Martinrea International's (MRETF) CEO Pat D'Eramo on Q2 2016 Results - Earnings Call Transcript

Martinrea International Inc. (OTC:MRETF) Q2 2016 Earnings Conference Call August 3, 2016 8:00 AM ET

Executives

Robert Wildeboer - Executive Chairman

Pat D’Eramo - President and Chief Executive Officer

Fred Di Tosto - Chief Financial Officer

Analysts

Mark Neville - Scotiabank

Todd Coupland - CIBC Capital Markets

David Tyerman - Cormark Securities

Peter Sklar - BMO Capital Markets

Ben Jekic - GMP Securities

Mark Neville - Scotia Capital Inc.

Operator

Good day, ladies and gentlemen. Welcome to the Martinrea International Second Quarter Results for 2016 Conference Call. Instructions for submitting questions will be provided to you later in the call. Please be advised this call is being recorded.

I would now like to turn the conference call over to Mr. Rob Wildeboer, Executive Chairman with Martinrea International. Please go ahead, sir.

Robert Wildeboer

Good morning, everyone. Thank you for joining us today. We always look forward to talking with our shareholders and we hope to inform you well and answer your questions. With me this morning are Pat D’Eramo, Martinrea’s CEO and President; and our Chief Financial Officer, Fred Di Tosto.

Today, we will be discussing Martinrea’s results for the quarter-ended June 30, 2016. I will make some opening remarks, Pat will make some operational and strategic comments, Fred will review the financial results, I will make some further comments and then we will open the call for questions and we will endeavor to answer them for you.

Our press release with key financial information discussed on a fairly detailed basis has been released. Our MD&A, AIF and full financials are filed on SEDAR and are available. These reports provide a detailed overview of our company, our operations and strategy, and our industry and the risks we face.

Given the detail in our press release and filed documents, our formal remarks on the call today will be generally overview in nature and fairly brief. We are very open to discussing in our remarks and we hope in the Q&A some highlights of the quarter or year, the state of the industry today, how we are addressing the challenges and progress in our operations. As always, we want you to see how we see the world.

As for our usual disclaimer, I should note that some of the information that we are sharing with you today may include forward-looking statements, even if qualitative. We remind you that these statements are based on assumptions that are subject to significant risks and uncertainties. This is particularly the case given the present automotive and economic environment.

Although Martinrea believes that the expectations reflected in these forward-looking statements are reasonable, we can obviously give no assurance that the expectations of any forward-looking statements will prove to be correct. Our public record, which includes an AIF and MD&A of operating results that I just mentioned is available on SEDAR, and you may look at a full disclosure record of the company there. I also refer you to the disclaimers in our press release, our MD&A and our AIF.

Let’s talk about the state of the industry at a macro view for a brief minute. Since our last quarter call, in our Annual General meeting where some of you attended, we have seen some eventful times. Brexit, some horrible terrorist attacks, I feel too in Turkey, Presidential nomination campaigns for ages and the [indiscernible] actually selecting a great choice for the number one pick in a Hockey.

Despite some real pessimism about of our industry in some circles, some big valuation contractions in the second quarter. However, the reality is that, our industry just seems to keep trucking along. We remain positive and optimistic about our industry. We recognize it is perceived as cyclical and it has gone through some tough times periodically, but I don’t think that it is cyclical. For the most part, I believe external non-automotive related events drive the perceived cyclicality.

The last time industry volumes tanked in 2008 and 2009. We had a worldwide financial crisis and an oil price shock. In previous time, 1990 to 1992, we had a significant recession for those of us that can recall it. In really bad economic times, people buy less cars. People don’t wake up and start buying vehicles, because there are other fashion. We don’t think we’re headed for recession. We do think people will eventually see that and valuations in our industry will at some point improve.

Today, Martinrea, Linamar, and Magna, all traded historically low valuations or approximately four times enterprise dialed a EBITDA ratios using 2016 EBITDA estimates. US ratios are slightly higher, but not much, and that won’t change until sentiment changes.

Industry volumes affect our revenues in many ways, but our views about overall volumes are positive and can be summarized as follows. The automotive industry worldwide remains a growing one. Its worldwide volumes are anticipated and continue to increase over the next seven years by another 22 million units or so. We do have a presence as a supplier in China. And while there’s certainly been a slowdown in China, it remains a robust automotive market, which is anticipated to grow over 8 million units.

Our presence there is small at the present time, but our plans are likely to grow and are growing just based on the book of business we have today. We have a presence in Europe, which has seen some increases in volumes and is better as a region than a few years ago. Our presence is anticipated to grow based on book business for our operations in Spain and Germany, which is aluminum-based business and Slovakia, which is fluid handling systems-based business.

North American volumes remain robust, some commentators who stated it may have plateaued and that was causing some concern for some. Our view is that, volumes are going to continue to stay strong and may increase over the balance of the decade.

Even in a time of general market caution, our view is that the fact remains there are number of critical tailwinds for the North American automotive industry that remain in place in 2016 which is today.

Population is expanding. Miles driven is expanding. Mexico is experiencing a positive wealth effect increasing vehicle purchases. The average age of the typical vehicle in the U.S. is close to 13 years, up from eight years just ten years ago. Financing rates are low. Auto inventory levels remain at reasonable levels. The U.S. housing market is not overheated. Consumer debt levels in the U.S. have improved. The North American economy is growing albeit at a modest rate.

In addition to those factors, reasonable to low oil and gas prices reasonably decreasing again, increase the affordability of driving of vehicles and lower commodity cost, decrease our customers’ cost in making a vehicle. It is to be remembered that current vehicle volumes are not at historically inflated levels. Volumes today are similar to what they were 15 years ago or 10 years ago. Some macro view from our perspective and we think is pretty good.

Having said that, we always have plans in place to respond quickly, if there’s a volume reduction overall, we’re on a specific platform, which we’ll talk about.

And now, here’s Pat D’Eramo.

Pat D’Eramo

Good morning. It’s a pleasure to speak with you today. I’m very proud of the Martinrea team, as they continue to deliver on the key metrics, as expected. I’d like to congratulate them on their performance, bringing in yet another record quarter. We continue to make progress toward our targets in line with our plan. And Martinrea 2.0 strategy that we discussed on our last call is being impressed well by the organization.

I highlighted some of our key activities at our recent annual meeting. Our emphasis on high-performance culture is evidenced by our continued development of talent. We have now aligned our compensation system with the broader metrics, emphasizing kingdom over castle, established our companywide communication process and recently launched the Martinrea’s Skills University.

In operational excellence, we continue with our learn by doing activity, developing our people on how to eliminate ways that all levels of the company, further enhancing our lean thinking way supported by the Martinrea manufacturing systems.

Our financial management continues to get stronger as we focus on eliminating waste such as inventory and increasing the financial acumen of our plant management, focusing on cash flow and improved returns on new projects. Our customers came and we continue to develop relationships with them. As you may have noted, we’re having another good year of new business wins from a wide range of customers globally. Our safety performance companywide has improved significantly year-to-date. I don’t know a single metric that shows more that a company cares for its people than safety.

Our quality performance continues to improve as well. At our AGM, we outlined a full listing of quality awards achieved over the last year from OEMs, such as General Motors, Nissan, Ford, FCA, and Volvo. The level of improved productivity has been well supported by the Martinrea manufacturing system.

And we’re still early in our development and continue to find more opportunity to make improvements to our operations. In line with this, let me touch on the Detroit Hot Stamping plant. FCA announced earlier this year that the Chrysler 200 program is being canceled in order to change the product at the Sterling Heights Assembly Plant. Since the Chrysler announcement, production on the 200 platform has been well below volume.

In the first quarter, production on the program was down 11 weeks, in the second quarter, similarly. Production of the vehicle is expected to cease later this year. Our Detroit Hot Stamping facility is highly dependent on the Chrysler 200 with approximately two-thirds of its sales based on this program.

So the plant has been fairly idle over the past several months. With such low production, we have experienced significant monthly losses in the plant. This has negatively affected our earnings in the first-half of 2016. In light of this, we have made the decision to close the facility by the end of the year, announcing it to our people earlier last week.

In connection with this issue, non-cash impairment charges as well as employee-related closing payouts had been recognized. This is not an easy decision. Our people are good and committed. But we also have to be prudent and respond to the reality of the marketplace and to our owners. We remain committed to the Hot Stamping process, as part of our production portfolio, particularly given the focus as a light weighting company. Capacity from the plant will be moved into other facilities. This will allow us to continue to support other platforms in new locations, while reducing costs by combining our footprint.

We continue to support our customers and we respect the decision to optimize the product portfolio. We are engaged in a variety of commercial discussions with our customer in order to both deal with some of these issues and continue to strengthen our relationship.

Lastly, at our annual meeting I also spent sometime discussing our key product strategy light weighting. As a light weighting company, we are continuously developing and evolving core metallic products such as high-strength steel and aluminum. To reduce the ecoweight in CO2 contribution improving overall vehicle efficiency either miles per gallon or in the case of electric vehicles miles per unit of electrical charge.

A light weighting trend is driven by CO2 and mile per gallon regulation. And the current expectations of the industry is very demanding. We all know that vehicle weight reduction is directly proportional to the efficiency improvement, whether diesel gas, hybrid or electric light weighting will continue to be a key driver in meeting these regulations.

We will see more and more use of high-strength lighter weight steels, which is at our core. The use of aluminum is growing at an incredible rate and we are poised to grow with this demand. We expect the use of aluminum hollow parts to grow at an even faster rate, and we are leaders in this technology.

The next step in aluminum engine block development will be the elimination of steel sleeves by using techniques such as our spray board technology. We are now designing steel and aluminum hybrid products, both core technologies at Martinrea. Light and weighting will continue to be a significant part of the future vehicle design, and Martinrea will be there as it filling to support that future.

With that, I’ll pass it to Fred.

Fred Di Tosto

Thanks, Pat and good morning everyone. The second quarter was another solid quarter for us. Based on our Q2 financial performance is clear that our operations continue to improve as we progress towards our goals, second quarter sales excluding $72 million of tooling sales and $952 million slightly below our previously provided sales guidance range due to lower than anticipated sales volume on the Chrysler 200 platform production numbers on that platform, which we’ve expected.

Lower volumes in the Ford Mondeo platform in China, due to number of unplanned shutdown, we’ve added to the production, scheduled by the customer. The Mondeo platform is a key anchored program for a China fluids operations. Overall sales increased by $40 million or 4% year-over-year as a result of increased tooling sales in upcoming new and replacement programs and foreign exchange translation FX.

Outside of the increase in tooling sales and foreign exchange impact, a year-over-year benefit from the launch of new programs including the Chevrolet Malibu, Cadillac CT6, and continuing ramp-up over a Spain and Slovakia plants and higher volumes on the Chrysler mini-van line were offset by a lower year-over-year OEM production volumes and certain light-vehicle product launch including the Chrysler 200 and other platforms late in their life cycle such as the GM Equinox and programs that ended production during or subsequent to Q2 2015.

Other headwinds included some previously unplanned shutdowns from GM of four assembly plants for two weeks because of an earthquake in Japan disrupting the supply chain. And lower overall production volumes in the Martinrea Honsel German operations, including the impact from the sale of the company’s operating facility in Soest in August 2015.

The planned shutdown of Chrysler’s V6 Pentastar engine block program for re-tooling, which commenced during Q4 2015, also had a negatively impact on sales during the quarter as a re-tooling was completed near the end of the first quarter within our ramp backup historical levels until the end of Q2.

From an earnings perspective, the second quarter was another record quarter. Adjusted net earnings per share in Q2 on a basic and diluted basis was $0.44, inline with previous guidance and up nicely quarter-over-quarter and year-over-year and this despite a $1.3 million on foreign exchange loss for the quarter.

We did experience unusual and other items totaling $38.3 million in the quarter, reflecting the non-cash impairment charges and restructuring costs associated with the closure of Detroit Hot Stampings, an unfortunate set of circumstances during the Chrysler 200 program, but something that had to be done.

And a restructuring charge representing employee related severance in Germany, as we believe is now fully right size. The current time, we’re now expecting any further restructuring costs related to Martinrea Honsel German operations.

The Martinrea Honsel German operations were not ready to take on their backlog of new business, which is start kicking in next year with a much more competitive costs structure compared to in 2011. The work there has been [indiscernible] loss since we acquired it and our people there should be come in with their efforts. It’s in a very solid state.

On the margin front, adjusted operating income margin improved in the quarter to 5.6%, a healthy improvement quarter-over-quarter and year-over-year, as we move towards our interim target of at least 6% by the end of 2017. This is the seventh consecutive quarter of year-over-year operating income margin improvement, so the timeline is very clear.

We’re on a way to our 6% [indiscernible] project, everything is on track, several variables are played into this improvement as the size of the shade that we’re getting better in lot of places. And this is trading to higher EBITDA numbers. Adjusted EBITDA for Q2 was a record $94.6 million, up 13% year-over-year. A trailing 12 months adjusted EBITDA has increased nicely to $343 million.

I also just wanted to quickly touch upon the balance sheet. Net debt for the second quarter decreased by $38 million quarter-over-quarter. Our trailing net debt to adjusted EBITDA now sits at 2 times, a nice quarter-over-quarter decrease from 2.18 times at the end of our first quarter. Progress has clearly been made in this area. If you go back to Q3 2014, just before Pat joined us and just after we’ve acquired the minority interest in Martinrea Honsel debt, which added a significant amount of debt to our balance sheet.

Net debt to adjusted EBITDA was 2.54 times, so leverage ratio has dropped drastically. And it has not all been a result of increase in EBITDA, since Q3 2014 excluding the impact of foreign exchange translation, our net debt has decreased by approximately $40 million, in this as they continue to invest in the future of the business. We’re well on our way to our target. We still remains to be at 1.5 times net debt to adjusted EBITDA by the end of 2017. Thank you.

And I now turn over back over to Rob.

Robert Wildeboer

Thanks, Fred. I want to talk a little about our future and our metrics following up on some of Fred’s points, Pat’s comments on our operations, my initial remarks on the macro view of auto and the economy.

First, our view of the coming quarter is noted in our press release. We see production revenues of $880 million to $920 million. These revenues do not include tooling revenues and we see adjusted earnings per share in the range of $0.33 to $0.37 on a basic and diluted basis, which would be a record third quarter for us.

All in all, 2016 continues to be a good year for us and should be the best in our earnings history. We anticipate as we have said a better year in 2017 from a financial point of view and 2018 should be an improvement again. Earnings, EBITDA, EBIT margin, which Fred talk to, EPS are all trending up.

I did mention earlier that market valuations, enterprise value to EBITDA did seem to be a virtue of all-time lows. There are, of course, different metrics to use in terms of comparing company valuations. But for an operating company, this is the measure typically used by those involved in valuing companies, and frankly, in M&A activity. Certainly, this is a valuable metric we look to in the auto business and in many of our acquisitions over the years, an enterprise value to the EBITDA level of four times or so is very low historically.

Note that enterprise value includes not just equity, but debt levels, something that are pure comparison of price earnings ratios, which some use for comparison purposes is not cash. We believe that as the market comes to understand over time the strength of our industry or the market pick means in North America, there’s is likely to be a higher valuation multiple.

Certainly, looking at the private market, the enterprise value to EBITDA levels are higher these days than what we’re seeing in any case. Even all other things being equal, if we can continue to grow our EBITDA as we’ve been assuming consist of multiples, our enterprise value will grow in the coming quarters. But to be honest and blunt, the way investors approach our sector is largely an external factor we cannot control. On a relative basis, however, even on a flat sales and revenue environment, our development area for that equation will continue to improve.

Last call, we noted for you that we had arranged for a new expanded market-based commercial lending facility with nine banks, going up to 2020. We’re very happy with the facility, the terms of it, and our lender stakeholders. Our relationships are terrific and our financing rates are low well below a 3%.

In terms of interest rates, our view, my view is that they’re going to stay low for a long time and maybe a very long time. This view is echoed by our lenders and some of the other people that we deal with on a consistent basis. The reason for this is not simply at slow growth environment, I think the real reason is lack of inflation pressures. We are not seeing big inflation, and until that becomes a regular issue, we’re likely not going to see much pressure on interest rates. At the same time, we monitor that on a regular basis, of course.

As Fred noted, our balance sheet is strengthening and we believe it is strong. In fact, if we issue commercial paper, we’d likely be considered investment-grade by our ratings agency.

As an aside, there’s an interesting aspect of our debt and I’m not sure that everyone appreciates. At any one time, probably well over 100 million over bank line is invested in tooling inventory and receivables that our OEM customers have to pay for, because they own the tools ultimately. At the present time, that number is higher, reflecting our high-investment levels and recent growth and the extent of our tooling.

Once we are in production of a part, the customer buys the tooling and owns the tool. But the customer has to pay us to do that. It is interesting to me, at least, that when we report revenues, we exclude tooling revenues, although debt, we do not differentiate in tooling-related debt we already know we’re going to be repaid from the customers, is of course, sill there. But we are in effect just the middleman of the deck. When we do an acquisition and we’ve done several, we treat the tooling deck and exclude it from an enterprise side calculations.

In some cases, we negotiate with the OEM to get the OEM to buy the tool separately and take over the payment obligation, we did this in the acquisition of Honsel, for example. Why in November 2014, when Pat as CEO that we give out a target net debt to EBITDA ratio $1.5 billion to $1 billion by the end of 2017, and an improvement in operating EBIT margin of 50% from the end of 2014 to the end of 2017, not, because this was where we ultimately want to get to.

Frankly, over time we see higher operating margins of 6%. We intend to continue to grow into market averages and beyond over time. Rather we wanted people to see the consistent improvement over time to show that we can take acquired assets many of which came from distressed financial situations that were in very poor shape operationally as well as financially and bring them up over time. That is what we’ve been doing consistently.

As noted many times before, the first stage of growth Martinrea 1.0, we built, we assembled the footprint. Now we are improving it, and we think we have been delivering. As we deliver on our commitments, as we continue to improve the assets under our control, as we continue to develop the Martinrea 2.0 culture, we think that will improve shareholder value over time.

And as we improve shareholder value, as we improve additional borrowing capacity, we’ll consider out best to expand our business over time as well. Now, it’s time for questions. We see we have shareholders, analysts, and competitors on the phone, so we may have to be a little careful about comments, but we’ll answer what we can. Thank you for calling.

Question-and-Answer Session

Operator

Thank you. We will now take questions from the telephone lines. [Operator Instructions] Our first question is from Mark Neville from Scotiabank. Please go ahead.

Mark Neville

Hi, good morning, guys.

Pat D’Eramo

Good morning.

Fred Di Tosto

Good morning.

Mark Neville

Just first on the Hot Stamping facility, can you just give us a sense the timing on when that’s going to be closed?

Pat D’Eramo

Yes, Chrysler is shutting down the plant at the end of the year. And there is maybe the best way to say is sporadic production at Sterling Heights between now and then. So we’re there to support that. Of course, as that winds down the number of people in the plant will reduce. Similarly, we have other products in there some of which are running ahead in order to move machinery and tooling to other facilities. And more of that is frontloaded and again we’ll reduce as the year goes on.

Mark Neville

Okay.

Pat D’Eramo

So if you kind of take the population in straight line at down to the end of December and we’ll probably follow that curve pretty well.

Mark Neville

Okay. And then on the restructuring charges, is that fully capture in Q2, or should we accept more in the second-half just related to this?

Fred Di Tosto

No. At the current time, we’re not expecting any further one-time charges related to that.

Mark Neville

I mean, just on the losses, can you maybe a sense of magnitude of what you’re seeing at the facility maybe per month, or per quarter, or however, you want to talk about it?

Fred Di Tosto

I’d prefer not to get into detail. We’re in ongoing discussions with our customer on this matter. Needless to say with the reduced volume, the plant is significantly negative.

Mark Neville

Okay. And then maybe just, I guess, broader on your North American footprint, maybe your global footprints. I guess, when we think about maybe Fiat, Chrysler moving car production in North America. Is there any maybe other facilities across your footprint or maybe that are in a similar situation or those sort of highly dependent on a particular program, they may or maybe not the higher risk than others, I mean, [indiscernible], but yes?

Pat D’Eramo

Well, certainly, in our module operations, they’re dependent on mostly a single customer. But those plants outlook is actually pretty good. And the ones that we expect to close down relative to an assembly plant is more historic at this point or discussed it in the past.

So it’s directly related to the assembly plant. Other than that, there are few plants that have, let’s say, weighted. But in those cases, those are high selling products. They’re some of the best selling products at our – that our customers have.

Mark Neville

Okay

Pat D’Eramo

So, in that case, it’s more of an advantage.

Fred Di Tosto

So I think over time, we talked about this at our annual meeting as well as just in terms of how the footprint woks. A lot of what we do should be relatively close to the assembly plants of our customers. I think we went over at the AGM and we mentioned a little bit in the press release, and we commonly talk about it when we talk to people. Our Mexican footprint, for example, has increased. And we listed a number of those facilities that we have increased capacity and we’ve put up some new plants, Obviously, Frontera, is a new plant, Arteaga which is in Saltillo, which is a fluid plant, is a new plant, and we’ve seen growth there.

I think for the long macro term, our Canadian footprint is going to be dependent on the ability of some of the capacity to stay in Canada, that assembly capacity right now is actually quite good and our Canadian plants are quite full. In the U.S., we’re in north, middle, and the south in different places to service our customers.

And as I mentioned on the call, Europe, we think we’re well-positioned. China, we’re just getting started. The reality about this particular plant is – two-thirds of the work in the plant was with one platform, the customer basically stop the program. We appreciate the customer’s determination to do that, but that is implications for us, and we made a determination rather than to absorb continuing losses over a period of time, even to replace that work takes a lot of time. If you win work today, you’re not producing until 2018, 2019. We just had a liability decision and that’s a right decision.

As we said in previous quarters, we’re making determinations on investment based on meeting hurdles and so forth. But when you have a plant, that’s a big plant, but doesn’t have work, things go sells really quickly and we acted quickly to gear up.

Mark Neville

Gotcha, very helpful. Thanks. And then maybe just second question on the Mexico, I’m not sure the magnitude seems to go out of our new capacity coming in. I’m just curious if there is sort of earmarked for particular programs, if there’s pre-committed volumes, and then maybe just a follow-up on that, if there’s a CapEx number around all that and if that’s already in the budget for 2016/2017, I think the $230 million that you’ve previously – you’ve given out?

Fred Di Tosto

Yes. So the expansions highlighted in the press release have all been contemplated in our CapEx guidance. So it’s essentially based on previously announced work that we’ve won.

Mark Neville

Yes.

Fred Di Tosto

So we continue to expect this year the CapEx to come at around $230 million and next at a similar level.

Mark Neville

Okay. Thanks, Fred.

Fred Di Tosto

Thank you.

Operator

Thank you. The following question is from Todd Coupland from CIBC. Please go ahead.

Todd Coupland

Good morning, everyone.

Pat D’Eramo

Good morning. How are you?

Todd Coupland

I’m fine, thank you. I want to first ask you about your comments on the improved cost structure in Europe at Honsel, and how you’re positioned for the new business, it started to – expected to start to flow in 2017. Can you just talk about what the margin profile might look like in 2017, and then looking out a couple of years?

Fred Di Tosto

So we spent a lot of time restructuring our German operation in Martinrea Honsel. So to give you a sense, including Soest, when you first bought it, there were about 2,300 people in Germany related to Martinrea Honsel, we’re now down to about 15,00. So we have reduced costs significantly over time. This last piece was the last step in that restructuring. And as we’ve said in the past, we have a book of business lined up for that facility going forward, and that’s going to start kick in, in 2017.

In terms of margins, I’ll speak to it in terms of our Europe and our operating segment. So you can see as we came in at 6.8% for the quarter, that’s up nicely quarter-over-quarter and year-over-year and that’s predominantly driven by the Spain and Slovakia plants, which continue to ramp up and mature. We continue to believe there is runway in our Europe margins and our Spain Slovakia improved and as Germany, the new business kicks in, we expect that margin to increase overtime.

Todd Coupland

Okay. Are you able to put some goalposts out there, is that, is it a something that you think about 10% in that region in a couple of years, or is that out of the question?

Fred Di Tosto

We believe all our regions have equal opportunity to make 10% margin. So we put out the 6% margins and in term targeting. We had publicly said that beyond that, we do expect the margin to continue to improve, a lot of that is going to be given off of the growth in Honsel, and some of that’s going to be in North America, some of that’s going to be in Europe, some of that’s going to be in China. And so we believe over time that we can get to those type of levels and gain into the peer average.

So qualitatively, I’d say the following, 6% is not the yen game. We think we can improve as I said to industry margins and hopefully beyond with some of our products. One thing that you have to temper in terms of company margins is the assembly work that we have that requires to certain amount of pass. There is also were obviously lower margins and some of that assembly work is tied with some of our production stuff. But overall, we think that as our plans develop, as our product lines develop, we can be at leading hedge.

Todd Coupland

And I was – Rob I was interested to hear the commentary around positioning the company in our minds as a lightweighting company. I’ve thought about – I’ve thought there about you guys for awhile in a steady state production environments, what can your sales grow of that trend?

Robert Wildeboer

I’m looking at Pat and Fred. I think the aluminum side of our business is a potential high growth business. As Pat mentioned, the increasing demand for aluminum, we really light where positioned in that with the blocks that we do, but we’re really excited about the hollow aluminum parts.

And as you can see, we’re working on some of those right now. We’ve had a number of product announcements particularly last year, that are ramping up and we think that all the trend lines in the industry support growth in that area, and as our customers plan out their futures and so forth. We think that’s a good place to be. We have said that we think that aluminum business that we have can double its book of business in five years, and so that that is a significant potential growth area.

On the steel side, we’ve remain committed to the broad range of products and using higher strength steels and types of production techniques that that will add to the lightweighting of the vehicle. We’re also looking at combinations of steel and aluminum so forth.

And we think that as we get there, as we developed and as we market them, we’ll then work and we’ll grow. If you took a look at steel versus aluminum, our personal view, my personal view is that aluminum is probably the higher growth area. Right now as you look forward, but we just think that the overall lightweighting trend is very good.

And as Pat said, that’s true whether there is electrification or whether there is gas engines and if you look at some of the stuff that is coming recently including a recent ETA report, which says that the car companies are actually ahead of track in terms of meeting the miles per gallon targets without electrification. Going to 2025, it’s because the car companies are very, very focused on lightweighting as a team and so we think that what we’re well positioned for that.

Todd Coupland

Great. Last question if I could. So you obviously want us to think about your balance sheet in a little different way signaling the tooling that is that something you’re going to call out on a regular basis. So if we want to start to adjust for that will be able to?

Robert Wildeboer

Well, I don’t think we have to adjust for that. I mean my personal view is that 2:1 ratio for growing company is pretty strong when you got good bank relationships and all that type of stuff. I think it was just an interesting observation, our tooling that is probably higher than a number of other hollow parts suppliers.

We’re in a business that we have a high amount of tooling. Our CapEx to sales ratio has been significantly higher than a lot of other people in the market. I think it’s certainly been higher than Magna for a period of time, less than some others.

But we have the certain amount of tooling that the reality is particularly North America, where the intermediary. In Europe sometimes, the customer pace for the tooling directly a little more frequently, but it’s an observation as much as anything else.

We’ve had a lot of – people say, “hey, what about your debt?” The reality as we made a conscious decision – equity in 2014 and – or in 2011 when we bought Honsel. We had the debt capacity to do it. We have the strength of our leading group to support that and quite frankly I think most people would have agree that we made the right decision, just riding the check and certainly allowed us to negotiate probably better pricing with the vendor, because it wasn’t contingent on an equity raise or something like that.

So as we say in our intro, on our calls, we want you to see how we see the world. These are just things that we look at and put forward the comment just for colors as much as saying that, we think you should think differently about our guide.

Todd Coupland

Okay. Thanks a lot. I appreciate it.

Pat D’Eramo

Thanks.

Operator

Thank you. The following question is from David Tyerman from Cormark Securities. Please go ahead.

David Tyerman

Good morning, guys.

Pat D’Eramo

Hi, David.

David Tyerman

First question the 6% target by the end of 2017, a thought on LTM number or that you would get one or more orders of 6%?

Pat D’Eramo

No that’s for the year 2017, so it’s on an LTM basis.

David Tyerman

Okay so for the year as an average you should do 6% or better?

Pat D’Eramo

Correct.

David Tyerman

Okay. Thank you. The 10% that you mentioned Rob, I’m just wondering if you can provide some thoughts on how to get there is that with the full launch of the business in your book of business right now. But you would get there and say the end of the decade kind of timeframe, or does it take something more than that?

Robert Wildeboer

I think there a lot of sources in terms of improving margin. One is operational. One is poor price programs including some that we bought falling off. And just in terms of winning towards the higher margins and then performing everything for launch and pricing.

The aluminum area, we think if the demand comes in and we think that we can maintain and achieve margins that would improve our overall margin profile. And apart from that, they continuous improvement in the plants and so forth of things with just lower cost and past preaching lean every day and as our plants get better on overall basis. We’ll continue to improve our margins some of our plants and it’s over all product areas.

Some of our plants are state-of-the-art in the world and their numbers are very, very good. We obviously don’t comment on numbers on a per plant basis. But we built a lot of world class plants and they’re very competitive and everything that goes right about those plants includes the ability to launch well, price well, service the customer well, good quality, safety records, will turnover with employees you know what a healthy plant is.

Pat D’Eramo

And David it’s not going to be the overnight, I think for the current time we’ve focus on that 6% and demonstrating our ability to get there and we’re on track, we’re having confidence we will get there. And then in addition to that we’re also focused on the future in terms of a hurdle rates and make sure all the projects meet those hurdle rates, so that the margin continue to expand beyond the 6%.

David Tyerman

Right, so just when I’m thinking of my model and beyond 2017 like should I be thinking a very modest improvement, so it’s a sort of an elongated process or if you just go more quickly then…?

Robert Wildeboer

I would say it’s more gradually elongated.

David Tyerman

Okay that’s helpful. I’ll get back in queue. Thanks guys.

Robert Wildeboer

Okay. Thanks.

Operator

Thank you the follow on question is from Peter Sklar from BMO Capital Markets. Please go ahead.

Peter Sklar

First I just had a couple of questions on Hot Stamping facility. So far as the losses that the facility will incur and so you wind it down is that like you absorb that in your reported earnings, or is that why it gets the charge?

Fred Di Tosto

No that’s in our reported earnings.

Peter Sklar

So the guidance you provided for Q3 is net of the losses of the facility?

Fred Di Tosto

Yes it includes those losses.

Robert Wildeboer

As is the EPS for Q1 and Q2 so fact the way the since the Chrysler announcement and as Pat said being down 11 of 13 weeks in Q1 being down a similar amount in Q2 that plant has been losing money in the first-half of the year and that was – maybe if I could EPS.

Fred Di Tosto

And the loss going forward in the back-half will decrease over time as the plant wind down as well so.

Peter Sklar

So the wind down is going and as you go to 2017 it’s going to have an improvement on your earning?

Fred Di Tosto

Losses will no longer occur in 2017 this plant should be closed by the end of the year.

Peter Sklar

Right, okay. And Pat was there any consideration given to try and get replacement business to maintain the plant, but there just wasn’t enough lead time to secure the business?

Pat D’Eramo

Well, anymore, especially in the stamping and welding business is all about location. And the opportunities that exist logistically didn’t make sense, and the type of parts didn’t really match that we’re pursuing. In some cases, they do, that’s why we’re moving some of the capacity. But frankly, again, it’s about where your location is relative to the assembly plant. And the OEs decide whether they’re going to build the cars and we go with them that’s our philosophy, and more and more that has become the next opportunity for the OEs to reduce cost is to have the suppliers, especially with parts that ship, I’d say don’t ship as well, they want them right next door.

And the good news is, our footprint, especially in North America is very strong relative to where the assembly plants are. But where the growth is, as discussed, tends to be further and further south, that’s why our focus has been in that area.

Peter Sklar

Okay. And then just switching gears, can you talk a little bit about the Honsel China facility just review where that plant? Does that – is it launching? What kind of programs you have there and what the – just review again what the launch ramp looks like?

Pat D’Eramo

It’s following the launch plan of the customer. Frankly, it’s not been an issues relative to their ability to keep up once the product – it’s a very complex product. I would say that from an advertising and we are one of the few companies that can make a product of this nature. It’s part of our hollow technology. And there are other customers coming to the area that that we will be supporting in the near-term. But it’s on schedule relative to the pole.

Fred Di Tosto

So in terms of the products that’s going there, Peter, just to refresh memory, we have the sell-through that Pat was talking about for GM for their CP6 platform. Then in 2007, the same product that we’re currently producing in Spain for Jaguar Land Roverover will also be produced in that facility.

Pat D’Eramo

I’d say in reflection over this year launches as a whole have on exceptionally well throughout the business.

Peter Sklar

Okay. I take it that facilities that low-level production right now?

Fred Di Tosto

Yes.

Pat D’Eramo

Yes, in the current moment, it is, yes.

Peter Sklar

Okay. And then just finally the $100 million of business awards that you announced in the press release, over what period – is that awards during the quarter, or awards year-to-date for 2017 and 2016?

Fred Di Tosto

Those are during the quarter.

Peter Sklar

Okay. That’s all I have. Thank you.

Pat D’Eramo

Thank you.

Operator

Thank you. The following question is from Mike Clark, a Private Investor. Please go ahead.

Unidentified Analyst

Good morning, everyone.

Pat D’Eramo

Good morning.

Fred Di Tosto

Good morning. You were on the last call too, right?

Unidentified Analyst

You bet. [indiscernible]

Fred Di Tosto

How are you doing?

Unidentified Analyst

Very well, thank you.

Fred Di Tosto

All right.

Unidentified Analyst

I hope you guys are all doing very well too, beautiful summer we are having and I think, there’s a hope for the future in the U.S. So my question today is, it’s really around insider buying over the past say, two years. Do we have a program, I’ve looked around, but I haven’t dug too deeper. But do you have a program within the business whereby Board members and/or upper management are required as per their obligations, the business to own a certain amount of company shares?

Fred Di Tosto

Yes. The answer to that is, yes. So about – and I think it’s in our proxy materials [Multiple Speakers] proxy materials.

Unidentified Analyst

Okay.

Pat D’Eramo

But basically, we have a requirement for officers of the company, which are Vice President enough to own a percentage of their salary in stock, give them a period of time to do it. We have an employee share ownership plan, which is described in the proxy circular, and in order for them to get a portion of their bonus, they have to buy shares.

I would say that over time, probably, everyone own shares other than a couple folks who just got appointed Vice President and they have time to do. And I’d say over time, probably 40% to 50% now have their minimum holding and we’ll continue to buy. So I’m looking at you Fred and Pat and myself. We’ve all bought shares this year and last year and we’ll continue do so. So I hope that answers your question.

Unidentified Analyst

Yes, it does. Shame on me, I should have done a little bit deeper digging.

Robert Wildeboer

Not all that, so that’s okay, that was okay.

Unidentified Analyst

So the next question is that, on the last couple of calls, we’ve sort of had some – we had indicators from the team, you that there were in the last quarter there might be some thoughts around just the busyness of it. And on the last call leading into this quarter there were some conversations around the Detroit plant. But on this in this call, I’m not hearing any indications of potential negativity. So is there a likelihood that in the next quarter that that $0.33 to $0.37 a share, we’re going to walk away with that as profit that’s just pure profit?

Robert Wildeboer

Well, I think yes.

Unidentified Analyst

I think that doesn’t taken away by impairment charges or by having to run the business and borrow money to do it et cetera?

Robert Wildeboer

Yes, well I think as Fred said we don’t think there are any impairment charges, coming up next quarter, but this is a non-cash charge. So what happens is when you close a plant you look at what the value is what you were putting in over the years. And you have to in fact that for the value of the plant given the fact that it’s no longer going concern. So it hasn’t taken cash away at the same time people don’t like non-cash charges either, right.

Unidentified Analyst

Yes.

Robert Wildeboer

Over time for me, it means that your investment, if you bought a house in Toronto and interest rates go up and house goes down in value well that’s in essence a reality that the money you put in and as investment hasn’t returned it’s money back.

Unidentified Analyst

Sure.

Robert Wildeboer

Interestingly at the same time we have a number of assets in different places that we don’t value up, because the real estate value is gone up so we show that and put value too. But I think the reality is that the non-cash charge that we have and the restructuring charge that we have in the context of our purchase in Germany is a reflection of the rightsizing of the business in order to make it strong going forward.

Pat D’Eramo

Then if we get the other thing it’s important to note that we’re gaining efficiencies in the business, which is reflected in our numbers. And then I will always advocate that we continuously look at our footprint following the customer consolidating it if possible and if necessary to reduce overall costs is always a wise move. So though there’s nothing on the menu in the moment we’re going to constantly be searching for making sure we’re getting the best efficiency out of the plants and in optimizing footprint.

Robert Wildeboer

I’ll add it I mean we have this an analyst call and lot of people asked technical questions to work on the models and so forth, but the reality is it’s a record quarter for us. And we have $0.44 a share we made $37 million bucks it’s about $3 million a week I mean I have been Chairman of those company long and if I remember one our annual revenues were less than $3 million.

So I think that there is cash coming in we are making money and the earnings are pretty good where we ask this question ourselves a lot, are we stronger today than we were a year ago. The answer is yes we’ll be stronger year from now the answer is yes are we strong as we’ve ever been I think the answer is we’re stronger today than we’ve ever been.

Unidentified Analyst

Fantastic, and a one last question it’s back to the debt did you say that the debt that is ultimately your receivable from our OEMs is around $100 million is that what I heard?

Robert Wildeboer

It’s actually higher than that as I said in my remarks, but in large part, because we have a CapEx program that’s over $200 million a year significant amount of that is tooling. The way our industry works typically with our customers is we work with the tooling company. We pay the tooling company as we go until we can produce a part that is ready for production for the customer. At that time we bill the customer and then a customer pays us in 60 days or more or however, long it takes in order to get the check.

But at the end of the day the customer in our industry wants to own the tool and the tool was basically stuff that touches the part. But in order to own the tool they eventually have to pay for it they basically say to us you pay for it until you can make production part then you bill me and then I’ll pay you for the tool.

Fred Di Tosto

And in any point of time, it sits on our balance sheet not just as a receivable there tool and receivables, but also tool in the inventory.

Unidentified Analyst

Yes.

Robert Wildeboer

Those incur into receivable until the client had the customer accepts and approves the tool.

Unidentified Analyst

Very interesting, thanks.

Pat D’Eramo

In some cases, we are also the tool shop. We built in some cases are on tools.

Robert Wildeboer

Yes.

Unidentified Analyst

Okay, well that’s all my questions for today. I think that that last sort of information. As kind of hurry moment and could even be a quick win, in terms of the models that are out there particularly that one that testing up a couple months ago, apart for that…?

Robert Wildeboer

Okay you have a great day.

Unidentified Analyst

Yes, thank you. Thank you very much. Have a great day too.

Operator

Thank you. The following question is from Ben Jekic from GMP Securities. Please go ahead.

Ben Jekic

Good morning.

Robert Wildeboer

Good morning.

Ben Jekic

Most of my questions have been answered. So I leave the previous caller on a high note.

Robert Wildeboer

I think we got another one. I think we’re just waiting to queue up the next question…

Operator

Thank you. We do have another question from Mark Neville from Scotiabank. Please go ahead.

Mark Neville

Just on the fluids plant in China, was – there was a new program when that should current sort of ramping business tick up that capacity?

Robert Wildeboer

There is no new wins that we’ve announced recently for that facility.

Mark Neville

Yes.

Robert Wildeboer

But we are planning on the future that facility and moving it to more modern larger facility to kind of capitalize on opportunities that are in the market there.

Mark Neville

And I guess just one last one on the chart you mentioned that the Mondeo down for a few weeks in the quarter. I’m just curious if that’s sort of selling problem for the vehicles I’m selling or is it being remodeled or is there any comment you’ll give on that?

Fred Di Tosto

Yes, it’s hard to tell. You have to try to get information. We heard that the there’s some retooling and going on in December plan. But also for announce some China numbers that you look is as good as expected as well. So it’s probably competition too.

Mark Neville

Okay, thanks guys.

Robert Wildeboer

Just to give you a sense of that China facility. A first facility was our first facility in China. It is largely land lock no expansion capability and was fall. And so the new facility is in industrial part…

Mark Neville

Close the double the size.

Robert Wildeboer

It’s close the double the size and we like experience of our China fluid facility. People done a good job. They’re doing a good job with the customer and they’ve launched well and they’re telling us and we’re seeing as well with their opportunities going forward.

So we would have to be if we want to continue to expand there with the second facility we took, let’s get a really good facility. The city has been not helpful. It’s just down the road a little bit as we keep the workforce and it’s in – quite frankly better location. So we would like to move. We think it’s a very good move.

Robert Wildeboer

And that move will be completing in September, October timeframe.

Fred Di Tosto

Yes, almost done.

Mark Neville

Okay. And I guess just how they’re – just in timing of Mexican expansions, is that a Tucsino vendor is sort of moving to next year?

Robert Wildeboer

The majority of the construction will be complete this year and the initial pilots on launch, but the volumes will be more 17 starts.

Mark Neville

Okay, all right. Thanks a lot.

Robert Wildeboer

Thank you.

Operator

Thank you. [Operator Instructions] The following question is from David Tyerman from Cormark Securities. Please go ahead.

David Tyerman

Just wondered if you had sort of total number for the impact of what I’ll call local temporary things in order. The I get the shutdown of the 14 GM plant, star ramp up and Mondeo roughly what would better picking out a quarter on sale?

Robert Wildeboer

Well, if you compare our Q1 restaurant sales were Q2 numbers down almost $13 million, $14 million that was promptly related to the Mondeo. And as it relates to the program to block and it was probably in the range of $10 million.

David Tyerman

And in the GM plants?

Robert Wildeboer

And gym class was just under 10 give or take.

David Tyerman

Okay and they were all up in running. It sounds like normally now?

Robert Wildeboer

Yes, the Mondeo program is up and running again in July, but it’s still at lower volume at current times.

David Tyerman

Okay. And then just on M&A any thoughts on – you think that are doing a lot better now presumably your position to do M&A, if you felt like it. But I don’t know what the market is like from your standpoint. So I was just wondering your thoughts on including that in the mix going forward?

Robert Wildeboer

I thought someone might pick up on my last comment, just a little bit. But M&A is in our DNA, but not right now. I think that the reality is M&A – anyway to do M&A, the cost of M&A if you’re buying something that’s higher than fair market value or you’re buying something expensive, you better have a really, really good reason, and we’re seeing some of that in auto parts market. And we are seeing some people buy some stuff at higher valuations.

Our preference is to buy stuff at lower valuations. But I think a lot of things go in the mix. But we’re showing. We think and is that the stuff that we bought to get our footprint, we have to move very quickly in order to build our footprint. So that we are relevant customer for our shareholders, and then the other size are supplier to our customers. And an outside supplier meant that, we had to go fast and buy a bunch of stuff.

You incorporate that we’re bringing all that together in one culture, one Martinrea, one Martinrea into the customer. We have centers of excellence in a number of our plants and some of our divisions, those that have been purchased and reworked are doing extremely well. But we want to show effectively the world that includes customer that we can buy and improve things.

So I think that we’re – that’s our focus, that’s been our focus in 2015 and in 2016 and probably it will be our focus in 2017. At the end of the day, though, if we see opportunities and everything lines up, which includes pricing though it’s a finance or what type of stuff we think we’re pretty good at buying stuff and making it better. And I think that our track record shows that we bought some stuff that what’s really not very good. We bought it cheap and we’ve fixed up a lot of stuff. Most of that stuff that we built from Greenfield, very good plant.

Our fullest division is state-of-the-art in the world. Our aluminum division, we think is state-of-the-art, but it was hurting big time when we bought it. It had been in solvency for a long time. It’s been run by leverage a buyer buyout funds. They have been run by people looking at balance sheets and that type of stuff, as opposed to focusing on the operations and product development and that type of stuff. And we’ve changed that attitude, and I think we’re seeing the results.

And on the metallic side, we’ve had some difficult plants in the U.S., Mexico, we’ve state-of-the-art facilities. Our Canadian plants are very good, and our U.S. plants are coming along. And the stuff that we bought wasn’t necessarily all state-of-the-art, it was stuff that we’ve got cheap for reason, because of its challenge, again, we’ve and we’ve improved those things. But at the end of the day, our goal and our metric is that every plant is a center of excellence. We’re going to be the best supplier in the world of what we do. And we’ve got pockets of our company, where we are that now, we’re going to be that and good work.

Pat D’Eramo

I think interestingly enough, we’ve had a lot of organic wins and we anticipate aluminum, as we said many times, being our big growth tool. But in the last year or so really our metallics business has brought in a tremendous amount of the new business.

David Tyerman

Right.

Pat D’Eramo

In our current footprint for the most part.

David Tyerman

Okay, that’s all very helpful. Last question I had at the start you mentioned, I think it was Rob, but you’ve aligned the compensation with metrics. So I was just wondering if you could give us some insight into what he metrics are that you’re using?

Pat D’Eramo

Yes, that’s Pat. I had mentioned that during the strategic update, as you may recall on our original strategy, we said that we wanted to align compensation of our executives with a broader range up metrics. Instead of just profit we wanted to get everybody focused on profit still cash flow, return on investment capital. And also specific targets that maybe in their facility or their business that need to be accomplished. So the pay system now is basically distributed on other profit is, other cash flow is, and then also connected to their business unit. So when we say kingdom over castle if I’m running a plant in the past, everything was about my plant. Today, it’s still about my plant, but it’s also about my business unit.

So there is incentive to make sure from the team point of view that I’m helping my colleagues and their plans to assure overall we’re successful. So we did incentivize that a little different than has been in the past and anticipate that to be a windfall for us in the future.

David Tyerman

Okay. So how does invested capital play into this path?

Pat D’Eramo

Well, new projects have a hurdle, and we don’t approve projects without meeting or exceeding their hurdle. And what we have seen in the last year and as every project, for the most part, has exceeded or met that hurdle. And in fact, if we have two competing projects and the hurdles are the – the returns are better, even though they both meet the hurdle, we may choose one over the other. And so there’s a little bit of competition on how you can do a better job of getting returns throughout the company.

David Tyerman

Gotcha. And is return on invested capital on actual measure used for compensation at any level in the company?

Pat D’Eramo

Not at the moment, it’s an approval process. So we’re focused on cash flow and profit.

David Tyerman

Great.

Pat D’Eramo

Both inside the facility and again across their business unit. But we anticipate that in time we will add that as a – as another metric.

Fred Di Tosto

Where they come into play, David, is we set aside an individual performance target bucket in the compensation system for general managers. And where the return come into play is, if we approve the at a particular return, we may set a target for that individual to ensure they delivery in that return. And their bonus will be tied to their ability to achieve it.

David Tyerman

All right. How about their senior management level though, would it be part of you guys compensation?

Fred Di Tosto

No.

David Tyerman

No.

Fred Di Tosto

No. We were paid – I mean, there’s a nice description of it in price materials. And actually our compensation model for senior executives is very similar to Magna and Linamar, which is – there is a discussion of that in each of the our price materials. We think the best measure of the success of the company is pre-tax profit. At the same time in order to, I think, is very important that senior executives own stock. So that they feel the ups and downs in the markets and vagary of the pricing of an auto part market – the automotive market in general, the stock market in general.

So that they can think like shareholders. I think that program that we’ve had in place has been very effective in terms of people knowing that. But everyone has different metrics. This is what the we chose and doing quite frankly is consistent with other Canadian auto parts companies and interestingly that’s a little bit where we compete for talent sometimes, right. so that’s what it makes sense.

Pat D’Eramo

The other reasoning is from where we said, we’re responsible for all the business units and obviously we expect success from all of them, as opposed to if you’re a inside one of those business units, the habit of looking across on a day-to-day basis hasn’t been part of the decentralized structure. So this creates an avenue and incentivizes doing that.

David Tyerman

Great. Okay, that’s very helpful. Thank you.

Fred Di Tosto

All right.

Robert Wildeboer

Well, I guess, I think that’s last question, right?

Operator

Yes, there are no following questions at this time.

End of Q&A

Okay. I think this has been a very good call. We appreciate your questions as we say we are very open to showing how we view the world, whether it’s on a macro perspective, whether it’s on compensation, whether it’s on a number of other things, we really appreciate the comments and your time this morning. If anyone has further questions or you would like to discuss anything about our company, our number is 416-749-0314 and feel free to call any of us. Have a fantastic day.

Operator

Thank you. That concludes today’s conference call. Please disconnect your lines at this time, and we thank you for your participation.

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