Good morning. Thank you for standing-by. Welcome to Allison Transmission's Fourth Quarter 2015 Results Conference Call. My name is Melissa, and I will be your conference operator today. At this time, all participants are in a listen-only mode.

After the prepared remarks, the management team from Allison Transmission will conduct a question-and-answer session and conference call participants will be given instructions at that time. As a reminder, this call is being recorded.

I would will now like to turn the conference over to Dave Graziosi, the company's President and Chief Executive, I'm sorry, Chief Financial Officer. Please go ahead, sir..

Thank you, Melissa. Good morning and thank you for joining us for our fourth quarter 2015 results conference call. With me this morning is Larry Dewey, Allison Transmission's Chairman, and Chief Executive Officer.

As a reminder, this conference call, webcast and the presentation we are using this morning are available on the Investor Relations section of our website, allisontransmission.com. A replay of this call will be available through February16.

As shown on page two of the presentation, many of our remarks today contain forward-looking statements based on current expectations.

These forward-looking statements are subject to known and unknown risks, including those set forth in our fourth quarter 2015 results press release and our Annual Report on Form 10-K for the year ended December 31, 2014, and uncertainties and other factors, as well as general economic conditions.

Should one or more of these risks or uncertainties materialize, or should underlying assumptions or estimates prove incorrect, actual results may vary materially from those we express today. In addition, as noted on page three of the presentation, some of our remarks today contain non-GAAP financial measures, as defined by the SEC.

You can find reconciliations of the non-GAAP financial measures to the most comparable GAAP measures attached as an appendix to the presentation and to our fourth quarter 2015 results press release. Today's call is set to end at 9 A.M. Eastern Time. In order to maximize participation opportunities on the call, we'll take one question from each analyst.

Please turn to slide four of the presentation for the call agenda. Now, I'll turn the call over to Larry Dewey..

Thank you, Dave. Good morning and thank you for joining us today. On today's call, I'll provide you with an overview of our fourth quarter performance including net sales by end market. Dave will review the fourth quarter financial performance including adjusted EBITDA and adjusted free cash flow.

I'll wrap up the prepared comments with the 2016 guidance prior to Q&A. We're pleased to report that Allison finished 2015 with another quarter of solid execution despite increasingly challenging conditions in certain of our end markets.

The fourth quarter results were within the full-year guidance ranges we provided to the market on July 27 and affirmed on October 26 of 2015 notwithstanding these headwinds.

The year-over-year reductions in the global Off-Highway and Service Parts, Support Equipment & Other end markets net sales are consistent with the previously contemplated impact of lower energy and commodity prices. Furthermore, the year-over-year decrease in Defense end market net sales is commensurate with continued reductions in U.S.

defense spending to longer term averages experienced during periods without active conflicts. During the fourth quarter, Allison also generated solid operating margins and free cash flow while maintaining a prudent and well-defined approach to capital structure and allocation.

As the world's largest manufacturer of fully-automatic transmissions for medium and heavy duty commercial vehicles, Allison remains well-positioned to continue driving value for stockholders despite challenging headwinds in certain of our end-markets by continuing to deliver strong operating margins and free cash flow, and returning value directly to stockholders through dividends and share repurchases.

In 2015, Allison repurchased approximately $306 million in shares or 10.3 million shares, 5.7% of its total issued in outstanding shares. Since its initial public offering in 2012, Allison has returned $960 million in capital directly to stockholders through share repurchases and dividends.

Please turn to slide five of the presentation for the Q4 2015 performance summary. Net sales decreased by 12% from the same period in 2014, principally driven by lower demand in the global Off-Highway and Defense end markets, partially offset by price increases on certain products.

Gross margin for the quarter was 46.5%, a decrease of 50 basis points from a gross margin of 47% for the same period in 2014, principally driven by decreased sales volume partially offset by price increases on certain products, favorable material costs and lower incentive compensation expense.

Adjusted net income increased $6 million from the same period in 2014, principally driven by decreased cash interest expense, price increases on certain products, favorable material costs, lower incentive compensation expense, reduced global commercial activities and product initiative spending, a favorable vendor settlement and 2014 foreign exchange losses on intercompany financing, partially offset by decreased sales volume.

Please turn to slide six of the presentation for the Q4 2015 sales performance summary. North America On-Highway end market net sales were down 2% from the same period in 2014, principally driven by lower demand for Pupil Transport/Shuttle Series models.

North America Hybrid-Propulsion Systems for Transit Bus end market net sales were up 35% from the same period in 2014, principally driven by intra-year movement in the timing of orders. North America Off-Highway end market net sales were down 69% from the same period in 2014, principally driven by lower demand from hydraulic fracturing applications.

Defense end market net sales were down 34% from the same period in 2014, principally driven by reductions in U.S. defense spending to longer-term averages experienced during periods without active conflicts.

Outside North America On-Highway end market net sales were flat with the same period in 2014, principally driven by higher demand in Europe and Japan, offset by lower demand in China and South America.

Outside North America Off-Highway end market net sales were down 63% from the same period in 2014, principally driven by lower demand in the energy sector.

Service Parts, Support Equipment & Other end market net sales were down 16% from the same period in 2014, principally driven by lower demand for North America Off-Highway service parts, partially offset by higher demand for global On-Highway service parts.

Before turning the call over to Dave, I will also highlight the progress we have continued to make in our process to strengthen the overall composition of our board, and ensure that we have the right mix of experience and capabilities for the challenges and opportunities before us.

As Allison announced on January 25, we are pleased to welcome Alvaro Garcia-Tunon as a member of our board, Marsha Mishler has resigned for personal reasons and Greg Ledford will retire when his current term expires at the upcoming 2016 Annual Meeting of Stockholders.

We thank Marsha and Greg for their service and commitment to Allison and wish them all the best.

The board is nominating a Corporate Governance Committee, with the assistance of a leading executive search firm is continuing its work to finalize selection of a new independent director candidate with industrial operational expertise and executive experience to succeed Mr. Ledford. Now, I'll turn the call over to Dave..

Thank you, Larry. Please turn to slide seven of the presentation for the Q4 2015 financial performance summary. Given Larry's comments, I will focus on other income statement line items and adjusted EBITDA.

Selling, general and administrative expenses decreased $7 million from the same period in 2014, principally driven by reduced global commercial activity spending, and lower incentive compensation expense, engineering, research and development expenses decreased $7 million from the same period in 2014 after excluding the 2014 technology related license expenses of $3 million to expand our position in transmission technologies.

The decrease was principally driven by reduced product initiative spending and lower incentive compensation expense. During the fourth quarter of 2015, we recorded a trade name impairment charge of $80 million as a result of lower forecast of net sales for certain of our end markets.

Interest expense, net decreased $17 million from the same period in 2014, principally driven by $11 million of favorable mark-to-market adjustments for our interest-rate derivatives and debt repayments and refinancing. Cash interest expense decreased $15 million from the same period in 2014, principally driven by the debt repayments and refinancing.

Income tax expense for the fourth quarter of 2015 was $7 million, resulting in an effective tax rate of 34% versus an effective tax rate of 35% for the same period in 2014. The decrease in effective rate is principally driven by lower pre-tax income.

Diluted earnings per share for the quarter was $0.37 excluding the after-tax impact of the trade name impairment charge. Mark-to-market adjustments for our interest rate derivatives increased diluted earnings per share for the quarter by $0.01.

Adjusted EBITDA for the quarter was $170 million or 35.6% of net sales compared to $188 million or 34.6% of net sales for the same period in 2014.

The decrease in adjusted EBITDA was principally driven by decreased sales volume and unfavorable product warranty adjustments, partially offset by price increases on certain products, favorable material cost, lower incentive compensation expense and reduced global commercial activities and product initiative spending.

Please turn to slide eight of the presentation for the Q4 2015 cash flow performance summary.

Net cash provided by operating activities increased $33 million from the same period in 2014, principally driven by lower excess tax benefit from stock-based compensation, reduced operating working capital, price increases on certain products, favorable material costs, lower global commercial activities and product initiative spending, reduced technology related license expenses, and a favorable vendor settlement, partially offset by decreased sales volume, and unfavorable product warranty adjustments.

Adjusted free cash flow increased $17 million from the same period in 2014, principally driven by increased net cash provided by operating activities, partially offset by increased capital expenditures.

During the fourth quarter, Allison continued its prudent and well-defined approach to capital structure and allocation by refinancing all debt maturing in 2017 through 2019, settling $10 million of share repurchases, paying a dividend of $0.15 per share and repaying $6 million of debt.

We ended the quarter with a net leverage of 3 times; $252 million of cash, $461 million of revolver availability, and $194 million of authorized share repurchases capacity. Now, I'll turn the call back over to Larry..

Please turn to slide nine of the presentation for the 2016 guidance, end markets net sales commentary. Allison serves a wide variety of end-markets in various geographies.

We've consistently articulated our strategic priorities of global market leadership expansion, emerging markets' penetration, product developments and core addressable markets' growth, while delivering solid financial results to drive value for our stockholders.

We remain focused on continuing to execute our strategy and responding to market conditions by aggressively managing what we can control.

Allison is taking a guarded approach to 2016 given the challenging macroeconomic environment, expectations for tempered demand in the North America On-Highway end market, and no meaningful relief from the challenges in the global Off-Highway end markets.

As we've done during other periods of meaningful uncertainty, Allison will continue to pursue its strategic priorities, while proactively implementing initiatives to align costs and programs across our business, with actual end market conditions and growth initiatives.

Allison expects 2016 net sales to be in the range of down 6.5% to 9.5% compared to 2015. Although we are not providing specific first quarter 2016 guidance, Allison does expect first quarter net sales to be lower than the first and fourth quarters of 2015.

The anticipated year-over-year decrease in first quarter net sales is expected to occur principally due to lower demand in the North America On-Highway and global Off-Highway end markets. With that, I'd like to highlight the following end market assumptions for the full-year 2016.

North America On-Highway, we expect a net sales midpoint reduction of 7%, principally driven by persistently high commercial vehicle retail inventory levels and lower Class 8 straight truck production.

North America Hybrid-Propulsion Systems for Transit Bus, Allison expects a net sales midpoint reduction of 16%, principally driven by engine emissions improvements and non-hybrid alternative technologies that generally require a fully-automatic transmission.

North America Off-Highway, we expect a net sales midpoint reduction of 80% to $11 million, principally driven by decreased demand from hydraulic fracturing applications. Defense, Allison expects a net sales midpoint reduction of 1%, principally driven by lower tracked demand partially offset by higher wheeled demand.

Outside North America On-Highway, we expect a net sales midpoint increase of 2%, principally driven by increased fully-automatic penetration, partially offset by continued challenging market demand conditions.

Outside North America Off-Highway, Allison expects a net sales midpoint reduction of 34% to $23 million, principally driven by continuing weakness in the energy and mining sectors. Service parts, support equipment and other, we expect a net sales midpoint reduction of 6%, principally driven by decreased demand for global Off-Highway Service parts.

Please turn to slide 10 of the presentation for the 2016 guidance summary. In addition to our 2016 net sales guidance range of down 6.5% to 9.5%, compared to 2015, we expect an adjusted EBITDA margin in the range of 32.5% to 34%. And an adjusted free cash flow in the range of $400 million to $450 million or $2.30 to $2.60 per diluted share.

Allison expects capital expenditures in the range of $65 million to $75 million and cash income taxes in the range of $10 million to $15 million. This concludes our prepared remarks. Melissa, please open the call for questions..

Thank you. To allow for as many questions as possible, we ask that you please remain to one question, and ask you rejoin the queue. Our first question comes from the line of Jerry Revich with Goldman Sachs. Please proceed with your question..

Hi, good morning..

Good morning, Jerry..

Good morning..

Dave, I'm worrying if you could flush out for us how much of a benefit you expect from pricing and material costs in 2016 and maybe bridge your margin guidance for us at a normal volume leverage that you've spoken about in the past, those 50% type incremental or decremental margins and with pricing tailwind I guess, I'm wondering how you get to those 70% decremental margin targets for the year?.

Sure. The price, we have, certainly some price opportunities for 2016, I would say broadly if you think back to 2015 we were in excess of $20 million, $25 million for the year. I would expect a lower rate this year as we do run rate some of the activity from 2015 into 2016.

Also worth noting, as you know, with our long-term supply agreements with certain customers, the commodity side of aluminum and steel have come down, there is a pass-through provision on that. So that will offset frankly some of the other pricing opportunities that we have built into 2016.

So as we think about 2016, I would think about pricing there up in $5 million to $10 million for full year. The margins, as you referred to them understand and we've talked about this before with our seven end-markets as we rank them from higher to lower.

Unfortunately if you look at the guide for this year and where we're seeing the year-over-year reductions, they are in fact in really our highest margin end-markets, right.

So if you think about parts, which is largely driven by the Off-Highway, weakness in energy and commodities, if you think about North America On-Highway, those are really going to be the key drivers in terms of the margin decrementals.

As we talked before, we flex our operations in terms of manning to capacity understanding as we've talked for the last few years. We are running roughly one shift globally. So the fact that we're taking down some volumes, there is a limited amount of, I would say flexibility at this point at that these rates to change that.

So we are managing that through overtime, ultimately reducing overtime and then we'll see how the year rolls out from an attrition standpoint. But we're constraining that. I would also note beyond the contribution margins, in terms of the sales changes there.

We do have a number of, I would say, inflation type issues that are hitting us on the benefit side. We continue to work on those programs related to healthcare, for instance, but that in fact is hitting us from a rates perspective.

So something we're paying a lot of attention to, but as you know, anything that we do in the near-term there typically, does not have a near-term benefit. But it's certainly something that's receiving a lot more attention from us.

I would also note with the 2015 results, one thing to remember is that incentive compensation is tied to the achievement of targets. Unfortunately, we do not do that with 2015. The other side of that as you know is reduced incentive compensation expense. So our 2016 guide has built in achieving target.

So, incentive compensation is up year-over-year in our guidance. So beyond that, we'll continue to focus on cost. As you know, in these types of environments and we've seen this before, unfortunately, we're going to have to pay a lot of attention to cost this year in cadence in terms of our activity levels, but as well supporting the opportunity.

So we're going to continue to drive forward in terms of product development, as well as new products. At the same time, looking at opportunities to increase penetration. But the fact is – cost will be a key issue for us this year..

Okay. Thank you..

Thank you. Our next question comes from the line of Jamie Cook with Credit Suisse. Please proceed with your question..

Hi, good morning. This is actually (21:40) on for Jamie cook..

Okay. Good morning..

Just a question on North America On-Highway.

You guys are expecting sales down 7%, how do you think about medium-duty versus Class 8, any differences between the two? And how would you characterize production throughout the year from a cadence perspective?.

Well, without revealing any specific OEM plans. Certainly, we have a pretty clear view of the next several months of OEMs plans relative to their line rates.

On the plus side, it would appear – line rates and down days, it would appear that they are addressing what has been a growing inventory situation both in medium-duty and relatively more pronounced in the Class 8 straight truck. If we take a look across the various pieces.

Certainly Class 8 straight truck is forecast to be down fairly substantially year-over-year. We do expect that we'll be increasing our penetration in that space but certainly not enough to offset the relatively significant decrease.

The same thing can be said with the Class 8 tractors, we continue to penetrate with our Highway series as well as our TC10. But again, that market is expected to be down considerably. Medium-duty is more stable, without question, but still some signs of softness there.

School bus market is expected to decline 3% year-over-year, motorhome market without any shifts between gas and premium diesel where we're very strong in the premium diesel, even at that, the overall market is – we're looking at is down 5%. The other bus, Transit, et cetera, we see that as fairly stable.

So it's really the big areas are in the Class 8..

Got it, this is very helpful. Thank you..

Yes..

Thank you. Our next question comes from the line of Robert Wertheimer with Barclays. Please proceed with your question..

Hi, good morning, guys..

Good morning..

Hi..

Just to follow-on to your answer, Larry, on the Class 8 side, I guess inventories obviously got high.

The fleet at least from our estimate in Class 8 straight anyway is old, so I'm wondering if you feel like the market is currently undergoing an inventory correction within the OEMs pushing out orders to sort of balance inventory or whether there is really fundamental weakness there, not terrible weakness, but weakness showing up in the order of your run rate?.

I think the – our view has been whenever you're in a period of economic uncertainty, people hesitate to make significant capital investments, and in our industry that's buying new vehicles. And so, I think, as people continue to react to the ongoing drumbeat of less than positive news, I think there is clearly some order stream impact.

Having said that, I will give the OEMs credit, they appear to be reacting to the growth in inventory. If you go back several years, we carried significantly larger than typical level of inventory in the industry for the better part of two years. And it was being brought down, and we look at the inventory to retail sales ratio.

We don't look at back orders because we don't think that those are committed orders necessarily, they're indicative, but they're not committed orders. So we really look at inventory to retail sales. And that has gone the wrong direction.

We've seen the OEMs with their forward plans, what appears to us addressing it in a fairly aggressive, from a historical perspective, manner. Obviously, that impacts us because we sell when they build, so that's kind of the issue.

That said, within the overall market, the reason why we think that we're going to pick up some shares, we've got some penetration programs. We continue to drive in the construction with the programs we have, Paydirt, we call a program where we tap into the seasonal purchasing in that space.

And the other thing, as the municipalities have started buying in greater quantities, we're well represented in that space. And so within that down market, we do see some opportunities and are targeting some share gains..

Thank you..

You're welcome..

Thank you. Our next question comes from the line of Nicole DeBlase with Morgan Stanley. Please proceed with your question..

Yeah. Good morning..

Good morning..

Good morning..

So my question is around the service business.

I was hoping you guys could parse out trends within service this quarter between Off-Highway and everything else? And then within your outlook for a 6% decline in 2016, if that's predominately being driven by Off-Highway or if On-Highway parts are also expected to decline?.

On-Highway aftermarket sales are flat to down 2%, I think we've got in the plan and North America we see that as pretty steady. Outside North America had a pretty strong 2015, very strong particularly in Asia, and it would appear that the channel has gotten themselves out in a pretty aggressive stocking position, so we do take that back a little bit.

Europe looks pretty strong, so we feel good about that. It's really driven by Off-Highway. We're forecasting that to be down almost 30% from 2015 from where we were. So that's really driving it..

Okay. Thank you..

You're welcome..

Thank you. Our next question comes from the line of Ian Zaffino with Oppenheimer. Please proceed with your question..

Hi, thank you. As far as uses of cash flow, I guess your cash flow is still very, very strong. You've dealt with some of your maturities. Market is still sort of uncertain, but your stock prices are lower.

How do you kind of put that all together since this always add into what you're going to do with your cash flow?.

Well, as we've talked before in terms of the debt side and the book. We did take the final step here in terms of maturities in the fourth quarter and refinance the remaining term loan B-2 into the B-3. So, you look at the remaining debt structure, it's all B-3. It matures in August of 2019. It's pre-payable. It's flexible. It's low cost.

So, I think we are very comfortable with that structure. When you think about the cash flow usage as we talked before, our focus on capital allocation is a prudent capital structure in getting returns back to shareholders in the form of dividends and share repurchases.

So as we've looked at 2016, we have the quarterly dividend of $0.15 a share and frankly the balance, as you know, we have a $194 million remaining under the existing share repurchase authorization. And that is board authorized through the end of this year.

So our capital allocation policy has not changed, and ultimately our net leverage target in that 3 times to 3.5 times range is still in our minds prudent. This type of market certainly highlights differentiation when it really comes down to cash flow.

To your point, as we look at our run rates and our yield this year, certainly something from a business perspective we're very focused on, but ultimately it's getting that capital back to shareholders, so that will be and continues to be the focus for us..

Yeah, this is Larry. I just want to add on there. As a team here from the management side, Dave has said this to us from the day he walked in the door, our job is to drive the numbers so that you've got the optionality with the results and clearly driving the cash flow.

Then it's to the board in consult with our owners, with the shareholders to set what the capital allocation policy will be and that's a subject we do take up with every board session.

Management provides the outlook as to what we're driving in terms of the results and then the board, as they did when they set up the original share repurchase and dividend policy that's something, like I say, we revisit and take action on in terms of what makes sense based on the numbers and the resources and the results that we're able to put in front of them..

All right. Great. Thank you very much..

Thank you. Our next question comes from the line of David Leiker with Robert W. Baird. Please proceed with your question..

Hi. Good morning. This is Joe Vruwink for David..

Good morning, Joe..

Good morning..

Is there a way to think about the progression of EBITDA margin as we work through the year, so in other words the bulk of the naphtha On-Highway inventory destocking does happen to take place in Q1.

Does that mean the lowest margins of the year should occur in Q1 and we might see sequential improvement as the year goes on?.

Certainly we would expect to Larry's comments some progress on the inventory side of things.

Having said that, as you know, typically the seasonality with our business as you think about Q4 run rates typically, it's the lowest sales of the year for us, so you need to take that into account, and accordingly, we would expect that to be reflected in the EBITDA run rate for the quarter if you look at the quarters one through three, I would say expectations certainly are a fair bit of similarity in terms of EBITDA margin there over those three quarters.

So that's the way we're currently thinking about that.

And again, the cadence of when some of the volume comes in, as you also know, typically with some of the On-Highway business and to a degree with the Defense business, there is a fair ability of or potential for movement simply because of tenders being executed and ultimately delivered, but that's where we're at for the year in terms of view by quarter..

Okay. Thank you..

Thank you. Our next question comes from the line of Michael Feniger with Bank of America Merrill Lynch. Please proceed with your question..

Hey, guys.

And on top of that question, I mean, if we – you guys kind of provided some guidance on the first quarter, assuming a flush out a little bit on how we should think, I guess, in North America On-Highway and the Parts with the guidance? How is that supposed to go through the year? Are we assuming by the backend of 2016 that these businesses will be flat to up?.

I would say, if you just take the individual pieces there, North America On-Highway, we would expect first half to be a bit higher than second half. There are a number of reasons for that seasonality with our business typically, you see the highest sales usually in the second quarter of the year anyway.

So, I think if you look at the trend, that's the way we see first half, second half playing out. On the Parts side, as Larry said before, the key driver there when you look at it on a year-over-year basis from a change perspective, it's really Off-Highway driven so to speak.

But our current expectations if we think about the way the year is playing out for North America Off-Highway parts roughly flat, as we've taken a pretty significant step down, as you know over the last couple of years. The outside North America Off-Highway rates again in terms of run would be relatively flat.

So, if you think about it on a year-over-year basis just given the cadence of development of last year's North America Off-Highway parts, you know that, it was interesting, had a strong first quarter and a strong third quarter. And then we had obviously weak Q2 and Q4.

We would currently expect that to be a little bit more flat in terms of run rate this year. So we've obviously reflected that in the guidance in terms of run rates but, again, with the lack of new unit activity, certainly more focus around overhauls.

Having said that, as you well know, end users in the energy space have dramatically reduced their numbers once again year-over-year in terms of spending commitments..

Yeah. Just to clarify to make sure we're clear, we obviously are taking particularly Off-Highway space down. By flat, we mean flat throughout the year at a fairly quite reduced level, as we've indicated so. We don't see this yo-yo effect just because of the – as far as we look through 2016, we don't see a significant recovery in that space..

Thank you. Our next question comes from the line of Ann Duignan with JPMorgan. Please proceed with your question..

Hi. Good morning..

Good morning..

Good morning..

Good morning.

Could you give us a little bit of color on your rest of the world On-Highway outlook, Europe versus Asia versus South America?.

Sure. We had a fairly significant bounce back in Europe last year. We do see Europe continuing with some strength. We're showing them up for the year about 6%, that's both in truck driven primarily by truck; bus is flat to down 1%. It's really based on some of the big tenders that we had in 2015 that's not repeating.

Although it's backfilled, we are starting to see a little bit of business in Russia and in exports to North America coming out of Europe, we see that picking up a little bit. And even in that increase that we're seeing in Europe in total, they've digested a pretty significant downtick in the military business that they have, the wheeled military.

And that's really due to the tenders having been completed. There is some backfilling, but certainly not at the level that we saw in 2015. Asia-Pacific, we're showing them down about 6%, 7%.

You've got – China, we're starting to see some increases in certain programs, but some of the bus, as they continue to go towards Chinese-built what they call new energy vehicles or pure electric, although we're starting to see some indications as we have talked about where the duty cycle performance and the battery life are maybe not what they thought it would be, and so we're positioning to comeback into that business primarily on the back of CNG, where we have been previously.

Truck sales in that area is up in China, but Korea had a pretty solid year and some of those tenders aren't going to repeat. And then Latin America is about flat, we're showing up slightly where bus is down and truck is up and the net-net is about flat there. So that's kind of how we're seeing it around the world, Ann..

Right.

Could you just expand on the comments that you made about exports coming out of Europe to the U.S.?.

Well, I'm sorry – it's in the buses, in the coaches. You've got people like (38:06) you've got people like ABLE Bus, and then you have – and this is for the coach market here. And then you even have TEMSA starting to come in to that space, where they're exporting vehicles here into the state. So that's what we're referring to there, Ann..

Okay, great. Thank you..

Thanks..

Thank you. Our next question comes from the line of Tim Thein of Citigroup. Please proceed with your question..

Great. Thank you. Larry, maybe we can just hit the Off-Highway, Service Parts business just one more time, and obviously you've got a pretty tough backdrop now and I understand that that's probably not an easy market to forecast.

But I'm just curious one of the big distributors had recently noted that they're starting to see some pick up in quoting activity for repair work, and gave the impression that they thought at least there is a potential for some form of pickup later in the year as just the underlying parts cannibalization kind of runs its course.

So you're not assuming that, but maybe you could just kind of contrast those – those two outlooks?.

Well, I would tell you that probably up until, six to eight weeks ago, we probably would have seen it the same way. Maybe we're too optimistic or whatever, but as things continue to struggle, let's just say that in that industry.

We're seeing a move where people are cannibalizing parking swapping out, whatever term you want to use, and we don't think that's going to turn. We would agree that the parts sales are going to lead a rig build, we would agree with that. But as we look at it, we don't see meaningful recovery in 2016.

Now, as we get through 2016, of course, we'll always will be looking for that, whether it's in 2016 or 2017 is what we'll be certainly focused on. Now, it's not, certainly not going to break our hearts if it does start coming back a little sooner.

But as we sit here, we don't think from our planning standpoint it's prudent to count on that because we don't see things that would indicate that. There are some programs that have been kicked around, but certainly nothing that has firmed up to the point where we would say it's appropriate to put in the forecast..

And, Tim I would add the other components of this as you think about inventory levels and run rates, distributors, I think, have probably been slower to adjust to these run rates, right. So I think part of the issue now is they may be seeing increased activity levels to a certain degree.

But then you ask yourself how is that going to be fulfilled, is that out of inventory or are they actually going to be placing orders for components.

And I would say that globally as we've thought about and continue to focus on the Off-Highway side, taking a much deeper look at these distributor positions on inventory as the market continues to be soft, have distributors been fast or quick enough to adjust to these lower run rates.

So and we've tried to account for that as best we know it in our 2016 guide..

That's a good point..

Got it. Great. I appreciate it. Thank you..

Thank you. Our next question comes from the line of Ted Grace with Susquehanna Financial Group. Please proceed with your question..

Good morning, gentlemen..

Good morning..

Good morning..

Hey, Dave, could you just dive into some of the dynamics on SG&A and costs a little more granularly? And maybe quantify some of the dynamics.

In terms of just maybe specific expectations on SG&A, R&D, the incentive comp dynamics, can you quantify what that headwind is? And kind of frame what the 2016 targeted comp is versus, I know 2015 was zero, but 2013 and 2014, so we can get some arms around that pension dynamics? What the healthcare inflation is exactly and how we should think about salaries? I think, people are just trying to get a little more granularity on all the dynamics that are going to be puts and takes across, both margins and incrementals, decrementals?.

Sure. Well, few questions in there. Let me try to run through those. So incentive comp, if you look at our program for 2015 and contrast that to 2016, you're looking at a delta year-over-year in the range of about $7 million give or take. So that's certainly a headwind.

My comment on healthcare and frankly pension as well as post retirement healthcare, you're looking at probably another in the range of $7 million for that as well. You think about SG&A spending for the year, rolling everything up, we're probably looking at flattish year-over-year. The engineering spend as we've, again, rolled up the year.

We've talked before about the fact we are coming to the end of certain programs, in terms of development and cadence of spending there. But we would see engineering down probably in the range of, call it, $5 million-ish year-over-year.

So the cadence of spending, I would expect, SG&A to be more or less flat first half, second half, engineering typically, we're going to be running slightly higher first half versus second half. Again, some of that would be tied to program timing and execution as well.

But I would say broadly, we think about the year, again as we've said earlier, tremendous amount of focus on cost this year. I would view us as earning into the year, in other words we'll see how performance goes, we can always scale to a certain degree based on opportunities as well.

But we remain prepared to deliver, when we receive the orders, at the same time making sure that we're executing on the strategic objectives that we do have and broadly much more focus from our team this year in terms of growth opportunity execution..

Yeah. We have a process, it's Larry. The process we go through and we step up the plan is we have what we call planning charter.

It's a very explicit process where we evaluate the opportunities, the cost benefits and then against the revenue picture we have a ranking and then we strike the line as to which ones are above the line and below the line and we're very explicit about that so that we've got focus, so that we bring to bear the resources on the highest value ones so that we continue to drive the business forward but in a prudent context relative to the environment that we're operating in.

And so when Dave talks about us earning our way in through the year, we continue. I mean, literally multi times a month, but certainly formally once a month we go through the update and we make explicit decisions relative to, okay, we're tracking these programs.

Now, as we earn our way in, we say, now, we can bring something else up above the line and let's get after it. So that's a very explicit process that we've used here for several years. It's how we drive the results and how we work to drive the business forward..

So Larry, that's helpful.

I guess, along those lines, if you think about the EBITDA guidance range, 32.5% to 34%, the biggest variables would get you from the low end to the high end, is that likely to be mix, is it volume? Just so people can get sensitized as to what are the likely dynamics that that gets you we're in the range because you guys very deservedly have a great reputation for delivering on the cost side consistently and so I think, there's some question as to how much conservatism is kind of expressed in this range.

So if you could just help us understand what drive high to low at least in your own thinking that would helpful? And I'll jump back in queue..

Well, certainly, I think revenue, when you got the ship strong, pretty tight, you get all the revenue in your sales and you jump in the water and that's certainly that's – that would be a plus. There is a number of initiatives we're working on where we've engaged with Treacy & Company relative to their methodology to help us drive growth.

Until we have those plans baked, we don't like to talk about things until we have the buy what method. And so there is a lot of effort going into that process and I would expect as we go forward, we'll be talking about those things. But from a 2016 standpoint, we think there is limited impact there.

Certainly from a cost standpoint, as we look at quality improvements and as those reduce our cost of warranty, there is another avenue. Certainly, there is a ton of work going on in the purchasing space, they got some good things that they're working on, and as that becomes soup we'll bring that forward as well.

But those would be probably the biggest levers..

Okay, that's really helpful. Best of luck this quarter, best of luck this year guys..

Thank you.

Thank you. Our next question comes from the line of the Vishal Shah with Deutsche Bank. Please proceed with your question..

Good morning. This is Rakesh on for Vishal Shah..

Good morning..

I was wondering if you can touch upon the market share point, so what was your market share in North America exiting 2015, and how should we think about this figure for this year? And do you see some opportunities to outpace the market?.

Well, we picked up and obviously the numbers got to be finalized fairly soon after the year, as we get the final ACT and we segment that into the way that we define the addressable market.

But certainly in the medium-duty, we feel we picked up a few points there, we picked up a few points in the Class 8 straight truck, we're picking up a little share in the tractor market in the short-haul piece.

So those are the areas where we would see some share, we got a little bit of headwind in the medium-duty with the Ford decision to use their transmission in some of their vehicles Obviously, we're working with other folks to try to make sure that those customers can get the Allison's that they preferred to buy in the past in other vehicles.

So we do see a little headwind there. We think that in the 3000 series, there's still little opportunity. So we – net-net-net, we do show a little gain compared to the market in that medium-duty space. Same thing in the Class 8 straight truck where we do see some share opportunity there to grow.

So we have a slight step back from what frankly is record share in the medium-duty space, but higher than where we were a couple of years ago.

So we've picked up from the high 60%s into the mid-to-high 70%s, and we step back a point or two this first year, as we absorbed some of the Ford changeover, and then we get back on the growth path with the plans that we have. So those would be some of the areas that – how we would see that shaken out across the market..

Right. That's very helpful. Thank you..

Thank you. Our next question comes from the line of Neil Frohnapple with Longbow Research. Please proceed with your question..

Hi. Good morning..

Good morning..

Good morning..

Larry, can you elaborate on the signs of softness you're seeing in medium-duty? I mean does it feel more temporary or do you think we're entering a cyclical decline for that market?.

No, I don't think we're entering a cyclical decline. I think we just got out ahead of ourselves a little bit. And we've seen the inventory levels creep up, they frankly weren't as bad as the Class 8 straight truck market; haven't been, but they have adjusted up a little bit.

If we take a look at – the numbers really gone back to – you'd have to go back probably six months, you'd start seeing the trend where it would – the build started outpacing the sales. I think people were expecting a more robust economic. If you think about the headlines six months ago, they were certainly different than what you're seeing today.

I think ultimately it would sort out, but certainly for the first part of the year. We're taking a fairly cautious approach, and it appears that OEMs are doing the same..

Okay.

So outside of the inventory issues though you would expect maybe modest growth for the medium-duty market over the next couple of years within North America, I mean is that still your belief at this point?.

Yes..

Okay. Thank you..

You're welcome..

Thank you. Our next question comes from the line of Joe O'Dea with Vertical Research Partners. Please proceed with your question..

Hi. Good morning. You've talked about OEMs taking maybe a little bit of a sharper reaction here with build cuts than what you've seen historically. And also noted Allison's guarded approach to an outlook for 2016.

So just trying to get a sense of whether or not your outlook is even more conservative than what you're hearing from OEMs on their build plans right now or whether it's more or less in line with what you see there?.

I would say it's in line with the near-term, what hasn't – issue that hasn't dropped is against the backdrop of what we think will be ultimately the market move here in 2016.

If you just took, downtime takes a chunk of inventory out of the system, but then if you are still running at a line rate that's higher than what the market is then you either need to take more downtime or you're going to build more inventory, you need to adjust your line rate.

What we've done is looked at the market, looked at what was done to do the one-time inventory adjustment and then try to triangulate into what we think their build rates would be in the context of a balanced scenario against the market demand.

Now, having said that, if the OEMs collectively choose to out build the sales demand and build inventory, obviously that's going to mean sales for us in the out months of the year that ultimately comes back in the form of a hangover much smaller than what the 2006 pre-build hangover was, but certainly it took us some time to work our payout to that situation.

So we're not suggesting anything like that, but that's the same phenomena. So we've got it – we're presuming the OEMs are addressing the inventory based on what we've seen and then they will line up with the underlying market demand to maintain target inventory levels, that's baked into our assumptions..

And just when do you expect within 2016 that they get inventory to more comfortable level and then you get production in line with retail?.

With what they are doing in the near-term, I think they're making a large step there, first half of the year you'd say. Now, the issue is what are their line rates – well, first off, what is the underlying sales demand rate and that gets back to which direction is the economy going and how strong is it going to grow.

And then the second piece is do they have their line rates in sync with that, and if they do then I think we'll be in pretty good shape by the second half to be in balance. But that really gets back to their individual and collective line rate decisions..

That's really helpful. Thank you..

Yes..

Thank you, ladies and gentlemen. This concludes our question-and-answer session. Mr. Dewey, I'd like to turn the floor back to you for any final concluding remarks..

Well, we appreciate the interest certainly as we've outlined. We've got some headwinds, but we're continuing to manage those things that we can control. I think we have demonstrated a track record of even in some tough environments being able to generate solid results, good cash flow. And then we utilized that for return of capital to shareholders.

We would expect that to continue in 2016. We look forward to talking to you on the Q1 2016 call. Thank you..

Thank you. Thank you ladies and gentlemen. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation..