Lear Corporation (LEA) Q4 2022 Earnings Report, Transcript and Summary

Good morning, everyone, and welcome to the Lear Corporation Fourth Quarter and Full-Year Earnings Conference Call. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. Please also note, today's event is being recorded. At this time, I'd like to turn the floor over to Ed Lowenfeld, Vice President of Investor Relations. Sir, please go-ahead.

Thanks, Jamie. Good morning, everyone, and thank you for joining us for Lear's fourth quarter and full-year 2022 earnings call. Presenting today are Ray Scott, Lear President and CEO, and Jason Cardew, Senior Vice President and CFO. Other members of Lear's senior management team has also joined us on the call. Following prepared remarks, we will open up the call for Q&A. You can find a copy of the presentation that accompanies these remarks at ir.lear.com. Before Ray begins, I'd like to take this opportunity to remind you that as we conduct this call, we will be making forward-looking statements to assist you in understanding Lear's expectations for the future. As detailed in our safe harbor statement on Slide 2. Our actual results could differ materially from these forward-looking statements due to many factors discussed in our latest 10-Q and other periodic reports. I also want to remind you that during today's presentation we will refer to non-GAAP financial metrics. You are directed to the slides in the appendix of our presentation for the reconciliation of non-GAAP items to the most directly comparable GAAP measures. The agenda for today's call is on Slide 3. First, Ray will review highlights from the year and provide a business outlook -- business update, excuse me. Jason will then review our fourth quarter financial results and our full year 2023 outlook. Finally, Ray will offer some concluding comments. Following the formal presentation, we'd be happy to take your questions. Now I'd like to invite Ray to begin.

Thanks, Ed. Now please turn to Slide 5, which highlights key financial metrics for the fourth quarter and full year 2022. Lear finished the year strong with our best quarterly results since the first quarter of 2021 and our fifth consecutive quarter of improved adjusted operating margins. Sales increased 10% to $5.4 billion and core operating earnings increased 67% to $265 million. For the full year, sales were $20.9 billion and core operating earnings were $871 million. Adjusted earnings per share increased 10% in 2022 to $8.72 per share. Operating cash flow increased 52% to over $1 billion in 2022 reflecting improved working capital management and higher earnings. Our cash flow performance is already beginning to benefit from the Lear Forward plan. Slide 6 outlines key business and financial highlights from 2022, as well as a small sample of the many awards Lear received. We made progress on strengthening our product portfolio and business outlook in both business segments; in Seating the Kongsberg acquisition positions Lear as the only seating supplier with in-house capabilities in heating, ventilation, lumbar and massage. Since the acquisition of Kongsberg, we have been granted sourcing control on programs with seven customers and have won 30 new business awards on 22 platforms. Our leadership position in Seating innovation, quality and operational excellence is being recognized by our customers who awarded us over $700 million of conquest awards in 2022. In E-Systems we're selected by General Motors to supply our PACE Award winning Battery Disconnect Unit on all their full-size battery electric trucks and SUVs through 2030. We also expanded our connection systems product portfolio to add Intercell Connect Board. We are actively pursuing additional business opportunities for both of these product lines. Sales growth in both business segments continues to exceed market growth with five points of outperformance in 2022. Financial results improved each quarter in 2022 and we expect further improvement this year. Free cash flow conversion improved to 73% and we returned almost $300 million of cash to our shareholders through our dividend and share repurchase programs. We continue to win accolades from various industry publications, including our most recent awards yesterday when Fortune Magazine once again named Lear to World's Most Admired Companies. Slide 7 highlights some of our key product launches in seating this year. In addition to the just-in-time assembly for each of these programs, we're also delivering multiple components for these launches including thermal comfort systems, leather, fabric, structures, cut and sawn, seat covers and foam. We believe that our position as the most vertically integrated seat supplier provides a competitive advantage by improving the quality of our products and offering a better value proposition for our customers. Several conquest programs are launching this year including the BMW 5 Series and i5 in Europe, the Chevrolet Colorado and the GMC Canyon in North America and a major SUV program in North America that was awarded late in 2022 and that will be launching -- that we will be launching a new facility in 2023. Lear's best-in-class quality and craftsmanship drives our leading market position in luxury seating and we also have won significant new business on electric vehicles. Turning to Slide 8. Now, I'll highlight key upcoming product launches in E-Systems. In 2022, we had another great year of new business wins in E-Systems that will continue to drive growth over market of six percentage points, including about $500 million of business for electrification projects including high voltage wiring and connection systems and battery disconnect units. This year we will be launching the award-winning battery disconnect unit on an additional GM BET derivatives including GMC Hummer SUV and Chevrolet Silverado EV. In early 2024, we will begin to produce the BDU at our new facility in Michigan. This new production facility will generate $500 million in annual electrification sales when it reaches full production. Late this year, we will be launching production on our Intercell Connect Board. Annual sales are estimated to grow to approximately $150 million by 2026 and we are pursuing additional opportunities across our customer-base for this new product-line. The body control module, we are launching this year with the MINI Countryman, will be the first of many launches across numerous BMW and MINI platforms. We have several other product launches for electric vehicles in North America, Europe and Asia, some of which are highlighted on the slide. On Slide 9, I'm going to provide an update on the four pillars of our strategy, which we initially shared with you almost two years ago. We assess our strategic plan during the pandemic. With the objective to continue to position both Seating and E-Systems to achieve sustainable long-term growth in revenues, financial returns and free-cash flow generation as the industry transitions to electrification and recovers from the effects of the pandemic. We have made significant progress on each pillar of our strategy and the actions we have taken to-date will serve as the foundation of our plan to deliver long-term profitable growth. Over the past 10 years, we have made targeted acquisitions to increase our component capabilities in seatings. These inorganic investments coupled with investments in innovation and technology have resulted in steadily increasing our market share in seating to 25%. Conquest wins have been a major factor driving market share gains. Since 2019, we are approaching $2 billion in conquest awards which supports our mid-term goal of achieving 28% market share . Many of these conquest wins resulted from customers asking Lear to quote business because of our strong reputation for quality, operational excellence and product execution. The recently awarded SUV program in North America that we will be launching later this year is a good example. ConfigurE+ is the PACE Award winning Lear innovation that provides a wireless powered rail system that allows for easy repositioning of the seat in the vehicle. We are launching our second ConfigurE+ program this year on a Forward program. Other customers are showing interest in this product. And last month, Stellantis showed our technology in their new RAM 1500 Revolution BEV concept that debuted at the Consumer Electronics Show in Vegas. In E-Systems, we completed a detailed study to prioritize products where we can create the most value for our customers by concentrating engineering and capital investments on fewer products. We paved the way to win major new platform awards for Lear's Battery Disconnect Unit and Intercell Connect Board. Later in the presentation, Jason is going to provide more details on how these programs will support sales growth and higher margins in E-Systems . Just last month, we learned that one of our customers in Asia had independently audit all major global seating suppliers, now Lear's quality was rated the best especially for luxury seating. To ensure we remain the leader in quality and operational excellence, last year we established Lear Forward plan, which will improve operational efficiencies across our business. Over the past two years we have made substantial progress on our ESG goals. We developed new products such as FlexAir and ReNewKnit in Seating to support our environmental goals. We also have improved energy efficiency in our operations and established aggressive climate goals to reduce carbon emissions and increase the use of renewable energy. These efforts as well as well as increased communication in our sustainability report have resulted in significant improvement in our ESG ratings and multiple awards from leading industry publications. Now please turn to Slide 10 which shows our 2023 to 2025 backlog of approximately $2.85 billion. As a reminder, our sales backlog includes only awarded programs, net of any lost business and programs rolling-off and excludes pursued business and net new business in our non-consolidated joint ventures. We had a tremendous year of new business wins, our combined backlog for 2023 and 2024 increased by 22% to $2.5 billion and the 2024 backlog is a record for any single year. The Seating backlog benefits from $1.2 billion of net conquest awards. Also of note is that over 75% of our Seating backlog is for electric vehicles. In E-Systems the three year backlog consists of 63% in wiring and connection systems with the balance in electronics, more than half of the E-Systems backlog is for electrification products led by battery disconnect units, high voltage wiring and connection systems. Total electrification sales in E-Systems in 2022 were $565 million and we are on-track to exceed our prior goal of $1.3 billion in 2025 which implies a 34% compound annual growth rate for the three year period. Consistent with historical experience, we expect the third year of our backlog to continue to grow as there are numerous programs we are pursuing that will launch in 2025. While not shown on the slide, the 2023 through 2025 sales backlog at our non-consolidated joint-ventures is additional $380 million. Now I'd like to turn the call over to Jason for a financial review.

Thank you, Ray. Slide 12 shows vehicle production and key exchange rates for the fourth quarter. Global production increased 2% compared to the same period last year and was up 6% on a Lear sales weighted basis. Production volumes increased by 8% in North America and by 5% in Europe. Volumes in China were down 5%. The dollar strengthened significantly against the euro and RMB. Slide 13 highlights Lear's growth over market. For the fourth quarter total growth over market was seven percentage points, driven primarily by the impact of new business in both segments, E-Systems grew eight points above market and Seating grew seven points above market for the quarter. Growth over market was particularly strong in Europe. In Seating new programs such as BMW 7 Series and iX and the Renault Megane eTech as well as higher volumes on the Nissan Qashqai and then Land Rover, Range Rover and Defender contributed to the growth over market. In E-Systems, strong growth over market was driven by new Volvo programs including the XC40 and XC40 Recharge and higher volumes on the Ford Cougar, and the Land Rover Defender and Range Rover. For the full year, global growth over market of five percentage points was driven primarily by our strong new business backlog. Turning to Slide 14, I'll highlight our financial results for the fourth quarter of 2022. Our sales increased 10% year-over-year to $5.4 billion, excluding the impact of foreign exchange, commodities and acquisitions, sales were up by 13%, reflecting the addition of new business in both of our business segments and increased production on key Lear platforms. Core operating earnings were $265 million compared to $158 million last year. The increase in earnings resulted primarily from higher production on key Lear platforms, the addition of new business and favorable operating performance. Adjusted earnings per share improved significantly to $2.81 as compared to $1.22 a year ago. Operating cash flow generated in the quarter was $537 million, a significant increase from the $167 million generated in 2021. The increase in operating cash flow was due to an improvement in working capital and higher earnings. Slide 15 explains the variance in sales and adjusted operating margins in the Seating segment. Sales in the fourth quarter were $4 billion, an increase of $396 million or 11% from 2021 driven primarily by an increase in volumes on Lear platforms and our strong backlog. Excluding the impact of commodities, foreign-exchange and acquisitions, sales were up 14%. Core operating earnings were $275 million, up $76 million or 38% from 2021 with adjusted operating margins of 6.8%. The improvement in margins reflected higher volumes on Lear platforms, our margin accretive backlog and an improvement in commodity costs, partially offset by the impact of acquisitions. Strong net operating performance in the quarter, which included a $10 million benefit from the commercial settlement of a patent matter was offset by higher spending on engineering and launch costs to support our strong 2023 new business backlog and recent conquest awards. Slide 16 explains the variance in sales and adjusted operating margins in the E-Systems segment. Sales in the fourth quarter were $1.3 billion, an increase of 8% from 2021, excluding the impact of foreign exchange and commodities, sales were up 12%, driven primarily by higher volumes on Lear platforms and our strong backlog. Core operating earnings improved to $64 million or 4.8% of sales compared to $38 million and 3% of sales in 2021. The improvement in margins reflected higher volumes on Lear platforms and our margin accretive backlog, partially offset by higher component cost net of customer recovery. The positive net performance was driven primarily by an increase in plant productivity and lower premium costs, which resulted from a modest improvement in the stability of customer production schedules. Moving to Slide 17, we highlight our strong balance sheet and liquidity profile, a major competitive advantage for Lear in a rising interest rate environment. Our earliest outstanding debt maturity is in 2027 and overall, our low cost debt structure has a weighted-average life of more than 14 years. In addition, we have $3.1 billion of available liquidity. The level of unfunded pension and OPEB liabilities improved significantly over the past few years and is now only $119 million as at the end of 2022. Our focus is on growing and strengthening our core product lines to improve operating margins and cash flow generation. As we have previously stated, we are targeting to get back to an 80% cash conversion ratio. We are committed to return excess cash to our shareholders having repurchased $100 million of stock in 2022, along with our quarterly dividend. Our current share repurchase authorization has approximately $1.2 billion remaining. Now shifting to our 2023 outlook. Slide 18 provides global vehicle production volumes and currency assumptions that form the basis of our full year outlook. IHS's latest production forecast assumes global production will increase 4% in 2023 and by 5% on a Lear sales weighted basis. At the midpoint of our guidance range, we assume that global production will be up 1% for the industry or by 2% on a Lear sales weighted basis. At the high end of our guidance range. Our global production assumptions are generally aligned with the IHS forecast. We expect production volumes to grow by 5% in North America, while remaining flat in both Europe and China. From a currency perspective, our 2023 outlook assumes average exchange rates of $1.5 per euro and 7 RMB to the dollar. Slide 19 provides details of our 2023 outlook. Despite modest changes in industry volumes, we're expecting improved financial results. Our revenue outlook is expected to be in the $21.2 billion to $22.2 billion range. Our core operating earnings are expected to be in the range of $875 million to $1.075 billion. At the midpoint, this would imply an increase of 12% over 2022. Adjusted net income is expected to be in the range of $510 million to $670 million. Restructuring costs are expected to decrease to approximately $100 million. Despite expected higher capital investment to support launches and our growing backlog, our free cash flow guidance at the midpoint is expected to increase by over 17% over 2022 to about $450 million. The midpoint of our outlook, free-cash flow conversion would improve to 76%. Slide 20 walks our 2022 actual results to the midpoint of our 2023 outlook. Year-over-year revenue is expected to grow by approximately $800 million and adjusted margins are expected to improve by 30 basis points, due primarily to our margin accretive backlog and a reduction in commodity costs. Engineering and launch costs are expected to increase in 2023 which reflects investment required to support significant new business that will go into production in 2023 and 2024. This includes a roughly $25 million investment to support a newly awarded SUV JIT Conquest program launching late in the year. Positive net operating performance reflects the benefits from our Lear Forward plan and other performance improvements, partially offset by elevated wage and overhead inflation, including a significant increase in hourly wage rates in Mexico. We have included walks to the midpoint of our guidance for Seating and E-Systems in the appendix. Our overall guidance range is wide, reflecting the continued uncertainty around the macroeconomic outlook. At the high end of our range, which includes volumes largely aligned with IHS forecast, we would expect Seating margins in the high 6% range, E-Systems margins of approximately 5% and total company margins of 4.8%. Turning to Slide 21, we revisited the strategic pillars Ray previously discussed. On the next two slides, I will provide additional color on two of our strategic pillars. I'll discuss our growth plan for connection systems in electronics and E-Systems and how the Lear Forward plan will extend our leadership and operational excellence. Slide 22 provides details on the actions we are taking to drive margin improvements in E-Systems. While there are several factors that will drive margin improvement in the medium term, including further recovery of industry volumes, I want to highlight two key strategic areas that we have made significant progress on which will drive a meaningful improvement in operating margins. We have been targeting high volume products in connection systems and electronics that are shared across large electric vehicle platforms. This strategy has resulted in developing new products such as Battery Disconnect Units, Intercell Connect Board and Battery Plug Boards that customers will share across many vehicles in their product portfolios. With our acquisition of M&N in 2021, we increased our engineered components capabilities in North America, we're expanding these capabilities in Morocco to support our European business with increased vertical integration by in sourcing connection systems and engineered components on programs where we already provide wire harnesses, we will improve our cost competitiveness and the margin profile of this business. We expect organically increased revenues in connection systems, $750 million by 2025, which will improve E-Systems margins by about 100 basis-points. The second driver of margin improvement derives from our electronic strategy, we are focused on products that leverage our core capabilities and strengths in manufacturing and engineering. For example, our PACE award-winning BDU offers industry-leading thermal management innovations that enable electric vehicles to charge faster and drive farther. With the opportunities we have identified, we are targeting a 20% market share of Lear's addressable market for our BDU business. We've also begun to wind-down other parts of the electronics portfolio. We've spent the last three years studying the portfolio and the market opportunities to focus our investment on products with higher risk adjusted returns. For products such as audio and lighting, onboard chargers, inverters, cord sets and certain other power electronics products, we will continue to support the programs that are in production, but we have ceased all new development work. This strategy allows us to reduce and redirect our engineering investments, lowering near-term spending. This combination of lower near-term investments and higher operating margins on new programs that are launching will improve E-Systems margins by an additional 125 basis points by 2025. These two strategic initiatives, which will improve margins by 225 basis points by 2025 combined with further recovery in industry volumes and stabilization of the production environment will allow us to achieve our medium-term target of 8% by 2025. Please turn to Slide 23, On last quarter's earnings call, we introduced the Lear Forward plan, the plan is focused on driving efficiencies in our plants and across our segments. Our restructuring initiatives are designed to both improve efficiency and provide more long-term flexibility in our manufacturing facilities. We are applying what we learned by co-locating certain Seating and E-Systems operations in Brazil, to some locations in Mexico and Morocco in order to optimize our manufacturing footprint, capacity utilization and labor flexibility. We also have expanded our Industry 4.0 capabilities by acquiring Thagora and InTouch. These acquisitions increased our automation of surface material cutting and end of line quality checks in our GIP facilities, both of which will significantly reduce our manufacturing costs. To improve cash flow, we continue to focus on driving down inventory levels and improving capacity utilization to reduce capital spending. For example, in Morocco, we were able to consolidate cut and sew operations in a fewer facilities and repurpose an idle plants to support new business and connection systems. The Lear Forward plan is already driving results. We estimate cash flow improve by about $50 million in the fourth quarter due to these initiatives. In 2023, we are estimating operating and administrative cost savings of about $50 million with incremental improvements in 2024 and 2025 as the initiatives we are taking fully ramp up. Now I'll turn it back to Ray for some closing thoughts.

Thanks, Jason. Please turn to 25, which lists our key strategic priorities in 2023. We have made great progress positioning our Seating and E-Systems business for profitable growth. Integration of Kongsberg has exceeded our expectations and we are developing efficient modular solutions that will improve performance while reducing weight and complexity. Customers are very excited about our products and we believe our thermal comfort solutions business will support growth and margin improvement in seating. In E-Systems, we are ramping up production of both the BDU and Intercell Connect Boards. By focusing engineering and capital spending on fewer products across E-Systems, we are winning larger programs with higher financial return potential. Our backlog is strong and we have additional opportunities in the pipeline. Looking out past 2023, we expect to benefit from the continued industry volume recovery, stabilization of production and higher Lear content as EVs continue to display its traditional ICE vehicles. Our Lear Forward plan is already providing benefits and we have additional actions in-store for 2023 to improve our operational efficiencies. And we will continue to focus on generating cash to fund investments in our business and return returns to shareholders. I want to thank our employees for driving Lear's many accomplishments in 2022 and I can't wait to see what we will accomplish in 2023 and beyond. Now we'd be happy to take your questions.

[Operator Instructions] Our first question today comes from Rod Lache from Wolfe Research. Please go ahead with your question.

I'm curious about, maybe a little bit more insight into the bridge for 2023, you'd previously talked about the second half of 2022 is being a pretty good indicator of the launch point for margins with Seatings in the mid-sixes and E-Systems is in the mid-fours in the back-half and when I look at slide 30 and 31, it looks like similar margins into 2023 versus the back half. Can you maybe just give us a little bit more color on why from this point which reflects some recoveries the improvement in 2023 would be a little bit more modest.

Yes, so I think starting with the second half of 2022, Seating margins were 6.7% that included about 300 basis points of timing benefit. So for example, on the commodity recovery negotiations with leather they typically happen later in the year and has an impact that relates to earlier in the year, as well as the patent matter that was settled. So the starting point for Seating, I'll go through Seating then E-Systems. 6.4% and sort of the launching point in the second half of the year and then we have margins flat year-over-year from there. Now the biggest negative driver from the second half to the full year of 2023 is on launch and engineering costs. And one thing we didn't know at the investor conferences we spoke at in early December was that we were going to be awarded a new conquest program that would have a very short development cycle and we take over production at the end of 2023. And so there's about $25 million of launch and engineering costs in the Seating doesn't associated with that. And overall it's about a15 basis point impact on margins year-over-year and 10 basis points from the second half to the full year of 2023. And then that's offset by modest net asset performance overall with another 10 basis points or so. So, volume and mix backlog is largely neutral in Seating from second half of 2022 to the full year of 2023. In E-Systems, second half margins were 4.4%, so we do have a modest increase in operating margins at the midpoint of the guidance to 4.5 for 2023 and that's really driven by volume mix and backlog are about 20 basis points, performance is about 10 basis points and then that's partially offset by higher engineering and launch costs, sequentially, again from the second half of 2022 to the full year of 2023 about 20 basis points. I will point out that at the high end of our guidance range there is 40 basis points of additional margin opportunity in Seating and 50 basis points in E-Systems, if Industry production more closely aligns with the IHS outlook.

That's helpful. And maybe you can also clarify for us. You talked about, I think on your third quarter earnings call about $340 million of inflation that you had absorbed and that maybe half to two-thirds of it would be recovered over the next two years. Is the $25 million that you're indicating for this year kind of a sign that this is going to be a little bit more challenging or was that always something that was going to be more lagged?

Yes. I think our general view on the recovery or offset of commodity cost increase is roughly the same. I think it's roughly half over the next two to three years, this is how I would characterize it today. And really, I think at this stage, we kind of shift more from contractual direct recovery to more of a negotiated recovery and so you sort of have to combine our LTA price down negotiations with all of the claims that we have on our end, which include higher commodity costs, higher wage inflation, the impact of an unstable production environment. And so our offset plan is a combination of recovery from the customer and continuing to generate net positive performance in both business segments, and I think if you look back over the last two years, just sort of step-back and look at the overall math the commodity impact, net of recoveries have been about 200 basis points for the company. We've offset about 100 basis points of that through performance improvements in both segments. So the net effect on margins of those two categories sort of gathers, about 100 basis points. I think if you look at 2023, 2024, 2025, I would expect that we will have fully recovered that 100 basis points over that time period. It's a little bit slower to start, I think in 2003, because in addition to the commodity issue that we've been dealing with and the unstable production environment, now we have sort of additional layer of wage inflation that I would characterize as well above what we've historically experienced. That by itself, rise by about an $85 million impact just looking at salary and hourly wage inflation in 2023 compared to 2022. That's the impact that we see in 2023. I think if the Fed does its job, central banks do their jobs and inflation comes down a little bit, you'll see that wage inflation normalize a bit more, if you look at 2024 and 2025 and that will give us a chance to what that net performance really show itself as margin accretion. Now with all that said, we're still very confident and fully committed to margin expansion in both segments, we see 8% as a reasonable margin target in both Seating and E-Systems in that 2025 time period. And we expect to take a meaningful step-up from the midpoint of the guidance that we just issued for this year to 2024, it may not be directly linear, but it's going to be pretty close I think as you look out over the next three years.

Hey, thanks for that. And just to clarify that when you said you expect to recover half of this over the next two to three years. That's a combination of internal productivity plus external recoveries or is that just the recovery part of it?

I would say it's both, those lines get blurred the longer time goes by here. Its -- those are -- the raw materials and wage inflation become part of that annual basket of goods that you're negotiating with your customers. So it's a little more difficult to delineate between the two baskets.

All right. Thank you.

Our next question comes from Mark Delaney from Goldman Sachs. Please go ahead with your question.

Yes, good morning and thank you very much for taking the questions. First on the backlog, the three year forward backlog, I believe is now $2.85 billion. I think last year it was $3.3 billion. If I heard correctly in the prepared remarks, you talked about over 20% growth in backlog over the next couple of years. This is maybe you can help us better understand what's going on with a three year number and how much it's perhaps changes in overall end market assumptions?

Yes, so let me start with time about 2023. The 2023 backlog that we issued last year is $1.450 billion, it's now $1 billion. So it's down by $450 million, $300 million of that's in Seating, $150 million of that is in E-Systems. And it's really attributed to two changes and customers' production plans. Starting with Volvo, their original production plan for South Carolina had a different mix of vehicles and what they're ultimately going to produce. And so in Seating we have EX90 SUV, electric SUV and the Polestar 3, but the ramp up of those is a little bit later than it was when that was originally awarded. So the impact on 2023 backlog is about $165 million and the impact of the overall change in their production plan is a negative impact of about $100 million to the three year backlog. The second issue is with GMs ramp up of the battery electric truck Factory Zero and the Equinox EV in Mexico, the assumptions that we had used last year compared to now results in about $150 million reduction to the Seating backlog in 2023, but no impact to the three year backlog. In fact, it might be slightly positive overall for those programs. So those two things together about $315 million that's been partially offset by this new conquest award which is going to launch at the very tail-end of the year, it's about a $50 million improvement net FX is negative as well. In E-Systems over that same time period in 2023, we were down about $100 million. Its also due to the ramp-up timing on the GM battery-electric truck platform, we saw $40 million impact and then to lesser extent there is an impact on Volvo. The Volvo production plant in North America as well. Now if you look out over a three year time period, the backlog in E-Systems is $25 million higher than it was last year and it's the second largest three year backlog that we've ever had in E-Systems and if you look at Seatings backlog for three years at $1.8 billion, its higher than the 10 year average that we've had in the seat business. So it does support that continued growth over market that we have demonstrated over the last 10 years in the seat business and continued gains in market share. So, in addition to that I will point to 2025 being very like given that there's lots of sourcing activity in both segments that will impact that number and we would expect to see that number considerably higher when we issue a new three year backlog 12 months from now.

Thank you for all those details. With respect to the 8% E-Systems margin target in 2025, thank you for all the details you gave on that. Could you elaborate a bit more on how much incremental bookings may be needed in order to get there and also what type of global production environment may be necessary in order to hit that 8% target. Thank you.

Yes, as we model 2025, we're using IHS at this stage which is I think 89 million units in 2025. And there's really no new business required beyond what's already been booked in E-Systems to achieve that. So, it's largely going to come through the improvement plan we outlined for connection systems and electronics and the growth in both of those areas combined with improvements in volume and commodity recovery and performance, driven by restructuring and other investments we're making in the wire business.

Our next question comes from John Murphy from Bank of America. Please go ahead with your question.

One real quick on the balance sheet first on slide 17, I mean you're showing you have tons of liquidity and room to work with. I'm just curious what you think of as sort of your leverage targets, and how much room you might have to either buyback shares or get more aggressive on accretive acquisitions over time. It just seems like you have a lot of room.

Yes. I would agree with that, especially as earnings continue to recover over time. Our target leverage ratio of 1.5 times EBITDA, I think is -- will give us some additional room to lever up if we saw -- found necessary to do so. I would say in the near-term, John, our focus is really on free cash flow generation, returning excess cash to shareholders through share repurchases and the dividend. There isn't anything big on the near-term horizon that we see as necessary or really attractive. And so if we're going to do anything on the M&A side. I think it's going to be more along the lines of what you've seen us do over the last couple of years more tightened...

I think just the tuck-in acquisitions that we have done historically and more recently and they produce great results. I think when we think about the Industry 4.0 and the acquisitions we made there to really turn our business around and the operational efficiency in really driving our costs within our facilities exceeded our expectations. The Kongsberg acquisition, it's amazing with our customers, the type of momentum we're getting it within the thermal comfort management system. So the IGP, which is still, we still have to close that one out. It's going to only continue to help our position as the leader in vertically-integrated components within seats, but more importantly around the technology of the seat as we move forward. And the new contracts, we've been awarded, do give us the sourcing control, so we can organically what we're investing in is the ability to create those modular systems that integrate the components, a bag and a blower that just blows cold and hot air into trim cover and foam that's very unique to Lear Corporation. And so those type of investments are paying dividends. And the investment within connection systems like we saw with Intercell Connect Board, the electronic components that we're vertically integrating with M&N having that bus par capability is very unique and the over molding capabilities in our connection systems is really making the difference on how we can continue to drive down costs in our own product, but also the improvements within manufacturing. So, we like the position we're in, we like what we've been doing, its been very successful and there really isn't anything on the horizon that I would say is a major acquisition, I think of two smaller tuck-in acquisitions to continue to drive our strategy forward and position Lear for the success that we've seen. And I'd say and I think through the investment that we're making with this very unique, I think first ever in the market, changeover on the seat business that we're awarded late last year into this year, there's a lot more opportunities we're seeing in front of us. And so we see investment. We're only going to invest in products that get us good returns and so we're not buying business. This is a very unique program in seating that we're awarded. And we're investing in a brand new facility with the top line capital to make sure that we're efficient. And there's other opportunities that we're looking at in Europe, in North America that are very similar in nature. And those investments obviously expand our EBIT and our EBITDA, and our good investments in our wheelhouse where we're doing a nice job too.

That's very helpful. And then quickly just a second question on EVs here. I mean we're getting real price action coming out of the biggest player in the market, it's people are responding in China now, in the U.S. What could a surge in EV volumes in 2023 mean for you? Are you set-up to benefit from that and have a capacity to handle that or is that something they might pass you by. I'm just curious if you think about the current environment, it seems like it could be very advantageous for the E-Systems side, but also maybe even on the Seating side as well.

I think on both. I think we've talked about 67% of our new backlog was in electric vehicles and Seatings. So, yes that's setting up for Seating very well, and I think in E-Systems equally as far as the investments. I think it's taken a step back and we have talked about the strategy, we're really focusing on what we believe were core components that weren't going to be in-sourced or engineered by our customers and we have a shot at scaling properly. So the facilities that we're setting up like the facility in Michigan, it's designed exactly around that. We talked about on an annual basis, the $500 million revenue, but we can expand that for additional capacity and the focus that we're getting very granular in our approach of being very efficient at our engineering and capital that we're spending to capitalize on the ability to scale is exactly where we're going. So, yes as EVs accelerate, we are in a very good position both in E-Systems and in Seating based on the backlog that we've seen in Seating in the percentage of wins that we've gotten in the EV market.

But just to be clear, in the near-term, this might be happening like as we are speaking. Have you seen anything in schedules as far as the mix change here in the short-run or are these pricing actions, something that are still kind of on the common in releases that you might see in the coming months?

We are seeing customers ask for additional capacity, for example, Ford and the Mustang Mach E we've increased capacity in the near term to support a ramp-up in volume there. So, I think selectively in certain customers we are seeing an acceleration of volume potentially that may benefit later this year and into next year.

And we're in those discussions right now as far as expanding our capacity with each one of those customers.

Our next question comes from James Picariello from BNP Paribas. Please go ahead with your question.

Just on the U.S. growth over market backdrop. On a core basis, if you exclude the commodities impact in addition to FX and acquisitions, the mid-point is just under 5% growth over market, something like 4.7%. That compares to your weighted global LVP of course of plus 2%. So, can you unpack what's driving this point or so of lower outgrowth this year, is it Seating content mix, is it push out of certain launches in your backlog. Just how would you characterize the puts and takes? Thanks.

Yes, so, James, the E-Systems growth over market, we would expect this year to continue at six points above market, consistent with the last what we've experienced over the last three or four years. Seating, we have grown at six points above market over the last four year time period 2019, 2020, 2021, 2022. We do see that moderating in 2023 to about two points of growth over market. And so the company growth over market would moderate to three points. Now the backlog in Seating is strong and that by itself contributes four points of growth over market, but the offset to that is our assumption around key platforms in North America in particular. So we have the North American market up 5%, we have a number of our top platforms down and on average, our top platforms in North America are down about 2%, so that's the biggest factor driving that. The GM full size pickup trucks and SUVs, for example, and we have that, we've assumed that that's going to be flat year-over-year. That may turn out to be a conservative assumption, that's what we've assumed coming off a really strong year last year for that platform. We've got the Audi Q5, Jeep Compass, Ford Explorer all down in a market that's up. And so it's really the mix of production and some of our existing platforms that's driving that. As we look out to 2024, you look again at our backlog, I point out that we would expect growth over market could be as much as seven points If you just look at the value of the backlog at $1.5 billion well with Seating that's six points above market and E-Systems at 10 points of growth above market just driven by the backlog. Again it's our core platforms are more closely aligned with market overall.

Okay, no, that's super helpful. And then, just to size up the net commodities headwind impact entering 2023, could you maybe, my apologies if I missed this, but could you just confirm what is the expectation in terms of net commodity costs recovery for 2023. And then is this something where we should be thinking about the cumulative impact over the last couple of years and something that continually gets recovered or by the time we get to 2024, it's a clean slate. And we really shouldn't be thinking about the bridge in that regard. Thanks.

Yes, so James, I did talk about that a little bit earlier, but, so the two year impact in 2021 and 2022, we had previously said was $340 million. We ended up a little bit better than that at $335 million. We expect to see about $30 million of that unwind itself in in 2023, largely driven by lower steel costs in North America. As we fast-forward to 2024 and 2025, what I would encourage you to do and sort of look at that in conjunction with our ability to deliver margin improvement through net performance, our cost reduction programs, our commercial negotiations more broadly, and so, I would expect to see margin growth in both segments of around 50 basis points each year in 2024 and 2025 as a result of that. So it's sort of indirect commodity recovery and other performance taken together.

Our next question comes from David Kelley from Jefferies. Please go ahead with your question.

Maybe a follow-up on the earlier EV discussion. With the electrification and sales ramping and you have the CAGR out there. Can you walk us through impact on E-Systems margins today? And maybe how you see that evolving as you continue to aggressively scale the business?

Yes. So the impact on margins is sort of embedded in those two data points that we shared with you, our connection systems and electronics because much of the electronics growth that we outlined through '25 is in the battery disconnect units, and we attributed 125 basis points margin expansion, 3 systems overall to electronics growth. And then also on the connection system side, the bulk of that growth it's going to come through electric vehicles, the intercell connect board being the most significant growth within that and then also the plugboard. So -- those are the two key drivers, and then we have the benefit of volume in wire on electric vehicle platforms. We do see growth there as well. But I don't have a specific basis point impact to highlight for that, David.

Okay. Got it. No, that's helpful. And then I appreciate the color on the E-Systems margin expansion plan. Specifically on the connection systems build out, how much of that do you see yourself kind of able to do in-house today versus the need to do additional bolt-on acquisitions, whether it be in terminals or connector-type product areas?

Well, I think we have great capabilities organically. There's -- if there's an opportunity for, like I said earlier, for a tuck-in acquisition that we continue to enhance our growth and expand our margin, it makes sense. We would do that. But to the Hu Lane partnership that we recently established, we've extended our ability to grow our business and grow that partnership. And then I think with the M&N acquisition, the over molding capabilities and the bus bars, these are becoming much more sophisticated. We have in-house capabilities. And the plug board for Volkswagen was probably one of the most sophisticated connection systems in what would be an EV space. And we were awarded that program. That program continues to grow because it gets scaled across multiple platforms. So nothing has limited us from growing in that area that we don't have in-house. It'd just be -- if there was an opportunity to expand quicker inorganically, where it would fit, it might make sense, but we have all the capabilities in-house and we've done a nice job growing that business. And we talked about the growth there. It's been incredible over the last several years.

And the $750 million revenue target for connection systems in 2025 is -- does not include any inorganic growth.

Our next question comes from Emmanuel Rosner from Deutsche Bank. Please go ahead with your question.

Wanted to follow up with you on some of the growth over the market. So I appreciate all the detail you gave on the backlog and even sort of the reconciliation towards the 2023 growth over market. What do you feel are now sort of the right normalized growth over market profile for both of your segments or on an ongoing basis? And then to what extent do you think mix could sort of play an ongoing headwind or tailwind in that? I understand the 2023 dynamics. But just generally speaking, is that a big factor?

Yes, Emmanuel, I think that the mix factor or mix impact in '23 is probably the peak negative impact we would see in Seating. If you look out '24 and '25, I would expect that to moderate somewhat. And I think that 4 points of growth over market in Seating over the long term is still the right assumption to model. And as Ray alluded to earlier, we are seeing more interest from customers to take over business from competitors, either midstream or in the next generation than we've ever seen before. And that's coming on the heels of $2 billion -- nearly $2 billion of conquest awards over the last 4 years. I think the Seating team has performed at a very high level. They continue to -- customers are recognizing that. The competitive position we put ourselves in through the acquisitions, as Ray mentioned, again, with Kongsberg and the thermal comfort capabilities on top of everything else we've got there, certainly supports continued market share gains, and you may have noticed the change in tone somewhat on the 28% market share goal. That's a midterm goal. That's not the final goal. We see more runway to grow market share beyond 28% in Seating, and that would also support that four points of growth over market. In E-Systems, if you look at the backlog over the next 3 years and 6 points of growth over market is probably -- maybe a little bit light and maybe a little bit -- we may end up a little bit higher than that. But I think long term, that's a fair assumption to make as we continue to benefit from the shift to electrification and taking market share elsewhere in these systems.

Okay. Great. And I guess then just drilling a little bit more on the factors in 2023. So I think you spoke about some of the key platforms in North America being down. I think the backlog itself for 2023 was -- seems like it was pushed out maybe on the electric vehicle, the electric trucks from GM. Can you just sort of like over the various - summarize as headwinds to the mix this year?

Yes. I think you just described it. And some of the platforms that we're expecting to be lower that are important platforms for us. Today, they're still high volume Ford Explorer, we're calling that down 4%. I think IHS has it up. But our guidance assumes it's down 4%. The Jeep Compass, we're assuming that, that's going to be down about 24% and Audi, on the Q5, we're expecting that to be down about 20%. So in a North American market that's growing at 5%, that sort of weighs on the growth of the market in seating in particular. And then in terms of the backlog shift in 2023, you alluded to the GM program, but there's also a change in Volvo's manufacturing plants. So they had originally planned to build the XC90 in South Carolina when that program was awarded to us and then later made the decision to shift to the -- only the electric vehicle to the EX90 and the Polestar 3. And so the combined effect of that is lower revenue both in '23 and over the three year time period associated with that award.

Okay. That's super helpful. And just a very quick one. The engineering launch being sort of a, I guess, an earnings and margin headwind in 2023 despite what is essentially comparable backlog versus last year. I guess, is this because of this program that's coming in on a shorter time frame?

Yes, that is the driver. That's -- there's a $25 million investment in engineering and launch associated with that, and it's over a very compressed time period. And so that is the primary driver of the higher launch Engineering in Seating as we look out to next year. In addition to that, Engineering in general is up a bit more, and that's tied to some of the other conquest awards that were received that we'll launch in the '25, '26 time period in Europe in seating as well.

Emmanuel, we'll talk more about the launch. We're working with our customer right now after the first quarter on this launch that will take place later this year about the specifics. We can't talk about it on this particular call, but hopefully, after the first quarter, we can give a little bit more detail and clarity on specifically what program we're talking about and where and volume and those type of things.

Our next question comes from Adam Jonas from Morgan Stanley. Please go ahead with your question.

Hi, everybody. You had a competitor on earlier this morning who guided to a negative 1% global production, and while acknowledging the chip supply broadly is getting materially better year-on-year, they did highlight that there are certain systems and chips, specific situations that do remain problematic and are leading to supply disruption. I was curious if that was consistent with your view, and could you specifically tell us what your OEM customers are struggling with right now? What type of chip or module or system is problematic to prevent significant growth on that weak term. Thanks.

So it is better. There's no question about it. We're going to look back from where we were last year to this year. There's no question that our customers are much more sophisticated. I think what we're seeing now is the over ordering of all kinds of chips across the board, putting tremendous pressure on supply has been reduced. There are still issues relative to very specific chips and usage by particular products and I'm knocking in the specifics of what chips. I do know that we're in a much better situation, but there are situations where we're finding a shortfall of supply relative to chips. I think the communication between the customer and the Tier 1 and the chip manufacturer is significantly improved even though the industry as a whole has improved, there are pockets where we're finding shortage of particular chips. Now I do know that capacity -- more capacity is coming online this year. I think our customers are more optimistic about how things are going to move from the first quarter to the second quarter and the second half of this year should improve significantly. But we are at this stage right now in the first quarter, seeing shutdowns due to shortages of chips, and they're very selective chips. And I don't have the specifics of what those chips are, but we are still seeing shortages and it's more sporadic than we saw last year.

That's helpful. That's helpful. So I was going to ask, when did you think that would alleviate your suggesting second half? I don't know if you wanted to develop that a little more based on the schedules and discussions of what you're seeing between your Tier 2s and what you're hearing from the Tier 1s? Is that kind of the expectation, I mean for the latter part of the year?

There's capacity that comes online, I think that there's alternative designs that are coming online. There's, like I said, a much more sophisticated process now of what's required. The over ordering in the system that kind of shut down all chips, I think, has improved significantly. So from the way I'm looking at from what I'm getting feedback from OEMs and also suppliers, our chip manufacturers, is that the second half should be better.

And our final question today comes from Colin Langan from Wells Fargo. Please go ahead with your question.

Hi guys. This is [indiscernible] filling in for Colin. Just on the price concessions. You guys have done a really great job at gaining market share. Don't you guys think that this kind of gives you guys more leverage when you go into negotiations with your OEM customers?

Yes. You know what -- there's a -- like Jason talked about, there's a basket of ways that we can negotiate all kinds of things. And I will say this that we've been at this for 2.5 years with some of the commodity inflationary costs, labor shortfalls, those things, supply things. The customers are lot more willing to look at alternatives and ways to negotiate solutions across the board. We have not been in a position we have to buy business, and we're going after business just for the sake of buying business or productivity or paying for it. And I think the team has done a remarkable job of having balance between what our productivity deals are and offsetting some of the commodity increases, transportation increases, shutdowns, those types of things. So it is used in a very collaborative way with our customers to help offset some of the issues we've been talking about. And I think the customers have been receptive to working with us given some of the different situations that we've been able to help them out with either through supply or through launch or through production. So it continues to be a relationship game and making sure you're balancing between productivity and some of the issues that you're confronted with on the cost side.

Okay. Cool. That's helpful. And then lastly, just on labor. I think you called out $85 million impact in 2023. I think recently in Mexico, there was a minimum wage increase of 20%. Is that baked into that $85 million number?

Yes. It's one of the factors baked into that. And the minimum wage increase of 20% has sort of an indirect impact on us. Most of our -- for many of our wage groups in Mexico are well above the minimum wage. And so there -- it creates some compression in the wage scales, but it's not a 20% increase per se in our Mexico labor rates across the board. It's less than that.

You call it like 10%?

I'm not going to get into a specific percentage for that market.

Sure. Thank you for taking my questions.

I think that's it, and probably the only one left on the phone now as the Lear team, and I just want to again say thank you for your incredible accomplishments last year. It's amazing what the team has done collectively around the world. We're going to have our challenges this year, but I know this team is absolutely capable of continuing to accomplish some of the great things we did last year. And I just want to say thank you for everything that you're doing.

And ladies and gentlemen, with that, we'll conclude today's conference call. We do thank you for attending today's presentation. You may now disconnect your lines.