Carl D. Anderson - Vice President and Treasurer Jeffrey A. Craig - President & Chief Executive Officer Kevin Nowlan - Chief Financial Officer & Senior Vice President.

Brian Arthur Johnson - Barclays Capital, Inc. Patrick K. Archambault - Goldman Sachs & Co. Colin Michael Langan - UBS Securities LLC Irina Hodakovsky - KeyBanc Capital Markets, Inc. Neil A. Frohnapple - Longbow Research LLC Itay Michaeli - Citigroup Global Markets, Inc. (Broker).

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2015 Meritor Earnings Conference Call. My name is Matthew and I'll be your operator for today. At this time, all participants are in listen-only mode. We will conduct a question-and-answer session toward the end of this conference.

As a reminder, this call is being recorded for replay purposes. And now, I would like to turn the call over to Mr. Carl Anderson. Please go ahead, sir..

Thank you, Matthew. Good morning, everyone, and welcome to Meritor's fourth quarter and full year 2015 earnings call. On the call today, we have Jay Craig, CEO and President; and Kevin Nowlan, our Chief Financial Officer. The slides that are accompanying today's call are available at meritor.com. We'll refer to the slides in our discussion this morning.

The content of this conference call, which we are recording, is the property of Meritor, Inc. It's protected by U.S. and international copyright law and may not be rebroadcast without the expressed written consent of Meritor. We consider your continued participation to be your consent to our recording.

Our discussion may contain forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Let me now refer you to slide two for a more complete disclosure of the risks that could affect our results.

To the extent we refer to any non-GAAP measures in our call, you'll find the reconciliation to GAAP in the slides on our website. Now I'll turn the call over to Jay..

Thanks, Carl. Good morning, everyone, and thanks for joining the call. Let's turn to slide three. With the second full year of M2016 now complete, we are on track to achieve the financial targets for our three-year plan. When we launched M2016, we were a different company than we are today.

Margin is up, debt is down, and we have established important new relationships with customers around the world like PACCAR in North America, Scania in Europe, Daimler in India, and DAF in South America, among others. We've also dramatically improved our execution.

We've converted on up-cycles in Europe and North America through excellent management of our operating and product costs. In fact, several times during the month of September, we've produced the most axles per day in the history of the company with no degradation to safety, quality, delivery or cost.

These changes in our business are enabling us to significantly offset the unfavorable effects of market challenges, particularly in Brazil and China, and in our Defense business, which historically have been strong earnings contributors to our bottom line. Looking at the 2015 financial highlights, we had a strong close.

We beat our EBITDA margin guidance by 20 basis points and exceeded the top end of our EPS range. Year-over-year adjusted diluted EPS was up 52%, demonstrating a solid bottom line return to Meritor's shareholders. Also during the year, we earned new business that puts us on track to meet our revenue target for our M2016 program.

And we've already exceeded our net debt reduction goal. Keep in mind, this was accomplished even after the repurchase of $55 million of common equity, representing a buyback of 4% percent of our total outstanding shares. In addition, we've refinanced more than $100 million of convertible debt that will also mitigate share dilution going forward.

As you can see from the walk on slide four, our margin has increased 230 basis points since fiscal year 2013, putting us only 50 basis points away from achieving our M2016 EBITDA margin goal.

This reflects our dedicated focus on material cost reductions and labor and burden performance combined with pricing, which more appropriately reflects our value proposition. I want to give credit to our global workforce for this result.

They remain keenly focused on our objectives and day-to-day execution despite the volatile market factors that were in play and has paid off. Let me also take a moment to recognize more than 300 Meritor employees who have served or are currently serving in the United States Military.

With today being Veterans Day, we want to tell them how much we appreciate their service. Now, as we look at fiscal 2016, we're confident we'll achieve a 10% EBITDA margin target.

We believe our new business wins and ongoing management of operating costs will offset the full-year effect of unfavorable foreign exchange and the softening in the North American Class 8 truck market. Looking at slide five, we've taken steps to reduce net debt by approximately $500 million over the last several years.

This was accomplished through proceeds from the Eaton settlement, the sale of our Brazilian joint venture, and free cash flow generation. As we look ahead, we expect to continue driving improvement in our credit profile as we strive toward our target of having BB credit metrics.

This is part of our strategy to deliver long-term value to our shareholders that represents a balanced and disciplined approach to capital allocation. On slide six, we highlight new business awarded in fiscal 2015. With PACCAR, we are now supplying rear axles in North America, Australia, and Brazil.

We've achieved close to a 50% share of rears in North America, almost a full year before our initial expectations that we communicated to you back in January. You'll remember, we also have standard positioning for front steer axles. At full run rate, we expect revenue from fronts and rears to be approximately $190 million.

New this quarter we have four additional wins to add to our revenue stream. In Defense, as announced in August, we'll supply wheel ends for approximately 17,000 JLTVs to be managed by Oshkosh over an eight-year timeframe.

We're also supplying Navistar with all-wheel drive components including T-cases for approximately 2,300 medium tactical vehicles for the Afghanistan National Security Force. Deliveries begin in January of 2016 and conclude in 2019.

Beginning in 2016, we'll supply rear drive tag and front steer axles and brakes to MCI in connection with the purchase of almost 8,800 commuter coaches by New Jersey's public transportation corporation. This is a six-year delivery schedule. And in Asia Pacific, we have a new axle and brake program with a major OE.

While we don't plan to announce more details at this time, this customer award supports our new broad range of fully-dressed axle products in the region that offer customers greater efficiency, localization, and cost savings.

This award is a good example of how technology developed in our engineering centers of excellence in North America, Europe, and India is being applied to meet the needs of other regions. Our well-developed infrastructure will be a key enabler of future business growth.

We expect that the total value of these newly announced wins from the fourth quarter are going to approximate $45 million at a full annual run rate. Let's look at slide seven. The last time we updated our progress against our revenue target was this past February. At that time, we were $300 million towards our $500 million goal.

Today, we are at $385 million towards that goal, taking into account the new business wins we've been awarded since that time. On the right side of the chart, you'll see that we expect $275 million to be in our P&L in 2016, exceeding the target we set for ourselves. And remember, these numbers are market-adjusted.

This puts us close to 80% of the way towards achieving our $500 million revenue target. We are committed to engineering and manufacturing products that are the first choice of drivers, fleets, and vocational equipment operators, and troops around the world. Now, let's take a look at our market outlook on slide eight.

We knew the peak volumes in North America would eventually decline, and we're now starting to see some signs of softening for 2016. Coming off a 328,000 unit market in 2015, we're projecting Class 8 production of 275,000 to 290,000 units in our fiscal year, which equates to approximately 265,000 to 270,000 units for the calendar year.

Still a solid market, but down year-over-year. We believe medium-duty volumes will be slightly down, while trailers will remain flat. Economic indicators are showing positive signs in Western Europe for slight growth in 2016. We're continuing to see registrations increasing and freight fundamentals improve.

We believe our markets in China will continue to be challenged in 2016. The off-highway sector is still weak, while bus and coach appears to be stable. India looks to be improving and we're increasing our outlook in that region by just over 9%. We're confident India offers growth opportunities for us as conditions there continue to improve.

As for Brazil, we're not yet seeing signs of recovery from the current recession. We're expecting another 16% step-down year-over-year to approximately 75,000 units, driven by a variety of economic factors and ongoing low consumer confidence. In a minute, Kevin will talk about our guidance for 2016.

The most important point is that even though we expect revenue to be slightly down this fiscal year, continued performance and increasing market share gains are offsetting the instability in the markets. Now I'll turn the call over to Kevin..

Thanks, Jay, and good morning. On today's call, I'll review our fourth quarter and full-year financial results, and then I'll take you through our 2016 guidance.

Overall, as Jay said, the key take-away from our results is that we continue to generate improved margins and increasing bottom line EPS and we expect that trend to continue as we march toward achievement of our M2016 objectives.

Let's turn to slide 9, where you'll see our fourth quarter income statement from continuing operations compared to the prior year. Sales were $853 million in the quarter, down nearly 9% from last year. The lower revenue was primarily driven by weaker currencies in Europe and Brazil relative to the U.S. dollar.

Weaker end markets in Brazil and China also contributed to the revenue decline, although that weakness was largely offset by the strong Class 8 truck market in North America. Gross margin as a percent of sales was 12.7% in the current quarter, compared to 15% a year ago.

You may recall that last year we had a $15 million one-time benefit related to changes we made to our retiree medical plans and an $8 million benefit relating to a favorable resolution of a warranty contingency. If we exclude the impact of these benefits on last year's margin, our current year gross margin actually expanded by 20 basis points.

This improvement was driven by material, labor and burden performance, and pricing actions. SG&A was approximately 6.6% of sales in the most recent quarter, an improvement of $24 million from a year ago. In the fourth quarter of 2014, we recorded a $20 million charge associated with the year-end valuation of asbestos liabilities.

Also, we had lower incentive compensation accruals in the current quarter. Next, you'll see charges we took for pension settlement losses and asset impairments.

Consistent with our strategy to derisk the balance sheet, we executed agreements with insurance companies to purchase annuities that completely settled $107 million in book value of pension plan obligations. As a result of these transactions, we recognized a $59 million pre-tax loss in the quarter.

The loss was substantially non-cash and relates primarily to the acceleration of previously unrecognized actuarial losses already reflected in book equity. Also, in the fourth quarter of fiscal 2015, the U.S. Army awarded a new contract to Oshkosh Corporation for the production of the JLTV.

While we are pleased to supply wheel-ends to Oshkosh for this program, our revenue will be significantly less than if they had been awarded to another OE that was going to utilize our ProTec independent suspension.

Based on sales expectations for this and other currently awarded programs, we believe the fair value of our defense business is less than its carrying value. Therefore, we've recorded $17 million of asset impairments, of which $15 million related to goodwill.

Moving down the income statement, you'll see that we booked a tax benefit in the quarter of $18 million. This includes $16 million of valuation allowance reversals relating to our deferred tax assets.

As we have been indicating for several quarters, we are generating profits in various jurisdictions across the globe, where we have booked valuation allowances against our deferred tax assets.

We now have enough positive evidence, including sustained earnings in Germany, Italy, Mexico and Sweden, that enabled us to reverse valuation allowances in these countries. When you adjust for the large non-recurring items that I noted, you'll see that our adjusted income from continuing operations was $37 million, up $2 million from last year.

That translates to $0.39 per diluted share, up $0.04 from 2014. Overall, this was another strong quarter for us. As we've demonstrated during this and every other quarter in fiscal year 2015, we are successfully executing M2016 initiatives, which is allowing us to drive consistently improving results over time.

Slide 10 details fourth quarter sales and EBITDA for each of our segments. In our Commercial Truck & Industrial segment, sales were $650 million, down 11% from the same period last year. Weaker currencies relative to the U.S. dollar drove most of this decline. Production in our North America truck business was stronger year-over-year.

However, this was more than offset by lower production levels in Brazil and China. Segment EBITDA was $45 million, a decrease of $8 million compared to the prior year. Segment EBITDA margin was 6.9% in the quarter, down slightly from last year. These decreases were primarily driven by lower revenue.

In our Aftermarket & Trailer segment, sales were $231 million, down 4% from last year. This decline was caused entirely by currency headwinds in our European aftermarket business. Segment EBITDA was $37 million, up 9% over last year and segment EBITDA margin was 16%, an increase of 180 basis points over fiscal year 2014.

This improvement was driven by strong performance of our M2016 initiative. Let's move to slide 11, which compares our actual results for the full year 2015 to 2014. As you can see, we expanded EBITDA margins by 120 basis points even as revenue declined by 7%.

Again, our focus on M2016 initiative is the driving force behind our improved financial performance. This was achieved on revenue levels that were down more than $250 million due almost entirely to weaker foreign currencies. Despite this, we increased our adjusted EBITDA by $20 million over last year.

As you can see, our diligence around managing cost resulted in SG&A expense decreasing $35 million this year, excluding last year's one-time legal fee recovery from Eaton. Specifically, this is the combination of lower legacy cost, lower incentive compensation accruals, and overall discipline around cost management.

You can also see the performance we're generating above and beyond SG&A. While volume was down modestly year-over-year, our efforts directed at pricing, material cost reductions and labor and burden performance contributed more than $26 million to our margin improvement in 2015.

We expect these self-help initiative, which represent the foundation of M2016, to continue in the upcoming year. It's also worth noting that the improvement in EBITDA is falling straight to our bottom line as you can see in our reported EPS.

While we expanded our EBITDA margin by 14% over last year, diluted adjusted earnings per share expanded by 52% year-over-year to $1.55 in 2015. This was driven by improvement in margins, as well as lower interest expense and lower tax expense. And finally, we had another strong year in free cash flow.

The earnings improvement we're generating is comprised of real cash earnings. In 2015, we generated $18 million of free cash flow. This includes $94 million in voluntary contributions we made to fund annuity purchases that fully settled our German and Canadian pension obligations. Excluding this, we generated $112 million in free cash flow.

Now let's move to slide 12, which provides an update on our equity and equity-linked repurchase program. During the fourth quarter, we repurchased $25 million of common equity, totaling 1.9 million shares.

Although not shown on the slide, after the quarter ended, we repurchased an additional 1.8 million common shares in October, pursuant to a 10b5-1 plan. That means, to-date, we've repurchased 6 million common shares under the program.

In total, including the common equity repurchases in October, we've now executed nearly $94 million of equity and equity-linked buybacks under our $210 million program, of which approximately 80% has been in the form of common equity. We remain on track to complete the entire program by September 2016.

Next, I'll review our fiscal year 2016 outlook on slide 13. Based on the demand assumptions Jay highlighted on slide 8, we expect sales to be approximately $3.4 billion to $3.5 billion, down slightly compared to 2015.

As shown in our sales walk, we expect our new business wins to just about offset revenue declines from the full-year effect of a stronger U.S. dollar and the softening of the Class 8 truck market. With that revenue outlook, we are confident we'll achieve our margin target of 10%.

The 50-basis-point margin improvement will be driven by the continued consistency and execution that we've demonstrated throughout fiscal 2015. We also expect to improve adjusted earnings per share to a range of $1.60 to $1.70 in 2016, driven by higher earnings and lower shares outstanding as a result of our share repurchase program.

With regard to our reported adjusted diluted earnings per share, we currently are not reflecting the real cash impact from all of our net operating loss carryforwards.

Due to the valuation allowance reversals in various European jurisdictions and Mexico, we expect to generate a $0.10 to $0.15 per share benefit in 2016 not reflected in our reported adjusted EPS.

And with the potential for valuation allowance reversals in other countries in the future, the amount of the benefit not reflected in our EPS could increase quite significantly over time. We want to ensure that you have visibility into the real cash impact of these tax attributes.

We'll provide more clarity into how we intend to do this at our Analyst Day in December. Finally, we expect to generate free cash flow of approximately $115 million. The takeaway here again is that our earnings generation is translating to real cash flow.

Based on this outlook for FY 2016, we believe we are positioned to achieve all three of the M2016 financial targets that we introduced in 2013.

And as we deliver on our financial commitments this year, it means that from an income statement, balance sheet and cash flow perspective, we'll have positioned this company to really capitalize on meaningful growth opportunities as we look beyond 2016. Now I'll turn the call back over to Jay to provide closing remarks..

Thanks, Kevin. Let's turn to slide 14. The main takeaways from today's call are that we delivered another year of improved financial performance. And as a result, we are confident we will achieve our transformational M2016 financial objectives. In doing so, we believe the company will be better positioned for revenue and earnings growth in the future.

We remain committed to our current three-year plan even as we look forward to introducing you to the details of our next one. We now have momentum going into the last year of our M2016 plan, and everyone is excited for the next step in our future.

As we look ahead, that plan will shift our emphasis to growth as we continue to focus on business strategies that deliver value to our shareholders. We look forward to taking you through this plan at our Analyst Day in New York on December 10. Now let's take your questions..

Thank you, sir. And your first question comes from the line of Brian Johnson of Barclays. Please go ahead..

Good morning. Two questions. We were surprised pleasantly by the strong margin in Aftermarket. It looks like your highest quarterly margin ever and close to 200 basis points above last year, which is also a strong close for you.

Can you help us understand the drivers of that, the seasonality around that, if any? Were there any sort of one-time cost saves in it? And maybe just kind of, is Aftermarket – or on the other hand, is Aftermarket seeing some of the fruits of M2016 perhaps later than CB, where your margins have held up despite the volume headwinds?.

Hey, Brian. This is Kevin Nowlan. I'll take that question. But you're right, we had a really strong quarter for the Aftermarket & Trailer segment at 16%, and a portion of it was driven by some things that are unique to the fourth quarter.

We normally have some year-end accrual adjustments and that might have contributed a couple million dollars for things like ICP. But the bulk of the performance or the results were driven by performance. Material, labor and burden performance and pricing actions is really what drove the 16%.

And so, as I think about margins for that segment going forward, as we look ahead to 2016, I think you should expect it to be more in the 14% to 15% range as we look forward at these types of revenue levels. Now, having said that, you had asked a question about seasonality.

Keep in mind, Q1 is typically the low point for the business given fewer selling days in the quarter. So we would expect it to be a little lower in the first quarter. But for a full year 2016 basis, we're expecting 14% to 15% margin, which is a little higher than what we've guided to in the past..

Just a follow up to that. Material, is that supply reengineering or is it just these are made of steel and steel prices have fallen? You don't necessarily have to pass that through like you do with OEMs and fleet customers..

It's less to do with the first piece that you mentioned, reengineering, and more to do with material performance initiative, which is improving our cost structure overall, as well as there is a little bit of a tailwind we get from steel index improvement on a year-over-year basis.

But I'd say it's a healthy mix of both, as well as labor and burden performance initiatives and pricing actions. It's a combination of all those things..

Okay. Second question, back in commercial vehicle, two maybe kind of offsetting issues or kind of questions just around market position within North America and Class 8. On the one hand, one of your – so first subquestion is, one of your competitors ran into supplier issues with Class 8 and blamed that for their loss of market share.

Did you benefit from that competitor's loss of market share in North America? And then, second question, one of your major customers, Daimler, is producing more axles in-house.

How should we think about them using that capacity in light of the Class 8 build decline that you're forecasting? And are they going to try to keep that full perhaps by incenting some of their fleet customers to choose the in-house axle and how would that affect Meritor? So two issues, kind of gain of share on the competitive supplier issue and then kind of in-house competitor at Daimler..

Sure. Hey, Brian. This is Jay. Good morning. Yeah. On your first question, certainly, as I mentioned in my comments, we had an excellent year of execution. I think, most importantly, our customers would say we executed virtually flawlessly.

So, we did see some opportunities to fill in some gaps in the market from various suppliers, but I think it still is a longer-term trend of us winning business. And so, I guess, to answer an unasked question, do we see a step back, because certain suppliers will be coming back online, not of any meaningful amount.

We think these revenue gains have been – market share gains have been of a more permanent nature. And I really give credit to our team, especially from the supply chain and manufacturing side, for just doing an excellent job.

On the second question on Daimler, this resurrection issue that was earlier in the year, we've seen our penetration stabilize, as we spoken to earlier, and we expect that environment to continue with stable penetrations going forward and have that understanding with our customer.

We are still the majority supplier of Class 8 drive axles to Freightliner and other Daimler products, and we expect to continue that position for the long term..

Okay. Thank you..

Thank you..

Thank you for your question. Your next question comes from the line of Patrick Archambault of Goldman Sachs. Please go ahead..

Yeah. Thank you. Good morning and congrats on the good results. A couple from me. I guess, maybe just more detail on the self-help. I think one of the things that pleasantly surprised us is how you've been able to maintain the margin guidance for M2016 of 10% under significantly more difficult volume scenarios than you had initially envisioned.

And so, just as we think about bridging the final piece to that 10%, where is the lowest hanging fruit? I think you had outlined the plan which had some restructuring, labor and burden benefits as well as I think redesign and maybe even price downs for some of your own suppliers.

How should we think about the stuff that's – the biggest levers that are left to pull?.

Sure. Good morning, Patrick, this is Jay. Good question. As we look at it, I would say it's just more the same. I mean, as we look at the pillars of the margin improvement, you can look at purchasing cost reductions, labor and burden cost performance improvements, pricing improvements.

As we look at this last year at the M2016 program, I would say, those are the three main pillars again. And as you would expect, we have 12 to 24-month pipelines on the cost reduction efforts and the pricing initiatives that we review and make certain we have all the steps to ensure that we have execution on those.

And that's why you're hearing us going out with confidence today. We'll achieve those targets even in what most people would call a very challenging market environment globally for our industry. We feel we're doing an excellent job of controlling the initiatives that we can..

Got it. So, okay, that's important. So, it does seem like there's quite a bit of visibility on some of these factors..

Internally, a lot of visibility. Again, I think, as you would expect, given the past performance we've shown over the last few years, we have very detailed pipeline reviews and reports and make sure the teams are aligned to achieve the objectives.

And the other item I should mention is, I think we're starting to get the favorable benefit of the new wins in the market that are attributable to the significant new product launches we're bringing to the market, our excellent delivery, and quality performance.

We're starting to see meaningful share gains that you see in our guidance are offsetting a fair bit, if not almost all of the headwinds year-over-year..

And then, are those accretive from a margin perspective relative to old programs at a variable cost level? Or is that just kind of operating leverage?.

Yeah. I think – Patrick, it's Kevin. The way to think about it is we expect to contribute at our normal type of 15% to 20% contribution on any typical new dollar of revenue and those new business wins, I think on average, are no different..

Got it. Okay. And one last one for me.

Forgive me if you guys have gone over this, but your planned measurement data is still in September, is that correct? And if so, can you just give us a visibility on pension expense since you guys are usually ahead of the curve on that?.

In terms of – you're right, where at September year-end, and that's when we do our valuation adjustments. I don't think we're prepared to give new pension income guidance for next year at this point.

But I think from our funded status, you should expect that our pension under-funded position is going to be just over $100 million as opposed to what has been in prior years, it's been upwards of $0.5 billion, just given some of our de-risking strategy that we've executed.

And then, we'll provide you a little bit more color on your specific question in December at the Analyst Day..

Okay.

Can I just ask that you guys take down your discount rate?.

I cannot comment on that at the moment, but you should expect that we follow the same methodology we always do, which is looking at AA corporates and what they did on a year-over-year basis. It's not a significant move, I would tell you, on a year-over-year basis in our discount rates..

Okay. Well, I'll let you guys give us the specifics a little later. Thanks a lot for taking my questions..

Thank you for your question. Your next question comes from the line of Colin Langan of UBS. Please go ahead..

Oh, great. Thanks for taking my question. Can you give any color on the Commercial Truck margins? They're down a bit, looked like almost like a 24% decremental in the quarter.

And your comments about Aftermarket, does that – any color on how we should think about the Commercial margins into next year?.

Yeah. I mean, the real driver of the Commercial Truck margins has been revenue. And so, if you think about that on a decremental basis, I think on a year-over-year basis, it's actually more like 10%. And again, our typical contribution is more in the 15% to 20% range.

And so, as we've seen revenue come down for the reasons we talked about, FX being the primary driver, we've been able to mitigate some of that impact through our performance initiatives. So, it's just been a bigger revenue decline in the Truck segment, which has had a bigger impact on the margin, but performance is still mitigating that..

And I mean, in terms of, you've indicated Aftermarket will be up – I got them and I have a hard time to do the math.

Does that imply that there should – do we still need to see Commercial Truck margins to be up or can it be flat next year and you can hit your overall 10% target?.

I think I would just say that, overall, we're driving toward 10% from a full company basis and I know there's a lot of focus on the Aftermarket & Trailer in the performance that it delivered.

And I would tell you that if you look at the full year performance of that business at 14%, we're expecting to see even a little bit of improvement into 2016 on that. But you should expect for the whole company to be up 50 basis points, we need some contribution coming from really both segments..

And can you give color on the tax guidance? It's holding at 15%, but you did have some reversals of the valuation allowance, thus, you expect more to come? Wouldn't that imply that your effective GAAP tax rate would start going up?.

It would and that effective tax rate actually already contemplates the fact that there are some non-cash tax expenses in that number.

So, if I look ahead to 2016, and we expect those jurisdictions where we just reversed the valuation allowances to generate income tax expense in the upcoming year north of $10 million, that's part of our effective tax rate guidance of 15%.

If you were to strip out the fact that that $10 million or so is actually non-cash, an equivalent tax rate on more of that cash basis would be more like 10%. So, we are seeing that headwind in the 15% guidance number that we're providing you. And the cash basis is actually something lower..

Okay. But I mean, if you have further allowances next year which are – could that – there's risk to the rate going up next year if you have further ones again.

Is that right?.

Absolutely. So, if that happens, we would have a – let's say, for instance, we had a jurisdiction like the U.S. where we have a lot of deferred tax assets and large valuation allowances. If we reverse those valuation allowances, we would generate a substantial one-time book income tax benefit.

And then we would start booking tax expense through the EPS line on a going-forward basis on future earnings. But we would continue to recognize the cash benefit associated with monetizing those deferred tax assets, we think into the early part of next decade.

So, we think there's a real substantial benefit for us to continue to realize whether those valuation allowances are reversed or not..

Okay. All right. Thank you very much for taking my question..

Yeah. Thanks, Colin..

Thank you very much. Your next question comes from the line of Irina Hodakovsky of KeyBanc Capital Markets. Please proceed..

Good morning, everyone. This is Irina on for Brett Hoselton. I had a couple of questions.

Today's 2016 EBITDA margin guidance, 10%, how does that relate to your longer-term anticipated margin targets which you were going to introduce in December? Should we view this kind of as a directional sign of what we can expect going forward, or is this just 2016 guidance, the same as before, 10%, and you are not ready to provide longer-term targets yet?.

Good morning, Irina. This is Jay. Good question. Again, we're extremely proud and confident that we will achieve that 10% margin guidance. As I've said earlier, we feel confident we have the programs in place to achieve that.

As far as for the outlook beyond that, that's what we'll be addressing in a month from now in December, so about four weeks from now, and be talking through that in some detail.

I think, as we've said earlier, we think there's still opportunities but we're not ready to, specifically, to mention how much those are, but we think there's still opportunities to increase margin in the years to come..

Thank you. That's helpful. And then your North American Class 8 outlook appears a little conservative relative to the latest update from the industry.

How do you view your initial guidance? Would you say you're on the conservative side, right in line with what you're seeing or hard to imagine, but perhaps maybe you've been optimistic?.

I think we feel we're shooting it pretty straight at some broader range than we typically give just because of the recent volatility in the market. So we've given a little broader range. Obviously, the most important thing is it supports our revenue guidance. So we feel that range is appropriate for what we've guided for the total revenue for 2016.

As we look at that and look at the market factors, there are obviously, a lot of positive market factors. The fleets are still extremely profitable. The utilization rates are very high. Some of the negatives are the fleet age is coming down to more historic norms, and the used truck prices have also declined.

I think the main thing we look at, like everybody is, the order data. And if we continue, if there's a trend that continues that occurred in October, where the orders for October were below the five-year average, it would put us towards the lower end of that range or put pressure on that.

And if the orders over the next few months come in at or above that five-year average, it would put us towards the upper end of the range or above it. So that's what we're watching closely over the next few months. But I think we feel we're shooting it pretty straight, as we said today..

Thank you very much for that detail. Very helpful. One last follow-on question on that. In terms of your capacity utilization, I know prior to the restructuring efforts a few years back, we discussed that at 275,000 units for the industry, 270,000 units, you would still be able to utilize your capacity quite effectively.

Now that you are looking for a calendar year outlook that is a little bit below that 260,000 units, 270,000 units, how do you feel, with, of course, the latest actions taken internally, how do you feel in terms of your capacity utilization at these lower production rates?.

I think we feel good about it. I think if you look at one of the charts Kevin covered on slide 13, you can see we have new business wins of almost $175 million coming in that we feel go a long way towards offsetting the expected market decline here in North America.

So we think that utilization could still run quite high through 2016 as we bring on that new business..

Thank you very much. Congratulations on an excellent quarter. Very well-executed year, guys. Congratulations..

Thank you very much..

Thanks, Irina..

Thanks..

Thank you for your question. The next question comes from the line of Neil Frohnapple of Longbow Research. Please go ahead..

Hi. Good morning, guys. And congrats on a great quarter..

Thank you..

Thank you..

Just to clarify, the EPS guidance does not include any equity repurchases, correct?.

It includes those that we've executed today. So it includes the $20 million that we executed in the month of October, but nothing looking forward beyond that..

Okay.

So that would be all upside of the current $1.60 to $1.70 guidance?.

That's correct..

Okay. And then the medium-duty outlook for North America of a 6% to 10% decline seems to be a little bit more bearish than other component suppliers or industry forecasters are projecting for next year.

Are you guys seeing weakness currently, or are you just taking a more conservative view just based on what's transpiring in the cost market?.

I think we're maybe more at the conservative side of the spectrum, but remember also that has a much smaller impact on us. Our exposure to the medium-duty is primarily through Navistar where freight – because freightliner tends to be virtually 100% insourced on that product.

So we tend to be less sensitive to that market movement, far less sensitive than Class 8..

Okay. Great. Thanks very much, guys..

Thank you very much, indeed. Your next question comes from the line of Itay Michaeli. Please go ahead..

Great. Thank you. Good morning, everybody..

Good morning..

Just a few questions. Maybe to follow-up to Pat's question on margins for 2016; slide 13, the sales walk is helpful for fiscal 2016.

Could we maybe run through an EBITDA walk as well in terms of the margin impact from some of the revenue drivers for 2016?.

material performance, labor and burden performance, continued discipline around cost management including our legacy costs, all of those things are the types of things that we expect to continue to drive. And remember, the last two years, we've driven 230 basis points of improvement with revenue down.

And so what we're suggesting this year is, hey, we are expecting to see another challenging market just like we've seen in the last couple of years. But once again, we're expecting to drive the same types of performance to improve our margins 50 basis points in the year..

Great. That's helpful. And then as we think about the new business that you've been winning – and maybe it's a little bit early to talk about fiscal 2017.

But any way of how to think about the incremental new business contribution from what you've won to-date, roughly speaking, for 2017? Trying to think about your kind of growth profile outside of the markets..

What I would say is, I mean, where we stand right now, obviously, we've indicated that we're going to have achieved $275 million of the $385 million of new business wins in the 2016 P&L, which just tells you that the other $110 million or so is coming after 2016.

Not prepared to provide any more specific detail than that as we look to what years those hit, 2017, 2018, et cetera. But we would expect to provide more color on that at Analyst Day in December in terms of what our revenue outlook is as we look beyond 2016..

Great. That's helpful. And then just a quick last point of clarification. I think earlier on the pension, you mentioned about $100 million in liability. Is that global and do you maybe have the rough split between the U.S.

pension and the global pension plans?.

That's global. That's global. And it's predominantly – the underfunded position is predominantly in the U.S. We're actually overfunded a little bit in the United Kingdom on a U.S. GAAP basis. But on a blended basis, we're a little bit over $100 million underfunded globally.

And you'll see those specific numbers when we file our 10-K which is slated to go out I think about a week from today..

Great. Thanks so much for taking my questions. That's all I have..

Thank you..

Thank you very much for your questions, ladies and gentlemen. That concludes your Q&A time for now. I'd now like to turn the call to Mr. Jay Craig for the closing remarks..

Thanks for joining the call today. If you have further questions, please feel free to contact Carl. We look forward to seeing you in December and especially looking forward to rolling out our next strategic plan. Thank you..

Thank you for joining in today's conference, ladies and gentlemen. This concludes the presentation. You may now disconnect. Good day..