BorgWarner Inc.

Good morning. My name is Sharon, and I will be your conference facilitator. At this time, I would like to welcome everyone to the BorgWarner 2019 Fourth Quarter and Full Year Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer period. If you would like to ask a question during this time, simply press star 1 on your telephone keypad. If you would like to withdraw your question, press the pound key. If you are using a speakerphone, please pick up the handset before asking your question. I would now like to turn the call over to Patrick Nolan, Vice President of Investor Relations. Mr. Nolan, you may begin your conference.

Thank you, Sharon. Good morning, everyone, and thank you for joining us today. We issued our earnings release earlier this morning. It's posted on our website, borgwarner.com, on our homepage, and on our Investor Relations homepage. With regard to our Investor Relations calendar, we will be attending multiple conferences between now and our next earnings release. Please see the events section of our Investor Relations homepage for a full list. Before we begin to inform you that during this call, we may make forward-looking statements which involve risks and uncertainties as detailed in our 10-K. Our actual results may differ significantly from the matters discussed today. During today's presentation, we'll highlight certain non-GAAP measures in order to provide a clearer picture of how the core business performs and for comparison purposes with prior periods. When you hear us say on a comparable basis, that means excluding the impact of FX, net M&A, and other non-comparable items. When you hear us say adjusted, that means excluding non-comparable items. When you hear us say organic, that means excluding the impact of FX and net M&A. We will also refer to our growth compared to our market. When you hear us say market, that means the change in light vehicle production weighted for our geographic exposure. Our outgrowth is defined as our organic revenue change versus the market. Please note that we've posted an earnings call presentation to the IR page of our website. We encourage you to follow along with these slides during our discussion. With that, I'm happy to turn the call over to Fred.

Thank you, Pat, and good morning, everyone. We're very pleased to share our results for 2019 this morning and provide an overall company update. Let me start with the highlights of the quarter on slide five. I am pleased with our stronger than expected top line and margin performance for the year, driven by the fourth quarter performance. With approximately 10.2 billion in sales, we are up about 0.7% organically. This compares to our market being down approximately 4.6%. So our outgrowth was 530 basis points for the year, which was ahead of our expectations going into the fourth quarter, driven by stronger than expected revenue trends in China and Europe. For the full year, we saw outgrowth in all major regions. We delivered high single-digit outgrowth in Europe and China. Our North American outgrowth was in the mid-single-digit range. 2019 earnings per share came at $4.13, ahead of our guidance driven by the fourth quarter upside. We delivered strong free cash of about $700 million for the year, and we expect this strong free cash to continue in 2020. Our near-term cost actions are supporting our incremental margin, and we have identified additional cost-saving opportunities that we believe will sustain our strong margin profile. As Kevin will discuss in detail later, we believe our backlog supports our targeted single-digit outgrowth going forward. And lastly, our planned acquisition of Delphi Technologies will strengthen our propulsion leadership while supporting our long-term growth outlook. Let's now turn to slide six, which highlights the additional cost restructuring steps that we have announced today. As you will recall, on our Q2 call, we highlighted our intention to find additional ways to adjust our class structure without compromising our longer term aspirations. Over the last six months, the team has identified additional restructuring opportunities in all major regions. These actions will include the restructuring, closure, or consolidation of both manufacturing and technical centers. We have also made the decision to consolidate our turbo and emissions businesses in order to create product differentiation with our turbo and EGR under one roof, as well as consolidating overhead costs. These actions are expected to generate incremental annual cost savings in the range of 90 to 100 million by 2023. Combined with our previously announced restructuring plan, we plan to achieve gross cost savings of 135 to 145 million per year by 2023. Cost improvement is a continuous focus for BoardWarner. We view these actions as proactive steps that we believe will position the company to sustain its strong margin profile, and overall long-term competitiveness. While we must adjust our costs to the challenging global market environment, we continue to focus on pursuing new businesses and new technology. Our Q4 product announcements highlight this focus, and they are summarized on slide 7. We disclose that we will be launching our triple clutch P2 hybrid module and hydraulic control unit with Schengen this year. This module delivers cost-effective hybridization and is compatible with existing vehicle platforms. Next, we disclose our first award for our E-Turbo. This program launches with the European OEM in 2022. It is a great example of combining our mechanical, rotating electric, electronics and software expertise. Lastly, we secured another high voltage coolant heater program with a major European premium OEM. This program launches in 2023 for both hybrid and battery electric vehicle applications. These three programs are great examples of revenue that supports our strong backlog through 2023. On slide 8, I would like to summarize the key points of our planned acquisition of Delphi technologies. First and foremost, it will strengthen our leadership position in electrified propulsion systems as we gain scale, expertise, and capabilities in electronics. at a time when the industry is moving towards electrification. At the same time, it would enhance our combustion, commercial vehicle and aftermarket businesses, driving an even better market balance for us. The combined company would offer a comprehensive portfolio of industry-leading products and systems across propulsion types. As we bring our offering together, I know we will be better positioned than ever before to meet our customers' evolving needs. It is not just a strategic fit we are excited about. We believe the financial benefits are also compelling, as we expect this transaction to have significant synergies and to be meaningfully accretive. We're confident that this transaction will deliver enhanced returns for stockholders, both in the near term and long into the future. I would like to highlight a sampling of the mid-term revenue synergies opportunities from the Delphi Technologies acquisitions on slide 9. As part of our due diligence work, the sales and engineering teams from both BorgWarner and Delphi Technologies focused on identifying the key customers where we expect to pursue modular solutions for various hybrid and electric programs. Within this customer list, we then drill down to hybrid and electric programs that are likely to be awarded by these customers over the next 18 to 24 months. What you see on the slide are the top 15 programs that we identified as our priority pursuits post-closing. A large majority of these programs are expected to launch in the 2024 to 2025 timeframe. There are three takeaways from this slide that I would like to highlight. First, the size of the list reinforces our view that the opportunities in electrification are accelerating. We believe the revenue opportunities are significant with these programs alone representing $0.7 billion in potential additional revenue by 2025 and growing to $1.3 billion by 2027. It is the size and acceleration of these opportunities that supports our view that the acquisition of Delphi Technologies is not only supportive but are creative to our long-term growth outlook. Before I turn it over to Kevin, let me summarize our 2019 results and long-term outlook. We exceeded our expectations for revenue growth and margins. We delivered strong free cash flow. We're taking the necessary cost actions to maintain our margin profile and overall competitiveness. We continue to see strong demand for our products as evidenced by our new program wins and strong net new business backlog. It is the operational and financial strength of this company that allows us to execute the transactions like the planned acquisition of Delphi Technologies that will help support our long-term revenue outgrowth. Now over to you, Kevin.

Thank you, Fred. And good morning, everyone. Before I review the financials in detail, I'd like to provide a quick overview of the two key drivers of our fourth quarter results. First, our revenue outgrowth was ahead of our expectations at 850 basis points in the quarter. This was driven primarily by higher volumes of new programs in China and stronger than expected diesel-related revenue in Europe. Second, our margin performance was ahead of our guidance driven by better-than-expected sales and our focus on cost management actions. Let's turn to slide 10. As we look at our Q4 year-over-year revenue walk, you can see the impact from the thermostat divestiture we executed in early 2019. Additionally, you can see that the stronger U.S. dollar reduced revenue by about 2% from a year ago. Excluding these items, our organic sales were up 2.6%, despite the 5.9% decline in industry production. This is the 850 basis points of market outgrowth, and importantly, this outgrowth occurred in all of the major light vehicle markets around the globe. In Europe, our light vehicle organic revenue was up low single digits on strong new programs, as well as better than expected diesel-related revenue. And in China, we grew high teens over the market, Partially offsetting the strength in our light vehicle outgrowth, our commercial vehicle and off-highway businesses declined relative to last year, resulting in a 100 basis point drag on growth. But that's already netted in our reported 850 basis points of outgrowth. Overall, we're pleased that we continue to deliver revenue outgrowth, even in this challenging end market environment. Now let's look at our adjusted operating income performance, which can be found on slide 11. Q4 adjusted operating income was $340 million, compared to $323 million in the fourth quarter of 2018. Our adjusted operating margin was 13.3%, up compared to 12.5% in the fourth quarter of 2018. On a comparable basis, adjusted operating income increased $27 million on $67 million of higher sales, which translates to an incremental margin of 40%. The result was ahead of our guidance and our typical conversion rate of 15% due to our cost management actions and lower R&D spending compared to the same quarter in 2018. Adjusted earnings per share was $1.15 for the quarter. The 6% decline in adjusted earnings per share compared to the fourth quarter of 2018 was driven by lower equity and affiliates earnings, higher corporate costs, and a higher tax rate. Moving to cash flow. we are proud of the fact that we delivered a strong result for the fourth quarter. In the fourth quarter, we generated $221 million of free cash flow, which drove our full-year free cash flow of $699 million. This was well ahead of our guidance and a great result as we continue to focus on cash generation as a management team. Let's turn to slide 12, where you can see our perspective on industry production for 2020. Overall, we expect that the challenging industry conditions will continue into the new calendar year. On a full year basis, we expect the market to decline to be in the minus 2 to minus 4% range. By region, we're planning for China to be down anywhere from 1 to 5% on a full year basis as we expect customer demand to remain under pressure. Europe is expected to be down 2 to 5% as our customers maneuver through 2020 CO2 emissions targets. And in North America, we expect a modest 1% to 2% decline. However, as you'll see in a moment, we expect to continue to outgrow the market in 2020 based on continued strong demand for our products. So let's discuss our four-year guidance on slide 13, which excludes the potential impact of the pending Delphi Technologies acquisition. Our guidance is based on the end market assumptions that I just reviewed, with global production being down 2% to 4%. Despite that, we expect organic revenue to be in the range of down only 2.5% to up 0.5%. That's because we continue to expect to drive total market outgrowth of 150 to 250 basis points. Embedded in that outgrowth range is a 100 basis point headwind from declining commercial vehicle volumes, which means that our light vehicle outgrowth is expected to be 250 to 350 basis points. With these organic growth assumptions, we expect 2020 revenue to be in the range of $9.75 billion to $10.075 billion. Our adjusted operating margin is expected to be in the range of 11.6% to 12.0%. The 10 to 50 basis point decrease in our margin outlook relative to 2019 reflects normal decremental margins on declining sales and a year-over-year increase in R&D spending which is expected to largely offset the benefit of any restructuring savings in the year. For the full-year adjusted EPS, our guidance range is $3.85 to $4.15 per diluted share. And finally, we're targeting free cash flow of $675 to $725 million, which at the midpoint is flat year-over-year despite lower earnings and an expected increase in capital spending to support our future growth. That's because of the cash savings related to the elimination of our asbestos liabilities back in October and lower working capital given the lower revenue outlook. That's our 2020 outlook. Let's now look at our longer-term view of revenue with a snapshot of our updated multi-year backlog on slide 14. As you can see, we expect to deliver revenue outgrowth across combustion, hybrid, and electric vehicles. More specifically, we see increased content on electrified vehicles accounting for more than 100% of our light vehicle net new business backlog over the coming years. Within this, we expect over 20% of our net backlog will be related to vehicles with electric propulsion systems. And we expect our hybrid-related revenue to continue to be supported by hybrid system solutions, as well as increased penetration of our combustion products on hybrid vehicles. And from a regional perspective, we see outgrowth in all of our major markets. On a cumulative basis, our 2020 to 2023 backlog is expected to be within a range of roughly $2.5 to $2.6 billion. Now, you'll notice that the 2020 backlog is down about $350 million from last year's disclosure. This is primarily due to two main factors. First, expected industry volumes adjusted for the regional exposure of our backlog are more than 15% lower than our expectations from a year ago. That lowered the backlog by approximately $125 million. Second, the pull forward of volume into 2019, which drove our outsized light vehicle outgrowth of 950 basis points in Q4, is creating a $140 million year-over-year headwind. When you then look ahead to 2021 to 2023, we expect a combined net new business backlog of $2.1 billion. Importantly, we believe this backlog supports an average outgrowth of roughly 500 basis points during this timeframe, which we feel very confident in. Let me summarize our financial results. Overall, we had a really solid year and finished with results that exceeded the top end of our previous guidance range across the board, 12.1% adjusted operating margins. 530 basis points of market outgrowth, $4.13 of adjusted EPS, and $699 million of free cash flow. As a management team, we are taking the necessary actions to maintain our company's historically strong margin profile and to strengthen our free cash flow generation. We'll continue to do this while balancing the need to manage a very difficult near-term market environment with the need to continue taking the necessary steps to solidify the company's future profitable growth. With that, I'd like to turn the call back over to Pat.

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

At this time, I would like to remind everyone, if you would like to ask a question, press star 1 on your telephone keypad. If you're using a speakerphone, please pick up the handset before asking your question. In the interest of time, please limit yourself to one question and one follow-up question. We'll pause for just a moment to compile the Q&A roster. First question comes from John Murphy with Bank of America.

Good morning, guys. I've got a bunch of questions, but I'll try to keep it brief here. The growth over market discussion is one, obviously, that's pretty favorable to you, given where you are in the vehicle. But I'm just curious, as you think about your backlog and where it's focusing in the powertrain, is there a potential if the market falters on vines a bit more, that your growth above market might expand, just given the stickiness of from a regulatory perspective as well as sort of a market demand perspective for what you're delivering, you know, to the market and your technology. I'm just trying to understand because it seems like that's what's happened more recently, and it seems like that's very possible or likely going forward.

I think that this is the beauty of the strategy of being balanced across combustion, hybrid, electric, having the right portfolio and capitalizing from electrification acceleration but also having great products on the combustion side that see additional take rate within that combustion and also within hybrid.

Okay. But it does seem like, Fred, that this outgrowth may expand if items come down just because these aren't the kind of products that are discretionary or would get pushed out. Is that a reasonably fair statement?

You never know. For example, diesel surprised us in Q4. And even if we don't think that this is a trend, those outgrowths from a quarter-over-quarter look is very, very tricky. So I'm very confident with us marching towards the 500 basis point outgrowth We've done that last year. This year, if you exclude the pre-buy and if you look at light vehicle, we'll be at 440. And it's not going to be, you know, 500 exactly every year. But we are within that range, and the backlog supports that 500 basis points out growth.

Okay, great. And then maybe just one follow-up. You know, given that we're, you know, some time has passed since the acquisition of Delphi's been announced, I'm just curious if you have any incremental, you know, customer feedback. And if we think about what you're discussing on slide nine with the focused pursuit opportunities, you know, is that sort of, you know, just early days in what you're identifying and that you're reasonably confident is a target? And how should we think about sort of win rates when you get into these very focused pursuit opportunities? Are they similar to sort of typical win rates that you're going after programs or might these be higher just given what you're delivering to the customers?

Yeah. Feedback from customers is firstly saying, hey, we understand the products. We understand the technology. And when you look at slide nine, those are real programs and that's significant revenue opportunity for us. I think customers are really liking the technology fit and this unique positioning that you will be able to have, having mechanical rotating electrics and electronics at scale. John, I think it's a bit early to talk about win rates, but we feel good about the the number of programs and the size of those programs.

Okay. And just one housekeeping real quick on slide six. I mean, this is all BorgWarner-specific rationalization and restructuring. It has nothing to do with the combination at this point. Is that correct?

It has nothing to do with the combination with that side technology. It's totally independent.

Great. Thank you very much.

Thank you, John.

Next question comes from Joe Spack with RBC Capital Markets.

Good morning, everyone. I wanted to dive a little bit to, you know, the backlog and, you know, a greater than 100% of the growth coming from, you know, electric. So it sort of implies a declining, you know, ice business, even if you are sort of, you know, outgrowing, I guess, underlying ice. But And that's all sort of great and sort of drives that outperformance on the top line. But how do you think about the margins over that time period? Because you have the high margin legacy business declining, you know, the new electric business ramping. Like, does this restructuring savings of, you know, 90 to 100 million, you know, is that enough to sort of have you sort of hold core BorgWarner margins over that 23 time period?

Yeah, I'd say that, you know, we run the business with return on invested capital. We don't see any differences, whether it is combustion, hybrid electric. We are, as you've seen, accelerating our restructuring program in order to be proactively mitigating risk that may happen. You know, in this industry, things happen. And so we are absolutely... committed and confident that we can maintain the high level of margin that we have in the current margin profile. That's what we do, the restructuring program also.

Okay. I guess the second question, and maybe sort of just an update, like do you have any, you know, refresh views now that was for the year, you know, further into this of, you on the electric traction motors. I think you've been saying, you know, you expect like 50% insourced and outsourced. Is there any movement there? And I guess, you know, the reason I ask is we've seen some other companies like, you know, like NYDEX sort of really investing here. I think they had a comment which said they're aiming for 35% share. I'm not sure exactly what they mean by that. But if, you know, if that's, if only 50% are outsourced, then they're talking like, you know, 70%. So I didn't know if you should have seen any Any change there on how the market develops? Anything changing on the competitive front? And I guess also, do you need to potentially partner with an automaker, you know, in a more structured fashion on the motor side?

We see movement going both ways from customers around the world. Some that wanted to make motors are actually outsourcing motors and vice versa. but we feel that the 50% in-source versus out-source is about right.

Okay. And is there a benefit to, you know, having a more formal, structured program with a potential customer?

I would say that, you know, we don't... We would never say... No, but this is not the path we are on.

Okay.

Thank you very much. Next question comes from Rod Lash with Wolf Research.

Morning, everybody. Just two things. One is I'd like to better understand how – we should be thinking about this restructuring. You pointed out that it's there to sustain margin. It's not incremental. And I suspect that the street's going to be speculating on the reasons why, which could include incremental price pressure, lower margins on new technologies, shrinking ice, higher R&D, or maybe some other assumptions. So maybe just first talk to us about what is different now in this environment that this additional restructuring doesn't accrete to the margins? And also, how much of the restructuring is cash?

Rod, I'll answer and then I turn it over to Kevin for giving you more call on cash. We all have been in this business for a long time, right? I've been in this business more than 30 years and things happen. You have to be proactive in those restructuring efforts. You have to to implement proactive risk mitigation. We talked a little bit about pricing pressure coming from the turbo side of our business. We don't see it worsening, but it's still the case. We are maintaining a very, very strong return on invested capital discipline, but the need of being... competitive and to the need of maintaining an overall long-term competitiveness is necessary and that's why we do those proactive actions.

And I'll comment on the last piece and maybe just to add to that. We as a company pride ourselves on the sustained strong margin profile we've had over a long period of time. I mean, seven consecutive years of north of 12% operating margin, we take a lot of pride in being a top-tier company. supplier from that perspective, and part of it is taking the proactive steps necessary to be able to sustain that margin over the long term. In terms of your question about cash, the amounts that we quoted on there, the $275 to $300 million range that we provided is the potential restructuring cash cost.

Okay. So that is cash. Gotcha. And then just secondly, it's noteworthy that Europe, which you know, appears to be the epicenter of CO2 regulation right now. It only accounts for 10% of the company's backlog. And, you know, I was hoping you can give us a little bit more color on what you see going on there, what that backlog would look like if you sort of ignored the decline in diesel and, you know, of these opportunities that you're outlining on slide nine, any color on, you know, how that kind of splits regionally.

Yeah, sure. When you look at that backlog weighting and you see Europe at 10%, keep in mind this is the net backlog. So it's pluses and minuses in there. And one of the big minuses, clearly, that we continue to have in the European business is the impact of diesel. And so we are overcoming that with this backlog because it is net of the diesel headwind. The diesel headwind, I think you should think in totality being about 20 points impact on the backlog. Now, if diesel were sustaining itself, there'd be some offset on the gas side, but not completely. But that is about a 20-point headwind purely associated with the diesel portfolio.

What does that mean, 20 points, Kevin?

20 points in isolation. If I don't assume any offsets in gas or other things, if I just look at how much lower the backlog is as a result of diesel coming down, it's about 20 points.

Okay, so 20%. It would be 20% higher or 20 percentage points higher than that 10% if it wasn't for that, you're saying?

Yeah. I would say really focused on the turbo side in particular, but there would be offset on the gas side as well. Not one for one, but there would be an offset. But that's the gross impact of diesel, correct?

Gotcha. All right. Thank you.

Next question comes from Noah Kay with Oppenheimer.

Thanks very much. Follow back on the call you provided around the opportunities, joint opportunities you could pursue with Delphi. I guess just, you know, given your expectations, for the closing to occur in the back half of the year, and first of all, it's still verifying that's the case. If some of these programs are gonna be awarded relatively soon subsequently, how quickly do you feel you can move in collaboration to capitalize and actually close on some of those opportunities? And maybe if you could explain why you think the integration could be relatively fast.

I think our ability to move quickly is certainly the goal. The key is that we've identified the focus pursuits and we'll be able to move very swiftly once we can. It is not going to be something that is going to take a long time. We are understanding What we need, the technology from an inverter perspective is state of the art and we'll be able to move quickly. We both have world class product that we marry very well with each other.

Okay. That's helpful. You know, obviously you provide some color in the prepared remarks around the reduction to the 2020 backlog and part of that is a pull forward. For the part of it that is just a pure reduction, the adjustment in volumes down 15%. Just wondering within that, is any of that related to lower expectations for EV and hybrid relative to the past? Because I think in 2019, we did see maybe a bit more softness than expected. Just wondering how you think about the the impact of the EV and hybrid trajectory now relative to maybe where you saw it last year?

Yeah, I'll start with that and maybe I'll ask Fred to comment on the hybrid and electric trajectory in total. But the number we quoted there in terms of the 15% down is purely markets. So if you look at where we – what our 2020 expectations were a year ago at this time versus where we're sitting today, I mean, based on what's happened in 19 and then in 20, China is down 25% from those expectations. North America is down about 6%. And Europe is down about 10%. So the blended impact of purely production on the backlog and our mix of the backlog relative to those production levels coming down is about 15%. And that has nothing to do with how we see combustion hybrid or electric.

Yeah, we see, as I mentioned, we see an acceleration in electrified propulsion architecture Not only BEV, but a lot of hybrid programs that we're targeting as we speak. But those programs won't impact the backlog. We'll start after.

Okay, great. And just to take one more, you provided color on the cadence of benefit from restructuring. Can you give any color on the cadence of the actual cash outlays for the restructuring program?

Yeah, I think, I mean, we still haven't finalized all those plans. We're still working through taking the appropriate steps that we need to before we actually firm up some of these plans. So there's a little bit of potential timing uncertainty, I'll say, in terms of when the cash comes in. But I think you should think in our cash flow planning guidance that for this year we're probably in the $50 to $100 million range from a cash restructuring perspective.

Okay, very helpful. Thank you.

Next question comes from Brian Johnson with Barclays.

Yes, thank you very much. I want to drill in a few things around the backlog. You know, first, and I think I know the answer, but just to get on the record, you know, it says LB. You didn't make that distinction in the past. Is there anything around CD we should note? Second, I'm just trying to get my head around the pull forward of backlog into 2019. Was it launch schedules, launch volume? Can you explain that? And then And also, is there any split between drivetrain and engine we ought to be aware of?

Okay. So last year, the backlog had an hypothesis that CV was going to be flat. I missed the second part of your question, Brian. I apologize.

The pull-forward effect, could you explain just mechanically how that worked?

I think what we're saying about the pull-forward is, Remember, when we're looking at a backlog measure like this, we're looking at a year-over-year basis. And so the fact that we saw 950 basis points of light vehicle outgrowth in the fourth quarter is something we weren't anticipating. And so if you look at the annual effect of that on 2020 as you're doing a year-over-year comparison, that creates about a $140 million impact on the backlog.

Okay. Was that meaning some programs are partially launched? in 19 and also had continued their launch into 20 had higher 19 volumes. So that's a headwind for 20, if you will.

Effectively, and again, our backlog in revenue outgrowth is a year over year, so the jump off point or the comparative period is that much higher, which we didn't anticipate, you know, as we ended 2019. It came in a lot stronger. So for the full year, we delivered 530 basis points of outgrowth, 580 on a light vehicle basis, and that was well above what we were guiding to throughout the year. Now, as we head into 2020, that's a year-over-year headwind as you do a comparison of your backlog in 20 versus 19.

Okay. And then the drive train segment margins hit an all-time high. How sustainable is that likely, or are there kind of one-time interviewer true-ups that we need to be aware of?

Yeah, I mean, I think both segments saw pretty strong margins in the fourth quarter. I don't view fourth quarter margins as necessarily something you should expect quarter to quarter. We typically have strong results in the fourth quarter driven by certain things with respect to supply chain recoveries that oftentimes come in later in the year of performance initiatives, as well as we had quite a bit in the way of R&D customer recoveries, which came in in the fourth quarter across both segments, which is part of the reason you saw net R&D down. And those tend to be lumpier toward the back half of the year than the front half. So as we jump into the new year, we're very focused on sustaining our strong margin profile, but I don't think you should think of that margin in Q4 as the jump off point for 2020. Okay, thanks.

Next question comes from David Leiker with Baird.

Good morning, this is Erin. Welcome back on for David. So my first question relates to the backlog and just wondering if you could kind of bridge the gap in terms of how you've presented backlog in the past. versus kind of this new presentation. So I guess, you know, said another way, how much of the three-year backlog of the $2.1 billion from 2021 to 2023 is coming in 2023? I guess, how would that compare to the kind of the $2.2 billion that you had, you know, last year for kind of the three-year backlog figure?

I would say that This is consistent with the 500 basis point average outgrowth year over year. I wouldn't see any change in the way we're presenting things. I'm not sure I understand.

So I got that. So I guess you have, you know, call it, you know, $475 million in backlog hitting in 2020 and then another $2.1 billion over the three-year period after that. So I guess I'm wondering kind of what the kind of the 2020 to 22 rate would be, if there's any acceleration in 2023 or if that's, you know, essentially consistent in terms of the cadence of outgrowth.

No, I mean, I think we were expecting that we're going to deliver 500 basis points on average over that three-year period. Some years might be a little higher, a little lower. There's not dramatic differences between any one of those given years in the backlog period. But, you know, right now we're looking at sustaining that 500 basis points each year over the three-year horizon.

Okay. And then my second question is just related to the coronavirus in China. So I'm wondering if you're seeing any disruption in your supply chain that could potentially spread into China you know, operations in Europe and North America as well as just your Asia operations.

Yeah, I will start by saying that on this topic we are focusing on our people, making sure that this is the first and foremost focus that we have. And from an operations standpoint, Kevin, do you want to say a few words?

And just so you understand what's in our guidance, I mean, our guidance effectively reflects the production disruptions we've seen to date, both through end of January and into the first couple weeks of February. You know, as you look beyond that, there's obviously still a lot of uncertainty in terms of how that plays out. We have some of our production facilities are running and some are not right now. Our China business, about $1.8 billion annually in revenue, which means it's about $35 million a week. So if production disruptions continue today, through the back end of February and into March, there could be additional pressure on our China revenue. But I think you touched on an important point, you know, how could that spill over to Europe and North America? I think that's a big unknown. And the longer there's production disruption in China, the more risk it poses on OE production across the globe. So there's a lot of uncertainty around that at the moment, and we'll continue to monitor this day-to-day and week-to-week. But that type of production disruption because of the uncertainty is not embedded in our guidance at the moment, just the disruptions we've seen to date.

Great. Thanks for taking my question.

Next question comes from Chris McNally with Evercore.

Thanks so much, guys. Maybe just a variant to some of the questions that have already been asked. I guess, you know, Fred, what people are trying to figure out is, you know, for maybe 2021, compared to 2020 on the backlog growth, the way that you used to guide. Should we think about 2021 backlog being better than 2020? And if we can, could we just maybe go through some of the areas of outgrowth, taking commercial vehicles and putting it on the side for now?

I would say that the average 500 basis points is a good way to look at it. Maybe some color I can give you is some product breakdown from the backlog. So 30% of the backlog is transmission products, including DCTs and PX modules for hybrids. Another 30% is all-wheel drive and couplings on combustion and hybrid. 20% is rotating electric components, which I think is very important. 5% is high-voltage cabin and battery heaters. And 5% is turbos for gas and hybrid. Now, this is net of the big diesel impact. So that's maybe some color that we have here.

And, Chris, let me just clarify, too, 2020, because I know a lot of us focused on the headline number we've talked about of 150 to 250 basis points of revenue outgrowth. And keep in mind in that is 100 basis points of headwind associated with commercial vehicle, just with markets from our perspective being down about 7% year over year. So the light vehicle outgrowth embedded in our 2020 guide is 250 to 350 basis points. But that, again, as I was talking about in response to Brian's question, that's being impacted by the pull forward we saw in the Q4, the significant outgrowth in Q4, which is creating year-over-year headwind. Without that Q4 pull forward, our light vehicle outgrowth in 2020 would be between 400 and 500 basis points. A little bit lower than the 500 we're guiding to as being on average over 21 to 23, but not significantly different. So, like you have to walk that 150 to 250 we're guiding to in totality, and adjust for those two effects to understand how to really think about 2020 and put it in the context of the 2023 guide.

Absolutely, guys. I think that makes sense. So the 400 to 530 for 2020 becomes something like 700 on average for specifically light vehicle 21 to 23. And, Fred, I think it's fair to say that I appreciate the bucketed color. That's very, very helpful. But one of the things that we should think about is that there's an assumption that particularly for China, that the NEV market will have a better 2021 than 2020, where, as you mentioned, estimates have been revised significantly over the last six to nine months.

I don't think you should think about anything north of 500 basis points year-over-year past 2020. So I'm not sure how you're computing 700-plus basis points that you mentioned

No, the 700 is just 700 million, 2.1 billion divided by 500.

I'm sorry, I think you said 60 at this point. And so in this backlog, we have no CV growth. We have no CV growth embedded into the backlog. After 2020, we consider CV flat.

Okay, perfect. It's quite clear. And then just another quick one on Q1. I totally understand you're sort of somewhat driving in the dark, given where we are in the quarter and low visibility. But how should we think about – is this the type of thing we're not going to get an update until – Q1 report so then the full year guide would have to incorporate the situation in China. Just any rule of thumb for how long if facilities stay down or any rule of thumb for sensitivity on China because I guess investors are all dealing with the same thing and it's the same for every supplier company but we're all watching the week to week in China with sort of bated breath.

Yeah, the With respect to that, Chris, I think it just depends on how this plays out over the coming weeks. I think as you think about our China business, remember it's about a billion aid in revenue on an annualized basis, which is about $35 million a week in revenue. And so as we look ahead, we actually have eight or nine production facilities there. Some of them are open. Some of them aren't right now. If the production disruption continues through the end of the month, you know, there's that risk to the China revenue, but the bigger risk could be longer term if this extends into end of February and into March. Does it spill over and have effects on OE production around the globe? Because the OEs undoubtedly rely on China production, not just from us, but from other suppliers as well. And I think that's where we continue to watch it day-to-day, week-to-week, and we'll have more to update once we get to the end of the quarter. Okay, great.

Thanks so much, guys.

Next question comes from Armitas Sinkovicius with Morgan Stanley.

Great. Good morning. Thank you for taking the question. When I look at the reported results you have for 2019 and I look at the preannounced results from Delphi, and then I add those two up to get plus the $125 million of synergies that you're looking for with the deal, the $120 million, $130 million of incremental cost savings beyond 2019 that you've outlined in the slides, and then the $150 million program that they're engaged with, You know, so pro forma, you know, taking the 2019 pro forma, I get to about 13.4% margins for 2019, and yet you're guiding to 11% margins with the combined company. So there's a bit of a gap there, and I was hoping you could talk through, you know, is this conservatism or are there some headwinds that you're thinking through that would drive the combined margins to 11%?

Yeah, I'll take that. Yeah. The first thing I think you have to also remember is there's amortization of purchase price, purchase price amortization of intangibles. That's a piece of the equation as well, which I think we guided to be about $65 to $75 million on a pre-tax basis. That number will obviously be finalized once we get to closing, but I think you also have to realize that flows through operating margin, and so that's a headwind to margin. When you look at Delphi Technologies and what they've talked about from a restructuring perspective, Our perspective on that was they have a good program in place in terms of addressing some of the margin issues in the business, but our belief is that they are going to need some of those restructuring actions to be able to sustain their margin profile as opposed to being purely additive to their margin profile. And then as you look at our restructuring initiatives, as Fred mentioned, we view those as proactive measures to address risks that could pop up in the business. Couldn't tell you even sitting here today what those might be other than we're taking proactive measures opportunistically today to make sure we sustain our strong margin profile long into the future. So that's why we're not looking at it and saying we'll just add that to our current margin performance. We view that it's potentially going to be something that we need to do to sustain that strong margin profile we've had for a long period of time.

Okay. And so essentially what you're saying is there's nothing embedded with regards to product transitions, you know, going from combustion where you have higher scale to electric where, you know, the scale would be building up over time.

There's nothing that I would say from a product mix perspective that stands out that causes us to say, wow, this is $90 to $100 million of profit improvement. We need to offset that. But, you know, we just know there's risks inherent in this industry. Fred has been managing a lot longer than I have, but we thought it was the right time in this challenge and market environment to take actions prudently and proactively to position ourselves for long-term competitiveness. Okay. I appreciate it.

Next question comes from Ryan Brinkman with J.P. Morgan.

Hi, Greg. Thanks for taking my questions, which are really around China backlog, given that it's now – 50% of the total. So firstly, have you broken out the China split for 2020 specifically, or could you? And secondly, is China backlog still largely driven by DCT, et cetera, or do you see electrification starting to become the bigger driver, including with the IDM win in 2021? And then just lastly, to the extent there is downside risk to China backlog, would that simply be because, you know, there's just the market could be lower, or are you seeing any signs that automakers in the current environment could maybe delay new program launches like they've done sometimes before when the market was softer.

So within the China backlog, we're actually having a nice backlog across combustion, hybrid, electric. If the backlog would go down, it would be more due to market, and we don't see launch delays at this point in time.

Okay, great. Thanks. And then just to follow up on that earlier question about Europe backlog and it being so much lower than the current revenue in terms of share, the diesel explanation was there. I just wanted to understand that you feel like you're getting your share of electrification content over the near and medium term in Europe and how that's looking given it seems like the market's accelerating in that direction over there.

Yeah, I would say that The majority of our Europe acceleration is going to be post-2023. We're less represented in the 48-volt hybrid, and we'll be way more represented in plug-in hybrid and high-voltage hybrid systems. Very helpful. Thank you.

Next question comes from Dan Levy with Credit Suisse.

Hi, good morning. Thank you. I had a couple questions on restructuring, please. The first one is one of the points, you know, that we see in restructuring relates to turbos. And you mentioned here that you'll be closing technical centers, which probably means, you know, reduced R&D. So does reduced R&D in any way threaten the turbo penetration opportunity or really is the view that there's still more than enough engineering footprint in place to drive continued gas turbo penetration? And how much of that footprint reduction simply relates to diesel, which just isn't necessary anymore?

I think we're taking a company-wide approach on the restructuring. The consolidation of R&D centers or closure or conservation doesn't mean that we are going and automatically reduce R&D in those fields. We feel good about our four to four and a half percent of R&D as a percentage of sales. Some product lines have more than others, which is, I think, a good way to manage the portfolio, a good way to manage the business. So, and again, it's company-wide and it's not focused in one region in particular. Got it.

And then the second question just on managing the deal alongside the Delphi, managing the restructuring alongside Delphi. You know, you have your own restructuring plan. Delphi has its own restructuring plan. Could you just talk about the ability to concurrently manage your restructuring plan alongside the Delphi plan once it's closed? Are two restructuring processes twice as challenging or are there synergies, so to speak, in concurrently running two restructuring processes concurrently?

They're pretty compartmentalized. We have our own and they have their own and it does not interfere with each other. Project Pioneer is more focused into tech center consolidation from a Delphi technology standpoint. We've done our own from an SG&A standpoint that we announced back in April and the one that we're talking about is more looking at cost of goods sold in some areas of the business. And so it would – it is – one way to look at it is really looking at it that they are disjointed. Great. Thank you.

Next question comes from Emmanuel Rasner with Deutsche Bank.

Hi, good morning. First question is on the potential revenue synergies highlighted on slide nine. Can you just conceptually explain for us again where do the revenue synergies come from? My understanding was that before your acquisition of Delphi, you guys were already bidding for a complete drive module on the electrification side. You were already winning some. And then similarly, obviously, Delphi, has been running some very good business on the power electronics side. So when you think about these revenue synergies, what is it that you're actually able to accomplish in addition to that? Or was there, like, specific technology that you needed to take it to the next level?

No, Emmanuel, I think it's fairly clear that the combination of Delphi Technologies and us from a mechanical motor power electronics puts us in a position that we can serve customers around the globe who want systems. And on that page 9, we're talking about customers who want systems. So with their world-class motor controller and our world-class motor and transmission, it puts us in a position to accelerate those system revenue synergies. It just makes offering our product offering better Understood.

And then the follow-up question on the backlog and its potential impact of its mix on margin. When I look at the breakdown that you gave by product, it feels like an overwhelming portion of the backlog would come from drivetrain versus engine, which obviously is intuitive since it's electrification. These have been businesses that have a considerably lower margin profile than what's going on in the power train. So as you launch this, do you have sort of a natural pressure on margin from launching businesses that have lower margins than the stuff that's actually rolling off? And I'm interested in particular in your earlier answer around focusing on ROIC. Are you essentially saying that even though those businesses may have a low reported margin, the ROIC is still comparable. So we may see margin compression but not return compression.

I wouldn't think about it that way. I mean, I think you're right. The backlog is disproportionate to the drivetrain business. That's absolutely the case, and that's by design of how we've been growing the company, particularly in the H&E products. But I think the incrementals, as you think about the two businesses, are fairly comparable. I think we've just started from a lower base, especially as we've been investing in the drivetrain product portfolio. So I think as we increment on the incremental revenue, I think you should expect that it's going to have similar types of incrementals that we would expect for the company in total. And from an ROIC perspective, yes, we manage the businesses the same way. We drive for similar levels of ROIC. We're pretty disciplined about that and all the appropriation requests that Fred and I review, whether it's a drivetrain program or an engine program.

Great. Thanks for the call.

We have time for one final question, and that question comes from James Piccarolo with KeyBank Capital.

Just regarding asking about this revenue funnel, what portion of these 15 OEs would represent true greenfield opportunities in terms of the relationship potential for BorgWarner?

Greenfield meaning that it would not be a customer we'd hardly work with?

or the relationship would just be dramatically enhanced. I would consider that Greenfield as well.

You know, there is not too many customers we don't work with around the globe. But due to maybe the size, it would. certainly be an enhanced relationship at the customer we would do business with, but I presume the product offering would certainly enhance the relationship. Okay. I think gains are winning.

Okay, that's fine. And regarding the restructuring plan outlined here today, is any of this earmarked for the engineering and development spend that you'll likely need to, you know, put forth as you win, you know, future electrified propulsion awards?

Yeah, I mean, we're – I guess you can see already in 2020 we're part of our – we are anticipating an increase in R&D investment in the year up, you know, 30-plus million if you look at the midpoint of our guidance. and that is using some of the savings or basically offsetting some of the savings that we're anticipating in 2020 coming from restructuring. But that doesn't mean we're anticipating permanent step-ups from there even in R&D. I think when we look at the restructuring initiatives and the savings, we're simply being proactive to guard against risk, whether it is increased R&D over time, whether it was something else that popped up in the business that we didn't anticipate. But I think sitting here today, we continue to expect that we'll manage R&D in that low to mid 4% range going forward, and that's the right way to think about the business. Okay. Thanks, Chris.

I'd like to thank you all for your great questions today. With that, Sharon, you can close the call.

That does conclude the BorgWarner 2019 Fourth Quarter and Full Year Results Conference Call. You may now disconnect.