BorgWarner Inc.

Good morning. My name is Jerome, and I will be your conference facilitator. At this time, I would like to welcome everyone to the BorgWarner 2021 Second Quarter Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be 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 speak up behind it before asking your question. I would like to turn it over to Patrick Nolan, Vice President of Investor Relations. Mr. Nolan, he may begin your conference.

Thank you, Jerome. Good morning, everyone, and thank you for joining us today. We issued our earnings release earlier this morning. It's posted on our website, forewarner.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, I need 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 will highlight certain non-GAAP measures in order to provide a clearer picture of how the core business performed 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 and commercial vehicle production weighted for our geographic exposure. Our outgrowth is defined as our organic revenue change versus the market. Please note that we posted an earnings goal 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 day, everyone. First, on slide five, I'm very proud of our strong performance in the quarter despite the ongoing component supply headwinds. With just under $3.8 billion in sales, our second quarter revenue increased over 72% organically with strong incremental margins and free cash flow. As Kevin will discuss, we are increasing our full-year guidance as we believe higher outgrowth and synergies are offsetting commodity and other headwinds. That's for the short-term execution. Now, going forward, I'm very proud of our sustainability strategy highlighted in our report that our team just published. The acquisition of ACASOL was completed in early June, and I'm very positive about what I see. great technology, great entrepreneurial spirit and mindset, welcome ACASEL to BorgWarner. And we secured multiple new product awards for electrified vehicles, which I'll speak about in a few moments. Starting with our overarching sustainability topic and our vision to a cleaner and more energy-efficient world, I would like to highlight some key takeaways from our global sustainability report called Evolving for All on slide six. Evolving for All compiles into one document what is possible when nearly 50,000 people resolve to do the right things. It is a testament to our commitment to create an enterprise that is shaping the future of sustainable mobility. We are accelerating our clean mobility technologies We're reducing our carbon footprint and are well on our way to achieving our stated goal of carbon neutrality by 2035. The report also includes Scope 3 emissions data to illustrate how our products are improving the world in which we all live. We're fostering a diverse and safe workplace and giving back to our communities, and our pay equity analysis shows parity results. I'm extremely proud of our sustainability focus. Moving on to another pillar of charging forward, we have completed the takeover offer of Accasol early June as detailed on slide 7. Since then, we have increased our ownership stake to approximately 93% through additional share purchases. we have informed ACASOL of our intention to progress towards a squeeze-out process to achieve 100% ownership. To put in perspective, we expect ACASOL to represent 20% to 25% of the M&A portion of our Charging Forward project announced just four months ago. ACASOL also continues to secure additional new business awards. Last month, They announced an agreement to supply their battery systems to a major bus and commercial vehicle manufacturer from Belgium. ACASOL will supply the second and third generation of their high-energy battery systems for the customers' new all-electric city bus starting in 2021. Now let's go to China and look at other recently announced new product awards for electrified vehicles on slide eight. First, we announced new contracts to supply dual inverters for Great Wall Motor and another major Chinese OEM. The dual inverters will be features on both hybrid electric vehicles and plug-in electric vehicles for these customers. By combining different power electronic technologies into one compact package, our dual inverter provides unrivaled functionality. A single unit can control and drive two electric motors while delivering cost and weight reductions. These advanced inverter awards showcase not only the product leadership we have in these domains, but also the trust and confidence we have built in our electrified applications with multiple OEMs globally. In addition to their mid-term revenue opportunities, advanced hybrid programs such as these allow us to drive additional scale and product capabilities that help improve our overall competitiveness in the world of battery electric vehicles. Also, downstream the battery, I would like to highlight another IDM award. This new three-in-one has a bigger size and output functionalities than the one already announced a few months ago with Hyundai. This one is also all Borg on a Mate, mechanical, motors, vertically integrated electronics and software. We're partnering with a leading luxury new energy vehicle maker in China with SOP in 2023. Designed, developed, and manufactured by BorgWarner, this IDM features our electric motor, our gearbox, and our integrated power electronics. It operates at 400 volts and has a peak power of 250 kilowatts. Now, adjacent to the battery packs, I would like to shed some light today on our high voltage coolant heaters on slide 9. This product line is a great example of a best product developed organically by BorgWarner and now commercialized and manufactured at scale. It helps improve the battery-operated range of our customer battery electric vehicles by controlling the battery temperature at an optimal level while also increasing passenger comfort through the delivery of an ideal interior climate. We recently expanded our existing business with the launch of a new program with Geely. And as you can see by the chart on the slide, the business is expected to grow rapidly from 600,000 units in 2021 to 4 million units by 2025. That's a 60% CAGR, six zero. With multiple customer awards, we expect the high voltage coolant heaters to already account for $400 million in revenue by 2025. Or to put it another way, we expect this product to account for close to 10% of our planned EV revenue by 2025 under charging forward. This product line does not get as much attention as the more high-profile product lines like IDM, inverters, or motors, but still contributes meaningfully. to our EV content. So let me summarize our second quarter results and our outlook. The second quarter results were strong, particularly considering the supply challenges currently impacting the industry. We delivered strong top-line growth, and we believe we're tracking well towards our full-year margin and free cash flow objectives. We're increasing our full-year revenue and adjusted earnings per share guidance. As we look beyond these near-term results, I'm extremely excited about our long-term positioning. We are continuing to secure new business for electric vehicles to support our long-term revenue targets, and I'm pleased to see awards both on the component and on the system level. BorgWarner continues to develop clean and energy-efficient solutions like our IDM family of products. And lastly, we're focusing on a disciplined, inorganic investment approach, like the acquisition of Accasol, that adds great technology and additional scale to our portfolio while supplementing our growth profile. With that, I'll turn the call over to Kevin.

Thank you, Fred, and good morning, everyone. Given the number of financial topics we have to get through this morning, I'm going to dive right into the details. So let's turn to slide 10. As we look at our year-over-year revenue walk for Q2, we begin with pro forma 2020 revenue of just under $2.1 billion, which includes $628 million of revenue from Delphi Technologies. Foreign currencies increased revenue by about 11% from a year ago. Then our organic growth year-over-year was more than 72% compared to a 64% increase in weighted average market production. The significant year-over-year changes in industry production and the varying levels of supply disruptions among our customers make it difficult to draw conclusions from the quarterly outgrowth figures. Nonetheless, we were pleased with our performance in the quarter. Looking at our regional performance, in Europe, we outperformed by double digits, driven by growth in small gasoline turbochargers, VCT, and fuel injection. In China, we also outperformed the market by double digits, driven by growth in DCT, all-wheel drive, and fuel injection. And in North America, we underperformed the market, primarily due to customer exposure. The sum of all this was just under $3.8 billion of revenue in Q2. Now let's look at our earnings and cash flow performance on slide 11. Our second quarter adjusted operating income was $401 million compared to our pro forma loss of $52 million in the second quarter of 2020. This yielded an adjusted operating margin of 10.7%. On a comparable basis excluding the impact of foreign exchange, adjusted operating income increased $423 million on about $1.5 billion of higher sales. That translates to a strong incremental margin of over 28%, driven by conversion on higher volumes, restructuring savings, and Delphi-related synergies in excess of purchase price amortization. We were particularly pleased with this performance given elevated supplier and commodity costs that we experienced during the quarter. Moving on to cash flow, we're proud of the fact that we generated $133 million of positive free cash flow during the second quarter, which was achieved despite an investment in inventory to help us better manage the challenging production environment. Let's now turn to slide 12, where you can see our perspective on global industry production for 2021. As you can see, we expect our global weighted light vehicle and commercial vehicle markets to increase in the range of 8.5% to 11%, which is down from our previous assumption of a 9% to 12% increase. This reduction from our prior market outlook reflects the ongoing impact of the semiconductor shortage on industry production, which is reducing our expectations for North American and European industry growth. We do expect light vehicle industry production to improve sequentially in the third and fourth quarters relative to Q2, is we believe the impact of the semiconductor shortages will be lower in the second half of the year than what we saw last quarter. However, given lower commercial vehicle production in the second half and the varying impact of ongoing supply constraints on our mix of customers, we're not expecting Q3 and Q4 revenues to return to Q1 levels. Now let's talk about our four-year financial outlook on slide 13. You can see that our end market assumptions from the prior slide are expected to drive an increase in revenue of roughly $965 million to $1.2 billion. Next, we expect to drive market outgrowth for the full year of approximately 500 to 600 basis points, which is a meaningful step up from our previous guidance of 300 to 500 basis points. Based on these assumptions, we expect our 2021 organic revenue to increase about 14% to 17% relative to the 2020 pro forma revenue. Then, adding a $520 million benefit from stronger foreign currencies and $75 million of revenue related to the acquisition of Akasal, we're projecting total 2021 revenue to be in the range of $15.2 to $15.6 billion. From a margin perspective, we expect our full year adjusted operating margin to be in the range of 10.2 to 10.5% compared to a pro forma 2020 margin of 8.3%. This contemplates the business delivering full year incrementals in the low 20% range before the impact of Delphi related cost synergies and purchase price accounting. From a cost synergy perspective, our margin guidance includes 100 to $105 million of incremental benefit in 2021 which is higher than our previous guidance of $70 to $80 million. As I'll discuss in more detail momentarily, the cost synergies are simply being realized faster than we previously expected. Partially offsetting this favorability are two things. First, the acquisition of ACASOL is expected to reduce full-year margins by 10 basis points. And second, we're anticipating a net negative impact from commodities in the range of $70 to $90 million, which is worse than we previously expected. But even with these two headwinds, we're holding our margin roughly in line with our prior guidance. Based on this revenue and margin outlook, we're now expecting full-year adjusted EPS of $4.15 to $4.40 per diluted share, which is an increase from our prior guidance of $4 to $4.35 per diluted share. And finally, we continue to expect that we'll deliver free cash flow in the $800 to $900 million range for the full year. This is flat with our prior guidance as we expect the higher sales outlook to drive an increase in working capital that largely offsets higher adjusted operating income. This would still represent record free cash flow generation for the company. That's our 2021 outlook. Let's turn to slide 14 for an update on the financial impact of the Delphi Technologies acquisition. As I alluded to earlier, the cost synergies related to the transaction are being realized more quickly than we previously expected. The primary driver is faster execution of headcount reductions related to our planned SG&A cost synergies. In fact, at this point, we've completed more than 95% of the headcount reductions associated with our Synergy Plan. As a result, we now expect 2021 cost synergies to be $100 to $105 million, which means that, cumulatively, we expect to have achieved synergies of $115 to $120 million by the end of the year. But to be clear, this is an acceleration of the timing of our synergies as opposed to an overall increase in our performance. Therefore, our total cost synergy target of $175 million is unchanged. In addition to higher cost synergies, Delphi's revenue contribution in 2021 is also tracking ahead of our original expectations. As a result of these two factors, the accretion to 2021 adjusted EPS from the Delphi acquisition is now expected to be positive 20 to 30 cents. versus our expectation at closing of a dilutive impact of approximately 15 cents. This is a great result and a testament to the work being done by the integration teams across the company. And as we look beyond 2021, it's important to note that the revenue synergies associated with the transaction are also progressing very well. We're pleased with the systems awards that we've generated through combining our electric vehicle capabilities including the IDM award in China that Fred mentioned earlier. We've been able to secure these and other components awards as a result of leveraging Delphi's technology leadership with BorgWarner's commercial relationships, operational capabilities, and financial strength. Let's turn to slide 15 for a summary of the financial impact of the ACASOL acquisition. As you can see, we expect ACASOL to contribute 2021 sales of $75 million to BorgWarner's second half results. Then, we would expect those sales to grow significantly over the next few years, with 2024 sales still expected to be in the half billion dollar range. This growth is supported by ACASOL's previously reported backlog. From an EPS perspective, we expect Acasol to have a roughly break-even impact on the total company in 2021, excluding the impact of purchase price amortization. Then, as the business grows sequentially each year, we do expect to see conversion on the incremental revenue, which we expect to drive accretion of 12 cents by 2024, also excluding the impact of purchase price amortization. We're pleased with the transaction and the medium to long-term benefits it's expected to deliver. So let me summarize my financial remarks. Overall, we had another solid quarter despite the industry challenges. We meaningfully outperformed the market, delivered a 10.7% operating margin, and generated $133 million of free cash flow. And then coming off that Q2 performance, we've increased our full-year revenue and earnings guidance, even while moderating our industry production assumptions and considering higher commodity costs. Looking beyond our near-term results, we believe the faster accretion from the Delphi Technologies acquisition and the completion of the Accosol acquisition illustrate our ability to execute the inorganic actions that are part of our project charging forward initiative. The electrification wins discussed by Fred also highlight some of our progress toward the organic portion of our plan. Ultimately, it's the pillars of near-term execution, securing future profitable growth, and disciplined inorganic investments that will drive the success of our strategy and thus drive value creation for our shareholders. With that, I'd like to turn the call back over to Pat.

Thank you, Kevin. Jerome, are you ready to open it up for questions?

At this time, I would like to remind everyone, if you would like to ask a question, please press star 1 on your telephone keypad. If you are using a speakerphone, please speak up to 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. Your first question comes from Chris McNally with Evercore. Your line is open. Great.

Thanks so much, everyone.

I wanted to maybe talk a little bit about the second half assumption. You know, just based on your guidance, you had a very strong first half $850 million of EBITs, the guidance in the second half implies something lower at $750 to $800 million range, which would obviously be down sequentially, but also down year over year versus the pro forma that you've provided on up revenue. So if you could just provide some of the puts and takes there, that would be really helpful.

Yeah, I think maybe to make it simpler, why don't I speak relative to the midpoint of the range? But as you think first half to second half, I think when you exclude the impact of ACASOL, which is $75 million, you know, revenue sequentially, first half to second half, is down a couple hundred million dollars. So obviously we have lost conversion on that revenue. But then on top of that, as you're going first half to second half, you've got the net commodity headwinds, which are an incremental $20 to $40 million in the second half. Our R&D on a net basis is stepping up in the second half, another $25 to $30 million in And those things are being partially offset by about $20 to $25 million of incremental synergies. So that's kind of the walk as you look first half to second half. I think the thing, if you look year over year, if you're talking second half of this year versus our pro forma second half of last year, I think one of the things you have to keep in mind is part of the revenue walk is ACASOL of $75 million and foreign exchange, which is a little bit over $100 million. So $200 million of our revenue improvement comes with virtually no margin because FX converts at basically our operating income. And ACASOL actually, because of purchase price amortization, is diluted this year about $10 million. The net is no conversion on that incremental $200 million, which means what? It means then on the revenue that's left, there's actually the downside conversion at the midpoint of our guide, plus those other things I spoke of, the commodity costs, R&D being up, but synergies being a little bit of an offset. So hopefully that helps.

No, that's great detail. Thanks so much. And then if we go talk to the secular side of the business, and you announced, you know, several EV wins in the quarter. You know, of note, the three on high voltage that obviously are of more significant value, the two inverters and the one on IDM. Could you talk about just relative – I mean, you can't give a hard number, but the relative size – To the wind, are we talking about hundreds of millions, you know, in the backlog edition where these are, you know, 100,000 per year type vehicles? Or is it something, you know, that we expect that's a little bit smaller?

I think the volumes are meaningful. And, you know, what we've seen also is each time we book a business in this field, volume is expectation is going up and up. So those are two great programs for us. And from an IDM perspective, as you've seen, we're building a modular portfolio. It's a different power output, different power level, and so very happy about that and hitting the market with great products.

Great. Thanks so much.

Your next question comes from Luke Jonk with Baird. Your line is open.

Yeah, good morning. First question I want to ask, if there's any additional color that you could share in the scope of the IDM award that you disclosed today, should we think about this as an award on a single vehicle, or could it potentially cut cross-platform at the customer?

So right now, the IDM is a power level. So within that power level, it cuts across platforms. the vehicles that the customer wants to tailor for that power level. So that's the color I can give you. It starts with a platform and will cut across at the 250 kilowatt power level.

Okay, that's helpful. Thank you. And then bigger picture, one of the focuses here is that you'd highlighted at your investor day in March, with IDMs in Asia in general. Seeing here, five, six months later, you've now booked a couple of these awards, and we're still not even a year out from the close of the Delta deal. Is it fair to say that the level of interest in Asia is consistent with or maybe even a little better than you had anticipated in March?

It's in line with what we expected. And this is currently where the music is played the loudest from an EV acceleration standpoint. This is where we're going to get in scale early. Very happy about that. And the technologies that we're bringing to the market and the competitiveness that we're bringing to the market with in-house transmission motor electronic software is very, very well received.

Your next question comes from Brian Johnson with Barclays. Your line's open. Brian, are you there? Brian Johnson from Barclays.

Your line is open.

Jerome, I think we can go to the next question. Okay. Your next question comes from Joseph Spack with RBC Capital Markets. Your line is open.

Thank you very much. And thanks for that first half or second half walk. That was helpful. I guess just on the commodities, if I'm following along, it seems like on a year-over-year basis, you're talking about another $55 or so million headwind in the back half. I just want to confirm that. And also, if you could just sort of remind us of your policy here? Because I thought over time you tend to get some recoveries there. So as we begin to think about the bridge into 22, does this sort of headwind remain or do you start to get some of those recoveries on the raw materials?

Yeah, I think you've got the number right. As you look at the second half of the year on a year-over-year basis, it's in the $45 to $65 million range. So you've hit the midpoint exactly right. And that is a net number, net of our recoveries. Now, obviously, there are some timing lags as it relates to recoveries, but the bulk of those recoveries are expected to be in our results as we progress through the year. And so that number that we're talking about, the 45 to 65 in the back half of the year on a year-over-year basis, is net of the recoveries already. But there might be a little bit of a tailwind heading into the first quarter of next year.

So... I mean, so if these commodity levels hold, then it's fair to, you know, assume at an absolute level there's still a headwind in the first half of next year, even if, you know, maybe it's mitigated somewhat by some of the recovery timing.

Yeah, a little bit. So certainly, yeah, because the headwinds as we go first half to second half are definitely different. more negative, you know, call it $20 million to $40 million, and as that carries over to the extent it carries over into Q1 of next year, that would be an incremental headwind on a year-over-year basis relative to Q1 of this year. But, of course, there's lots of moving pieces as we head into the beginning of the year. You know, we know next year in 23 we've got another $55 million to $60 million of synergies to recoup from the Delphi transaction. We've got the legacy BorgWarner restructuring actions we announced 18 months ago. And you remember we said those actions were to mitigate unknown risk. These are the types of risks exactly that it was geared toward, things that were unforeseen at the time. And that's another 25-plus million of tailwind next year. There's the legacy Delphi restructuring actions project pioneer, which is incremental tailwind next year, and then any conversion on our continued outgrowth. So there's a lot of puts and takes as we head toward next year, but incrementally if commodity levels held, there would be an incremental headwind heading into next Q1 versus this year's Q1.

Okay. And then the second question is just, Fred, maybe this is a question we've been getting a lot from investors, right? So at your analyst day earlier this year, I think you sort of put up a slide that showed you thought 80% of inverters would be outsourced. It seems like during the quarter, whether it was Renault or Ford or some others, there's been more and more announcements of automakers trying to do power electronics themselves. Um, and so it seems like it would seem like maybe that figure is incrementally more challenged. I'm curious whether, whether, um, your view has changed there or is this just a definitional issue? Meaning like by insourcing, you mean like the OEMs actually make it, but in reality, in some of these cases, like the OEMs might help with design, but they won't necessarily build.

Yeah, I think, I think in, in inverter, we, we, I believe we are in a very, very strong position. And we've already announced, you know, more than 1.1 million units by 2025 in Europe. If you do the math, it's a significant share of the overall European inverted volume for BEZ. And since then, more booking have happened. We don't see too much change. I think, and it's due to three reasons. We were successful in this field for three reasons. our product leadership, the different voltage, 400, 800, the silicon carbide. We continue to innovate with cost and weight reduction with more efficiencies. Two is we have scale. And I absolutely believe that this continues to be a strength. And we are leveraging the whole electronics business that we have. And last but not least, I think we also have a high degree of vertical integration, in-house capabilities. integrated circuit development, software power modules, and maybe more in the future. I think, you know, this is a very competitive business. You have to have the best efficiency at the best cost. You have to have scale. I'm very confident that we are in a very good position to grab a significant portion of what will be outsourced, and we're not seeing a change from about 80% of outsourced inverter volume to suppliers. Okay. Thank you.

Your next question comes from Colin Langen with Wells Fargo. Your line's open.

Oh, great. Thanks for taking my question. You've done a pretty good job here. You keep cutting your sort of production assumption, and yet you keep raising your sales guidance. What is driving that much better than expected growth over market? Does mix have anything to do with that, with the commercial maybe holding in better?

I think we outgrew the market in Q2. We underperformed in North America due to customer exposures. We overperformed Europe and China, double-digit, driven pretty much by old products. There is not one product that drives more than the other. Now, in Q2, I must admit, there was a lot of moving pieces. And we're not looking at our growth per quarter. That is too finite. But we're very happy with the way our top nine is evolving this year and very happy to be able to beat and raise in the short term, also very focused in the long term. We are investing in R&D in order to support the programs that have been booked and very happy with where we are both short-term on the margin and cash flow and also the activities from a long-term booking. And I want to take the example, you know, people focus a lot on downstream, the battery, but the example of that high-voltage coolant heater, I think it's a great example where BorgWarner can develop in-house and really solve a problem of battery electric vehicle. Battery electric vehicle required innovation solutions for two critical functions, battery thermal and cabin heating. And the solution that we gave to the market is taking a lot of traction. You won't be surprised. We have our own integrated electronics and software, and we are leveraging the heating technologies that we have from other BorgWarner product lines. So very happy about where we are, both organic and inorganic in the long term. Got it.

And any color on the commercial market, I kind of thought that was holding in better, but if I look at your guidance from Q1 to Q2, actually your outlook is it's getting – it actually came down. So did that actually hold up better in the quarter? Does it get a lot worse in the second half now? Because I know that's a pretty high-margin business, and I think with the Delphi deal, it's a larger, chunkier business now.

Yeah, I mean, one of the big things is that, you know, China, we would expect to see headwinds as we look at the back half of the year from a year-over-year production perspective, and that obviously has an impact on us and our overall outlook.

Okay, so the second half's getting weaker. Okay, thanks for taking my question.

Yeah, second half's weaker on a year-over-year basis, definitely, and China's a big driver of that. Got it.

And your next question comes from Dan Levy with CreditSense. Your line's open.

Hi, good morning. Thank you for taking the question. Just want to follow up on Colin's question there, just on that outgrowth. Can you maybe unpack some of the items that you saw in the second quarter that drove the outgrowth between the DCT and Turbo and GDI? Just maybe a little more color on what exactly was driving that. And as we're thinking about, especially in Europe, the push to BEVs, You know, is there any shift in where, you know, GDI and turbo sits in automakers pushing toward their CO2 targets?

Yeah, and as I mentioned before, we outgrew Europe and China double-digit driven by a lot of factors. But you're right, gas turbos – VCTs and GDI in Europe, also all-wheel drives. And so this is driven by also, don't forget that in any hybrid powertrain architecture, you've got a good gasoline engine with turbos and GDI and other elements. And don't forget that hybrid powertrain, especially in Europe, but also in China, and the business that we booked with that dual inverter is a good example, is ramping up very, very fast. And that is giving us, on the E side, scale and launch expertise that are translatable into the world of BEV. And on the combustion side, it just pulls our products that drive-efficient combustion engine. So I think it's that particular reason. I don't have the color about how much is turbo versus VCT or GDI or all-wheel drive, but I'm pretty sure Pat can follow up offline with you. Okay.

And then the line of sight for the remainder of the year as far as GDI and and turbo in Europe, is that something that is still playing a role in driving CO2 targets?

Absolutely, it does. Absolutely, it does. It does in reducing the CO2 and emissions of combustion engines. It does because it is an enabler of hybrid powertrains And as you've seen, this is helping carmakers in Europe especially to meet the CO2 target. So absolutely, it does help.

Great. Thanks. And then as a follow-up, I just wanted to follow up on last quarter's announcement, which we got a little more color in June, the IDM Award with Hyundai. So you have an A-segment car here, and it's putting in IDM content that's probably, if I had to guess, $1,000, give or take, if you could maybe comment on the content. But the question is, usually an A-segment car is going to be a much tighter content cost. There's a much lower budget for content. So what does that tell us about going into B- or C-segment cars? platforms, does that tell you that there is better potential to scale that up to B or C segment? Or is there something unique about an A segment vehicle that makes them more likely to approach you on an IDM as opposed to doing it in-house?

So last quarter, we announced the IDM award on Class A, so small. Small doesn't mean simple, but small. This quarter, we're announcing a different type of IDM, bigger, with about twice the output power than the one from Hyundai. And as I mentioned in the last call, we're building IDM modular portfolio. And this is a great example of launching two different power levels, all born and made in Asia. Combined with the IDMs that we are currently producing as an integrator, you see that we are starting seeing a path of integrating with other motors or even other inverters, if the customer wishes to do that, a path for different power levels and different sizes of IDM, all Borg 108, transmission, motor, power, electronic software, and vertically integrated on the ASICs and so on. and a path with components. And as we mentioned in past calls, we're very happy to sell inverters to customers who want to make IDEM in-house. So you're seeing the strategy of developing and commercializing a portfolio of IDEMs globally that is seeing daylight.

Great. Thank you.

You're welcome.

Your next question comes from Noah Kane with Oppenheimer. Your line's open.

Thanks. Good morning. Appreciate your taking the question. I guess first, congrats on closing ACASOL. Just wanted to understand, what margins roughly are you assuming for ACASOL by 2024 in the accretion estimates you provided, excluding amortization? And then, you know, more strategically, how do you see ACASOL maintaining competitive differentiation in battery packs over time.

Yeah, with respect to the margin, we're not disclosing a margin outlook at this point in time, but I think you can probably do some math underlying our EPS and get a sense as to what the pre-tax assumptions are as it relates to the overall performance of that P&L relative to the half billion or so of revenue that we're expecting by the year 2024. But at this point, again, not going to disclose any margin profiles other than we think it's going to be a profitable business over time.

As far as technology, technological edge at Accasol, a few things, Noah. First, they're currently producing their Gen 2. They're launching their Gen 3 later this year. And being able to launch generation and improve efficiency and power density regularly is key. Now they're part of, soon they'll be fully, fully part of BorgWarner. And you can imagine that we will be working with them and linking them with the battery management system and software that we have currently in production coming from XDelphi Technologies. We certainly are going to link them also to the high-voltage coolant heaters. those elements are heating the coolant for the batteries. And I expect that we're going to find innovation and products that are going to be generating value for our customers and for BorgWarner going forward.

Very helpful. Thanks. And then just around R&D to clarify, you know, the new guide is $725 million of spend. That compares to 5% previously. So, A, just understand, you know, are you actually bumping up R&D levels, you know, from prior guidance? And so is that driven by, you know, EV programs, kind of where is the focus? Just help us understand.

Yeah, I'll take that. A couple of things worth noting around the R&D guide. First thing is that when you look at our Q2 results and when you get a chance to go through our 10Q, you'll see that our net R&D sequentially was down in the second quarter versus the first quarter. But it's because we actually had higher customer recoveries from an engineering perspective than we had anticipated and then we had in Q1 by about $20 million. If you look at our gross R&D going from Q1 to Q2, it was actually up sequentially, but the net was down. And so what that means is it's actually had an impact. We've actually brought down our implied full-year R&D from what was about $740 million implicitly at the beginning of the year to about $725 million as our current guide. And so that's really being driven by the higher than anticipated customer recoveries that we generated in the second quarter. As you look at it as a percent, the reason we gave a dollar guide as opposed to a percentage guide is the percentage is coming down. And the reason the percentage in 2021 is coming down is because revenue is going up. So it's not because we're cutting our R&D spend. We had better recoveries, but our R&D spend is actually still $725 million. But with revenue going up, the R&D as a percent of sales is actually now 4.6% to 4.8%, which just looks like a lower percentage. But it's implying lower spend, but it really isn't the case. So as we looked at the full year, that's what the 725 represents, about a $15 million reduction, but really driven by the recoveries. And then as we think ahead to next year and beyond, we continue to expect that we're going to be driving R&D spend in that 5-plus percent range on a go-forward basis.

That's a very helpful detail. Thanks, Kevin. I'll jump back.

Jerome, ready for the next question. Your next question comes from David Kelly with Jefferies. Your line's open.

Hi, guys. This is Gavin Kennedy on for David. This one's on my end. First, you mentioned that North America customer mix was a headwind in 2Q. Just was curious what Board Warner is seeing as far as visibility to customer schedules in North America through year-end.

What we're seeing is a better mix and recovery coming into Q3 and Q4 from the Q2 level and still very volatile. especially because of the semiconductor supply issues. That's what we're currently seeing, Kevin.

Okay, that's helpful. And then switching gears, at your investor that you mentioned, $3 to $4 billion in targeted legacy ice dispositions by 2025, and about, call it $1 billion in the next year or so. Can you comment on how disposition conversations are going, particularly given the volatile current environment? And any additional commentary you can give us on what products you might be focused on in these dispositions, that would be helpful.

Yeah, I mean, it's in progress. Just as you noted, the billion or so we expected to execute over a 12- to 18-month timeframe from what we announced at Investor Day, which means as we get to the end of Q3, we'd expect to complete that full billion or so. And we're in progress right now. And as we talked about, we're really focused on disposing product lines or businesses that that don't meet the long-term financial objectives of our portfolio, which means they lack one of three things. They either lack product leadership, they lack medium to long-term growth prospects, or they lack strong margin and cash flow generating ability. And so if a product line or a business doesn't tick all three of those boxes, it's a candidate for disposition. So at this point, we're actively moving forward in line with what we talked about at our investor day, and we think we're on track to deliver that billion or so of dispositions I call it mid to late 2022, consistent with the timeframe that we laid out back at investor day. And then we continue to expect $3 to $4 billion by the end of 2025. Great.

Thank you, everyone.

Your next question comes from Brian Johnson with Barclays. Your line's open.

Thank you. And I apologize if this was covered in the opening, but I kind of doubt it. When I... When you look at the 800-volt market, I was struck at the Chicago Auto Show by the Hyundai 800-volt systems and, of course, the advantages. A small question is, can you confirm if you're on that or not? But the bigger question is, 800 volts started in the high-performance market with the Porsche. Now we see it in Hyundais. I know you're – new high your new ev motor runs on 800 volts for commercial so my question is do you see 800 volt as a big trend one two is the inverter product line you got from uh delphi tech uniquely positioned in that market relative competitors and three are there synergies then between your 800 volt converter capability your e-motor capability and where axle could go, and is Accosol capable of doing 800-volt packs?

So the answer to your first question is 800-volt a big trend, and is it going down in vehicle size? The answer is yes. Why? Because it increases the power density and decreases the charging time. Are we well-equipped? Absolutely. The answer is absolutely yes. We are going to be one of the first ones launching very soon 800 volts silicon carbide at high volume. This is a competitive advantage that we have to master high voltage silicon carbide and also master 800 volts made-in-house power module, which is the heart of the inverter. Synergies? Absolutely. I was talking about high-voltage coolant heaters. We will start in 2024 an 800-volt high-voltage coolant heater. And yes, there are synergies across the different product portfolios that we have running at 800 volts, Brian.

And can Acasol do 800-volt packs?

I need to check that. My answer is yes, but I have I need to go back to you on this one, particularly.

Okay, thank you. And your next question comes from Emmanuel Rossner from Deutsche Bank. Your line's open.

Yes, thank you. Good morning, everybody.

Good morning.

The first question is about your crossover market outlook. It's good to see you boosting the outlook for the full year. Can you talk in a little bit more detail around what you're expecting for the second half of the year? Obviously, you mentioned mix improving and customer mix in particular. But then, obviously, you had pretty solid growth of the market already in the second quarter. And then for the full year, you had, you know, five to six other basis points. So how would you see this play out in the second half? And then just looking a little bit more forward, how should we think about mix, you know, going forward? Does this – then represent a headwind in 2022. Does this acceleration in growth over market make you rethink your framework for growth over market?

Yeah, I mean, a couple of things. When you look at the first half year to date, we're somewhere between 650, 700 basis points of cumulative outgrowth for the first half. And so as we look at the second half of the year, we don't think we'll be operating at quite that pace. We think we're probably in the four to 550 basis points for that second half. The first half, we benefited from some mix. We probably benefited from some production of vehicles that weren't ultimately in the production numbers of the OEs. So there's probably some level of give back that's implied in our numbers in the second half, which is why you see a lower year over year and implicitly a step down sequentially going from the first half to second half. But overall, I feel good about our ability to deliver 500 to 600 basis points for the full year. In terms of what that translates to for future years, Not prepared to give any update on that. I mean, we feel good about the backlog we've disclosed previously, looking out 22 to 24. And, you know, we'll probably give an update on that as we get into the beginning of next year.

Okay, thanks. And then second question on IDM. Just diving a little bit deeper here, can you just give us a sense of how to think about the range of content per vehicle and how would you see your either volume or revenue and margin profile of that line of business evolve over the next few years. So sort of like a midterm outlook on how you would see IDM go from here.

Average content per vehicle is going to range from about $1,000 for the smaller versions and times three or four for much higher sizes. I'm not going to comment on volumes. I'm not allowed to comment on volumes. I think that gives you some color on the content of the vehicle.

And then on the margin side of the equation, because we've talked about before, any new product programs, whether they're a combustion-based product or an EV product like an IDM, we look at on a return on invested capital basis. And given that we're predominantly from a manufacturing perspective in the assembly business, What that means is the capital intensity of our programs, including the IDM, tend to be similar to our other product lines. And so as we drive to deliver consistent ROIC across our product portfolio and we have relatively consistent capital intensity, it means the margin profile on any discrete program looks substantially similar to the margin programs of other business that we approve throughout the company, whether it's EV or not.

And that would be from day one, or is there a target date around this?

Well, that's the life of a program. So when you look at our EV programs, generally speaking, they tend to have much more R&D intensity, which tends to be up front. So as we're growing in EVs, what happens is we have a lot more R&D hitting the P&L up front, and then you generate the contribution margins over time, and the blend of all that hits our ROIC targets over the life of the program. But what that means is you're in ramp-up mode across EVs, your R&D is much higher proportionally relative to the conversion you're generating on the incremental revenue because the revenue is still coming in the future. So the EV portfolio in total has a more depressed margin while you're in growth mode. But that's not because of the underlying fundamentals of the business. It's because we're growing and investing in R&D to support the contribution margins that we'll generate over the coming years as we start to generate the revenue.

Two things I would add, Emmanuel. First is that everything that Kevin has said is the additional R&D that we do for EV is already in our margin profile, right? And two, we're currently spending 30% of R&D in EV when our revenue is 3% to 5% like the market is, quite frankly. So that shows you how deliberate we are in accelerating the path towards electrification.

Yeah, definitely. I appreciate it. Thanks.

We have time for one final question, and that question comes from Mark Delaney with Goldman Sachs. Your line is open.

Yes, good morning, and thanks very much for taking the question. First, I wanted to talk on Delphi, and reflecting back when that was announced, part of the industrial logic was that Delphi would give the company a broader set of technologies, including for EVs. I know some of that's with IDM, but more holistically. So now that you've had that asset for a longer period of time, you have a few wins with IDM. Can you give more clarity on your win rates and to what extent you're converting on that broader set of solutions to the extent that you had been anticipating?

So, yeah, only six months after the close, we booked IDMs, which is very important, but it's not limited to those systems. We also booked a lot of inverters that we think could be booked only with that combination. We are also accelerating on battery management system, the software of battery management system. So from a top-line synergy perspective, we're absolutely on track with what we expected coming into the Delphi acquisition.

Got it. That's helpful. And then you talked already a little bit about the supply chain situation and your views on the second half versus the first half. But maybe you could talk a little bit more on the longer-term implications from the supply shortages. Some of the OEMs have said that they want to change how they're going to procure supply and work more directly with some of the semiconductor companies. And how do you think that may impact a Tier 1 like BorgWarner or in terms of how you may partner both with your customers and suppliers and some of the implications around margins and working capital? Thanks.

So we are not seeing that trend, at least in the products that we focus on. But what that semiconductor issue has taught us is that it is extremely important to partner upstream and downstream, upstream with our customers and downstream with our semiconductor suppliers. The second thing that it has taught us, I think, is that scale matters. And it is easier to get going when you have scale than not. And I think those two lessons we're going to keep very close to our mind when we move forward in the next years. Got it. Thank you.

Thank you all for your great questions today. If you have any other follow-up questions, feel free to reach out to me directly. Jerome, you can go ahead and close out the call.

All right. That concludes the BorgWarner 2021 Second Quarter Results Conference call. You may now disconnect.