Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Goodyear Tire & Rubber (NASDAQ:GT)

Q4 2010 Earnings Call

February 10, 2011 10:30 am ET

Executives

Richard Kramer - Chairman of the Board, Chief Executive Officer, President and Chief Operating Officer

Darren Wells - Chief Financial Officer and Executive Vice President

Patrick Stobb - Director of Investor Relations

Analysts

Rod Lache - Deutsche Bank AG

Patrick Archambault - Goldman Sachs Group Inc.

Itay Michaeli - Citigroup Inc

John Murphy - BofA Merrill Lynch

Himanshu Patel - JP Morgan Chase & Co

Operator

Good morning. My name is Latania, and I will be your conference operator today. At this time, I would like to welcome everyone to the Goodyear Tire & Rubber Company Fourth Quarter 2010 Financial Results Conference Call. [Operator Instructions] I would now like to hand the floor to Patrick Stobb, Director of Investor Relations for the Goodyear Tire & Rubber Company. Thank you, Mr. Stobb. The floor is yours.

Patrick Stobb

Good morning, everyone, and welcome to Goodyear's fourth quarter conference call. With me today are Rich Kramer, Chairman and CEO; and Darren Wells, Executive Vice President and CFO. Before we get started, there are a few items I'd like to cover.

To begin, the webcast of this morning’s discussion and the supporting slide presentation can be found on our website at investor.goodyear.com. A replay of this call will be accessible later today. Replay instructions were included in our earnings release issued earlier this morning.

If I can now direct your attention to the Safe Harbor statement on Slide 2 of the presentation. Our discussion this morning may contain forward-looking statements based on our current expectations and assumptions that are subject to risks and uncertainties. These risks and uncertainties which can cause our actual results to differ materially are outlined in Goodyear’s filings with the SEC and in the news release we issued this morning. The company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. Turning now to the agenda.

On today’s call, Rich will provide a business review, including full year highlights. After Rich’s remarks, Darren will discuss the financial results and outlook before opening the call to your questions.

That finishes my comments. I'll now turn the call over to Rich.

Richard Kramer

Thank you, Pat, and good morning, everyone. I'm very pleased with our fourth quarter and overall results this year, not only because of our financial performance, especially in view of record raw material costs, but because of the changes, both operationally and culturally, that we are successfully driving in our business. And as pleased as I am with our progress in 2010, I'm more encouraged about 2011 and beyond.

Now before I comment further on 2010, I want to let you know that we plan on sharing more of our forward strategy with you at an investor conference that we are planning in March, and we'll talk more about that later.

Now let me give you some of our key highlights for 2010. Our momentum in North American Tire continues to get stronger, as we recorded positive earnings for the full year. Drivers of our progress include our continued cadence of innovative new products, achieving price increases against the significant challenge of raw material cost increases, significant improved brand channel customer mix with the Goodyear brand leading the way, increased productivity and output from our factories and an improving supply chain that resulted in fill rates of more than 90% on our core products. We have momentum, we are aligned and we are executing on or ahead of plan against all focus areas on our path to a 5% return on sales.

Outside of North America, all of our businesses reported significant improvement in segment operating income. Total segment operating income exceeded $900 million for the year, nearly 2.5x our total in 2009. And this is a significant achievement and more impressive considering what our Latin America region accomplished despite the business challenges in Venezuela.

In all regions, we effectively managed the impact of raw material cost increases, including skyrocketing natural rubber. Price/mix of $689 million more than offset the cost of raw materials for the full year. We achieved $567 million of the price/mix total during the second half of 2010, a record for any six-month period and certainly necessary as we head into 2011.

Our innovation engine, again, delivered in 2010. The percentage of new products in our overall lineup is the highest ever and is driving record revenue per tire increases, supporting a richer mix and increasing our ability to win in targeted markets. Also our innovative new products continue to accumulate an impressive list of test wins and third-party endorsements.

And from a manufacturing standpoint, we saw our cost performance and fixed cost recovery flow to the bottom line. In 2010, we produced about 22 million more tires that we did in 2009, resulting in improved overhead recovery of $278 million. Now combined with more than $460 million of cost savings actions, we saw a gross benefit of approximately $750 million and we have more to come in 2011.

Our focus on operational efficiency has begun to deliver tangible results. Our overall manufacturing productivity significantly improved year-over-year, resulting in increased output from the same equipment with minimum labor additions. And our advantage supply chain initiative has aligned our demand and supply process, resulting in a much more efficient supply chain, both for Goodyear and our customers.

And we made progress on our global manufacturing footprint, with multiple actions that improve our competitive position. With today's announcement of the planned closure of our Union City, Tennessee plant in North America, we achieved our targeted reduction of high-cost global capacity by 15 million to 25 million units.

In 2010, we also were able to invest in our future growth. We had CapEx near $1 billion, including about $400 million focused on the profitable growth opportunities in both emerging and mature markets. Our investments support both capacity and capability improvements and are linked to our strategy of winning in our targeted market segments.

And even with these significant investments, our cash flow was close to breakeven, thanks to our industry-leading working capital management, which reached a new level of efficiency in 2010. We are aggressively targeting further improvements as our Cash is King philosophy is certainly alive and well.

And we further strengthened our balance sheet in 2010. We refinanced our 2011 and 2015 debt maturities out to 2020, meaning our next bond maturity doesn't come due until 2016.

And finally, I see our team continuing to get stronger. We have a tremendous leadership team and continue to strengthen it at every opportunity, sharpening our alignment and our focus. Our success is directly correlated to having people on the team at all levels who make the right courageous decisions every day.

Ultimately, we exceeded our targets in 2010, and I'm extremely pleased with our performance. It provides me with a level of confidence and optimism in our ability to continue to march toward achieving all of our goals. These highlights are evidence of our positive momentum and give us confidence that in 2011, we will continue to strengthen our leadership position in the industry.

Now I'd like to spend a few minutes now on a couple of important issues that I suspect are likely on your mind. I'll start with the perspective on our global manufacturing footprint, given our plans to close our Union City plant this year and plans to restructure and ultimately, sell one of our plants in Amiens, France to Titan Tire. Then we'll take a more detailed look at how we view our strategy for offsetting raw material cost increases. I'll then talk specifically about North American Tire’s progress towards a 5% return on sales and close with some details on our plans for an Investor Day in New York City next month before I turn the call over to Darren.

Now first, our global footprint. As we've discussed in previous calls, the tire industry has become increasingly complex. Technology trends are accelerating, product complexity is increasing and emerging markets are growing rapidly. While these factors will be the key drivers of our profit growth over the next several years, they also are placing significant demands on our global manufacturing footprint. Our manufacturing strategy must support our selective approach to the market, allowing for growth in the most profitable segments and geographies while reducing our cost structure. This strategy continues to guide our capital investments and our decisions about where we build and source our tires.

In 2009, we announced the plan to eliminate high-cost capacity by an additional 15 million to 25 million units. Over the past two years, actions in Asia and announced plans in Europe have accounted for a combined reduction of 9 million units. Today's Union City announcement raises our planned reduction to 21 million units, thus achieving our goal.

And while we are committed to manufacturing in North America, all of our plants must be cost competitive and able to demonstrate sustainable world-class productivity. That is not the case with this plant. And as a result, the market has moved beyond what the factory is able to build. The closure will contribute about $80 million in savings per year beginning in 2012.

We expect to complete the action by the end of next year. Our plan is to implement the closure while minimizing the impact on our customers. Ultimately, we will absorb the remaining tires into our existing footprint while increasing our supply of HVA (high value added) tires to the market. We'll do this by leveraging past and continuing investments in our North American factories including Gadsden, Fayetteville and Lawton by redirecting capacity made available by our selective approach to our North America OE business and by continuing to increase productivity in our remaining facilities. Our success in Fayetteville this year is a great example.

In the last six months, we’ve increased our tires per day output by more than 20%. And these are the right tires, the HVA tires that are in demand by our customers. While a difficult action, the closure represents a significant and necessary step forward for competitiveness and profitability in North America.

Now moving to the discussion on raw material cost inflation. Higher raw materials prices are the most significant challenge facing our industry today. Since our third quarter call, commodity prices that were already high continue to increase, especially for natural rubber. Since October, we've seen natural rubber increase more than 40% to above $2.50 per pound.

Now despite the increase in price, and the persistent discussion of weather-related production declines, we continue to have no concern over supply, as it remains ample. In fact, we've seen local tire manufacturers in India and China petition their governments to intervene in futures trading, given apparent speculation.

While we don't view current natural rubber prices as representative of the true supply demand, it is the current reality for now and we're decisively focused on addressing it. Darren will talk more about the raw material challenges in his remarks, but what you should remember is this: We plan to continue to successfully offset those increases over time by continuing our focus on price and mix in all of our geographies and across all of our product lines. In the fourth quarter, price/mix benefits of $315 million were the largest we've ever seen, reflecting an increase in revenue per tire of 12%.

Our ability to achieve price/mix at this level reflects the continued success of our brand and products in the marketplace, the significant value that our customers place on Goodyear products and the strategic decisions on where we focus our business. In 2010, we launched about 60 new and impactful products. We compiled an impressive list of third-party awards and test results, many of which I've covered with you previously. And we made significant progress on OE contracts, further refining our strategy of selectivity. We continue to concentrate on business that is more profitable and translates into high-value replacement sales opportunity.

At the same time, this selectivity strategy enables us to shift more of our production to the replacement market. We remain confident in our strategy of introducing meaningful and innovative products, of focusing on improving our mix by emphasizing branded versus non-branded products and identifying processes and technologies to reduce our reliance on natural rubber. We're substituting synthetic rubber for natural rubber where possible. We are aggressively pursuing material substitution, such as our research work on bio-isoprene and we are focused on weight reduction, technology advances and cost cutting in other areas of our business to de-risk our plants.

Let me say that we fully understand the challenges ahead of us relative to raw material costs. But these headwinds are not new. And as our previous success indicates, we are well prepared to offset them. Though commodity and costs affect our products, our customers don't view our products as commodities. We will continue to deliver value that we believe separates us from the competition. Now I mentioned earlier how proud I was of our North America team for their 2010 performance in exceeding our expectations throughout the year and gaining momentum as the year progressed.

While 2010 financial results showed marked improvement over 2009 and 2008, I'm most pleased with the business model changes and profits improvements we are making in North American Tire that will result in a sustainably profitable business over the long term. These include driving our consumer replacement-branded products where we gained one share point in 2010 versus previously supporting multiple unprofitable private label brands by driving consumer-relevant market-backed innovation as seen through our consistent cadence of new products, driving mix through a focused business model no longer predicated on being all things to all people, by driving our advantaged supply chain by efficiently making more of the right tires through world-class planning and increasing factory productivity and output from our existing manufacturing facilities here in the United States, by strategically reducing our high-cost capacity, by making decisions every day to break from the past practices, which were largely focused on volume as a solution, and finally by supporting our customers with a new multimedia marketing campaign directed at driving business to our participating Goodyear dealers.

I feel very confident about all these areas. We are aligned in our thinking, committed to our strategy and integrated in our execution. Most importantly, we have momentum on the path to our next stage metrics.

And finally, we're pleased to announce that we'll be hosting an Investor Day on Tuesday, March 22 in New York City. A great deal has happened since our last conference in June 2008. So based in part on investor feedback from a perception study and our desire to provide more details than is possible through a conference call, we decided a March meeting would be a great opportunity for us to demonstrate the depth and capability of our leadership team, to highlight why it's a great time to be in the tire business and the critical factors needed to succeed in our industry over the next several years, to explain how our strategy will continue to differentiate Goodyear in the global marketplace and drive increased shareholder value; and finally, we thought it was great time to discuss our goals and our path to our next stage metrics. We're hopeful that many of you can join us in March.

And with that, I'll turn the call over to Darren to go over the results for the quarter and the full year. Darren?

Darren Wells

Thanks, Rich, and good morning, everyone. Our fourth quarter financial results continued to demonstrate strong progress against our operating plans and provide evidence of continued success in three key areas: first, our ability to grow the top line while addressing increasing raw material costs; second, a willingness to take tough actions to improve our cost structure; and third, our focus on driving cash flow to fund investments that will increase earnings in the future. In addition, as Rich said, our results showed significant progress toward moving North America earnings toward targeted levels. I'll hit on each of these key areas as I review our results and discuss our outlook for 2011.

Taking a look at the income statement, our fourth quarter revenue increased 14% on a 4% increase in unit volume, reflecting continued improvement in global tire demand as well as our strong price/mix performance. We will take a closer look at sales volume across the regions in a few minutes, but I will highlight now that North America sold about the same number of tires it did a year ago despite strong industry growth. This reflected the impact of our selective approach to OE, as well as the artificial industry growth rates that resulted from the effect trade tariffs had on industry volumes a year ago.

Gross margins were impacted by the spike that we've seen in raw material cost, which I'll also address in a few moments. SAG increased to $715 million versus $640 million last year. As with previous quarters, the increase can be attributed to higher marketing needed to support our brands and new products, including investment in emerging market growth together with higher year-end compensation accruals.

Segment operating income was $224 million, which is an impressive result considering record raw material cost increases. In Q4, our effective tax rate was about 24% of our foreign segment operating income. This was below the range expected for the quarter, as we experienced a shift in our profitability toward low tax jurisdictions. For the year, our effective tax rate was 25%.

The 2010 after-tax results were impacted by certain significant items, including rationalization-related costs of approximately $160 million for the planned Union City plant closure and an additional reserve of $43 million for the elimination of consumer tire production in Amiens, France. The appendix includes the complete list of fourth quarter significant items for this year and last year.

In response to investor feedback, for the first time, we've included a breakout of our fourth quarter sales for consumer and commercial. Compared to last year, global consumer revenue increased 8% and commercial increased 26%, reflecting a strong recovery in both markets. Revenue in other areas, which includes retail, chemical, OTR, aviation and motorcycle, was up 21%.

In consumer and commercial, revenue increases outpaced volume growth, reflecting the success of our pricing actions and favorable mix resulting in higher revenue per tire. For reference, we included a full year summary for these metrics in the appendix.

Before turning to the segment operating income walk chart, I want to follow up on Rich's comments regarding our price/mix performance. As Rich said, for the fourth quarter, we drove price/mix benefit of $315 million, which is the highest we've achieved for a single quarter and reflected an overall increase in revenue per tire of 12%. This resulted in a full year impact of price/mix of almost $700 million. Our ability to achieve price/mix at this level reflects the continued success of our brands and products in the marketplace and strategic decisions to focus sales in the most profitable segments in distribution channels.

I'll talk more about raw materials as I discuss our 2011 outlook. But during periods of rapid escalation, like the 32% increase we saw in Q4, the benefits of price/mix don't always match up. In Q4, our $315 million in price/mix remained below the $430 million of raw material cost increases. Our ability to recover raw material cost increases is impacted by several factors, including the rate at which raw materials escalate, contractual pricing arrangements with OE customers, which generally delay our ability to recover increased costs, as well as by our product mix.

Notwithstanding the near-term challenge, we remain confident in our ability to offset raw material cost increases over time, and we continue to look for opportunities in price/mix and with additional cost savings to reduce the near-term impact of raw materials.

With the impact of price/mix and raw materials in mind, I want to review the other drivers of our segment operating income shown on Slide 13. In the fourth quarter, we realized approximately $119 million of cost savings, raising our total to $467 million for the year. This was consistent with our plan for 2010 to 2012 and keeps us on track to achieve $1 billion in savings over the three-year time period.

In Q4, the savings came from improved factory performance, from SAG savings related to back-office consolidation, and from a focus on reducing material cost. Of the $119 million in savings achieved, more than $30 million was the result of efforts to take advantage of low-cost country sourcing, to substitute lower-cost materials in our compounds and to reduce the amount of material required to produce each tire. Savings also included a benefit of approximately $25 million from reducing our workers' compensation liability in North America to reflect the trending claims experienced over the last two years. Higher production levels continue to drive lower unabsorbed fix cost versus the prior year. I'll comment further on unabsorbed fixed cost recovery when I discuss outlook.

Our cost savings exceeded inflation in both the fourth quarter and the full year and, as a result, contributed to our improved profitability in 2010. As anticipated, pension expense continued to decline in our North American business in the fourth quarter. And similar to Q3, currency hurt our earnings outside the U.S., primarily reflecting the effects of devaluation in Venezuela and a weaker Euro.

Turning to the balance sheet, we finished 2010 on a strong note and, in fact, better than we expected. While higher raw material cost pressured working capital, strong inventory management, improved vendor terms, and good collections at year end resulted in working capital becoming a modest source of cash flow for the year. Our efforts provided a reduction of 10 trade working capital days and a three-percentage point decline when measured against sales.

As we analyze expected 2011 cash flow including the impact of the strong finish to 2010 and the impact of higher raw materials, it will be a challenge to maintain working capital at this level. Assuming today's spot rates as a guide, we'd expect the cash use of about $200 million for raw material inflation. However, if raw material prices were to decline in the second half, we can envision a scenario where working capital would be neither a source nor a use of cash in 2011. We'll update you on working capital outlook as the year progresses.

Year-end net debt increased by $142 million. This reflects the impact of the devaluation of cash in Venezuela that occurred at the beginning of 2010. Excluding the devaluation impact, net debt would have been down slightly year-over-year. And remember that we achieved this result while investing nearly $1 billion in CapEx and while making pension contribution above planned levels at $361 million. With the refinancing we completed last year, we now have no funded debt maturities until 2014 and no bond maturities until 2016.

Over the longer term, we will continue to focus on reducing our leverage and achieving an investment-grade balance sheet. However, when considering this objective, we need to take into account both debt and our unfunded pension obligations. Our unfunded pension obligations at year end were $2.5 billion, down slightly from $2.7 billion at the end of 2009. In the U.S., our unfunded obligations remain equal to year-end 2009, as for the second year in a row, strong asset returns were offset by further reductions in the discount rate. Our global pension contributions in 2010 were $361 million, which is above our previous guidance given our decision to accelerate contributions slightly.

Turning to the segment results. Our strong sales growth was supported by record price/mix performance and continued industry growth. While we continue to deal effectively with raws, the near-term impact posed significant challenges globally, as higher costs more than offset price/mix in all regions except Latin America. North America delivered strong top line growth despite flat volumes. Keep in mind, North American replacement industry growth in Q4 largely reflected the return of low-cost imports versus 2009 and compares to a 6% reduction in industry volumes in Q3.

For the second half combined, the industry increased 1%, a number more indicative of underlying trends. North American Tire's branded share in Q4 maintained its very strong 2009 levels. And for the full year, our branded market share and consumer replacement increased, reflecting our success at gaining share in targeted segments.2010 results also reflect our reduced private label business, with the elimination of the Remington and Republic Tire lines in our consumer replacement lineup at the beginning of 2010.

Our strategic focus on growth in targeted market segments is delivering significant improvements in price/mix, as customer demand continues to shift toward higher technology-branded products. As a result, revenue per tire increased 12% versus last year. We also recently renegotiated contracts with certain consumer OE customers that will allow us to improve our recovery of raw material costs going forward. North American earnings also benefited from continued cost reductions, including productivity improvements and lower workers' compensation costs, together with lower pension expense. Additionally, higher production levels at our plants, particularly in our Commercial business, enabled us to recover $38 million in unabsorbed fixed costs in Q4.

Considering the hurdles North America faced in 2010, including the rapid increases in raw material costs, achieving above break-even segment operating income is evidence of positive momentum towards a 5% return on sales.

Improved sales in Europe, Middle East and Africa reflected solid industry growth, with the consumer replacement market up 7% and consumer OE up 9%. Strong winter tire sales fueled by harsh weather resulted in 16% growth in the winter tire segment. Commercial replacement industry volumes grew 7% and commercial OE volumes more than doubled versus a year ago. Similar to North America, EMEA drove impressive price/mix performance and, excluding the effect of exchange, had an 11% improvement in revenue per tire. However, this improvement was not enough to offset the increase in raw material costs. The weaker Euro versus a year ago also had a negative impact on EMEA's results.

On the cost side, lower unabsorbed fixed cost and manufacturing productivity gains were offset by higher marketing investments and cost inflations in emerging markets. While we continue to see underlying strength in the EMEA business, the challenges were significant in the quarter and have increased our focus on changes required to improve results during 2011.

Latin America results reflect continued operating improvements particularly in Brazil along with continued recovery in Venezuela. Our overall unit volume in Q4 was similar to last year as we were able to hold on to 30% growth we achieved in Q4 2009.

We had strong price and product mix in the quarter, including an increased mixed of commercial replacement tires, which helped drive impressive revenue per tire growth and more than offset raw material costs.

In Venezuela, we entered Q4 at profitability levels about equal to Q4 '09. And that's how we finished. Segment operating income in Q4 was essentially at Q4 2009 levels. The economic environment in Venezuela continues to be challenging, as evidenced by the January 1, 2011, change in exchange rules, which eliminated the essential goods exchange rate of VEB 2.6 to the dollar on selected imports and replaced it with the nonessential exchange rate of VEB 4.3 to the dollar representing a 65% cost increase for some of our imported materials. The impact on Goodyear's Venezuelan operations will be in higher raw material costs, with no direct impact on revenue or cash deposits. We expect Venezuela's segment operating income in 2011 will now be equal to or slightly better than the 2010 operating result.

Our Asia Pacific business benefited from strong demand, mainly from China and India, offsetting some industry weakness in Australia. This continued growth is evidence of Goodyear's strong position in key growth markets. In China, in addition to many product awards, our brand-building initiatives are proving effective, as we were selected Recommended Retail Brand of the Year by Auto Magazine. This success drove market share growth in our key segments and the highest ever price/mix performance. Foreign currency in Asia Pacific was favorable, reflecting the stronger Australian dollar.

Also, remember that 2009's fourth quarter results included $7 million in onetime insurance proceeds related to the 2008 fire in our plant in Thailand. And 2010 results were impacted by about $5 million of additional costs related to the start-up of our new factory. Asia's segment operating income was down by $12 million year-over-year for these two items combined.

Stepping back and looking at the full year, each of our businesses reported strong growth and higher operating income and have good momentum going into 2011.

Moving to our industry outlook on Slide 18, we expect the tire industry will continue to grow in 2011. We expect growth across all regions and major segments. In consumer replacement, we expect more normal levels of growth in both North America and Europe as the economic recovery continues. We expect a higher growth rate in North America OE than in replacement. However, given the actions we've taken to be more selective in our OE fitments, we expect our OE volumes to increase less than the industry rate.

We expect the strongest recovery in commercial OE, as it was the segment most impacted by the recession. Overall, we expect our unit sales for the year to increase 3% to 5%, as we continue to grow in the targeted segments where our value proposition is the strongest.

Looking to our outlook for raw material costs. In Q1, we expect raw materials to increase 25% to 30% year-over-year. Given this increase, our year-over-year price/mix versus raw should be similar to what we saw in Q4. Based on today's spot prices, our raw material cost increases will continue at about this level in Q2 and peak in Q3.

The next two areas of focus relate to unabsorbed fixed cost recovery and our three-year $1 billion cost savings program. Over the coming two years, we expect these two factors to contribute about $1 billion to our results versus 2010.

Beginning with unabsorbed fixed cost, we've demonstrated that increasing the utilization of our plants is having a positive impact on our profitability. The benefits of higher production reduced unabsorbed fixed cost by $278 million in 2010. Remember at the peak, we reported $748 million unabsorbed fix cost or $863 million before savings actions at our plants in North America, Europe and Latin America.

Taking into account the 2010 improvement and our forward plans, we expect to fully recover the remaining $470 million of unabsorbed fixed cost by 2012. We'll do this through a combination of increased production and announced footprint reductions in North America and Europe. In 2011, we expect to recover about $175 million of unabsorbed fixed costs; reflecting higher production. As a partial offset to this recovery, in 2011, we expect to incur about $30 million to $40 million of additional costs in Asia Pacific versus 2010, as we start up our new plant and wind down operations in our existing factory in China. We'll provide more details on the status of this project at our March investor meeting.

Also we expect Latin America to be impacted beginning in the second half by lost earnings from the sale of our Foreign Tire business. This impact will be $30 million to $35 million on an annual basis. This will be mostly offset by improvements in EMEA once the sale of European farm is completed. We continue to focus on achieving our targeted $1 billion of cost savings over the 2010 to 2012 time frame, but now plan to achieve this without counting any footprint savings associated with the closure of Union City and Amiens. These footprint savings will help us eliminate our remaining unabsorbed fixed cost but will not count toward the billion. This means we expect to reduce costs by more than $500 million over the next two years or $250 million a year under this plan.

For modeling purposes, we expect 2011 interest expense to be about $350 million to $375 million, which is above last year as a result of higher average debt balances and market expectation of modestly higher interest rates. Additionally, we again expect a tax rate of about 25% of foreign segment operating income for the year, although we expect the rate for Q1 to be above 25% based on the geographic mix of our tax obligations.

We expect global pension expense in 2011 to be $250 million to $300 million and global pension contributions in 2011 to be about that same level. North America will have a benefit from pension expense in Q1, similar to the Q4 benefit, given the lag for inventory of last year's lower expenses. The benefit will be minimal year-over-year in Q2, Q3 and Q4. Our outlook for CapEx for 2011 is about $1.1 billion to $1.2 billion as some of our late 2010 activities will be paid for in Q1. Remember, our cash flow will also benefit from the proceeds of the farm tire sale of up to $130 million as that transaction closes.

That completes my outlook comments. We look forward to talking to you again in March where we can spend some more time discussing the business and our strategy going forward. Now we'll open up the call for Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Itay Michaeli with Citi.

Itay Michaeli - Citigroup Inc

On the cost savings outlook on the next couple of years, can you maybe also share what you're thinking about just in terms of general inflation, and just what is our net savings, we should think about after inflation in the next couple of years?

Darren Wells

Yes, so, Itay, it's Darren. The question on inflation is a good one. We're seeing a lot more inflation in emerging markets than we had seen in a while, across really all parts of the business, including a whole lot of pressure on wages. Having said that, something in the 2% to 3% range has been typical for us historically in the non-raw material areas. So I think we're probably in that same range as we sit here today. Where it's going to go from here, it's a little bit unclear but definitely some wage pressure in the emerging market businesses.

Itay Michaeli - Citigroup Inc

And then on CapEx, can you maybe just remind us for 2011 how much of that is sort of maintenance to support current earnings versus growth projects for future earnings accretion?

Darren Wells

Sure. Yes, I think the best way to think about that is that a level about at our depreciation rate is what's required for sustaining the existing business. So that would be in the range of $650 million, and you can assume what we spend above and beyond that is going into projects that are going to generate a strong return.

Itay Michaeli - Citigroup Inc

And then just lastly, you showed that chart that shows minimal refinancings over the next couple of years, but you do have the European revolver coming due in 2012 then eventually the U.S. revolver and the term loan. And one would think that when you go to refinance the U.S. revolver, you may also have to think about the term loan at that time, but should we think about the European revolver as connected with the refinancing of the European revolver as having any connection to the U.S. revolver? Or could you think you can refinance the European revolver separately from having to then think about refinancing the other two instruments?

Darren Wells

There have been times in the past where we've refinanced them together but the facilities stand on their own. The facility in Europe is a facility for Goodyear Dunlop Tires Europe, which is our European joint venture. So I mean that entity and that facility can stand on their own.

Operator

Your next question comes from the line of Rod Lache with Deutsche Bank.

Rod Lache - Deutsche Bank AG

Just a follow-up on your raw material comment, you said up 25% to 30% in Q1. And are you suggesting that it would be up 25% to 30% year-over-year again in Q2 and as well as Q3? And can you give us any feel for what that would look like sequentially versus what we just saw in Q4?

Richard Kramer

Rod, I'll let Darren go through the numbers as we're looking at them right here. Obviously, it's hard to predict where it'll go given the fact that we saw such a significant increase really since the last time we talked, over 40%, and we see it growing again. So it's a little bit difficult to predict out where we will be, which is why we focused on Q1 to start with. But, Darren, maybe let's talk -- give a few of the numbers on the outlook on how we see raw material then maybe we can come back and talk about some of the things we're working on to deal with it as well.

Darren Wells

Yes, I think it's fair, Rod. I mean, you're taking the right thing from our comments. And that is that we're seeing 25% to 30% in the first quarter and about that same level in the second quarter. And a lot of our second quarter raw materials, as you can imagine, we've already purchased; particularly natural rubber, which has a couple of quarter lag before it comes through our P&L. So we've got pretty good view through the second quarter. Once we get into the third and fourth quarter, there will still be significant impact on where raw materials spot prices go from where they are today. But if we just take the assumption that they stay where they are today, then third quarter can be at or even a little higher than the levels we see in Q1 and Q2.

Rod Lache - Deutsche Bank AG

On a year-over-year basis?

Darren Wells

On a year-over-year basis. So sequentially, I think you're going to see the impact of natural rubber, which went from around $1.80 when we did our third quarter call back in October. It was $2 at year end. Now it's about $2.60 overnight. So it's continued to go up, and that's going to keep increasing on a sequential basis as it flows through our P&L. But natural rubber, particularly in North America -- in North America and Europe, natural rubber takes a couple of quarters to come through our P&L. So it takes some time to come through and that's why we continue to see it still looking out to Q3.

Rod Lache - Deutsche Bank AG

And what percentage of your OE business do you have subject to raw material indexes now?

Richard Kramer

It's an increasing amount, Rod. When we look at our contracts around the world, overseas we've done a good job historically of getting those raw material indices in there. And we're increasingly doing that with our domestic customers as well so. . .

Rod Lache - Deutsche Bank AG

Is it more than half?

Darren Wells

I'm not sure we have a number that we would give you. But what I will say, and I mentioned in my remarks that we have gone through a process of renegotiating some of these contracts, which has given us a chance to catch up some of what we had fallen behind, as well as get more frequent indexing. So we've gone in some cases, from annual adjustments to quarterly adjustments to try to get those contracts closer to reflecting the real-time raw material costs. But we've clearly got more to go there.

Richard Kramer

Rod, I would say they're meaningful improvements that we've made.

Rod Lache - Deutsche Bank AG

Just lastly, it sounds like you're sacrificing some volume in order to protect pricing. And obviously, and you also said that you can protect your current volume despite this Union City closure. I guess just in total, how should we be thinking about your capacity utilization right now and your ability to supply into North America? Should we be thinking that with this kind of growth expectation that you laid out for the market that you guys would be kind of flat, but you'd be actually benefiting from higher average transaction prices? Is that the right way to look at what you're doing?

Richard Kramer

Rod, I think a couple of things in there. Maybe we can dissect it a bit. One, I don't think that we're really sacrificing volume at this point. So I think that we're still in a position of being able to sell a lot of tires. And it's still actually being backordered on some of our products right now. So I don't think that's the case as we go forward. In terms of where we are on production capacity, maybe we can split that as well. And, Darren, maybe we could walk through first -- I'll have Darren walk you through our production capacity numbers and I'm going to give you maybe a little reflection on that.

Darren Wells

Yes, so, Rod, I mean, the point you're probably making here and stop me if this is not where you want to go, but before the these plant closures that we're focused on for 2011, we had about $200 million of production capacity. I think if you look in the appendix of the presentation today, you'll see that we produced about 170 million tires last year. With the announced closures, our capacity comes down from 200 million, subtract out 21 million units that we've taken out, and that gets us down 179 million of capacity. And with the growth that we expect this year, which is -- it's going to be in the range of seven million tires or so, based on our expectations, we'd be producing something like 177 million tires this year. Getting pretty close to that production capacity. But I guess there are a couple of exceptions or a couple of things to think about even though you see us getting pretty close to what we're able to produce.

Richard Kramer

Rod, and that’s, I think, getting back to the core of your question is, is we look at that balance, I think we see upside in terms of productivity. I mentioned Fayetteville as an example already of where we can get more out of the production capacity we have. Remember, Union City and Amiens will continue to make tires this year. We look at our capacity and we look at how we've implemented our OE selectivity strategy and we're opening up capacity within that footprint to service the targeted segments of the market that we want and we've been doing that successfully. Remember, we'll have Pulandian coming back on or coming on I should say, with incremental capacity in China. And the question Itay asked about our CapEx that the incremental amount over our depreciation will go into a variety of expansion projects that we have around the globe. So we'll have more capacity coming on there. And an overarching thought here is we also have to remember the tire industry is historically proven consistently to be a very cyclical industry. So we think about the industry we’re in, we think about the balance we have versus production and supply and think about being opportunistically to be able to add now the capacity that we want, where we want it and ideally, do it. Again, opportunistically, I think we feel pretty good about the production capacity that we have.

Rod Lache - Deutsche Bank AG

It sounds like your utilization there will be very high in North America. Some of that growth is coming international in emerging markets, but. . .

Darren Wells

No, I think we're going to have good utilization in the footprint, no question. But, Rod, I think just to be clear here, we don't feel like we're sacrificing volumes in the segments of the market that we're targeting.

Operator

Your next question comes from the line of Himanshu Patel with JPMorgan.

Himanshu Patel - JP Morgan Chase & Co

The Union City cost savings that you guys referenced, the $80 million figure, how should we think about that? Is that sort of a gross cost savings number? Or would there be some cost increases you need to spend at other plants to transfer some of that production capacity?

Richard Kramer

Well, I think, Himanshu, there's not a lot of incremental expenses to transfer that production to other factories. Clearly, we have things -- again, I'd refer to what I mentioned early, some productivity improvements that we have going into or coming out of other factories that will pick up some of that volume, particularly in Fayetteville and Gadsden and Lawton.

Darren Wells

So, Himanshu, what we've done just to make it very clear, is in the slide on unabsorbed fixed cost, we've shown the $175 million of improvement that we expect to get in 2011. And to whatever extent we've got some cost in 2011 or 2012 for the actions that we're taking around reorganizing the footprint, we have included them in that analysis. And we've given you the net savings number there.

Himanshu Patel - JP Morgan Chase & Co

Question for Darren just on the CapEx. I think in your June '08 presentation, you guys had, if I remember right, put out a range of kind $1 billion to $1.3 billion. And it seems like you're kind of, for 2011, taking CapEx pretty much back to that level. Just what are your thoughts on sort of the sustainable CapEx spending rate for the business? Is this sort of the range we should think about going forward beyond 2011 as well?

Darren Wells

Well, I think, Himanshu, I did make the comment during the script that we had a lot of activity in our investments at the end of the year. And some of that's getting paid for in the first quarter. So that probably bumps the CapEx up this year a little bit. I think we're going to have to assess the market as we go forward. But as we're looking at it right now, we're looking at a lot of high-return opportunities. I think we're going to come back and provide some more color around this when we get to March in terms of how to think about things going forward. But we're comfortable that the opportunities we’ve got there are very clear. The emerging market growth opportunities are very good. And we're taking the steps that we need to, to not only upgrade our footprint to be able to produce the type of tires that are successful in our targeted segments but we're also making some meaningful progress in getting our footprint shifted from high-cost to low-cost locations. So I think we're feeling good about the investments that we made last year and good about the investments we're making this year.

Himanshu Patel - JP Morgan Chase & Co

And then on the maintenance CapEx question, I think you mentioned kind of $650 million. I kind of remember that number being lower as well, somewhere around $400 million or so. What was kind of the change there? Is that just because of all the molds you guys have added in the last couple of years and just sort of. . .

Richard Kramer

Himanshu, the range that we used -- if you go back to that presentation in June '08, we used a range of like $500 million to $700 million as the range. We're using the $650 million, I guess, as a convenient middle point there. But there's not a precise answer. I don't think anything has really changed there.

Himanshu Patel - JP Morgan Chase & Co

And I guess just a bigger question on North America, I think you guys reiterated the 5% operating margin target. It sounds like Union City gives you about one point of that movement from kind of the break-even level. Can you just construct for us kind of the big moving parts on kind of how you bridge from sort of 1% to that 5% level? Is it pretty much volume-based recovery? Or is there something you would also expect on price versus raw materials easing to kind of aid that bridge? And I guess also, pension expense would be another consideration as part of that.

Richard Kramer

Himanshu, I would say, we really don't think about it any different then we laid it out before. We had said a footprint action was in there, we said pension coming back to more normalized levels, if you will, back to where we were in 2007. We said there’d be incremental volume coming in. We got some of that this year. We expect to some more of that next year and other cost elements in there, as well as we continue to get our costs in line in North America. So those same buckets that we laid out in the past are the same ones we're thinking about now. And I think as we get to our March meeting, we'll lay that out with a little bit more specificity for you.

Operator

Your next question comes from the line of Patrick Archambault with Goldman Sachs.

Patrick Archambault - Goldman Sachs Group Inc.

Just on the pricing piece of the equation. Obviously, the industry has been fairly cooperative and you guys have done a good job of getting price increases to stick. It looks like, I think, about $300 million is sort of as high as you’ve been able to do. And just wanted to get a sense of your view on the sustainability of that in the current environment, and whether also on the upside, if it's possible to maybe do kind of above that $300 million level just given the dynamics of the industry, which from a cost perspective, are obviously more challenging than probably any time in the past.

Richard Kramer

Patrick, I think you're right. I mean, this is the highest level of raw material headwinds that we've ever seen. And I think the industry has, if we're seeing the same thing. But I think if you think about how to answer that question, I think you have to start with looking back to what we've done and I believe if you go back to Slide 12, you'll see that we have a history of being able to offset raw material costs with price and mix. Our history is very good. And you saw it again between Q3 and Q4, where we had a shortfall, it was at least $150 million in Q3, the shortfall in Q4 was about $115 million. We closed the gap as raw material prices increased from Q3 to Q4. As Darren’s pointed out, we view it as a timing gap to catch up rather than something that will be there permanently. So we believe that we have the ability to go do that, we're very focused on it. And we believe it's a holistic approach. As we take a step back and we think about this, Goodyear has been talking about innovation in new products and brands for quite some time. And we clearly view ourselves as a leader in the industry in that and a real differentiator for us. And I would tell you, as we think about these raw material headwinds that are ahead of us, there's probably never been a time when our innovation engine, our products and our brands have meant more to our dealers and to our customers out there. Remember, customers ultimately will pay for value. They might pay price once, but they're going to for value. And the value proposition we put forward with our products like Fuel Max, with our supply chain which is getting better all the time, with a team of people out there helping to grow our customers’ businesses through a long-term partnership that has intrinsic value that's going to see us through all types of the industry cyclicality. And I think it's a big asset for us as we deal with the headwinds right now. So we, again, we feel very confident of our ability to ultimately deal with these headwind's.

Patrick Archambault - Goldman Sachs Group Inc.

And just a little bit more on the issue of some of the footprint actions. Can you just tell us a little bit more about what you have in mind beyond Union City? It sounds like to get to that 5% margin -- you’ve referred to productivity a number of times. What exactly do you have in mind? Is it just utilizing some of the flexibility you gained in the last contract with work rules? Or is there kind of additional headcount reductions that are kind of in the offing? And what role might future changes to the labor agreement you have with the steel workers play in there?

Richard Kramer

Well, I think in terms of the labor agreement, we're executing against the agreement that we signed a few years ago which we had. We're looking at about $100 million improvement around work standards and work rules. And those are some of the things that are helping drive the productivity that we have going forward. And we'll continue to do that and make sure we achieve that. But if you look at how we're thinking about the North American footprint, it's really multi-faceted. Clearly, we're focused on getting more productivity, which means more tires out of the assets we have with not adding more labor to it. Secondly, we want to leverage the past and continuing investment that we've made in our factories. We've put money in Gadsden and Fayetteville and Lawton. That's giving us increased capacity and capability there. And it's not an unimportant element that we keep coming back to, as we hone and become increasingly selective in the OE business that opens up capacity to give us to play in the targeted market segments where we want to play. And that's ultimately what we're going to do to drive more tires and drive more cost out of our North American factories.

Patrick Archambault - Goldman Sachs Group Inc.

I guess a pretty clear question that would be, like, what kind of utilization levels are you guys capable of? Is this an industry that can sort of go materially above 100% before having to add additional fixed cost or footprint?

Richard Kramer

Yes, I think as we look at historical rates for our business, I guess, is all that I can speak to. This is not a business, an industry where we've gotten to 100%. I think probably sort of the low-90s, mid-90s is sort of where we top out with that headroom being the difference.

Patrick Archambault - Goldman Sachs Group Inc.

I guess just where my question is it sounds like you're pretty close to, for this year, 100% utilization. And you're talking about the impact of taking out like, Union City, I think, which really impacts you in 2012 so taking out further capacity. And so it seems like -- and then you're referencing productivity initiatives above and beyond that. I mean, it does seem that you could push your utilization meaningfully above where it's ever been. Is that kind of correct?

Richard Kramer

I think, I don't think of it just in terms of utilization. I think of it in terms of getting more the right tires out of the factory. So yes, in the sense that we want to run those factories and get more tires out of them. Ultimately, you're going to see higher utilization levels. But remember from where we are today, we still have room to run. And remember in total, we're talking mostly about consumer here in Union City. But just to let you know, we still have open capacity in the Truck business as well. But we think we can get more out of the factories. We think we can get more utilization out of them. But I don't want to leave you with the impression that 100% is an area we'd go to; we've never been up to 100%.

Operator

Your last question comes from the line of John Murphy with Bank of America.

John Murphy - BofA Merrill Lynch

If we look at Page 18 where you have your industry outlook by major segment, I'm just wondering that's the demand picture for 2011. But as we head into 2011, I'm just wondering on each of these segments, if you could give us a general view on inventory in the channel right now. Because it sounds like you're doing a very good job at constraining inventory. I'm just wondering what you're seeing from competitors and if there's very lean inventory right now with demand as ramping up, that should be supportive of pricing.

Richard Kramer

John, we can't really speak to any competitors' inventory levels. I think broadly speaking, we find demand out there from our customers as pretty healthy and as Darren made the comments, we've managed our working capital to -- managed it very efficiently and it puts us in a good position both from a working capital standpoint and with the progress we've made in our advantaged supply chain, we think we're in good position to supply our customers, who need the tires right now. That's North America and Europe as well.

John Murphy - BofA Merrill Lynch

So would you think it would be fair to characterize the industry inventory relatively as lean now. Is that you think a fair statement?

Richard Kramer

Yes. I think if we just look around the world or let's just focus on North America, I think that North America dealers continue to build their inventory. And I think it's up from where it was a year ago when it was at very low levels. And I think, as we look to Europe, what we see there is we're on the heels of a very, very strong winter tire sellout. So clearly, those inventories will be need to be rebuilt going into next year. And right now, I think we're seeing good orders on summer tires right now as well. So again, I can't speak to the levels in particular, but I will tell you we're still seeing very good demand.

John Murphy - BofA Merrill Lynch

And then just a second question on pricing, can you just remind us how the mechanics of these price hikes work? Can you get three done this year? Or potentially, if raw materials stay elevated, can you get four done? I mean, what's the most efficient way for you to do that? Would it be three larger hikes? Or could you get four done executed in the full year?

Darren Wells

John, that's not an area we can really talk about, to be direct about that. I think if you look, the -- we have had a consistent track record of dealing with raw materials, in dealing with them using price/mix. The thing that we focused on more recently is also bringing in our ability to use our engineering, to try to take some of the sting out of the raw material cost, try to get some ability to put in less-expensive materials into our compounds, try to use less material in the production of the tires. And we're looking at that along with price/mix as the way that we're going to deal with it. But I mean, the challenge is there. We're at a point where raw materials are becoming a bigger issue. In the past, raw materials have been 35% of our cost of goods sold. Now we're at a point where in 2010, they were just over 40% of our cost of goods sold. So they're a bigger component of our cost. Natural rubber prices, as Rich talked about, are at levels that are a little hard to understand. We're going to have to find ways to deal with that and we've got a good track record of dealing with it. But I think the challenge to us is we're going to have to find ways to deal with this even more effectively than we have in the past. And that's going to be through cost, through price/mix. We know what the tools are we've got to work with. The challenge for us though is to be more aggressive so that we're not continuing to have the kind of gap that we saw in the third quarter.

John Murphy - BofA Merrill Lynch

A quick question on that natural rubber, if there was for some reason, a significant pullback there and there's some speculation that you're alluding to and many allude to or to really pull back, do you think that there's enough demand recovery in lean inventory that pricing would hold, if the natural rubber prices fell back significantly?

Richard Kramer

John, that again, is a question we're not going to comment on going forward. I guess we just need to see where it goes and whatever the circumstance, we're going to deal with them. I think that's the last question to wrap up our call. I just want to thank everyone for your attention and I look forward to seeing you and talking a little bit more in-depth about the business at our March investor meeting. So thanks very much.

Operator

This concludes the Goodyear Tire & Rubber Company Fourth Quarter 2010 Financial Results Conference Call. Thank you for your participation. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Goodyear Tire & Rubber's CEO Discusses Q4 2010 Results - Earnings Call Transcript
This Transcript
All Transcripts