Allison Transmission Holdings Inc (ALSN) 2013 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to Allison Transmissions fourth-quarter and year-end 2013 earnings conference call. My name is Manny and I will be your conference operator today.

(Operator Instructions)

As a reminder, this conference call is being recorded.

(Operator Instructions)

I would now like to turn the conference over to David Graziosi, the Company's Executive Vice President and Chief Financial Officer. These go ahead, sir.

Thank you, Manny. Good afternoon and thank you for joining us for our fourth-quarter 2013 results conference call. With me this afternoon is Larry Dewey, Allison Transmission's Chairman, President and Chief Executive Officer.

As a reminder, this conference call, webcast and the presentation we are using this afternoon are available on the Investor Relations section of our website, AllisonTransmission.com. A replay of this call will be available through February 20.

As shown on page 2 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 2013 results press release and our annual report on Form 10-K for the year ended December 31, 2012, 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 3 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 2013 results press release, both of which are posted on the Investor Relations section of our website.

Today's call is set to end at 5:30 Eastern time. In order to maximize participation opportunities on the call, please limit your questions to one with one follow-up question.

Now, I will turn the call over to Larry Dewey.

Thanks, Dave. Good afternoon and thank you for joining us today. Our fourth-quarter 2013 results are within the guidance ranges we provided to the market last October 28.

Net sales stabilized in the fourth quarter on a year-over-year basis, an improvement relative to the sales declines experienced through the first three quarters of the year. We are encouraged by growth in the North American on-highway end market, and improved demand conditions in the outside North America on-highway end market.

Allison continued to demonstrate strong operating margins and cash flow during the fourth quarter by executing initiatives designed to align costs and programs across our business with end markets demand conditions, while continuing to invest in growth opportunities. Maintaining our prudent approach to capital allocation, we opportunistically refinanced $650 million of our senior secured credit facility term B-2 loan due in 2017, extended the maturity of our revolving credit facility to 2019, repaid $53 million of debt, and paid a quarterly dividend of $0.12 per share.

Please turn to slide 4 of the presentation for the call agenda. On today's call I will provide you with an overview of our fourth-quarter performance, including sales by end market. Dave will review the fourth-quarter financial performance including adjusted EBITDA and adjusted free cash flow. I will wrap up the prepared comments with 2014 guidance prior to the question-and-answer period.

Please turn to slide 5 of the presentation for the Q4 2013 performance summary. Net sales increased approximately 1% from the same period in 2012, principally driven by higher demand in the service parts, support equipment and other end market; continued recovery in the North America on-highway end market, our largest; and improved demand conditions in the outside North America on-highway end market; largely offset by previously contemplated reductions in US defense spending and weakness in the outside North America off-highway end market.

Gross margin for the quarter was 43.1%, an increase of 320 basis points from a gross margin of 39.9% for the same period in 2012. The increase in gross profit from the same period in 2012 was principally driven by $7 million of costs and $8 million of charges to conclude a new five-year labor agreement in 2012.

Adjusted net income increased $32 million from the same period in 2012, principally driven by increased adjusted EBITDA, with $9 million attributable to nonrecurring charges to conclude the new five-year labor agreement in 2012. Adjusted free cash flow increased $23 million from the same period in 2012, principally driven by increased net cash provided by operating activities, partially offset by increased capital expenditures. The increase in capital expenditures was principally driven by increased investments in productivity and replacement programs, partially offset by lower product investment initiative spending.

Please turn to slide 6 of the presentation for the Q4 2013 sales performance summary. North America on-highway end-market net sales were up 12% from the same period in 2012, principally driven by higher demand for Rugged Duty Series, Highway Series and Bus Series models, and essentially flat on a sequential basis, principally driven by higher demand for Bus Series models, offset by lower demand for People Transport Shuttle Series and Rugged Duty Series models.

North America hybrid propulsion systems for transit bus end-market net sales were flat with the same period in 2012, and up 113% on a sequential basis, principally driven by intra-year movement in the timing of orders, as discussed in prior calls. North America off-highway end-market net sales were down 18% from the same period in 2012, principally driven by lower demand from hydraulic fracturing applications, and up 56% on a sequential basis, the first sequential increase since the first quarter of 2012, principally driven by higher demand from hydraulic fracturing applications.

Defense end-market net sales were down 53% from the same period in 2012, and 33% sequentially, principally driven by previously contemplated reductions in US defense spending to longer-term averages experienced during periods without active conflicts. Outside North America end-market net sales were up 18% from the same period in 2012, reflecting strength in China bus and Europe truck end markets, partially offset by weakness in Japan truck. And up 23% on a sequential basis, principally driven by China bus tenders timing.

Outside North America off-highway end-market net sales were down 53% from the same period in 2012, principally driven by weakness in the mining and energy sectors, and down 13% on a sequential basis, principally driven by weakness in the energy sector.

Service parts, support equipment and other end-market net sales were up 37% from the same period in 2012, principally driven by higher demand for North America service parts and global on-highway support equipment commensurate with increased transmission unit volumes. And up 9% on a sequential basis, principally driven by higher demand for global service parts and support equipment.

Now, I will turn the call over to Dave Graziosi.

Thank you, Larry. Please turn to slide 7 of the presentation for the Q4 2013 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 $25 million from the same period in 2012, principally driven by $12 million of lower intangible asset amortization, a $9 million product warranty charge for specific product issues in 2012, and a $1 million charge to conclude a five-year labor agreement in 2012.

Engineering, research and development expenses decreased $4 million from the same period in 2012, principally driven by reduced product initiative spending. Interest expense net decreased $7 million from the same period in 2012, principally driven by lower interest expense as a result of debt repayments, the maturity of certain interest rate swaps, and lower rates on our senior secured credit facility. Other expense net increased $6 million from the same period in 2012, principally driven by decreased grant program income and the impairment of technology-related investments.

Income tax expense for the fourth quarter of 2013 was $25 million, resulting in an effective tax rate of 36.4%, versus an effective tax rate of 46.9% for the same period in 2012. The decrease in the effective tax rate was principally driven by a reduction in foreign taxable income.

Adjusted EBITDA for the quarter was $153 million, or 31.1% of net sales, compared to $132 million or 27.1% of net sales for the same period in 2012. The increase was principally driven by $7 million of costs to conclude the five-year labor agreement in 2012, a $9 million product warranty charge for specific product issues in 2012, and reduced product initiative spending.

Please turn to slide 8 of the presentation for the Q4 2013 cash flow performance summary. In view of Larry's comments, I will focus on specific cash flow activity during the fourth quarter. Allison continued to demonstrate solid free cash flow conversion and operating working capital management through consistent operating margin performance and pragmatic production planning commensurate with near-term end-market conditions and growth opportunities. In addition, the remaining 2017 maturity of $424 million, and the extension of our revolving credit facility from 2016 to 2019, resulting from our refinancing transaction, provide Allison with ample capital allocation flexibility, while maintaining our commitment to prudent capital structure management. Finally, Allison ended the quarter with $185 million of cash, $395 million of revolver availability and net leverage of 3.94.

Now, I will turn the call over to Larry Dewey.

Please turn to slide 9 of the presentation for the 2014 guidance -- end markets commentary. Allison serves a wide variety of end markets in various geographies. We have consistently articulated a strategy of maintaining our strong, fully automatic transmission market position in developed markets, while gaining market position in developing markets by demonstrating the fully automatic transmission value proposition. As we enter 2014, nothing about our long-term strategy or approach has fundamentally changed. We continue the march.

Allison expects 2014 net sales to increase in the range of 3% to 6%. Although we're not providing specific first-quarter 2014 guidance, Allison does expect first-quarter net sales to be higher than the same period in 2013. The anticipated year-over-year increases in first-quarter net sales is principally driven by higher demand in the global on-highway end markets, and the service parts, support equipment and other end market, partially offset by previously considered reductions in defense net sales and lower demand for North America hybrid propulsion systems for transit bus.

With that, I would like to highlight the following end markets assumptions for the full year 2014. For North America on-highway, we expect a net sales mid-point growth of 11%, principally driven by a continued market recovery. Our net sales forecast anticipates year-over-year quarterly increases with stronger growth rates in the first half.

North America hybrid propulsion systems for transit bus. Allison expects a net sales midpoint reduction of 23%, principally driven by engine emissions improvements and economically viable non-hybrid alternative such as powertrains fueled by natural gas. Such non-hybrid alternative technologies generally utilize a fully automatic transmission. A majority of the net sales reduction guidance is anticipated to occur in the first and fourth quarters.

North America off-highway. We expect a net sales midpoint growth of 31%, or $12 million, principally driven by a slowly emerging improvement in demand from the energy sector's hydraulic fracturing market. Our net sales growth guidance assumes quarterly net sales levels consistent with the fourth quarter of 2013. Despite the net sales midpoint growth of 31%, the implied 2014 full-year net sales of $51 million is 31% below the most recent peak quarterly level in the first quarter of 2012.

Defense. Allison expects a net sales midpoint reduction of 33%, principally driven by previously considered reductions in US defense spending to levels that are consistent with longer-term averages experienced during periods without active conflicts.

Outside North America on-highway, we expect a net sales midpoint growth of 10%, principally driven by increases in key developing markets through continued growth in fully automatic transition penetration and realization of vehicle releases. Our net sales forecast anticipates a slight improvement in European end markets after a weak first quarter, partly attributed to Euro 6 pre-buy activity in the fourth quarter of 2014.

Outside North America off-highway. Allison expects a net sales midpoint growth of 30%, principally driven by moderately improved year-over-year second-half demand conditions. We are closely monitoring developments in the mining and energy sectors to ensure Allison will benefit from recent vehicle releases and any improved market conditions. Service parts, support equipment and other, we expect a net sales midpoint growth of 5%, principally driven by improved global on-highway and off-highway service parts demand and increased support equipment sales, commensurate with higher transmission unit volumes.

Please turn to slide 10 of the presentation for the 2014 guidance summary. In addition to our 2014 net sales guidance of an increase in the range of 3% to 6%, we expect an adjusted EBITDA margin in the range of 32% to 34%, and an adjusted free cash flow in the range of $375 million to $425 million, or $2 to $2.25 per diluted share. Allison also expects capital expenditures in the range of $60 million to $70 million, and cash income taxes in the range of $10 million to $15 million.

On behalf of everyone at Allison Transmission, I thank you for your time this afternoon. Manny, please open the call for questions.

(Operator Instructions)

Jerry Revich of Goldman Sachs.

Larry, David, can you talk about some of the margin headwinds that you are expecting in 2014?

Looking at the margin guidance of 32% to 34% compared to the 33% last year, and in the context of some of your higher margin businesses picking up, just wondering if you'd just provide more context on what would get you to the lower end of the range.

Jerry, it's Dave.

As we think about margins, and we ran the same process with our 2013 guidance, as you recall, the midpoint is really what I would focus on there. And, frankly, the consistency to how we performed in 2013.

Having said that, you know that there are a number of different outcomes relative to volume. We try to, frankly, tighten the range as we go throughout the year. We believe that's prudent given where we are, frankly, in the various markets that we participate in.

As Larry went through the guidance by end market, there are a number of things that from a momentum standpoint, we obviously feel very good about. There are others that, as always, at this point in the year, we'd like a bit more visibility to.

But, overall, I think the tonality that you should be sensing is, I think, stronger footing, frankly, as we enter 2014 versus 2013. Having said that, we still try to manage off of a broader range at this point in the year, and we will tighten accordingly as we get further into the year.

Okay, thanks.

And, Dave, out of the $400 million free cash flow target at the midpoint this year, can you talk about what proportion we should look for, for that paydown versus cash returned to shareholders?

Obviously in 2013, you were roughly half and half. How should we think about 2014?

I think it's certainly a bit early for us to make those allocation decisions, if you like. As I mentioned, the flexibility that we have, we are certainly going to take advantage of.

Having said that, we are committed, as you know, to the quarterly dividend. That's plus or minus $90 million.

If you took the cash flow mid-point guidance there, that implies there's $300 million that's available for debt and other returns to shareholders, potentially.

The debt remaining, the tower in 2017 of $424 million, even if you straight-line amortize that over the next three years as a starting point, I think you can get to the math pretty quickly. As you know, our medium-term target that we focused on is that 3 to 3.5 times.

Given that we ended the year certainly just under 4, a half a turn there, lines up directionally with that 2017 tower. So we will certainly address that as we move into the year but remain very opportunistic about utilizing our cash flow.

David Leiker of Robert W. Baird.

Two things, in particular.

I want to start with the aftermarket, the service business. If you could talk about any particular areas that you are seeing strength, whether it's better utilization or some catch-up there.

And then the carryover on that is, with the strength in that revenue number, do we expect that to drive some upside on margin? It's hard to see where that is.

A couple of statements to that.

In terms of in that space, there are really three components in that: service parts, support equipment, and other.

One is the support equipment. And that certainly isn't as high as the service parts in terms of margin, but still profitable of course.

We are seeing some pick up in on-highway. And perhaps most encouragingly, for the view towards the off-highway energy sector new unit build, we are seeing pick up in the service parts there.

We've said and anticipated that there would be people getting equipment back to work before they would be buying new equipment given the amount that's idle. And we certainly have seen that here in recent months.

Certainly there is opportunity there for margin enrichment. I would say that, from where we sit, the other piece of that, and we've talked about the cascading of the different margins, there's a lot of work being done to expand in North America on that entry level activity. But then we ratchet up over time through the use of those pricing ladders that we've discussed.

As we enter those markets and gain that penetration, we're typically on the lower rungs; and we move up over time as they go through the emission.

The more successful we are outside North America, we do fund that with the increases in the other spaces. And that's why you see the range in a similar place.

As Dave pointed out, we continue to manage that. I think we have a track record that would demonstrate that we are not shy about trying to drive that number up.

Okay, great.

And then just one last item here. If we look at the North America on-highway business and some of the strength that you see there, can you give us any details in terms of particular vocations where you are seeing particular strength or where you are still seeing some weakness?

I would say that the year-over-year trends certainly continue to improve, as you know, up in Q4. We were up 12%.

The quoting activity was up. Dealer sentiment, based on some of the anecdotal stuff that we've gone out and gathered, Dealers do believe there is a pent-up need for new trucks. However, it would be fair to say some of the fleet budgets remain tight.

We are just starting to see a little more activity in the municipalities. It's gotten better than the trough, but it improved and then didn't really move much beyond that.

People are talking about -- not unlike the off-highway space -- talking about improving their utilization of their vehicles. That would appear to be reaching its natural limit from some of the feedback that we have. They've certainly done some of that.

We would view that, from the standpoint of the industry and our positioning in the industry, particularly some of the conquesting that we've done with a heavy focus on the Class 8 straight truck, a bit like sailing.

Where what we've done is we've tightened all the rigging. And when the winds pick up, the boat's going to jump a little quicker than what it might normally have done -- both in terms of some of the penetration work we've done, as well as some of the efficiency gains that the fleets have made.

We are seeing some movement in municipals, a little bit. We are seeing some movement in construction. Certainly we feel good about the level of activity in the lease rental space, and our positioning there that we've improved over the last couple years.

So those would be some of the areas. Transit bus is another one. Not the hybrids, the conventional, where we feel good about how we have performed vis-a-vis some of the other players in the market relative to share here.

So there are several things where we would say we feel good. There are others that they haven't come on as strong, as we all know.

Folks have been predicting a stronger recovery in that North America on-highway space. We've tended to be a little more conservative and have been a little closer to winning the office pool number in those situations.

Ross Gilardi of Bank of America.

Just a couple questions.

Just on services, given what you were saying before, you seem to be forecasting a real deceleration versus where you were in the second half of the year. Is that just conservatism? Or are you actually seeing anything in terms of trends which makes you think this trend is not sustainable?

We know that people had a lot of equipment that they weren't utilizing. If you look at the off-highway space, there are how many rigs? How many are idle, and how many are idled in need of repair?

As folks get those back to work, there will be a surge. And then it will taper off to the more normal levels.

The good news is -- using the off-highway for a moment, a little bit longer - they're running the rigs harder. They're running them more hours per day. And that says that then the amount of days, months, weeks, whatever, between overhauls are going to shorten up.

Because it really is a matter of hours. And if you are using them more hours per day, it's fewer days between overhauls. And long term, they do get thousands of hours out of these.

But nonetheless, if you go from 2,000 to 4,000 hours utilization, you've cut the time in half between overhauls. That's another reason why we are optimistic about that space.

So you would expect some of the demand to transfer essentially from the service business into the OE side on North American off-highway? Is that what you are saying?

Yes. They have to digest the rigs that they've got. They've got to get those running, and that will take some overhaul.

We've certainly seen that in the fourth quarter of 2013, as we described. It would be fair to say we haven't seen anything that has changed that trend here thus far in 2014.

Jamie Cook of Credit Suisse.

This is Andrew Buscaglia on behalf of Jamie.

Just a quick question on your SG&A and your R&D that ticked up a little bit sequentially.

Just looking into 2014, is your estimate for the SG&A to exit the year at this rate? Or how do you see that growing throughout the year? Same with R&D.

SG&A, I would say, expectations are flat to slightly up a bit, as we talked through last year. Certainly deferred a few items and actions where we are in the market and our view of things right now. From a momentum standpoint, we plan on moving forward with those this year; so that's reflected in our guidance there.

From an engineering standpoint, as we talked last year, we expect that number to be a bit lower this year. We are continuing to pursue the initiatives.

We've spent a significant amount of time talking about it already, in terms of new products, the TC10 coming to market, some other initiatives that we have that you will be hearing about as the year progresses. But from a rate standpoint, certainly would expect that to be down a bit year over year.

Got it.

And just to go over to your guide on -- it sounds like fracking ticked up sequentially, according to your guidance, up 31% for your North America off-highway.

Do you perceive this as a major turning point there? What else is in that 31% year-over-year increase in off-highway that you are so bullish?

The majority of that so-called turn, if you will, I wouldn't define that as major given that when you look at the full-year guide for that, that end market for us, it's still, I think, at a run rate about two-thirds of the first quarter of 2012. As you start to digest that a bit and think about that, I wouldn't define where we are at as major.

We certainly are seeing the market improve, as Larry mentioned, with utilization rates of equipment and, frankly, the industry working through some of the idled items that are out there. If you think about that going forward, we certainly expect some improvement.

But I don't, frankly, define what we've thought about this year as significant turn. We are going to have to get a little bit further into the year to draw a full opinion on where we are from that perspective in terms of the cycle.

But certainly from a calendar perspective, you would expect -- we expect -- more in the second half of the year from that angle.

Yes, I would just add a little bit to that.

There's no question there's been a turn. We had talked about last year a couple of times where you are almost down to the irreducible minimum. And clearly that has turned.

Having said that, we do remain very bullish because even with this increase, as Dave points out, there's still a lot of upside. If you look at what's been happening with some of the gas prices, if you look at what's happening in terms of rig utilization, if you look what's happening in terms of the number of rigs being put back into service, we think we are at the beginning of that.

Certainly, it's not an outrageous increase relative to historical, which would suggest there is more runway. That's the way we are looking at it. And it fits very nicely with some of the things that we are going to be doing in that space.

Andrew Kaplowitz of Barclays Capital.

Larry or Dave, can you give us a little more color on your 10% guidance growth for non-North America on-highway?

We know you have targeted double-digit growth in those markets. But if you look at 2013, you were relatively flattish, just up a little bit. I know you had a good fourth quarter.

But you've told us before that it's a pretty lumpy business, especially in places like China. So how do we look at 2014? How much visibility do you have in those emerging markets, like China and Russia, where you are usually pretty good?

In terms of the visibility, in most cases, even here in North America, we obviously get the OEM schedules -- subject to change, of course.

Maybe a little background here to start. If we think about -- just to give you a flavor for the splits here -- going back to 2013 for the outside North America on-highway, just a touch over half, about 51%, is Europe.

China is next at about 30%. Japan is 12%, much of which ends up, by the way, in Australia. Latin America is about 6%.

And India, because we're just getting started on some of the truck activity and the bus activity with the government situation, has been at a standstill, about 1% is all. So that gives you a flavor of the geographic split in those areas.

We are certainly seeing some growth in some of the key developing markets. We are starting to get some transmission penetration. Again, that tends to be an arithmetic progression.

After we get through the first quarter in Europe, we do see some slight improvement. We are not projecting a robust recovery there.

Certainly, we see some opportunities for buses in Europe, primarily in Turkey and the United Kingdom. The truck, that's where the Euro 6 pre-buy activity came into play.

We've got some activity going into South Africa there. Terminal tractors we think are going to be big.

Continuing around the world, China bus, we think we are well-positioned there. If you look at some of the share numbers, we've actually improved, primarily at the expense of Voith, if you look at the numbers in the market there.

China truck -- continue to expand ourselves, again terminal tractors and fire. We are developing segments in crane mining. Some of the work we are doing with some of the big players there, we feel pretty solid about that.

And then probably some of the other areas, if I looked at India truck, some of the new releases there, particularly some of the military programs that are coming into play.

Latin America, moving into front engines, city buses, new vocations and mixture in emergency in trucks and refuse and mining.

Refuse, we got the releases, we are starting to see some nice volume there. The challenge there is you get your pilot fleets, and then you continue to expand to others that look to them for guidance on what they should be specking in their vehicles.

A number of things around the world that we are working on. Economic conditions come into play a little bit. Europe hasn't exactly been real strong. There's been some challenges there.

China, we had some retiming. Some of the stuff got pushed into later in the year, and we were still able to capture that.

Mining in China, we got some releases there and the bottom fell out. We are starting to see that recover a little bit, although, frankly it's not going to be great shakes in 2014.

So there's still some runway ahead in some of the markets where we are well-positioned. And as those markets recover, we would expect that we'd even do better than some of the numbers that we've quoted.

Larry, that's helpful.

Maybe a related question around non-North America off-highway. You are forecasting pretty significant growth back half loaded for the year.

Your energy business fell off in the fourth quarter. Again, I know it's lumpy; so maybe that's just all it is. But energy's been up pretty big while mining's been down.

How do you look at the two interchanged as you go into 2014? How do we think about each piece? What are you expecting in that 30% growth?

Certainly a lot of it is tied to the energy. And what's going on there in the energy is a couple of things.

Number one, release positioning with our product. We feel good about where we sit there, some of the releases we gained vis-a-vis maybe some there. There are more folks in that space that are using our product than a year ago and two years ago.

What happened in China, and very often happens in a lot of places in the world, is when you start into something, there is a fairly significant purchase in the beginning. And, in this case, they probably overbought a little bit in the first half of the year.

And then they get the equipment running, and then they want to see how it runs. We talked about them digesting it. We talked about a pause in the market penetration, and that's exactly what happened in Q4 in China.

Now, we do see that picking back up. Like I say, they fulfilled those initial orders. They're doing the early assessments and some of their training and getting operating experience. We feel pretty good that as they get through that, that will pick up again.

Mining, we ended up in a lot of places where they tend to be more private sector because they think maybe more aggressively about the value of the product in terms of earning versus employment, frankly. So the mining in China, there was a little bit of divergence between the private mines, which struggled more than the government-controlled mines.

So that's something that we are working to try to change that by demonstrating how much more capable the private mines are. We do a lot of seminars with mining fleets. We bring them in to folks, and we show what the product is capable of.

That's going to be a little slower coming back, the mining. I think there are other folks in the space that have talked about that at length; so I won't repeat some of their observations.

We can talk about timing. There may be variation between players thinking when the timing is going to turn. But I think everybody would agree, it's going to be a little bit further down the road.

Rob Wertheimer of Vertical Research Partners.

Just to get definitionally, if I understand right, the off-highway segments, when fracking comes back there, is that only new builds? Or could that be a major overhaul as opposed to the services side?

They aren't a lot of complete units. So the overhauls would be in the service parts, typically.

We sell, for example, a couple different kits. One goes for, you're talking about $40,000 for one kit and $70,000 for a major overhaul kit versus new units, 4 times or 2 times the numbers, respectively --but overhauls, generally.

Now, there are some refitments that are done where they are pulling the unit and refitting. But that's typically very long in the tooth, and we wouldn't expect a lot of that.

But just in terms of definitionally, the midpoint growth of 31% with hydraulic fracturing in that segment, that's new fracking units?

Yes, that's new units.

(Operator Instructions)

Ann Duignan, JPMorgan.

You talked about OEM build schedules. Can you talk a little bit about what your OEM customers in North America are saying about the very strong orders we've seen in the last two months?

Are you having any discussions with them about increasing daily build or increasing orders? Or is everybody kind of taking a wait and see attitude on that?

It's really a mixed bag. There certainly is some wait and see.

I would tell you, we've had, it would be fair to say, a number of folks come in relatively -- well, inside of any kind of normal forecasting -- seeking more units in response to those orders.

We were taking a look at some data the other day, and I'm sure you guys see all this same data. But we were looking at inventory to retail sales.

Now, you usually see a low point coming out of the end of a year. But if you look at Class 6, 7 truck inventory on the retail inventory to retail sales, you are at a point -- you had some bump ups because of the low level of sales in, particularly, November and September. You had a little bit of a sawtooth action as we closed out the year.

But if you take a look at the December sales, a short month, you haven't seen a number like that since March of 2012. Now, you can get some spikiness. But, clearly -- and one month does not a trend make -- but there's a fair amount of activity, particularly in the low end of 6, 7.

If you look at Class 8 straight truck, that inventory to retail sales ratio is the lowest it's been since the end of 2011. And you've really seen not a significant improvement in terms of a dramatic one, but certainly a sustained one going back to from where they were at the end of 2012 through 2013.

Again, maybe still a little higher than what some of the pundits would say from a target standpoint; but it's come down quite a bit. In fact, it blew right through the high end of what's a normal number there to the low end, at the end of the year.

So we are obviously watching demand in some of the key spaces, municipalities, watching the refuse guys and talking to them, and talking to some of the construction guys.

We feel pretty good about construction. We are starting to see some activity there, as we mentioned; and that activity has continued.

Good. That's good color. Thank you.

And then we talked a lot about natural gas prices driving maybe an increase in rig counts and fracking. But on the offset then, are you seeing any postponement or any decline in orders for natural gas trucks?

Haven't seen that yet. I expect that there will be some tapering.

I think people were probably pretty juiced when they saw $1.95 a million BTUs, and it's bumped up. But I think some of the other operating issues, whether it's perceived as greener, et cetera, I don't think you are going to see a complete about-face.

But you will see some people looking at some operating cost issues, and they will try to take a look at what makes sense. They're generally trying to look out a year or so, or maybe longer, as you know because you can't look at spot prices and say -- That's how I'm going to run my vehicles. Because once you've made that choice, you are locked in.

Ian Zaffino of Oppenheimer.

It's actually Tom Narayan in for Ian. I know you talked about this are already.

But the international on-highway growth rate you guys have, a 10% growth rate, and I know you mentioned that 50% of that is Europe. Does that mean that the majority of this growth, is it coming from China? Is that what you also saw in the fourth quarter with that 18% growth?

Yes, a couple things. As Larry went through that, his reference in term of the breakdown geographically to 2013 net sales, Europe is about 51%. So that's the reference.

The growth rates certainly have some expectations around better performance. Europe after the first quarter, as we mentioned in the materials that were sent out before the call, simply because of some of the pre-buy activity in Q4 of last year.

The balance of the growth in terms of focus is really around, frankly, Asia and some of the continuing initiatives that we have there that Larry went through. As we said, we do not expect significant change, per se, in Europe.

Certainly some slight improvement in those conditions, but not significantly better on a year-over-year basis. So the balance was really focused on Europe.

Although we are planning on some growth in Latin America, as well, it's is still a relatively small portion of the total sales that we have outside of North American on-highway.

Okay.

And last question, what is the tax rate you guys are expecting for 2014?

In terms of book tax rate, close to the statutory rate, so plus or minus 38%. Cash tax is $10 million to $15 million.

Neil Frohnapple of Longbow Research.

Our channel checks indicate that there's strong initial interest from fleets for the new TC10.

Understand it's early days, but are you guys seeing similar trends? Can you just speak to how initial orders within Navistar have compared to your initial expectations?

Certainly we've stayed close to Navistar. And they've got their release processes.

We were down, we had a whole team down in their plant there in Mexico for some of their tryout stuff to make sure everything went smoothly. It did. They've given it the full go ahead.

So now the production orders are being slotted work. They needed to cross that wicket.

There is a lot of interest in it. We're spending some time, frankly, even this week.

We've got some folks in from the Navistar National Accounts Group teaching them about the TC10. Because we know they're going to be talking to the same customers, and they need to be equipped with the data that we have, the actual customer test fleet data that we have, in terms of what people actually saw when they ran that vehicle in terms of improvements in fuel economy and fuel efficiency and what the attributes of the product are.

So I would say that we've done a nice job getting the product exposed, and now we need to translate that into orders. We do have some orders.

And it will be, as we said, especially with a new product, people are going to buy some; they're going try some. And assuming it works well they will buy some more.

And we are right in that front end part of the process.

Great, thank you.

And there's been some mixed signals on US non-resi construction recovery. You mentioned you are feeling pretty good on construction activity.

Is that more on the resi side? Or are you starting to see a recovery in non-res?

And then, is the pick up more on OE or aftermarket? If you could just speak to that, that would be great.

The pickup, I would say, we are certainly seeing some on-highway parts pick up, as I indicated. The real driver there in that space, in the aftermarket space, has been the off-highway. No question. But, from our standpoint, it would be the OE side.

Construction, it really varies here in North America, almost by region in the country. There are some areas where the blend between commercial -- I think everywhere there's a little bit of commercial activity going on. The residential is a little spottier.

Alex Potter of Piper Jaffray.

I just had a very high-level question for you here. And I've asked you this before a couple times in the past.

But China, in theory, has large or more shale gas resource than we have in North America. So obviously, it could be a big game-changing event if they are able to actually start successfully fracking it. Obviously, they are trying.

I'm just wondering if, in your discussions with the folks over there who are buying your equipment, if you've picked up on a sense that they feel like they are succeeding? Does it seem like China could replicate what we did here in North America? Or does that still seem like a pipe dream?

I know that they had a number of institutional roadblocks and also some geographic problems, technical issues. Just wondering what your philosophical take on that market is.

I think, as you think about -- let's go really high level here -- if you think about the geopolitical situation, as I've talked to our people here, and it's why we have had a tremendous focus on fuel efficiency and fuel economy in our on-highway products. I personally believe that there are going to be a couple of pinch points in this world as we move forward.

It's going to be energy and it's going to be -- and it may not even be the availability. It's the economics of it which allows you to be competitive in global manufacturing and industrial capability.

And then the other is water. I won't bore us with the second one because thus far, we are not involved in that.

But from the energy side of things, China is not going to sit still. They do have the geographic challenges.

One of the things that came out that we've learned is that while there are not the road restrictions or bridge restrictions or the focus on that as there is here in North America, weight is important because of some of the relatively-remote areas they need to get these products into, just from the sheer difficulty of maneuvering vehicles.

It's not necessarily laws; it's the laws of physics, I might say. So that's been probably one of their biggest challenges.

From the standpoint of intent, there's no question if you look at what the government has done that there is going to be support for that. So we think it will maybe move a little slower. Let's not forget that many of the companies that were involved here in North America had been doing this for decades.

So the notion of responding quickly, and they are fairly refined in their rig design, et cetera, so they were able to move very quickly when the opportunity presented itself. And I think that some of the key players in China are maybe just a little further behind on that learning curve.

The other thing is access in some of these places to water, which is a challenge as well. Whereas here in the States, while there's a lot of discussion on that and all of the issues surrounding that, access to it really wasn't a problem.

Okay, I appreciate it. Thanks, guys.

There are no further questions in queue at this time. I would like to turn the floor back over to Mr. Dewey for any closing remarks.

I appreciate everyone's interest. And we'll look forward to speaking to you with the first-quarter 2014 results. Have a good evening.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. And thank you for your participation.