Autoliv, Inc. (NYSE:ALV) Q3 2023 Earnings Call Transcript

Autoliv, Inc. (NYSE:ALV) Q3 2023 Earnings Call Transcript October 20, 2023

Autoliv, Inc. misses on earnings expectations. Reported EPS is $1.66 EPS, expectations were $1.74.

Operator: Good day, and thank you for standing by. Welcome to the Autoliv Third Quarter 2023 Financial Results Conference Call. At this time, all participants are in a listen-only mode After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Anders Trapp. Please go ahead.

Anders Trapp: Thank you, Sandra. Welcome, everyone, to our third quarter 2023 earnings call. On this call, we have our President and CEO, Mikael Bratt; and our Chief Financial Officer, Fredrik Westin; and Me, Anders Trapp, VP, Investor Relations. During today’s earnings call, Mikael and Fredrik will, among other things, provide an overview of the strong sales, earnings and cash flow development we had in the third quarter, the structural cost reduction activities that we are doing to secure our long and medium-term competitiveness, and our updated full year indications, as well as provide an update on our general and business and market conditions. We will then remain available to respond to your questions. And as usual, the slides are available on autoliv.com.

Turning to the next slide. We have the safe harbor statement, which is an integrated part of this presentation and includes the Q&A that follows. During the presentation, we will reference some non-U.S. GAAP measures. The reconciliations of historical non-US GAAP measures are disclosed in our quarterly press release that is available on autoliv.com and in the 10-Q that will be filed with the SEC. And lastly, I should mention that this call is intended to conclude at 3:00 p.m. Central European Time. So please follow a limit of two (ph) questions per person. I will now hand over to our CEO, Mikael Bratt.

Mikael Bratt: Thank you, Anders. Looking on the next slide. Our performance continued to improve substantially in the third quarter. First, I would like to thank our employees for their great contributions to the third quarter results and the efforts to further strengthen our near and medium-term competitiveness. Our organic sales grew double-digits, outperforming light vehicle production significantly, especially in Asia. The strong growth was mainly a result of higher than expected light vehicle production, product launches and customer compensations for inflationary pressure. The adjusted operating income was a new record for a third quarter since the Veoneer spin-off. We generated a broad-based improvement in key areas, including gross and operating margins both year-over-year and sequentially.

Our cash flow was strong and the debt leverage remained well within our target range. While we maintained our dividend and almost tripled the number of share repurchase compared to the second quarter. We are making progress towards our intention of reducing our indirect workforce by up to 2,000. We have now detailed a large part of our structural cost reduction actions, including optimization of the company’s geographic footprint and organization. The National Highway Transportation Safety Administration has issued a new initial decision to recall 52 million airbag inflators manufactured by our competitor ARC. Autoliv estimate that less than 10% of the indemnified inflators were included in airbag modules that Autoliv supplied to customers after Autoliv acquired certain Delphi assets in 2009.

Autoliv is not aware of any performance issues regarding the ARC inflators included with its airbags. At this stage, it is too early to talk about any replacement plan. We are, of course, prepared to support our customers with replacement products. The light vehicle production in 2023 is now expected to develop slightly better than expected, and we have therefore increased our full year organic sales indications in line with this. We expect fourth quarter adjusted operating margin to improve by 1.5 percentage points to 2 percentage points compared to last year, in line with the previously communicated improvement pattern. Additionally, we expect the ongoing reorganization of our global functions and European operations to lead to a lower tax rate for 2023 than previously anticipated.

These changes are also expected to reduce our normalized tax rate from 2024 and onwards to a range of 25% to 30%. Now looking at the significant sequential cost improvements on the next slide. Year-to-date, we have generated a broad-based improvement in key areas, both year-over-year and sequentially. On this slide, we highlight the sequential improvements. In the third quarter, we continued to actively address our cost base, while negotiating with our customers to secure pricing and other compensations that reflect the high inflation. Our labor efficiency continues to trend up, supported by the implementation of our strategic initiatives, including automation digitalization. Our gross margin improved by 270 basis points compared to the first quarter and by 90 basis points from the second quarter.

This is mainly a result of the higher labor efficiency and customer [Technical Difficulty]. The positive trend for RD&E and SG&A in relation to sales, have continued and are (ph) now lined by 130 basis points since Q1. Combined with the gross margin improvements, this led to a substantially improvement in adjusted operating margin. Looking now on financials in more detail on the next slide. Sales increased by 13%, mainly due to new product launches, higher prices and favorable currency translation effects. The strong sales increase and cost reduction activities led to a substantially through — substantial improvement in adjusted operating income. Excluding effects of capacity alignment and antitrust-related matters, adjusted operating income increased by more than 40% to $243 million from $103 million last year.

The adjusted operating margin 9.4% in the quarter, an increase by close to 2 percentage points from the same period last year and by over 4 percentage points from the first quarter. Operating cash flow was $202 million, which was $30 million lower than the same period last year. The main reason for the lower cash flow was the unusual strong cash flow last year, which was related to timing effects of customer recoveries. Looking now on the limit (ph) impact of the UAW strike in North America on the next slide. The UAW strike in North America is in its fifth week. The impact Autoliv (ph) in Q3 was very limited. Our North American employees are not represented by UAW, but we are indirectly impacted by lost sales and more unpredictable and volatile LVP.

In first half ’23 and the Detroit 3 North America accounted for around 30% of our global sales or 36% of our sales [Technical Difficulty]. We estimate that we lost less than $2 million in sales in North America (ph). As per October 19, the per week revenue hit from the assembly plant strike is around $6 million. We have the developed bonds plan to the strike and build some inventory of components and finished products to support a quick ramp-up when the strike is over. At this point, it’s difficult to estimate the full impact of the UAW strike on our fourth quarter sales and profitability. There are many unknown factors, including scope, length of action as well as potential recovery of lost volumes after the strike, but also possible sales increases for brands not affected by the strike actions.

Our full year 2023 indications are based on the assumption that the UAW strike is not prolonged beyond what is included in the S&P Global October outlook. Looking now on the announced structural cost reductions initiatives on the next slide. To secure our medium-term and (ph) long competitiveness and to support our financial targets, we are accelerating our global structural cost reductions as previously communicated. This includes a substantial reduction of our global workforce with a particular focus on our European operations. These initiatives will continue to optimize our geographic footprint for a more effective structure while reducing costs and driving [Technical Difficulty] volume and cash flow. We intend to simplify [Technical Difficulty] how we operate in all areas.

The headcount reduction will affect people [Technical Difficulty] in our offices, technical centers and plants, including leadership positions at all levels. On July 13, we announced the first step of our planned reductions of around 1,100 indirect and direct employees. On October 5, we announced the reduction of 300 indirect employees in China, Japan, Sweden, and the United states and the closure of an office in Netherlands. These four steps are expected to reduce cost by around $35 million in 2024, $65 million in 2025 and $85 million when fully implemented. Looking now on our sales growth in more detail on the next slide. Our consolidated net sales increased to $2.6 billion, a record for the third quarter. This was close to $300 million or 13% higher than the year earlier, driven by price, volumes and currencies.

Out of the period cost compensations contributed with $6 million. Out of period compensations are retroactive price adjustments and other compensations that mainly relate to first and second quarters and (ph) negotiated in the third quarter. Looking on the regional sales split, Asia accounted for 40%, Americas for 35% and Europe for 25. We outlined our organic sales growth compared to light vehicle production on the next slide. I am very pleased that our organic sales growth significantly outperformed global light vehicle production growth in the third quarter, as we continued to execute on our strong order book. According to S&P Global, third quarter light vehicle production increased by close to 4% year-over-year. This was 7 percentage points higher than expected at the beginning of the quarter, with most of the higher-than-expected production coming from [Technical Difficulty] OEMs in China and OEMs in Eastern Europe.

In the quarter, we (ph) outperformed global light vehicle production by around 7 percentage points. We outperformed in the rest of Asia by 15 percentage points, in Japan by 14 percentage points and in China by 6 percentage points. The performance in China was mainly driven by increasing sales to the fast-growing domestic Chinese OEMs. Our sales to this group outperformed light vehicle production with close to 30 percentage (ph) points as we continue to deliver on the strong order book in China. We expect a positive year-over-year sales growth trend to continue into the fourth quarter. On the next slide, we see some key model launches from the third quarter. In the quarter, we had a high number of product launches, especially in China and Europe.

The trend towards electrification is clear. With six models being available as electric version, six of the models shown on this slide have an Autoliv content per vehicle of around $300 or higher, with the highest at over $750. In terms of Autoliv sales potential, the BMW i5 5-Series launch is the most significant. For the full year, we expect a record number of launches with high number in China, Europe and South Korea. I will now hand it over to our CFO, Fredrik Westin, who will talk about the financials on the next few slides.

Fredrik Westin: Thank you, Mikael. Slide (ph) highlights our key figures for the third quarter of 2023 compared to the third quarter of 2022. Our net sales were $2.6 billion, this was a 13% increase. The gross profit increased by — sorry, by $82 million or by 21% to $465 million, while the gross margin increased by 1.3 percentage points to 17.9%. The gross profit increase was primarily driven by price increases, volume growth, lower costs for material and premium freight. This was partly offset by increased costs for personnel related to volume growth and wage inflation. In the quarter, we made a total adjustment of $11 million to the operating income, of which $10 million was for capacity alignments. The adjusted operating income increased from $173 million to $243 million, and the adjusted operating margin (ph) increased by 180 basis points to 9.4%.

I will explain more when we go through the operating income bridge. Adjusted earnings per share diluted increased by $0.04, where the main drivers were $0.57 from higher adjusted operating income, partly offset by $0.10 from financial items and $0.07 from taxes. Our adjusted return on capital employed and return on equity increased to 25% and 21%, respectively. We paid a dividend of $0.66 per share in the quarter, and we repurchased and retired around 1.23 million shares for $120 million under our stock repurchase program. Looking now on the adjusted operating income bridge on the next slide. In the third quarter of 2023, our adjusted operating income of $243 million was $70 million higher than the same quarter last year. Our operations were positively impacted by improved pricing and other customer compensations, higher volumes, lower cost for premium freight as well as our strategic initiatives that were partly offset by the significant headwinds from general cost inflation.

The impact from raw material prices was limited. Out-of-period cost compensation was approximately $6 million lower than during the same period last year. FX impacted the operating profit negatively by $8 million. This was mainly a result of negative translation effects. Costs for SG&A and RD&E net combined was $14 million higher, mainly due to higher personnel costs and projects. However, in relation to sales, it was down 50 basis points. As a result, the leverage on the higher sales, excluding currency effects, was in the upper half of our typical 20% to 30% operational leverage range. This is despite not getting any leverage on the inflation compensation from our customers. Looking now on the cash flow on the next slide. For the third quarter of 2023, our cash flow [Technical Difficulty] decreased by $30 million to $202 million compared to the same period last year, mainly as a result of less favorable working capital effects, partly offset by the higher net income.

Year-to-date, operating cash flow increased by $285 million compared to the same period last year to $535 million, mainly due to higher adjusted operating income and less negative working capital effects. During the third quarter, working capital grew by $36 million, driven by higher inventories. We will provide more information on trade working capital on a later slide. Capital expenditures net decreased to $151 million from $164 million in the previous year. Capital expenditures net in relation to sales was 5.8% compared to 7.1% a year earlier. Free cash flow was $50 million in Q3, $18 million lower than a year earlier. And year-to-date, free cash flow has improved by $186 million to $107 (ph) million. Our full year indication of an operating cash flow of around $900 million is unchanged.

Last 12 months cash conversion, defined as free cash flow in relation to the net income was 99%. Now looking on our trade working capital development on the next slide. During the third quarter, trade working capital increased by $11 million, driven by $35 million higher inventories, partly offset by $14 million higher accounts payables and by $10 million in lower receivables. The higher inventories was mainly due to the continued volatility and the UAW strikes. In 2019, we launched our capital efficiency program aiming to improve working capital by $800 million. To date, we have achieved almost $350 million, all from payables so far. Receivables and special inventories are lagging due to the high call of volatility and hence planning challenges resulting in inefficiencies.

We do expect this to improve significantly in tandem with the reduced call off volatility. Now looking on our leverage ratio development on the next slide. Our debt leverage ratio at the end of September 2023 was 1.3 times, unchanged compared to the prior quarter. This was a result of $36 million (ph) higher net debt and $77 million higher 12 months trading adjusted EBITDA. Now looking on shareholder returns on the next slide. Autoliv has shown in the past several years, its ability to generate solid cash flow in periods with difficult market environments, such as COVID lockdowns, the war in Ukraine, industry supply chain challenges and related substantial decline in light vehicle production. Produced dividend payments and share repurchases to create shareholder value.

[Technical Difficulty] the dividend has usually represented a yield of approximately 2% to 3% in relation to the average share price. Over the last five years, we have reduced the net debt significantly while returning $1.2 billion directly to shareholders. This includes stock repurchases of 3.6 million shares for a total of $317 million as part of our current stock repurchase program. We are considering several factors when executing the program such as our balance sheet, the cash flow outlook, our credit rating and the general business conditions, not only the debt leverage ratio. We always strive for the balance that is best for our shareholders, both long and short term. I’ll now hand it back to Anders. (ph)

Anders Trapp: Thank you, Fredrik. Looking at the next slide. As supply chains have improved in many regions, vehicle demand, sales backlogs and inventory stocking are now the main drivers of market development. S&P Global now expects that the fourth quarter global light vehicle production to increase by 3.6% compared to last year. Compared to the third quarter, volumes are expected to increase by around 2% due mainly to normal seasonality from summer shutdowns in the third quarter. Despite concerns surrounding elevated vehicle pricing in some markets and deteriorating credit conditions, global full year 2023 light vehicle production is projected to increase by over 7%. This is 250 basis points higher than their forecast from July.

This increase is driven by lower content vehicle models in China and higher growth in Eastern Europe, while production forecast for higher content markets, Western Europe and North America is lowered. For Autoliv, this change impacts average content per vehicle negatively by more than 800 points compared to S&P’s July forecast. Light vehicle production in China continues to show relative strength, owing to both a strong EV demand and export activity, mainly benefiting the domestic OEMs. Near-term production, light vehicle production in North America continues to be impacted by the ongoing UAW strike. The latest S&P forecast for the fourth quarter is revised down to minus 7%. This includes the continuation of the strike actions already announced through Thanksgiving.

Production in Europe is to a large extent, secured by OEM sales backlogs. However, we are set to see the underlying demand has abated due to higher vehicle prices and tighter credit conditions and the order backlogs at OEMs are shrinking going into 2024. We based our full year sales indication on global light vehicle production growth of around 7%. Now looking at [Technical Difficulty] adjusted operating margin progression in the next slide. For the fourth quarter, we expect substantial improvements of the adjusted operating margin. We anticipate further cost compensations from customers. The headcount reductions that we talked about previously, should support operating leverage and profitability. We expect continued high year-over-year sales growth, supported by launches, higher light vehicle production and higher prices.

We have continued to see an improvement of supply chain stability throughout the year with reduced customer call-off volatility. However, the improvement is somewhat slower than we had expected as it deteriorated somewhat in Europe in Q3. This, together with the higher sales and adverse FX development means that we expect the fourth quarter adjusted operating margin improvement year-over-year of around 1.5 percentage points to 2 percentage points, in line with the previously communicated improvement pattern of around 2 percentage points each quarter throughout 2023. Looking at our full year 2023 financial indications on the next slide. This slide shows our updated full year 2023 indications. The indications exclude costs and gains from capacity alignment, antitrust-related matter, a litigation settlement and other discrete items.

Our full year indication is based on the light vehicle production growth assumption of around 7%, up from 4% in the previous indication. As a consequence, our organic sales is expected to increase organically by around 17% instead of the earlier indications of growth of around 15%. Currency translation effects are assumed to be around positive 1%. The range for the adjusted operating margin is unchanged around 8.5% to 9%. Operating cash flow is expected to be around $900 million. Our positive cash flow trend should allow for continued high shareholder return. Note that our full year 2023 indications are based on the assumptions that the UAW strike is not prolonged beyond what is included in the S&P Global October outlook. I will now hand it over to Fredrik to briefly talk about 2024 and the improvements we see.

Fredrik Westin: Turning to the next slide. For 2024, we see some tailwinds and headwinds. The main tailwinds include call of stability, leading to direct labor efficiency improvements, savings from the structural initiatives, as outlined earlier, effects from — effects of continued operational improvements from automation and digitalization, but also favorable raw materials and executing on the strong order book. The main headwinds include operational headwinds from expected continued inflationary pressure, although smaller than this year, which we expect to lead to a customer compensation catch-up later in the year, just as it was in 2022 and 2023. Considering these potential tailwinds and headwinds, we expect a year-over-year improvement in adjusted operating margin.

We expect 2024 to be an important step towards our medium-term target of 12% adjusted operating margin. As we have communicated, the medium-term targets rests on a few key conditions, which are that global light vehicle production is at least $85 million, that the call of volatility is back to pre-pandemic levels and that we have full compensation for inflationary pressure after 2021 for a full year. We intend, as usual, to come back with the 2024 full year indication in connection with our fourth quarter earnings release in January. And I’ll now hand it back to you, Mikael.

Mikael Bratt: Thank you, Fredrik. On to the next slide. This concludes our formal comments for today’s earnings call, and we would like to open the line for questions from analysts and investors. I will now hand it over back to our operator, Sandra.

Operator: Thank you. [Operator Instructions] Our first question comes from Relius Emmanuel Rosner from Deutsche Bank. Please go ahead.

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Q&A Session

Emmanuel Rosner: Thank you. I had two questions around some of the factors you’ve highlighted going into 2024. The first one you’re mentioning on this slide is the customer call-offs as a positive. So just was curious if you could give a little bit more color of what you’ve actually seen in Europe this quarter where you indicated that there may have been some sequential deterioration. What do you think drives this and is that an ongoing issue? And then as we move essentially into 2024, how do we think about these savings? Is it just better incremental margin on higher volume or is it like — is there a discrete bucket of, I don’t know, headcount reduction that you can achieve as a result of more stable call-offs?

Mikael Bratt: Thank you, Emmanuel. Let me start with the call last then and hand over to Fredrik to take you through the second part of your question there. As we have talked about throughout not only this year, but see some time back here, we have had a challenging situation when it have come to this volatility resulting in stop-and-go in our operations here. And that has, throughout the year, improved and going in the right direction, including Europe. But what we saw in Q3 here in Europe was that it turn to the worse again. And that is, I would say, purely related to supply issues in our customers’ value chain here. So of course, the root cause for that could vary. But for example, we still see that the semiconductor situation is still a problem for some of our customers.

We have no reason to believe that this deterioration in Europe comes from any end consumer deterioration or situation at all. So, I see it’s very much connected to the reasons we have had in the last quarters and years here that, unfortunately, went in the wrong direction for Europe. But otherwise, I would say, as an average, we are climbing up towards the 90% level. But as you remember, pre-pandemic, we were basically at 100%. So, we are still far from where we were before the pandemic when it comes to the stability altogether in the company regardless of region there. So, Fredrik, maybe…

Fredrik Westin: So then, yeah, for next year, if you look at S&P Global, based on that, there will also be the expectation is that we should also expect some even a bit limited volume growth. So that should help the margin development. But then it is more importantly, the further improvement on the call of stability. I mean we do have significant inefficiencies in our operations due to the current significantly lower level of stability. And the further this comes up to the 100% that Mikael mentioned, the more it will allow us to move or operate back at the efficiency levels that we’ve been used to. But of course, then the third component is the structural initiatives that we have added on to this and both on the indirect side and the direct side that is also supported by what we’re doing in automation and digitalization.

Emmanuel Rosner: Thank you. And then my second question is specifically about the structural initiatives. I think earlier in the year, when you had first announced a plan for headcount reduction. I think you had mentioned at the time a potential total of 8,000 headcount reduction. I think so far, based on the plans announced the first steps, I think you announced maybe about 1,400 or so of this 8,000. So obviously, a lot more to go. So, my questions are, is 8,000 still the right number in the current environment? And then what would be the timing for not just announcements of additional steps, but can any of those still benefit 2024 or would that be beyond that?

Fredrik Westin: Yeah. So, we did announce 8,000, but we also split that into two groups. It was 2,000 of what we call indirect or salaried employees and then 6,000 on the direct side. The direct side, the 6,000 is very much connected to what we just talked about before. So, it is also based on that we come– or that the stability levels on the call of also support that. And then we should be able to come back to the regular type of productivity achievements that we have been operating at, which will then allow us to take out 6,000 people with the volumes of end of March as the basis for that number, and that is progressing. Then on the 2,000, yeah, we have announced so far 1,400 of which 300 were direct. So, of the 2,000, we have announced 1,100.

And also, the savings associated with that. So, there is more to come, but we have so far progressed on more than half of the 2,000. And cost-wise of what we’ve taken also more than half has been booked already. And you can also see now in the third quarter that our headcount is down by 400 employees on the indirect side. So yes, some of those activities are already in place.

Emmanuel Rosner: Thank you very much.

Mikael Bratt: Thank you.

Fredrik Westin: Thank you.

Operator: Thank you. We will now take the next question from the line of Colin Langan from Wells Fargo. Please go ahead.

Colin Langan: Great. Thanks for taking my questions. In the last slide, you noted inflationary pressure and the timing of customer compensation as the big headwind into next year. I mean what are the new inflationary costs that we should be thinking about into next year or is it that you’re getting a little bit more pushback on getting recoveries? Is that the other part of the issue? And then in general, can you just remind us how much of what you’ve already gotten recovered is in the piece price versus what would actually need to get maybe renegotiated at the start of next year?

Fredrik Westin: Yeah. So, on the first, I mean, we use the same macroeconomic forecast that you have at your hand and available. So, we do expect that inflation level should come down as they are right now, and they should be lower next year than this year. But we do also expect that special labor will have a higher inflation level next year than what it has had at historical averages, but most likely less than what we’ve had in this year. But we’ll come back to that when we talk more specifically on 2024. Then on the recovery side, I think we have progressed as expected. And we did indicate after the second quarter’s earnings or in the call that there might be a delay from Q3 into Q4, but that has not really happened. So Q3 developed more or less as we had expected initially, meaning that it’s not as much back-end loaded in this year as we had communicated back then.

And it’s also — it was more piece price recovery in the third quarter here now with the lump sum than what we have communicated in the second quarter.

Colin Langan: But does that mean when you go into next year, you’ll have to renegotiate those lump sums again? And is that a concern as you go into next year that you might get more pushback given the labor inflation the automakers are facing?

Mikael Bratt: No, I think already last year, we also had lump-sums that we negotiated this year. I think the important thing is that we have a, I would say, a process together with our customers, how to get compensated for the inflationary components here. And we have, I would say, an annual process here where we take that into account. So, I think the split of what is lump sum and what is more fees price related is connected to the tie for inflation. You could say, if it’s something of temporary nature, it should, of course, not need to be in the same level as we move forward. So, it’s a very detailed negotiation with each customer. But what you need to remember also is that this is mirroring what we have with our suppliers.