Good day, ladies and gentlemen, and welcome to the Meritor, Incorporated Third Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference may be recorded. I would now like to introduce your host for today's conference, Mr. Eric Birge, Director of Investor Relations. Sir, you may begin.

Thank you, Sabrina. Good morning, everyone, and welcome to Meritor's third quarter 2016 earnings call. On the call today, we have Jay Craig, CEO and President; and Kevin Nowlan, Chief Financial Officer. The slides accompanying today's call are available at meritor.com. We'll refer to the slides in our discussion this morning. The content of this conference call, which we're recording, is the property of Meritor, Inc. It's protected by U.S. and international copyright law and may not be rebroadcast without expressed written consent of Meritor. We consider your continued participation to be your consent to our recording. Our discussions may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Let me now refer you to slide 2 for a more complete disclosure of the risks that could affect our results. To the extent we refer to any non-GAAP measures in our call, you'll find the reconciliation to GAAP in our slides on our website. Now, I'll turn the call over to Jay.

Good morning, everyone, and thanks for being with us today. As you probably saw in our press release this morning, we had a great third quarter of financial performance. On slide 3, you can see the highlights. We reported an adjusted EBITDA margin of 11.4%, adjusted diluted earnings per share of $0.57, and free cash flow of $86 million. The excellent operational performance that we've maintained for many quarters continues to drive real earnings growth and cash flow. We continue to win in the marketplace and are very close to achieving our three-year goal of securing $500 million of new business wins. I'll highlight a few of our latest awards in just a moment. We also completed our $210 million equity and equity-linked repurchase program in July, building on the many achievements associated with our M2016 strategy. We are now beginning to shift our focus to initiatives that will ensure the success under our M2019 plan. As part of this plan, we expect to have continued strong cash flow performance. With that in mind, we're pleased to announce today new debt and equity repurchase authorizations. Let's move to slide 4. In the third quarter, we repurchased approximately $39 million or 4.7 million common shares. Based on the trading levels of our stock price, we opportunistically finished the program a quarter early. Overall, we repurchased 12.8 million common shares onto this program which equated to approximately 13% of our total shares outstanding. In addition, we bought back a total of $74 million in convertible debt which lowered interest expense, improved our debt maturity profile and mitigated long-term equity dilution risk. We continue to believe that our stock has been excellent investment given our consistent earnings and cash flow performance, demonstrated during the M2016 program. At the same time, we are committed…

Good morning. As you heard from Jay, we had a very strong financial performance in our third fiscal quarter. Let's walk through the details of our results by turning to slide 8. Sales are $841 million down 7% compared to last year. The revenue decline was primarily driven by lower Class 8 truck production in North America which was down nearly 30% year-over-year. But our new business wins have significantly mitigated the impact of this sizeable market decline in North America. Gross margin was 15.1% this quarter which is an increase of 150 basis points over last year. Lower material labor and burden cost continue to drive gross margin performance. SG&A was $6 million lower compared to the third quarter last year. The decrease was driven by a $6 million cost recovery from a supplier associated with the product liability damages matter. This settlement partially offset related cost we've incurred over the last few years. We also recognized $3 million related to an asbestos insurance recovery from an insolvent insurer which partially mitigated our asbestos related cost in the quarter. While both of these cash recoveries are discrete to this quarter, they are part of our continuing focus in mitigating all costs impact in the business. Income tax expense was $8 million in the third quarter of 2016 which translates to an effective tax rate of approximately 16%, in line with our expectations. For the full year, we're expecting an effective tax rate of between 15% and 20%. The bottom line is that we generated $42 million of income from continuing operations attributable to Meritor. And after adjustments for non-cash tax expense and restructuring cost, which we've detailed in the appendix, we generated adjusted income from continuing operations of $52 million and $0.57 per diluted share, an increase of $0.15…

Thanks, Kevin. Let's turn to slide 13. As we wrap up fiscal year 2016 in less than two months, we are proud of what we've accomplished during the last three years. Most importantly, we have shown that when we make a commitment, we deliver. And as we go forward, we will maintain that focus. Looking ahead to 2017, we're not expecting to see a rebound in end markets. In fact, we anticipate that the global markets would likely remain under pressure particularly as inventories continue to correct in the North American Class 8 truck market. In spite of this, we will continue to drive performance in 2017. We will maintain our focus on margin, EPS and cash flow, and we will begin executing on our capital allocation priorities. 2017 will also be an important year as we have remained committed to an aggressive product life cycle that is part of our M2019 program. These important new products represents a critical element of the revenue objective we established to grow sales more than 20% above market. Also, as part of M2019, we plan to increase EPS, achieve our leverage target for net debt, and return 25% of free cash flow to shareholders. We're confident in a strong finish this year and look forward to beginning our new three-year plan that will shift the pendulum towards growth. We demonstrated with M2016 that we know how to develop and deliver on our strategy to drive shareholder value. We plan to do it again with M2019. We'll provide more details as we begin next year. Before we take your questions, I'm pleased to share with you that our board of directors recently elected Jan Bertsch as a new Director. Jan has been Senior Vice President, Chief Financial Officer and Chief Information Officer of Owens-Illinois since November of 2015. Prior to that, she held executive financial positions with Sigma-Aldrich Corporation, BorgWarner and the Chrysler Group. We are pleased to add Jan's experience and expertise to our board as we enter the next chapter of our success through the execution of our M2019 strategy. Now, let's take your questions.

[Operator Instructions] And our first question comes the line of Brian Johnson with Barclays. Your line is now open.

Yeah. I've a couple of questions. First, vis-à-vis Europe, your major customer has been doing well in terms of share and it's beginning to call out some capacity constraints. Are you seeing that at all and where are you capacitized versus where you think those markets and your customer share could go?

Thanks, Brian. This is Jay. Thanks for the question. You're right. We're happy to be part of [indiscernible] group success in Europe. We have not experienced any capacity constraints on our end. I think as you know, we've made some significant investments in all our manufacturing facilities around the world, and in particular, in our Lindesberg, Sweden plant that is the primary supporting facility for [indiscernible] Europe. And we're also pleased, I should mention as well, that IVECO is doing quite well, which is also a significant customer of ours in Europe. So, we're benefiting from both of those customers having very strong performance right now.

And second question also EU, the EU is tightening up CO2 standards supplying them to trucks. What are you working - what's in your portfolio and what are you working on to help your customers meet those challenges particularly around disconnecting axles and also, again, back to the key customer because overall they're trying to drive fuel efficiency technology? How will that partnership evolve as these - as they have to meet tighter fuel economy goals?

That's great question, Brian. I think overall, as I look it at 30,000 feet, what it's done is driven our relationship closer on the technical side because if the needs to meet those requirements on both sides to the Atlantic. We've made investments in new lab equipments to help our customers measure the benefits of fuel economy increases. In addition to all the new product development we're pushing forward, you mentioned that Detachable Tandem certainly have those types of products in our future product program of plans. We talk about here on this side of the Atlantic to 14X EVO which will increase fuel economy. And also, we have a similar product on the European side called 17X EVO, which is driven as having market improvement in fuel economy. But it all fits in to what I spoke about at the Analyst Day of us doubling the pace of our product introduction over the next few years. We think we are not only meeting but exceeding our customers' expectations in that regard.

Okay. Thank you.

Thank you. And our next question comes from the line of Ryan Brinkman with JPMorgan. Your line is now open.

Hi. Good morning, and thanks for taking my question.

Good morning.

On slide 9, you mentioned that volume, mix performance and other was a positive year-over-year contributor to EBITDA. And now this despite revenue declining $61 million year-over-year ex FX indicating volume was a big headwind. If you assume like a 20% detrimental, maybe $12 million. So, what are the other elements of these combined category that are still positive, and what additional color can you provide on what is possibly benefiting mix performance or other?

Okay. Hey, Ryan. It's Kevin Nowlan. There are really two things. First is material, labor and burden performance. And second is really the benefit of steel indices. And so, if you look at the $61 million, I think you've done the math right. You would expect ordinarily upwards of a $12 million headwind. We've seen a three positives. So, we're up $15 million of performance items. And it's really those two things more than anything else that are more than offsetting the lower volume.

Okay. That's great. Would you expect more tailwind from steel indices going forward given - or less given some of the uptick, how do you think about that? I'm sure there's some sort of lag between spot and P&L.

There is. And so as we look ahead to the fourth quarter, I think we're going to see a little bit of a sequential headwind coming from steel indices. Over the last couple of quarters, we've seen some of the indices particularly in the North American market creeping up. And so we would expect a few million dollars of headwind, and that's reflected in our guidance for Q4.

Okay. Thanks. That's helpful. And then just a last question on the regional outlook. It looks like on page 6, so you're maintaining volume across most regions, except the U.S., a slight uptick - but except for in South America, right, where you're looking for a steel [indiscernible]. Can you remind us - I know there's been some dispositions and re-organization over the years. Can you remind us of the - and then of course, it's sort of organically declined. Can you remind us of your current revenue exposure to South America and then just the principal countries and types of vehicles that we should be mindful of that you're levered to?

As far as our revenue exposure...

Last year, we were at revenue of about $200 million in Brazil.

$200 million.

And you can see what's happened in the market there. So, our revenue this year will be down about 30% in Brazil, probably in the 130s.

And our exposure is primarily on the heavy side and less on the medium duty side in Brazil as you look at those markets. We particularly have exposure on the extra heavy side, which is doing slightly better in a very weak market right now with the wins with DAF most recently. Their product is focused on that extra heavy side and we have a little more exposure on that side.

Okay. Helpful. Thank you very much.

Thank you. And our next question comes from the line of Neil Frohnapple with Longbow Research. Your line is now open.

Hi. Good morning. Congrats on a great quarter, guys.

Thanks, Neil.

Hey, are you able to provide an update on the amount of incremental revenue expected to be realized in FY 2017 from the new business wins already achieved? I know you won't provide initial FY 2017 revenue guidance that's on November. What I'm just trying to get at whether you think you have enough revenue in the pipeline from new business wins to offset the further cost you alluded in your global line market?

Neil, this is Jay. Just let me give you a couple of data points. Approximately $300 million of that new revenue win we expect to be in fiscal year 2016. And then we expect the remainder to flow through over the next couple of years. So, relatively near-term improvement. Obviously, we're repositioning, focusing on M2019 objectives and starting to refocus to develop a similar pipeline as well for that period.

Okay. That's helpful. And then can you just talk about the increase in your North American medium-duty forecast. I mean, is that just fine-tuning the outlook based on year-to-date performance or is the outlook for underlying demand getting better? And then just is your comments about continued pressure on FY 2017 also applicable to this market? And then, I guess, just finally, can you just talk about how the launch of the 13X Axle for the medium-duty market tracking versus your expectation? Thank you.

Sure. Thanks. Yeah. The medium-duty market, you even saw on some of the information coming out last night, has been more stable than the Class 8 market. Right now, down a bit but still even on last night's information, but it has been more stable. Our exposure to that market is relatively small compared to our Class 8 exposure. We have a couple of large customers who are associated with Navistar and Hino. We are in the process of launching the 13X Axle with Navistar and it's going very well. And we would expect to plan that launched with Hino here in the future as we go forward. And we continue that discussions with other OEs about that product because of our belief that it's a superior product in terms of performance in fuel economy and durability.

Great. Thank you.

Thank you and our next question comes from the line of Colin Langan with UBS. Your line is now open.

Thanks for taking my question. Any color - can you just remind us how you're hedged for commodities? I mean, is it something impacting margins [indiscernible] on a rolling basis or do you have actual direct exposure to [indiscernible]?

With the bulk of our OE customers we have pass-through mechanism that allows us to pass through increases or decreases as steel indices move. And those are intended to match up with our purchasing activity from our suppliers. Now, there is a lag between the cost coming through favorably or unfavorably from our supplier and the pass-through mechanism to our customer and that lag tends to be in the range of about six months. So, as we've gotten some benefit from steel over the course of the early part of this year with indices coming down we've been now giving that back to our customers through the pass-through mechanisms. And then as we look to the fourth quarter and we start to see the index tick up, we'll start to see some headwind from that, but then we would get the benefit of that from our customers back sometime during 2017, effectively on a six-month lag.

And when you say bulk, you mean - I mean, any percent around that in terms of percent you're directly exposed to versus the percent on pass-through?

With our OE customers in the North America, European, Brazilian markets, really all of our OE business has done some sort of pass-through arrangement. The only businesses that aren't formally really on a pass-through mechanism would be our Africa market business with is really just more subject to the pricing pressures in that market.

Got it. Any color - so you completed the - correct me if I'm wrong, you completed the $210 million repurchase. You now have $100 million repurchase authorized per stock. I mean, how should we be thinking about that going forward as you try to balance repurchases versus improving the balance sheet of the business?

[indiscernible]. I think you characterized it the right way. If you think about $150 million debt authorization and the $100 million of common equity authorization, they are authorization. They're not specific programs. They're authorization that allow us to execute on our M2019 capital allocation priorities. And you remember what those are from Analyst Day, maintaining strong liquidity, achieving BB credit metrics, returning 25% of cash flow to shareholders and supporting our strategic growth initiatives. So, what these authorizations do is they give us the flexibility to be opportunistic in executing against those capital allocation priorities which includes a mix of both taking out some additional debts to reduce our leverage because that's important to achieve BB credit metrics, as well as meeting our commitment to returning value to shareholders. You should expect us to start commencing on execution under those programs within the next few quarters.

Okay. Well, thank you very much.

Thank you. And our next question comes from Brett Hoselton with KeyBanc. Your line is now open.

Good morning, gentlemen.

Good morning.

Good morning, Brett.

I was hoping you can maybe delve into a little bit more the state of your end markets, in particular, North America and Brazil. I guess what I'm really looking for is kind of a from a 30,000 foot perspective, as you look at them and the puts and takes in the industry and drivers and so forth, where do you think we're at in terms of the cycle? And again, in particular, I'm interested in your thoughts on North America and Brazil.

Sure. Well, I'll start first with Brazil, Brett. I was down there just a few weeks back and I think what we're seeing as it appears to market has stabilized at this very low level that the inventory levels seem correct from what the demand is right now. So, if we see an uptick in demand, it should move relatively quickly into production. We're not seeing that at this point, but at least, the inventory levels seem to be balanced in the right direction. And if we move to North America, I think it's really an opposite issue. We still have excess inventory in the system. You could - depending on which figure you look at, it could be upwards to a month's worth of production, it's still an inventory that needs to clear the system. As the fleets are being very cautious, freight rates have become a bit unstable if you look at the release - the recent public earnings releases from Swift or on Knight. They're still seeing pressure on freight rates. And I think this is really going to take two things for us to see that market to begin to pick up back more to a replacement demand level. And that is that the fleets see stronger freight rates and we start to see that inventory get to a more normalized level. And so, what I'm looking towards is really to the ATA meeting in the first week of October that tends to be a good bellwether with a lot of the larger fleets placing their orders around that time period. And we should get a pretty clear view of where inventory stand at that point.

So, in Brazil, it sounds like it's stabilized. Do you have any stance as to a possibility of an inflection point at any point in time? Is there any signs that you see in Brazil that caused you to think, I think that after the Olympics are over, for example, things are going to start to improve or something along those lines?

I'm not confident enough to stick my neck out on predicting the Brazilian economy yet. But, as I said, I think the good news is it appears the inventory levels have gotten to the right level of where we should see any upticks very quickly move in to production demand. So, that's the first step they needed to get to and they've gotten there.

And it sounds like we're still working to do the inventory here in North America, and it's probably out into your 2017 timeframe before there's even a possibility that we could see maybe your production inflection. Is that...

I think as I've mentioned in my comments, we think the first two quarters, there remains some inventory to be cleared out of the system.

Okay. Great. Thank you very much, Jay.

Yeah. Thank you, Brett.

Thank you. At this time, I'm showing no further questions. I would like to turn the call back over to Mr. Birge for closing remarks.

Thank you, everybody. And this will conclude our call today.