Adient plc

Welcome and thank you all for standing by. At this time, I would like to inform all participants that your lines have been placed on a listen-only mode until the question and answer session of today's call. Today's call is also being recorded. If anyone does have any objections, you may disconnect at this time. And I would now like to turn the call over to Mr. Mark Oswald. Thank you. You may begin.

Thank you, Sue. Good morning, and thank you for joining us as we review Adiant's results for the third quarter of fiscal year 2021. The press release and presentation slides for our call today have been posted to the Investors section of our website at adiant.com. This morning, I'm joined by Doug DelGrosso, Adiant's President and Chief Executive Officer, Jeff Stafile, our Executive Vice President and Chief Financial Officer, and Jerome Dorlak, Executive Vice President and Head of America Seating. On today's call, Doug will provide an update on the business, followed by Jeff, who will review our Q3 financial results in outlook for the remainder of the fiscal year. After our prepared remarks, we will open the call to your questions. Before I turn the call over to Doug and Jeff, there are a few items I'd like to discuss. First, today's conference call will include forward-looking statements. These statements are based on the environment as we see it today, and therefore involve risks and uncertainties. I would caution you that our actual results could differ materially from these forward-looking statements made on the call. Please refer to slide two of the presentation for our complete safe harbor statement. In addition to the financial results presented on a GAAP basis, we will be discussing non-GAAP information that we believe is useful in evaluating the company's operating performance. Reconciliations for these non-GAAP measures to the closest GAAP equivalent can be found in the appendix of our full earnings release. This concludes my comment. I'll now turn the call over to Doug. Doug?

Great. Thanks, Mark. Good morning. Thank you to our investors, prospective investors, and analysts joining the call this morning as we review our third quarter results for fiscal 2021. Turning to slide four, let me begin with a few comments related to our third quarter. As we anticipated heading into the quarter, the ongoing supply chain disruptions related to semiconductors, and resulting in customer production stoppages combined with escalating commodity prices provided a difficult operating landscape for the industry and Addient. I'll dig deeper into those macro pressures in just a minute. Despite the many challenges, the Addient team remained focused and successfully executed items within our control, while at the same time took proactive actions to lessen the impact of the production stoppages and lost sales. Starting on the left-hand side of the slide, at-ance revenue for the quarter was $3.2 billion, up significantly from the $1.6 billion reported in Q3 fiscal 20. Last year's results, as you're aware, were significantly impacted by vehicle production shutdowns across Europe and Americas due to COVID-19. Although revenue increased year-over-year, this year's top line was also impacted by significant headwinds, specifically the numerous production stoppages at our customers due to semiconductor supply disruptions. Adjusted EBITDA for the quarter totaled $118 million, and as pointed out on the slide, this included just over $50 million in premiums and temporary operating inefficiencies, again, primarily driven by chip shortages and unplanned production stoppages. Edient's June 30th cash balance totaled $1 billion, I'll point out that the cash balance does not include about $270 million held in other assets, as a deposit related to certain assets is acquiring from the YFAS joint venture as part of our China strategic transformation. In addition, about $190 million of cash was used during the quarter to repay a portion of the company's debt. Finally, speaking of debt, Edian's gross and net debt totaled just over $3.7 billion and $2.7 billion, respectively. Approximately $180 million of principal debt prepayment occurred during Q3. Jeff will provide additional color on Edian's financial results, including our capital structure, in just a few minutes. Achieving the results just discussed was hard fought, especially considering the near perfect storm of temporary headwinds that impacted the industry in Adian. These included supply chain disruptions and unplanned production stoppages, increased freight costs, significant increases in commodity prices, and continued costs associated with COVID-19, just to name a few. Rather than dwell on the negatives, the team looked ahead and began to implement actions to help lessen the impact. On the right-hand side of the slide, we've highlighted certain of those proactive measures. Actions taken included pulling ahead preventive maintenance, reallocating our resources between plants, implementing involuntary, voluntary layoffs at our plants in the U.S. and Canada, forced vacations for impacted salary team members, and keeping very tight controls on discretionary spending, including travel, which is essentially limited to launch activities and hiring. The list shown is not exhaustive, but should provide you an idea of how the company continues to drive the business forward, essentially executing on actions that are within our control. Turning to slide five, let me shift gears slightly and spend a few minutes discussing the current operating environment, as the factors shown on the slide are really dominating and influencing the business near term, as evidenced in our Q3 results. First, despite the many negative headlines, there are a number of positive influence impacting the industry, including Consumer demand, which remains extremely strong. Vehicle inventories, which are at near or historic levels and will continue to drive strong production for several quarters as manufacturers look to rebuild inventory. Vehicle mix, which remains strong as manufacturers continue to protect production of their most profitable trucks and SUVs. And finally, COVID treatments and vaccines are generally driving the reopening of many economies We continue to watch closely as certain variants, such as the Delta variant, could result in disruptions along the way. That said, in focusing on the headwinds column, there are a number of headwinds which we view as temporary that are masking or limiting the full benefit of the positive influence just discussed. They include ongoing supply chain semiconductor shortages, which continue to result in production downtime at our customers. As seen with our Q2 and Q3 results, these unplanned production stoppages are leading to premiums and operating inefficiencies across our network. That said, for fiscal 2021, we estimate supply chain disruptions and resulting loss production, operating inefficiencies, premium rate, et cetera, will have a net impact on the top line of about $1.1 billion and adjusted EBITDA by approximately $300 million. I wish I could tell you this will be limited to 2021. Unfortunately, as shown in our call-out box on the far right, the visibility of our customers' production schedules has not improved over the course of the past few months. Discussions and commentary from our customers suggest improving supplies of chips and production schedules in the coming weeks and months. Unfortunately, we continue to experience very short notice of production downtime. And it's likely this trend will continue through the rest of our fiscal year and even into 2022. Also, having a significant impact on the business, as mentioned in our Q2 earnings call, continues to be escalating steel and chemical prices. As noted on the slide, steel prices in the Americas are up approximately three times versus the beginning of the year. And although has certain mechanisms and pass-through agreements with our customer, they were never intended to cover movements of this magnitude for this long of duration. For 2021, we estimate the net impact to be about $80 million consistent with what we shared in our Q2 call. Although these items appear to be temporary in nature and should lessen over time, they are placing a significant amount of strain on the near-term business. The question remains, When will these pressures subside? Our best guess is the supply chain disruption and increased commodity costs will likely persist as we enter 2022. Jeff will dig deeper into the impact the rising commodity prices is having on Adiant in his prepared remarks. Turning to slide six, shifting back to the theme of executing actions within our control, let me provide a few comments related to Adiant's long-term objectives. First, we are on track with our strategic transformation in China. This includes, among other agreements, the termination of the YFAS joint venture and the acquisition of an additional 50% equity interest in CQYFAS, resulting in us owning 75% interest in CQ and 100% equity interest in the YFAS Long Feng. I hope to share news of the completion of the agreements in the not so distant future. As a reminder, Addiant is expecting cash proceeds of about $1.54 billion after tax with the first tranche of proceeds collected at the closing and the remaining proceeds collected prior to the 2021 calendar year end. The completed transaction will enable Addiant to drive our strategy in China independently which is expected to result in a variety of benefits, including capturing growth and profitable and expanding segments, improving the integration of the company's China operations, and allowing for more certain value realization relative to the status quo, where cash and value are generated from dividends at entities not in audience control. As mentioned in March, we expect to remain a leader in China market, essentially a position on par with and among the top three complete-seat suppliers in the market. Based on our estimates, this equates to a market share of just under 20 percent. Equally exciting, and as part enabled by the China transformation, is the work underway to transform Addion's capital structure. As mentioned earlier, during QG, we paid down the final $160 million in principal of the company's 7 percent first lien notes. In total, so far in fiscal 21, the company has prepaid approximately $840 million in debt. When combining the 7% note paydown, the prepayments made to the European Investment Bank Loan, I'd also remind you the company made $100 million of voluntary debt prepayments at the end of fiscal 2020, bringing our total voluntary debt paydown to $940 million. since the beginning of the capital structure transformation in Q4 fiscal year 20. Add-in's capital structure has a lot of flexibility and callability remaining. We expect to continue our deleveraging efforts upon completion of the China transaction and collection of the related proceeds. Whether it's the longer-term strategies just discussed or the day-to-day initiatives, such as improving our plant operation and flawlessly executing on launches, Addion is executing actions within our control despite the macro headwinds that are temporarily impacting the industry. The continued push to improve the business has had a positive impact on our relationships with customers as well. We've seen Addion's customers recognize value-added product and process initiatives. At the bottom of the slide, we've included a few awards recently received, including Stellantis Best Supplier Competitiveness Award, Toyota's Superior Supplier Diversity Award, GM's Excellence in On-Time Shipping Award, and finally, the Outstanding Quality Launch Performance Award from Nissan. I mention this recognition only to provide proof points that the team continues to execute on many fronts, continually looking for ways to drive the business forward. Turning to slide seven, let me provide a few comments and add in business wins and how we're strengthening our leading market position. What hopefully has been clear is that we reported our key wins over the last several quarters is the fact that adding continues to focus on capital allocation, return on capital when targeting new or incumbent business wins, and it's not limited our ability to secure new business. Our year-to-date win rate for both targeted new business and targeted incumbent business is tracking in line with our expectations. We've highlighted a number of recent program wins here, including a number of key replacement wins this past quarter, including Toyota Tacoma, Mercedes A-Class, Mercedes GLA, and the Nissan Patrol. In addition to these replacement wins, Etient also secured new SUV program with Xiaoping in China and the new EV CUV platform at Honda. It should be noted that our recent wins awards include a good mix combination of jet, foam, trim, and metals business. As our new book of business continues to launch, we expect the balance-in, balance-out platforms to further enable margin expansion. Turning to slide eight, as we typically do, we've highlighted several critical launches that are complete in process or scheduled to begin in the near term. I'm happy to report we're heading into the final few months of the fiscal year, and the team continues to focus on process discipline around launch readiness and has driven a very high level of performance, especially considering the launch load and the complexity of launches that were planned for this year. In addition to the number of launches and complexity, the disruption to production schedules presented another layer of challenges to the team successfully managed through, though. Again, a testament to the discipline around our processes. We have no intention of letting up and look forward to finishing the year strong with the launches that are in process and scheduled to begin entering fiscal 2022. Before turning the call over to Jeff, flipping to slide nine, let me just conclude my remarks with a few comments about Adian's guiding principles. These principles are intended to drive Adian forward while focusing on what's most important, the key drivers, customer, quality, people, community, and financial discipline guide and inform our business strategy and our culture. As pointed out today, remaining focused on these drivers enable the team to drive the business forward, even while operating in a challenging environment we're currently facing. I'm proud of what we've accomplished. I'm excited about what lies ahead. And with that, I'll turn the call over to Jeff to take us through Etienne's third quarter 2021 financial performance provide a little bit more color on what's expected as we wrap up 2021.

Thanks, Doug. Good morning, everyone. Before jumping into the financial results, which to a certain extent provide less insight into the ongoing operations given the abnormal operating environments in both Q3 of last year and this year, let me spend a few minutes discussing commodity inflation. Specifically, what we're seeing today, how it's impacting the business and steps the company is taking to lessen the impact, especially as it relates to the out years. First, on slide 11, we've provided a chart illustrating price movements and expected price movements for hot rolled steel in North America. As you can see, despite repeating forecasts that prices will fall, prices have continued to increase while forecasts for price decreases continue to be pushed out. For Adiant, this has resulted in more than a three times increase in the cost over the last 12 months for steel. Assuming prices remain constant, the impact on our cost for steel and chemicals would be approximately $650 million higher in 2000 or more in 2022 than prices paid in 2020. The $650 million is based on current market conditions such as hot rolled steel prices in excess of $1,800 a ton. If the current market conditions hold and we do nothing commercially to pass through this increase to our customers beyond our current commercial agreements, net commodity price headwind for fiscal 22 would be approximately $200 million versus 2021. However, as you would expect, we're taking aggressive actions to mitigate the impact, which I'll discuss further on slide 12, And for that reason, it's premature for us to know how much of this headwind will be realized in 2022. We've spoken at length on prior calls with regard to Addion's recovery mechanisms that are in place to recover material cost changes. As a reminder, our pass-through agreements differ by customers in two key attributes, lag and percentage of contractual recovery. For lag, certain customers are nearly immediate. Others, such as our Japanese headquartered customers, tend to be trued up on an annual basis or essentially a five-quarter lag. This results in an average lag for Adiant of a little more than two quarters. For the contractual piece, some customers have 100% pass-through with lag, while others might have only a 60% contractual pass-through. These pass-throughs have generally been effective, despite the lag, in protecting the company over the cycle as commodity prices have fluctuated. The mechanisms tend to work best against minor, short-duration price movements. They are not designed for the extreme increases impacting the business today. Turning to slide 12, on the left-hand side of the slide, we've provided an illustrative example of how movements in commodity prices impact Adyen's financial results. In general, as you would expect, Adyen's financial results are negatively impacted as prices rise, but positively impacted as prices decline. Important to point out, Prices through the cycle have generally reverted to the mean. As material cost goes up, the revenue change true up from the customer will lag resulting in reduced EBITDA. Only when the cost goes down and when revenue change again lags will we recover the lost profits and vice versa. Addient generally recaptures approximately 70% of commodity inflation through automatic mechanisms while the remaining 30% must be negotiated through hard-fought, roll-up-the-sleeves type negotiations. You'll also see on the chart we've included a pair of dotted lines, which we view as normal movements in commodity prices over a cycle. Call it somewhere around 15% plus or minus. As discussed on the prior slide, Adiant's mechanisms in place today, combined with manual commercial negotiations, have enabled the company to recapture nearly all cost increases over time in this environment. Unfortunately, this is not the environment we're in today, and is the reason the company is executing aggressive actions in an attempt to mitigate the impact of rising commodity costs. These include, but are not limited to, renegotiating commercial agreements with our customers to reduce time lags associated with true-ups, and reducing, ideally, and ideally eliminating, Adyen's portion of the pain share agreements, recognizing Adyen's position as a value-add flyer. And finally, making sure the underlying indices that underpin the true-ups are actually aligned with the commodities being purchased. For example, we currently have an agreement in place with one customer where the true-up is based on a scrap steel index, which is not reflective of the steel being purchased. As you might expect, the discussions are not one size fits all. We're tailoring the discussions based on the size of the exposure, relationship with the customer, et cetera. Given Adiant's timing of commodity purchases and continued escalation in steel prices and, to a lesser extent, chemical prices, it appears commodity prices will remain a headwind entering 2022. That's why it's imperative we move quickly to address this headwind. That said, the outcomes of these ongoing discussions will ultimately determine the magnitude of the headwind next year, and that's why it's premature for us to dimension the risk at this time. Speaking of 2022, the team is in process of developing our fiscal 22 plan. We've discussed one of the big unknowns, commodities. The other driver will be vehicle production. As Doug mentioned earlier, our visibility into our customer production schedule is currently quite low. We hope as we exit fiscal 2021 and enter fiscal 22, visibility improves, especially as it relates to the semiconductor supply chain. I anticipate sharing our 2022 plan planning assumptions with you as we typically do during our Q4 financial results conference call in early November. Now let's move to slide 14 and shift gears to Adyen's Q3 financial results. Adhering to our typical format, the page is formatted with the reported results on the left and our adjusted results on the right-hand side of the page. We will focus our commentary on the adjusted results, which excludes special items that we view as either one time in nature or otherwise skew important trends in underlying performance. For the quarter, the biggest drivers of the difference between our reported and adjusted results relate to indirect tax recoveries in Brazil, write-off of deferred financing charges resulting from debt repayment, transaction cost, restructuring cost, and purchase accounting amortization. One other significant adjustment important to note relates to a derivative loss on the Yanfang transaction As a reminder, the proceeds associated with the China strategic transformation were negotiated in RMB. Adiant executed a hedge to protect our cash proceeds. Movements between the USD and CNY resulted in a non-cash loss. Details of these adjustments are in the appendix of the presentation. For the quarter, sales were $3.2 billion, up significantly compared to our third quarter results last year, where much of our production across Europe and America was shut down due to COVID. Although year-over-year, add-in sales in the most recent quarter were significantly impacted by lost production, primarily driven by supply chain disruptions related to semiconductors. Adjusted EBITDA for the quarter was $118 million, up $240 million year-on-year, more than explained by an increase in volume and mix. Unfortunately, the benefits from increased volume were significantly offset by numerous temporary operating inefficiencies, which, by the way, masked business performance improvements made to the core ongoing operations. For example, of the approximate 600 million in lost sales in our Americas operation, we received notification of the reduction less than three days in advance, while we received more than seven days' notice in less than 20 percent of the time. This is obviously a difficult environment to run a JIT operation. In addition, rising commodity costs and lower equity income also had a negative impact in the quarter. I'll expand on these key drivers in just a minute. Finally, at the bottom line, Addient reported a net loss of $50 million, or a loss of 53 cents per share. Now let's break down our third quarter results in more detail, starting with revenue on slide 15. We reported consolidated sales of $3.2 billion, an increase of $1.6 billion compared to the same period a year ago. The primary driver of the year-over-year increase was attributed to higher volume and mix, call it $1.5 billion, and to a much lesser extent, the positive impact of currency movements between the two periods of about $68 million. Portfolio adjustments executed in fiscal 20 provided a very minor offset to the benefits of volume and FX, call it about $16 million. Focusing on the table on the right-hand side of the slide, you can see our consolidated sales failed to keep up with production in both the Americas and EMEA. The primary driver was Adiant's customer mix, which was heavily weighted to manufacturers that were significantly impacted by the semiconductor shortages. These customers included Ford, Daimler, Stellantis, Renault, and VW. Looking at the various third-party production forecasts, it's estimated Addient's portion of the lost Q3 production volume was about 30% and 45% in the Americas and EMEA, respectively. Of course, we view this as temporary and should reverse as the supply chain stabilizes. With regard to Addient's unconsolidated seeding revenue, year-over-year results were up approximately 4%, adjusting for FX and executed portfolio changes. Significant year-over-year increases were recorded in both Americas and EMEA, again largely driven by the fact that these operations were all but shuttered in Q3 of last year. In China, unconsolidated sales were relatively in line with industry production, despite an approximate 7% decline at YFAS. Similar to what we saw with our consolidated results, Sales at YFAS were heavily impacted by supply chain disruptions at their customers. Moving to slide 16, we've provided a bridge of adjusted EBITDA to show the performance of our segments between periods. The bucket label, the corporate, represents central costs that are not allocated back to the operation, such as executive office, communications, corporate finance, legal and marketing. Big picture, adjusted EBITDA was $118 million in the current quarter versus a loss of $122 million last year. The primary driver of the increase is detailed on the page, but effectively compares two very suboptimal quarters. Last year was obviously overwhelmed by COVID-related shutdowns, while this quarter was materially impacted by external factors outside of add-ins control, such as the semiconductor shortage and the storm in Texas earlier this year and its related fallout impact to the chemical supply and cost, to name just a couple of the factors. Therefore, I do not plan to go into in-depth discussion on this page, but we've outlined the movements year over year in detail for your information. And that said, to give comfort or some proof points on Adyen's turnaround in the last couple of years, let me give some statistics comparing Q3 21 to Q3 2019 or the last Q3 period without significant externally generated shock to our business. Compared to that 2019 Q3, our admin expense was approximately $20 million lower this past quarter, while launch expense, ops waste, and premium freight were also better by $30 million. We also realized approximately $70 million of improvements in other operating metrics But these were unfortunately more than offset by approximately $125 million due to lower volume, $30 million in net commodities, $15 million in FX, $30 million in inefficiencies from chemical and semiconductor supply chain issues, among others. Clearly the operating environment has been challenging and masked many of these performance improvements. One area worth mentioning in the Q3 2021 versus Q3 2020 comparison is the decline in equity income of roughly $24 million. The year-over-year decline was primarily related to performance and material economics at YFAS, and to a lesser extent, the divestiture of our SJAA joint venture. In the end, given all the moving pieces, the team worked hard to lessen the impact of the temporary headwinds to deliver the $244 million year-over-year improvement. To ensure enough time is allocated to the Q&A portion of the call, we've provided our detailed segment performance slides in the appendix of the presentation. High level, improved volume, and mix benefited each of the regions. Ongoing business performance continued to trend in a positive direction. However, in Americas and EMEA, temporary operating inefficiencies resulting from unplanned production stoppages masked the overall improvement. Let me now shift to our cash, liquidity, and capital structure on slide 17 and 18. Starting with cash on slide 17, I'll focus on year-to-date results, as the longer timeframe helps smooth some of the volatility and working capital movements. Adjusted free cash flow, defined as operating cash flow less capex, was $176 million. The $445 million improvement in adjusted EBITDA net of equity, $72 million reduction in cap spending and significant improvement in trade working capital was partially offset by an expected increase in restructuring of $57 million, increase in interest paid of $36 million, elevated income taxes, elevated non-income related taxes, specifically VAT payments and the timing of commercial activity. With regard to VAT payments, While some of the year-to-date outflow will continue to reverse as we progress through Q4, we'd expect larger than normal outflows in fiscal 21 related to government-approved delays out of fiscal 2020 due to COVID accommodations. As noted on the right-hand side of the page, we ended the quarter with more than $1.8 billion in total liquidity comprised of cash on hand of about $1 billion and approximately $850 million of undrawn capacity under Addion's revolving line of credit. Also noted in the callout, the June 30th cash balance excludes approximately $270 million held as other assets related to funds on deposit to acquire certain assets of YFAS. Cash used during the quarter to voluntarily pay down debt totaled about $190 million, which includes both principal and premium paid. Speaking of debt and flipping to slide 18, in addition to showing our debt and net debt positions, which total just over $3.7 billion and $2.7 billion, respectively, at June 30th, we've also provided a snapshot of Addion's capital structure. As you can see, the 7% first lien notes were entirely repaid at quarter end as the final $160 million in principal was paid during the quarter. In addition, $20 million of principal of the European Investment Bank loan was also repaid in Q3. It's clear the transformation of Addian's balance sheet is well underway with approximately $940 million of debt prepayment complete going back to Q4 fiscal 20. The good news is we're not done. Additional voluntary pay down of debt is expected as we progress through calendar 2021 with proceeds expected to be received from Adian's China's transformation. With that, let's flip to slide 19 and review our outlook for the remainder of fiscal 21. Adian's fiscal 2021 guidance has been updated to reflect the company's year-to-date results through June, our completed portfolio transactions, executed debt pay down, and the current market conditions. Expectations for consolidated sales have been reduced to between 14.3 and 14.5 billion. The significant impact of production stoppages at our customers resulting from semiconductor shortages is driving the decline. The impact of lower-than-expected sales combined with temporary operating inefficiencies driven by continued unplanned production stoppages, elevated commodity costs, and increased freight is expected to place downward pressure on Adiant's adjusted EBITDA. Our current forecast is between $925 million and $975 million. Moving on to equity income, which is included in our adjusted EBITDA, continues to be forecast at about $230 million for the year. Interest expense, based on our debt and cash position, is expected to be $215 million, which is consistent to earlier expectations. Cash taxes in fiscal 21 have been revised down modestly, call it about $80 million. To assist with your modeling, although volatile with fluctuations between quarters, and as mentioned earlier, we continue to expect Adyen's effective tax rate to be in the mid-20% range. Based on our customer launch plans, we expect capital expenditures to total about $310 million for the year. And finally, one last item for your modeling. We now expect free cash flow to be approximately $100 million in fiscal 21, which is in line with our previous range of between $50 and $150 million. The team has worked hard to offset the top line and EBITDA pressures. In addition, our cash restructuring, which was previously forecast at $200 million for the year, has now been reduced to about $150 million. The total remains elevated compared to our typical spend of around $100 million or less. In addition to an elevated restructuring spend, the 2021 free cash flow is negatively impacted by approximately $30 million of VAT payments that were deferred from last year into 2021. Stripping out these one-offs, Addion's free cash flow guide would have been approximately $180 million. With that, let's move to the question and answer portion of the call. Operator, a question, please.

Thank you. At this time, if anyone would like to ask a question, please ensure that your phone is unmuted. Press star 1 and record your name clearly when prompted. If you would need to withdraw your question, you may press star 2. Again, to ask a question, please press star 1. Our first question is from Rod Lash with Wolf Research. You may go ahead.

Good morning, everybody. A couple things. One is I was just hoping you can clarify the $200 million commodity headwind that you described for next year. That's just the 30% of the 650, I believe. Just to confirm, is that relative to 2021 or is that relative to 2020? Because you are absorbing about $80 million this year. And then secondly, can you just discuss the nature of the inefficiencies? You mentioned on one slide $300 million for the year, which I think included some revenue impact. And separately, you talked about $53 million for the quarter, which may not have included anything. I'm not sure if that's apples and apples. But basically, should we view the $300 million impact as a likely tailwind at some point once production normalizes?

Yeah, Rod, I'll start on those. The first question is it relates to the material inflation and the net impact. That $200 million was compared to 2021, and you're right, 2021 at $80 million. And it doesn't exactly, I think the computation was about that 30%. It's sort of a mix of the lag we have and then the timing of the recoveries. So that would be if we just ran through with the mechanical agreements as they stand today. As I mentioned, we're working just with the size of the increases. Those mechanisms don't make sense for a supplier like ourselves that essentially is putting value-add to materials. So we're working with our teams and our customers to do that. to help improve that, but that's where it would fall out if no actions were put forward, about $200 million in 2022 versus 2021. As it relates to the second part of your question on the $300 million, about $200 million of it relates to volume, and you can say the rest. There's the chemical supply chain issues were a bit over 40-ish There's some container and freight type of issues, which were north of 25. There's still some COVID-related issues that were sort of the balance there to get you up to the three.

Okay. And what is a reasonable kind of aspirational target for recovery of commodities? And if you could just maybe help us a little bit with bridging beyond 2022. I mean, you'll do 950 of EBITDA this year. you'll lose about maybe $200 million or so from the China equity income sale. But you're going to recover at least this $100 million of inefficiency and I presume this $80 million of commodities. And in your last 10Q, there was some disclosure about $5,000 remaining headcount reduction, which might be $300 million. So just kind of high-level... What are you sort of aspiring towards as far as margin recovery as we think beyond this? I know you've got the longer-term mid-8% margin, but as we think about maybe 2023?

Yeah, no, all good questions, Rod, and we're in the process of putting a lot of that together. But I'll give you a few crumbs here, and we'll obviously work to expand. But, you know, Right now, I guess I'd start with volume. Running at 14.3 to 14.5 or so in volume this year, we think that's a depressed level. And timing of chip production coming back is a bit uncertain here. We expect it probably hits at least our first quarter of 2022 still in some fashion, if not further. But we would expect volume to improve. We certainly would expect a lot of those inefficiencies to improve, if not fully go away. We'll continue to chip away at the material inflation issues. We'd also get a big benefit if we start to see some reductions in material prices. I highlight that steel forecast, every one you look at, continues to show that the next month or next couple of months it's going to start to go down. It just hasn't done that yet, and that's created some of the challenges for us. We continue to drive the things that are internally within our control. I see nice improvements on our cost structure. I see nice improvements on our manufacturing efficiencies, our CI benefits, et cetera, the VAVE program we've put in place. So the margin expansion and the benefits we have from the restructuring are still there. So it's really going to be largely dependent upon the success we have of going after that material inflation rate and the pace of recovery on the underlying market.

Doug DelGrosso, I would just add to that. Relative to material inflation, I would characterize that it is somewhat concentrated across a small group of customers. As Jeff mentioned, we've got a wide variety of agreements. Some are working reasonably well, and others are working less well. And that's why we've had the impact that we've talked about for this year. And so as we go after that, we're approaching it kind of three ways. One is it can naturally correct itself. We're not sitting on our hands waiting for that to happen. We're heavily engaged with it. concentrated customer base where we have those issues. I would say it's a customer base that I feel pretty confident that we can make some ground in those discussions. I'm not here today to peg a number, but it's customers that we've got excellent relationships with. And our level of patience is is going to be measured to a certain degree on a longer-term outlook with those customers. You know, right now, we've not done anything I would call, you know, super aggressive as we deal with this issue, because we always have to keep in mind, you know, we want a sustained relationship with these customers, and taking into account our backlog and new business opportunities is on our mind as we engage in those discussions.

Thank you.

Thanks, Rod. Thanks.

And just a brief reminder, if you'd like to ask a question, please press star followed by one. Our next question is from Brian Johnson with Barclays. You may go ahead.

Yes. Obviously, margins being the topic of the day. You know, how do we get a sense of anemia? It still looks like even if you exclude the 18 million business inefficiency to step down from last quarters. You know, you talked about commodities, and obviously that will help in America is where you, of course, have this metal footprint that you've been working on winding down. But what has to happen in EMEA, and what's your level of confidence in getting that segment back to 7% and eventually pure margins?

I'll start, and obviously Jeff can comment as well. I think when you look at EMEA, what we talked about last quarter was, I don't want to say a bit, an unusually high level of commercial settlements that occurred. They occur every year, so it's not completely unusual. It was just calendarized a higher level than normal that I think, distorts a little bit of the margin picture. And I would suggest you have to look at EMEA margin over a longer period than a quarter-to-quarter because of that phenomenon where we just settle up on a lot of issues, and that tends to occur in Q2. Q1, Q2.

You know, as I think you look at the EMEA picture, the SS&M business has been improving, I think, We continue to hit all the operating metrics and other portions there. The metal movements are not helpful for that, so margins certainly there. And it's a region that's been – I highlighted in my comments the short timeframe that we've had to react to call-offs in volume in Americas, but the Europe situation is very similar, and their ability to react to those is even less from a worker standpoint, to flex cost base. So, you know, the operating environment has not been helpful for EMEA in where we're sitting. But from an overall metric standpoint, I think we've been pleased on the operating performance with that region. The restructuring that we're continuing to put through there will continue to drive some improvements as well. But we need a much more stable operating environment and ideally, you know, a quicker and better sort of mechanisms to deal with the current commodity inflation issues.

Okay. And then secondly, you know, when I toured seed plants, one point the plant manager made, it's actually one of your competitors, was that there's the JIT plant is just the tip of the iceberg. There's a whole supply chain, including freight, cross-stocking facilities upstream from that. To what extent is the nature of your supply chain driving premium freight, and can that be part of your recoveries?

Sure. With the exception of, I'll say, ocean freight, which has had a pretty significant impact on us when we're bringing components in from, namely, Asia, both in the U.S., Americas, and EMEA region, I would say the impact has been relatively small at this stage. Now, as these mounting pressures continue, certainly our suppliers will want to come in and talk about it. We've not experienced a lot of supply chain. In some cases, we've got directed suppliers who were completely immune from any issue associated with it. So, I would characterize, you know, the issue, the inefficiencies mainly in our internal operation and the fact that we're, you know, we've got a fair amount of vertical integration, so it's all inclusive. Yeah, it hits us. hard and legit environment because when the customer shuts down with one or two days notice we just have to stop immediately in in the you know as we go further down to the supply chain we have an ability to manage that a little bit more effectively we can build inventories i think you've seen a little bit of increase in inventory as we've moved into this quarter um so we can offset some of that i don't know we've got jerome here runs our operations in in the Americas regions, anything you want to add to that, Jerome?

Yeah, I think as Doug said, you know, within the JIT site, and Jeff quoted some numbers earlier around, you know, one to three days, and in that even, you know, maybe smaller window that flows down then to our component plants, you know, we're at 60% of notification, you know, falls into that. And it really put the challenge on JIT, but as you flow down in because of our vertical integration, It's not such an impact, really. The West Coast, specifically the West Coast and the port delays there for parts coming in from Asia has been a real constraint for us, and we've actively worked to reroute freight away from the West Coast, so bringing it in either on the East Coast of the U.S. now or bringing it in further north into Canada and moving it down. I think, Brian, we've done everything we can to really actively manage those aspects of it to mitigate the impacts further down in the supply chain. JIT has really been the bigger issue for us.

But we have paid a lot of excess.

I'd say the biggest issue to us has been on cost. You know, freight expenses gone up, driver shortages, you know, all kinds of things. And I mentioned a $27 million bump in our overall freight. Also, just when the chemical supply issues hit us, we were sending airplanes of chemicals to meet customer demand. So freight has definitely been an issue, but it's been more on the cost side.

Yeah, and that's embedded in that $300 million number that we put out in the beginning. So that was very much a specific incident that drove those inefficiencies into the supply base, but not really characteristic, I'd say, of overall chip shortage.

Okay, thank you.

Thanks, Brian.

Thank you. The next question is from Joe Spack with RBC Capital Markets. You may go ahead.

Thanks. Good morning. You know, as we look through some of the walks in the back, I get the operational impact from these temporary inefficiencies you're talking about. I also noticed, I guess, like in Americas, for instance, and I believe in EMEA as well, there was a year-over-year headwind from launch. So I guess you guys have performed better on launch. Is this just like a lack of execution on launch or just actual launch costs are higher because you're launching more

programs yeah so good morning joe so this is really around if you take the americas in particular it's the volume of launch that's running through the system so it isn't any efficiency associated with launch it's just year over year launch load and so you know if you look at like p42 qr and the programs we're launching in tennessee for nissan as an example you know that's a full value chain program for us so we have the jet the trim the foam and the metals And so it's good business. It's a significant amount of launch load coming into the business. But in terms of launch and efficiency and success of launch, we continue to trend very well from that standpoint. And it's reflected, Doug talked a little bit about the customer awards. Nissan was one in particular for a recent launch that we had. And so I'd say we have a high level of control on our launches, It's just the launch load that's coming into the business on a year-over-year standpoint.

And no, a year ago in COVID, there were no launches.

There were no launches. Yeah.

Yeah, I guess that's what I was sort of getting at. And then, sorry if I missed this, a little bit of a busy morning, but is there sort of any more refined timing update on all the China transactions, when that can close and when we can sort of see that – that new balance sheet?

Yeah. No, the good news is no expected changes at this point. We're still on target, we think, to close the transaction in September, by the end of September. And the proceeds dynamic is still the same as we outlined on March 12th when we announced the transaction. So roughly half the dollars come in on that date, and then the rest is paid by the end of December. And we'd still expect that timeline.

December of 21. Correct. Yeah. This December. Okay. Okay. Thank you very much. Yep. Thanks, Joe.

Thank you. At this time, there are no further questions. As a reminder, if you would like to ask a question, please press star followed by one. One moment, please, to see if we have any further questions. Our next question is from Dan Levy with Credit Suisse. You may go ahead.

Hi. Good morning. Thank you. I apologize if I missed this earlier, but I think you mentioned in your slides about the commercial negotiations. There's a little bit of roll up your sleeves. So maybe you could give us a sense of how the dynamics work on the commercial negotiations given the higher input cost, what's the typical timing of when you might be able to recover that? And then maybe you could just give us the latest on how that would come versus typical recoveries, which I think you've said is like 300 million in a typical year. So just trying to size out what the commercial recoveries could be and then what's left on the lower hanging fruit, which I think you've said is mostly exhausted.

Yeah, so I'll start at a macro level, Dan. This is Doug DelGrosso. And then, obviously, Jeff and Jerome can provide some additional details. So I'd first start out, you know, we signaled commodity economics inflation was going to be an issue during our Q2 call. So this isn't anything that we didn't see coming. What's been challenging is what we felt the impact was going to be versus what it is now has been continually changing. And that's the one slide we have in the deck that just shows every preceding month forecast is at a higher level for an extended period of time. That said, we've gotten in front of every single one of our customers. This has not been I'll say a traditional discussion that we've had. We've gone to extremely high levels of our customer, explaining, you know, with a great amount of transparency, the impact that it has relative to each one of their recovery mechanisms and why this is such an issue for us, not only in fiscal year 21, but if inflationary costs continue into 22. And it needs to be addressed. As I mentioned, it's concentrated across a few customers. In some cases, we have mechanisms that are in place that better manage the situation. The issue that they have is these mechanisms are historic mechanisms that have been in place for quite some time in most cases, and to change these is a pretty fundamental change for our customers to enact. It's not like a specific commercial issue. They felt that they've got a mechanism in place, and it's just this really erratic situation we have right now that's causing it not to work. But they understand it. I think what I feel good about is with those customers, they're customers that we're pretty well positioned with. I think we've got outstanding relationships with, and I think they appreciate the value we bring. The only reason I would say I'm reluctant to put a time on it is it's still a pretty fluid situation. And And as commodity costs continue to increase, it's hard to really peg what the final impact's going to be and put some brackets around it. So we'll be working at it through this quarter. We'll have better visibility of where we're at as we go to Q4 and we start talking about our 22 outlook. But, you know, it's... it's more than an issue that will take a quarter to resolve. But I'm fairly confident that over time, we'll be able to work this out with the customer base where we have the most significant problems with.

Great. And then just as a follow-up, I know that once your transaction on the China side closes, the pro forma leverage is going to be reduced. far below, I think, the 1.5 to 2x range that you typically flagged. What would be the timing on potentially pursuing other capital allocation options once you get below that target leverage? Or could there be a period where you're a bit more conservative on the capital allocation side, given some of the supply chain issues that we're seeing?

Yeah, great question. I think as, you know, we finish this year and, you know, we'll come to you guys with our guide for, you know, expectations for 2022, and we'll give you a better definition around, you know, where we see things. But, you know, to your point, the more volatile the market, the more, you know, I guess uncertain things are, the more we, you know, we probably delay a little bit or under those situations, I could see us delaying a little bit. But, Now, at the same time, we do think the big element here, and what we've earmarked a lot of that cash for is to do leverage. That is our primary path forward here. But you're right. I think we have a real good path to get under those metrics that we've outlined in the past, and we'll start to outline what the intentions are in capital allocation here. We don't expect this disruption in the market to continue indefinitely, for sure. Great. Thank you. Thanks, Dan.

Great. Thank you. And it looks like we're at the bottom of the hour. So, again, if there's anybody that has additional questions, please feel free to reach out to me. I'll be available for follow-up calls. Operator, thank you very much. This concludes the conference call for today. Thanks, everyone.

Thank you for participating in today's conference. This concludes today's conference, and you may disconnect at this time.