share buybacks considering what stock is versus this prior Q? And then do you have any active conversations around the M&A pipeline that might materialize?

Noah, this is Tom. So first of all, with dividends we've said before that we will grow dividends with our free cash flow growth. So we were kept on a level this year. On the stock buyback, we're guiding to share repurchases of about $100 million versus about $150 million in 2018. Our 2019 guidance is similar to how we initiated 2018 as well. However, we're going to continue to buy back shares opportunistically as has been our historical practice when we're producing excess cash. And if there's no near-term M&A possibilities, we will consider buying back additional shares. So, with that - and then we - again, we do continue to look at M&A with a focus on technology. Frédéric Lissalde: And I could give you some color on this. Technology is really what's driving our approach, and technology is what drives our focus and our decisions. So we continue to be opportunistic and very, very disciplined the way we look at M&A. And you know it's always been the focus, will always be a focus, always very technology-driven.

Your next question comes from David Tamberrino with Goldman Sachs.

Good morning, gentlemen. I just wanted to ask you about your regional production guidance, because just looking at the different suppliers and kind of forecasts that are out there, I think you have the most conservative that we've seen so far. So just curious if this is more a reflection of what you're seeing from your customers or really just your beliefs in the market, given it is a little bit lower than I think everybody else is baking in for their numbers Frédéric Lissalde: You know I think it's early in the year. We feel that you know, we need to be a little bit prudent in the market assumptions. From what we see, we see Q1 with inventory adjustment and some volume delays. So what we are focusing on is focusing on what we can control and focusing on our strategy to outgrow the market around 500 basis points year-over-year. You can have some plus, some years or quarter, we're going north of that like we did last year. Some years or quarter we're going to be a little bit lower than that like Q1 this year. But that's our focus and - I think it's the right thing to do, to be prudent looking at the volatility of all those market dynamics right now.

So it's not necessarily anything you're seeing from a specific program. It's more just where we've left 2018. That's the best place to start given the chop? Frédéric Lissalde: I think - yeah, I would agree with that.

And then my follow-up is Bosch recently bought out their partner Daimler's stake in this electric EM-motive JV that they used to have. Does - that competitor taking full control of an E-motors business, is that going to create more of a competitive market? You know on the back of this maybe, what are you seeing in terms of competition for, you know some of those complete module awards that you've been getting and you've been winning? Thank you. Frédéric Lissalde: We're very, very happy with the motor that we have. We have a great motor. We have a great technology with a PACE Award. We're very happy with the booking flow that we see. And as we mentioned before, we don't see any differences from a competition intensity in this field than what we see in other fields in other product lines.

Your next question comes from Rod Lache with Wolfe Research.

I had some - I was hoping you can just clarify some things for us on the backlog. If I looked at the midpoint of your backlog breakdown from last year, hybrid was $919 million. And now it's a $1.05 billion over that. Actually a little bit, it looks like a $550 million increase. Combustion went from $1 billion down to $440 million. And then if I look at the regional breakdown, China has actually increased from $660 million to $1.01 billion. It looks like North America - the Americas and Europe are down. So is the way that we should interpret this is that basically what you're winning is overwhelmingly in China and hybrid? And you're not winning as much in the Western markets? And if that's the case, why are there not that many awards in the Western markets? What does the pipeline look like? And what's been happening in these markets? Frédéric Lissalde: So two things I would say Rod. First one is, we strongly believe that China is where the music is played from a battery electric vehicle standpoint and we're doing very well here - there. And we're very proud about having 50% of our backlog being in China. In Europe, when you look at the backlog you need to - I think factor that effect that it's made of the diesel decline. And if you factor that back in, I think you will increase that European backlog by about 10%. And in North America, even if customers are moving, I think customers are waiting on regulations that we hope are going to become published and real in the next weeks or months. So that's what I would say to give you some color on your question.

So it's not so much that you've missed out or lost share. It's just that those contracts haven't been awarded. Can you give us any color on what the pipeline looks like as you look forward? And then just lastly, obviously there's been a lot of volatility in China production and some - from time to time you have some of those customers push out launches? With that in mind, can you just give us a feel for how you might have incorporated some conservatism in the China assumptions for backlog? Frédéric Lissalde: So we don't see program cancellations. We see some delays and we see volumes of the backlog being impacted by the fact that the Chinese market is lower and inventories are being are being managed. I would say that what I see is that the backlog is well balanced across the three regions. When I look at the intensity of what people are doing from a hybrid and electric standpoint, and we're very confident that the booking that we see coming our way is supporting a constant 500 basis points outgrowth and confirming that $14 billion by 2023.

So just to clarify Fred, going forward is the opportunity set accelerating in Europe or is it still that most of the activity, not just hybrid, but just in general, net new business opportunity? So obviously it's hard for us to see what's been happening net of the diesel decline. Frédéric Lissalde: I would say China is still a significant portion of the backlog. China is remaining significant and Europe is going to come. The good thing and what we really like where we are is that, from a from a hybrid and electric standpoint, we're going to get scale in China. And getting scale is what's important once we are - we're at scale. It's going to be really, really an enabler for us to be booking business in Europe and in North America.

[Operator Instructions] Your next question comes from John Murphy with Bank of America Merrill Lynch.

I just want to follow on Rod's question, because I think it's probably one of most important things we learned today here in these backlog shifts. When you look at the extreme shifts that Rod highlighted, I mean how much of that is being driven by program wins and maybe delays and is there any component of it that's based on changes in volume assumptions, and how - means, how confident are you with these numbers, obviously things can shift around? Frédéric Lissalde: So as I mentioned, we are incorporating a certain level of risk and volume adjustments in the backlog. And we are used to - since we talk to everyone and since we have a very broad customer base, we used to discount what customers tell us and - but we feel good about where we are. The backlog to 2021 is 100% booked, and 2023 is about 80% booked. So the biggest risk that you would have between now and 2021 would be industry volume.

Fred, maybe just a follow up. I mean the preponderance of the shift is a result of programs, not industry or program volume assumption. I mean this is really a shift in program wins for you, is that correct? Frédéric Lissalde: I would say that there is a timing effect in 2018. If you didn't have Q1 the way we look at it, you would see a backlog that would be absolutely in line with what we've announced last year, which was around $700 million to $800 million. So if you remove Q1, the 2019 backlog would be flat versus the prior announcement. Nevertheless or in addition, I would say that, what's important for us is to really focus on what we can control which is the outgrowth of the market and which is launching the products and booking the new businesses. So, if you remove that timing effect of Q1, we're actually absolutely in-line with what we've announced before.

I apologize Fred. I might be asking the question incorrectly - is that a fair statement? Frédéric Lissalde: I think it is a fair statement. We see an acceleration in the flow of products that we win in hybrid and also you need to factoring in - factor in the diesel decline that impacts the volume on the production spend, on the combustion segment.

And then just to follow up and lastly, the margins and return implications for these kinds of shifts, I mean as we think about the next three years, and maybe Tom, this is a question for you here, what - will that have a big implication for margins and returns as we see this shift away from combustion towards hybrids and EVs as you have to put maybe more capacity into play? And as Fred alluded, you need to build scale in China so that you can compete back in North American Europe to try to understand the marginal return implications.

Right. We don't anticipate any changes in margins and returns when we close business. And this is done on our investor presentation. Yeah, we have certain return on invested capital hurdle and those hurdles are the same no matter the region or the type of product. So yeah - so we have that minimum hurdle rate, we can always go to go above that. But what we're seeing on our business wins and hybrid and electric is kind of an average return on invested capital that's very consistent with what we have on combustion. Frédéric Lissalde: And then bring our CapEx, we intend to have that. They'll be within that same 5.5% to 6.5% range long term. Again we're hoping to drive that to the lower end of the range, maybe go lower but that factors there in as well.

[Operator Instructions] Your next question comes from Colin Langan with UBS.

Any color on the margin outlook, how we should think about it between the two different segments? It seems like Engine, particularly this quarter, is under a lot of pressure. Should we expect that to continue or accelerate or is there going to be some stabilization there? Frédéric Lissalde: Yes, I'd say a couple of things. One is, and we've talked about this. For us to get our mid-teen incremental goal, we're looking for some minimum amount of growth of at least 2% because that growth will help us drive that incremental margin and we admit that on the Engine side separately, and I talked about it. We're not really happy with the incremental and decremental downtime Engine right now. So we're going to take a closer look at that and see if there's some cost actions that we can take to get that more in line with our long-term expectations.

And can you - you mentioned earlier the tariff headwind was I think it's the $20 million. Is that an incremental impact of tariff? I thought there was a big hit and already. And then is that assuming a 25% tariff which obviously is not imposed yet, but was Brent? Frédéric Lissalde: The tariff is $20 million incremental in first half.

And it assumes the 25% rate in there?

It's for the tariffs that are currently in place, but we have not made any assumption for any tariffs that have not been decided on. So List 3 has very little impact.

Your next question comes from Brian Johnson with Barclays.

Yes. I appreciate your conservative end market guide and not depending on macro to bounce back, but I'm struck by the slowdown in above-market growth the 250 basis point to 400 basis point range versus the strong 4Q and '18 as a whole was over 600 basis points. Could you maybe break down, how much of that is due to just the delay of the Q1 backlog and how much is conservatism around other factors? Frédéric Lissalde: It's almost all around the Q1 backlog. As I mentioned before, if you remove the - no backlog in Q1, we're in line with the 500 basis points at midpoint.

And that the backlog, the programs that would have been launched in Q1, why do they just launch later in the year or do they just kind of roll into '19 given everything's pushed out a quarter? Frédéric Lissalde: Yes.

I mean, roll into 2020. I'm sorry. One year out. Frédéric Lissalde: Yes they are - you have some delays announced you have also some lower volume announced, due to the Q1 market situation especially in China. And this is going to roll out in the future years as you as you've seen the 2020 and '21 backlog is strong. Yeah, so it's a timing essentially linked to Q1.

And how much of that '20 backlog nearly doubling versus '19 is program delays versus fresh programs? Frédéric Lissalde: I'm not sure, I can give you that granularity at this point in time, Brian.

And then final question around the backlog. Could you give us more color on not just the - you've talked about the propulsion mix in the China backlog, but the mix of OEMs between global JVs, the strong local players e.g. Geely, Great Wall and others and then the more regional smaller tier, low - lower tier OEMs who have to catch up on powertrain but also in the most macro impacted regions? Frédéric Lissalde: There was strong - we were strong with that, with the big Chinese OEMs. That's really the punch line, Brian. And we will follow up with you on your prior question. I apologize I cannot give you that granularity. On China, it's the big ones.

Your next question comes from Rich Kwas with Wells Fargo.

This is Deepa Raghavan for Rich Kwas. A couple of questions from me. A medium term question first. What are some of the production assumptions in the backlog for your 2020, 2021 target particularly in China, but also others too? Frédéric Lissalde: So the industry assumption that we have in 2020 and 2021 is a growth of 1%, which is the baseline assumption that we have that - built up our $14 billion by 2023.

Is there a split between China versus North American production assumptions? Frédéric Lissalde: I would say that we're incorporating a kind of a slower growth in China that we've seen in the past with maybe a low-single digit growth in that market going forward.

My second question would be, can you discuss some of the restructuring that you mentioned and if there are any other actions you're undertaking to offset some of the negative volume impact? We heard you on some of the additional actions on the Engine segment, but you know is there going to be more on the Drivetrain too, I mean just given your - you need to offset negative volume impact across your firm? Thank you. Frédéric Lissalde: We're exploring a lot of different options and we will give you more detail and color in the Q2 call. I mean in the next quarter call.

Your next question comes from Armintas Sinkevicius with Morgan Stanley.

Thank you for taking the question. Just can you remind us how much diesel headwind are you incorporating? Is it the usual sort of 500 bips of headwind and how we should be thinking about diesel beyond this year? Frédéric Lissalde: We are incorporating a 300 basis points to 400 basis points shift between last year and this year down. And two things that I would add. We see a little bit of a decrease in the slowing down rate in the past few months. And also as far as we are concerned, as you know Armintas that by the end of 2020, we will be totally agnostic to that diesel penetration take rate.

And then, there is some commentary at the Investor Day around M&A. Just curious to get your thoughts - updated thoughts here, particularly given the environment and the environment has - presents any opportunities. Frédéric Lissalde: Yeah. It has not changed. As I mentioned before, it's all around technology. It's a technology-driven approach. We're focused on M&A, we're focused on building sustained capabilities for complete solutions and technology. Product leadership drives the focus.

And then, my last one here. During the quarter, you announced the launch of, I believe it's the iDM. Have you noticed any change in conversations since the official launch? Frédéric Lissalde: No, we are absolutely not seeing any change. We are seeing a strong pull for our iDM products for battery electric vehicle. We are also seeing a strong pull as you've seen in some of the announcements for our air and liquid heaters. And today, most of what we sell is eDM, so it's transmission and mortar. And in focus and in the near future, we felt iDM which is transmission mortar and power electronics.

Your next question comes from Ryan Brinkman with J.P. Morgan.

Thanks for taking my question, which is really just exploring a little bit more around the push out of some of the backlog from 1Q further in the year. You talked earlier in the call about softness in China and Europe and maybe that's created an oversupply of some of the vehicles that were recently launched in 2018. I think there's more publicly available data that we can look at in Europe. But I was just hoping you could shed a little bit of light on the inventory situation in China. Is it concentrated at certain automakers or in certain product segments? And then if environment persists in being softer as you seem to assume with the outlook for 10% lower OBP there this year, is there any risks. Frédéric Lissalde: We are planning for China's run rate to be stable to today's run rate. So we're not we're not planning for a deterioration of the China market. We're planning for a - we're not planning for an improvement as the year advances. We are not thinking also we're not seeing any slowdown in intensity of program development and awards that we see from those key customers that we have in China, which is really encouraging.

That is good to hear. And then I know it's only a small a last question a small minority of your business but I just curious if you could provide us an update on your commercial vehicle business? It seems the trends impact in that market, we're still very strong in the fourth quarter and yet there's sort of some anecdotal signs in the US that there might be some potential slowing. You've got some insight in that market. Just curious what are your thoughts are? Frédéric Lissalde: Yes we benefited in queue far from our - from a strong commercial vehicle market. In our backlog we assumed flat going forward. And again when you think about commercial vehicle and BorgWarner, the North American Class A is small. 12% of our business is what we call commercial vehicle. But it's pretty much a third North America, third Europe, and third China and rest of the world. And we are in off road, and agricultural construction. So don't associate North America Class 8 to BorgWarner commercial vehicle portfolio.

Your next question comes from Chris McNally with Evercore.

Thank you so much Tim. Just two quick ones, I think we've asked a lot about the core markets but just the math on getting to the bottom end of that minus 5% market range, I think you talked about China being flat where it was in December, but should we take that as essentially the market would have to be down on 15% in 2019 and Europe would be down to a couple of percent as well to hit the worst low end of that market range?

Yes. So if you're talking about the low end of the market range that would put China at minus 12 year-over-year, Europe around minus 5, and in North America around 3 to 4.

Down 3 to 4?

Correct.

December run rate.

That is based on average net year run rate, the year-over-year run rate.

But you're coming to those numbers based on essentially if we would a run rate the sort of the worst levels that we saw in Q4 particularly in China and Europe. As you come up with those assumptions.

Yes. Plus North America weakening just a little bit from that 17.2% SAAR.

And the second part is I really just wanted to hone in on Europe which we saw some of the weakness in the second half but we're sort of following the weakness in consumer confidence and some of the estimates and you know the first half is probably going to be down that minus 5%. The unknown is sort of the second half of the year and we do have more tests particularly on the RDE. Could you talk about from the supplier perspective what you know about Q3 from speaking with the OEMs is you know - is this another situation where we could have a production issue associated with bottlenecks and like we did with WLTP, what sort of visibility are you getting in and how are you preparing for what would be another it should be a less onerous test. But how do you think about that as you prepare for your business? Frédéric Lissalde: Yes. So our assumption is that Europe for the second half will be flat versus the second half of '18. I think our customers have done a great job you know getting lessons learned from the U.S. GDP. But clearly all the years is coming and is not going to be. It's not going to be done with no effort it's going to require a lot of work.

And in terms of specific OEM or variances is there. I mean obviously everyone had their eye on Volkswagen for WLTP. So should we just think about that as the same big guys are going to have the same issues when it comes to RD? I mean we should focus on you know middle of the year seeing how well they execute it. Frédéric Lissalde: I would not. I think you should ask them directly. I wouldn't want to comment specifically for our customers.

Next question comes from David Kelly with Katherine.

Thanks for taking my questions. Just a quick follow up on the 80% backlog tied to hybrid and EVs. Are you seeing increased customer bias to go with hybrid and electric drive module solutions? I guess I was just hoping to get a feel for full module versus the component mix within the electrification backlog and maybe potential impact of that higher dollar content on the backlog growth? Frédéric Lissalde: Yes we have a pull for system from a hybrid and electric standpoint, but it's the mix. We also, as I mentioned before, we also very open to support the customer with components and sometimes we do and we are happy to serve them with all the products that we have in this propulsion side of them of the market and of the technology.

So you're not seeing a substantial shift in how your customers are approaching components versus modules say versus last year. Frédéric Lissalde: And what, I think it was also mentioned in my prepared remarks in China we see a little bit more interest on modules than in the rest of the world. But it's the mix and we're happy to support them in any different shape or shape or form.

And then just a quick housekeeping on FX,. I think you referenced the first quarter your assumption of $1.13. Can you also provide your assumption I guess baked into the full year outlook. Frédéric Lissalde: Yes. It's about the same get $1.13 I think yeah. $1.13 for the full year.

We have time for one final question and that question comes from James Carillo with KeyBanc Capital Markets.

So just on your portfolio, you completed the sale of your thermostats business I believe you still have the EGR pipes and tubing business that you intend to sell as well. Any update there to confirm the remaining size of that business. And just a follow on do you have any other businesses within your portfolio that you'd be looking to prune as well. Frédéric Lissalde: Yeah. So with that thermostat business, we entered into an agreement where we were for final signing and everything which should be happening in the next few weeks if all goes according to plan. Your other question on portfolio for some of the other products that's an ongoing process for us. We're looking at that at all times looking at what makes sense for us. And then there's a lot of different factors that go into that where we see the market, where we see our strength and our position in the market. So that's something that's an ongoing discussion with us.

Then just regarding your 2023 target you specifically called out in the prepared remarks that revenue and free cash flow is strongly intact. The $14 billion and $1 billion not to read too much into it but do you still regard the low 13% EBIT margin target as intact as well? Frédéric Lissalde: Yes. Frédéric Lissalde: With that, I'd like to thank you all for your questions today. If you have any follow ups, feel free to reach out to me. Sharon you can close the call.

That does conclude the BorgWarner 2018 fourth quarter and full year results conference call. You may now disconnect.