康明斯 (CMI) 2002 Q1 法說會逐字稿

Ladies and gentlement thank you for standing by, welcome to the Cummins Inc. first quarter earnings conference call during the presentation all participants will be in the listen only mode. Afterward we will conduct a question and answer session. At that time if you have a question please press the one followed by the four on your telephone. As a reminder this conference is being recorded Thursday April 25, 2002. I would now like to turn the conference over to Karen Battin, Director of Investo Relations. Please go ahead madam.

Thank you . Welcome everyone to our teleconference today to discuss Cummins results for the first quarter of 2002. Each of you should have received a copy of our press release with the copy of the financila statement. If you have not received these copies please let us know and we will fax them or email them to you at the end of the teleconference. Participating with me today are our Chairman Tim Solso, our Chief Financial Officer Tom Linebarger, and our new Corporate Controller Susan Carter. We will all be available for your questions at the end of the teleconference. This morning I will take to the summary of first quarter results then Tim has a few remarks about the business and finally we will have a question and answer period. This teleconference will include certain forward-looking information. We will talk about power generation market, the outlook for the North American heavy-duty truck market and other market for our products. We will talk about the prospects for our business in Asia, Europe, Latin America, and other regions. We will discuss product cost, product coverage, or warranty cost and profitability improvement initiative. Any forward-looking statement about these and any other topics involves risk and uncertainty. The company's future results may be affected by changes in general economic conditions and by the actions of customers and competitors. Actual outcomes may differ materially from what you expect in any forward-looking statement. In more complete disclosure about forward-looking statements begins on page 20 of our 2001 Form 10K and it applies to this teleconference. Let me began by summarizing Cummins first quarter results.

In the first quarter of 2002 Cummins recorded sales of 1.333 billion dollars. This represented a 1 percent reduction from sales of 1.349 billion dollars in the first quarter of 2001 and reflects continued weakness in North America end market as well as weakness in several international markets. Earnings before interest and taxes was a loss of 15 million dollars compared to a loss 6 million dollars in first quarter 2001. Net earnings in the first quarter was a loss of 29 million dollars or 75 cents per share compared to a loss of 26 million dollars or 68 cents per share in first quarter 2001.

I will discuss each of our four business segments including our new international distributor business. First I will begin with Power Generation. Sales in the power generation business for the first quarter were 283 million dollars down 8 percent from the first quarter of 2001. In North America, revenues were down compared to a year-ago with lower demand in our commercial Genset business due to lower economic activity generally, mild weather conditions that have reduced emergency power needs, weakened telecom market, and high inventory levels in the marketplace. Revenues also decreased in Europe and India compared to first quarter last year. Revenues were up in Latin America primarily driven by increased demand for power generation equipment in Brazil due to the continued effects of the energy crisis there. In the first quarter of 2002, power generation had an operating loss of 15 million dollars compared to an operating profit of 8 million dollars last year. There were three main factors that led to this variance; first the volume decrease and product mix had a significant impact on earnings with the unit decline being primarily in larger power generation equipment, which typically had higher margins. Second sales in North America and Europe declined substantially in the quarter resulting in underabsorption of fixed overhead cost at our plants. Third excess inventory in the marketplace created pricing pressure, which forced heavier discounting to retain market share. Revenues for the filtration and other segments were 228 million dollars for the quarter , a 6 percent increase compared to the first quarter of 2001. Filtration business revenue was up in North America primarily due to beginning signs of slow recovery. Revenues at the Holset turbocharger business increased from the year-ago sales in China. This segment's operating earnings for the quarter were 18 million dollars versus 16 million dollars last year. This change is primarily the result of the discontinuance of goodwill amortization. In addition incremental expenses for the segment's new emission solutions business were offset by benefits from restructuring and Six Sigma cost reduction efforts. Sales for the international distributor business were 124 million dollars in the quarter, a decrease of 9 million dollars from last year. The majority of the decrease resulted from certain OEM sales now being reported in the engine business. These were sales of engines that for our business would typically not flow to the

distributor and would be considered engine business revenues. This change was to standaridized our reporting. Excluding the effect of this change, sales for this segment increased 6 percent with higher sales in Asia and Australia partially offset by reduced sales in Argentina due to the devaluation of the Peso. All other areas were on plan for the quarter. Operating earnings for the segment were 1 million dollar for this quarter compared to 4 million in the prior year's quarter. This reduction was driven by currency losses resulting from the devaluation of the Argentine Peso, which amounted to over 4 million dollars. Excluding this impact, operating earnings increased 1 million dollars compared to a year ago on a 9 million dollars decrease in sales.

Moving to the Engine Business. Total sales for the engine business in the first quarter were 776 million dollars, essentially flat with sales of 768 million dollars a year ago. Revenues in automotive markets, which as a whole were up 3 percent year-over- year reflected increases in the light-duty automotive and RV business partially offset by decreases in heavy- and medium-duty truck markets. Overall revenue from industrial markets was down year-overyear with decreases in construction and mining sales partially compensated by improved sales in agricultural and marine markets. Operating income was a loss of 19 million versu a loss of 34 million dollars in the first quarter last year, a 15 million dollars improvement on essentially flat sales. This improvement in profitability was attributable to our aggressive focus on cost

reduction programs, which improved margins and drove down Selling, Administrative, and Research for (SAR) spending. Product coverage costs also showed some improvement in the quarter. Let us review each of the Engine Business market. Turning first to the heavy-duty truck business. Revenues for the heavy-duty segment as a whole were down 7 percent in the first quarter from a year-ago while unit shipments globally were down 26 percent. The revenue decrease was less than the unit decline due to part sales, the mix shift from N14 to ISX engine since last year, and better-realized pricing. Unit shipments in North America were down 24 percent , while unit shipments to the rest of the world were down 33 percent. Most of the drop internationally was due to a reduction in shipments to OEMs in Mexico and Europe. In the worldwide medium-duty truck and bus markets, total revenues decreased 4 percent for the first quarter year-over-year. Medium-duty truck engine shipments were down 30 percent in North America with reduced shipments to OEMs. International shipments were up 12 percent with higher OEM sales in Europe and Brazil. Global bus engine shipments were down 19 percent with a 27 percent drop in North America and a 7 percent decrease internationally, primarily in India, which was partially offset by increased shipments in China. In the light-duty automotive and RV business, revenue was up 30 percent this quarter compared to a year ago. Engine shipments to DaimlerChrysler for the Dodge Ram pickup truck was 4,500 units higher, which was an increase of 29 percent from 1Q01 resulting from less production

constraint at Chrysler and improving demand. Retail sales of cars and light trucks are up 10 percent to 15 percent from last year. Unit shipments for RV engines increased 39 percent year-over-year from very weak levels reflecting recovery in consumer markets, growth in the diesel-powered segment of this market, and Cummins' increased share with OEMs. Sales to industrial engine markets in total were down 2 percent from the year earlier. In the construction equipment market, worldwide sales were down 7 percent year-over-year. Unit shipments of engines in North America were down 14 percent reflecting the continued weakening of construction equipment market. Sales of Cummins' new B3.3 series engine continued to increase in this market as OEMs engineered into their product lines. Shipments to international markets fell 20 percent compared to the first quarter of 2001 due to a decline in sales to Europe and Korea. Sales for the Agricultural equipment market increased 56 percent from last year of a very low base with most of the increases in Europe were demanded improvement. In the marine market, unit shipments were down 17 percent while revenue was up 7 percent at shipments of higher horsepower engines offset the impacted weakness in the smaller engine recreational marine market. Revenue in the mining segment decreased 13 percent year-over-year reflecting some softening in the marketplace. We have significantly increased our share in this market calibre.

Returning to the corporate level I would like to reveiw our total sales by region. In the first quarter our sales mix was 54 percent US and 46 percent International roughly the same split as the first quarter of last year. For the first quarter compared to a year ago sales in the US were down 1 percent and International sales in total also were down 1 percent. The International sales variances were mixed with increased sales in China, Australia, and Latin America partially offsetting revenue declines in most of Cummins' other international markets. Sales in China were up due to strong and construction shipments. The energy crisis in Brazil continued to boost the demand for power generation equipments there.

Sales in Australia also increased year-over-year due to higher international distributor sales. Sales in Europe, Africa, and the Middle East were down substantially primarily due to a drop in construction demand. In Korea, demand from construction market OEMs remained weak. In India, revenues declined to a drop off in sales. Sales in Mexico decreased due to lower sales in heavy-duty trucks, bus, and power generation markets.

Next I would like to discuss corporate gross margin. The gross margin on sales for the quarter was 17 percent compared to 17.2 percent in first quarter last year. Product coverage cost was 3.5 percent of sales or 46 million dollars compared to 3.8 percent of sales or 51 million dollars a year ago. This improvement is the result of both lower heavy-duty engine volumes and the improved performance of our newer engine models, where we have focused significant quality improvement efforts.

Excluding warranty cost, gross margin for the quarter was 20.5 percent versus 21 percent in the first quarter last year. In dollar terms, gross margin was 272 million dollars down from 283 million dollars a year ago, a difference of 11 million dollars. The deterioration of the power generation markets was the most significant driver of this decrease. The impact of the sales volume decline on gross margin was 3 million dollar. In addition, the power generation mix shift and the under absorption of manufacturing costs at our heavy-duty and high force power plants negatively impacted margins in the

quarter. Our cost reduction efforts enabled us to mitigate these unfavorable variances. Total SAR spending in the quarter was up 6 million dollars year-over-year. Selling and administrative expenses increased 3 million due primarily to the fact that we had one additional week in this year's first quarter compared to last year. This resulted in 15 million dollars of incremental expenses, but was partially offset by benefits of cost reduction efforts. Research and engineering expenses increased 3 million dollars compared to last year as a result of incremental costs incurred to meet upcoming emission standards. Income from joint ventures and alliances in the first quarter was zero compared to 2 million dollars in the first quarter last year. Other income was 1 million dollars compared to expense of 4 million dollars a year ago. The discontinuance of goodwill amortization was the most significant factor contributing to this variance. Interest expense for the quarter was 14 million dollars compared to 23 million in first quarter of last year this was principally a result of lower borrowings in the quarter due to the issuance of our convertible preferred securities in the second quarter of 2001 and lower

interest rates. The dividends on our preferred securities are shown as a separate line item on our income

statement. As a reminder those dividends are tax deductible and the related tax benefit is included in our provision

for income tax. Net earnings for the quarter were a loss of 29 million dollars or 75 cents per share on 38.5 million average shares for EPS purposes.This compares to a loss of 26 million or 68 cents per share a year ago. Let us turn to cash flow.

Free cash flow from an operation perspective for the quarter was an outflow of 100 million dollars compared to an

outflow of 40 million dollars a year ago. Our statement of cash flow that you should have received indicates a cash outflow for the quarter of 65 million dollars from operating and investing activities. To arrive at the 100 million free cash outflow, we removed the effects of items we considered to be financing activities for free cash flow purposes. In this quarter, the only adjustment necessary was a 35 million dollars inflow from receivables as we increased the fundings under our receivables securitization program. The biggest driver of the cash outflow was a 105 million dollars increase in receivables this was due to a disproportionate amount of our first quarter sales coming in the month of March where payments were not due until after the end of the quarter. Tax dues as a percent of receivables were not up this quarter. Inventory levels were up in the first quarter primarily in power generation due to the significant drop off in sales. We expect to burn off this excess in the next 3 to 6 months as demand improves. Capital expenditures were 18 million dollars for the quarter down from 62 million dollars in last years first quarter as we continued to aggressively manage capital spending.

Thank you now I will turn it over to Tim

Good morning as Karen reviewed with you, we had weak operating results in the first quarter as we had previously forecasted. The majority of our end markets declined further from what we were already extremely low level. With demand at these steps, earnings were significantly impacted. However, we believe demand hit bottom in the first quarter in most of our markets and should improve slowly going forward. The power generation markets have been at very weak levels for the past two quarters. We see some signs of improvement in demand, but we expects the improvement to be slow. Excess inventory in the marketplace is also having a substantial impact on pricing. We are maintaining our market position but our margins are lower as a result. RV markets are improving and we expect increased volumes in excess of 20 percent for the year. Our commercial business in North America is down significantly and we don't see substantial improvement until broader economic recovery occurs. We have has gained new business in Latin America for larger power projects and

continues to work on opportunities there for the near future. Rental business demand will improve during the summer and fall months and increase globally with our expanded fleets. Overall, most of our power generation markets are experiencing a short-term thrush. However we still see this business as a significant opportunity for Cummins with revenue growth of

10 percent to 15 percent and EBIT margins of 8 percent to10 percent. In particular we see the distributed generation segment of power generation is having the greatest growth potentila and with our expanded product line we are well positioned to participate in this market opportunity. The Filtration and other businesses delivered solid profits in the first quarter. Through restructuring and Six Sigma cost reduction efforts, they generated savings to fund important growth initiatives in the emission solutions business. We beleive this segment will continue to grow profitability through ongoing cost reduction programs as demand rebounces in key markets. In our International Distribution Business the first quarter is generally seasonally weak due to significant Asian operations. The business had a reasonable quarter across the board except for the negative impact of the Argentine Peso, which devalued over 50 percent during the period.This amounted to a loss of over 4 million dollars for our business. Excluding this currency loss segments profits would have been compared to a year ago and EBIT margins would have been over 4 percent of sales. We expect the remainder of 2002 to be more profitable for this business. The Engine Business demonstrated considerable improvement in results compared to the first quarter a year ago. Operating losses were cut really into half on essentially flat sales. This reflected the benefits of the significant cost reduction programs achieved by this business. We believe that the markets in this business have finally bottomed with some markets showing signs of improvement going forward. North American heavy-duty truck markets appear to be rebounding though there is still a great deal of uncertainty in the market. Cummins was the first engine manufacturer to receive EPA certification of its engine for the October 2002 emission standard. This is a significant accomplishment that require dedication and commitment on behalf of the company and its employees. We are proud of our acheivement and beleive it will position us well on achieving our strategic plan for the hevy-duty business. We are confident that together with our OEM partners we can offer the best products to meet our customers needs. We believe this provides us a competitive advantage when the new standards take effect to both grow market share and improve profitability. The Dodge Ram pickup business with Chrysler is continuing to improve and we expect the second half of 2002 to return to levels seen in 1999 and 2000. Chrysler is introducing a new model pickup in mid 2002, which we believe will be very

well received in the marketplace. Sales for the recreational vehicle market also improved with increases in both demand

and market share. As Cummins has vast majority of share of both engines and generator sets for RV's we stand to benefit significantly as this market grows. Cash management remains an area of intense focus for us. While we used 100 million dollars of cash in the first quarter this was primarily a result of timing, but not a sustained use. The cash outflow came primarily from the increase in receivables at quarter end, which resulted from high percentages of our quarter sales being shipped in the final months of the quarter. This is typical for the first quarter. For the controllable areas of cash our performance was much better. Cash due receivables remained single-digit percentages maintaining the improvement

achieved last year. Days sales outstanding were up from the end of the year were well below average 2001 levels. Inventory turns improved and capital spending was at record low levels. As we look foward to the remainder of 2002 we believe the worst is behind us but we do not expect significant broad recovery in the near term. Through our cost reduction efforts we have substantially improved our cost structure and lowered our breakeven point. This has and will continue to benefit us in the near-term and positions us well for the market upturn. From what we see at this point we are maintaining our guidance for the full year 2002 at 70 cents to 80cents per share though we now expects earnings at the lower end of the range. Total company sales for the year is expected to be flat to up 5 percent compared to 2001. With the recent dip in our power generation market we now expect sales for that segment to be down 5 percent to 10 percent. The Engine business shows signs of improvement and markets indicate sales growth for the year of 5 percent to 10 percent. For the second quarter of 2002 we expect profits of approximately 20 cents per share. Now we will take your questions.

Thank you. Ladies and gentlemen if you like to register a question press the one followed by the in your telephone. request. If your questions has been answered registeration please press the one followed by three. If you are using a speaker phone please lift your handset before entering your request. One moment please for the first question. Our first question comes from David Raso with Salomon Smith Barney. Please proceed with your question.

Thank you. A question on the near-term earnings, the mix here is engine getting better and PowerGen getting weaker. Just trying to get better hand on the operating leverage within these individual businesses, as you said the first quarter engine business, pretty good performance on the profitability given not much change in your revenues year-over-year, but the PowerGen obviously is weak. Can you give us, first the hand PowerGen going forward, the mix, it's not going to get any better any time sooner on the diesel, the bigger megawatt, 1 or 2 megawatt size on the PowerGen, that's going to stay weak and the smaller engines are doing well. Can that business return to profitability in the rest of the

year and in each quarter?

Yes. This is Tim, let me talk about the power generation business for a minute as it tells that we have been quite disappointed in the last two quarters and obviously our forecast for demand was wrong. I think the part that has surprised us, but now we have a much better on it is the commercial standby generator set market

primarily in North America. And what has happened in the last two quarters is that as the demand fell significantly as much as 25 percent to 35 percent both ourselves and our competitors continued to build inventory, which was primarily in the first quarter and started to be burned off. That caused some pricing discounting action going on. That inventory is still there and

will need to be burned off over the next 3 to 6 months. If you put that side of the business away, you can see the consumer business and RVs generator sets, where we have over 80 percent market share, which is up 20 percent and we are forecasting an increase in that. The rental sets are naturally underutilized in the wintertime. We are now moving into the

summertime where standby peaking requirements are needed in North America. We are signing those contracts and we expect that business to be better in the second and third quarter. We have also converted a lot of the rental set fleet from North America in the global markets where we have some contracts. When you look at the larger power projects, we have

three orders in Brazil that will be filled in the second and third quarter, which brings that business back which has been very flat in the fourth quarter last year and first quarter this year. In addition, as a reaction to the lack of demand in the one segment of the commercial standby generator set, we are in the process and have reduced headcount, another 500 people, which is around the world. So, we will continue to reduce our cost in PowerGen. We will see that effect more likely in the third and fourth quarter as we go forward. So again, the commercial market has been quite negative, but we

think we can see improvement in the other parts of power generation. In the long-term, the trends are still there. The demand for reliable power is there around the world. We are positioning ourselves with the broadest product line built in diesel and natural gas. While it has been a disappointment in the last two quarters, we still are confident of the long-term

advantages of that business.

Would you put out a range for the operating margin for PowerGen for the year? What do you think it can be, in the last year any range 3 percent or 4 percent?

I can't give you a good news of the year. It is unlikely to meet last year's levels. We are confident that we will be profitable in the business. As Tim said the trends are clear for the second quarter that we will do substantially better, not as well as we would hope when we originally put our guidance out there because we see the same way you do. PowerGen will be weaker and engine business will be stronger, but we do think we will get backup towards our normal profitability levels there as the year goes on because, just like the other businesses, we will continue to drive cost reduction to improve margins for the year.

On the engine business, good first quarter performance year-over-year knowing a loss, but going forward about that leverage, you made an interesting comment about the shift from the N14 to ISX, the better profitability profile on top of, you said, PowerGen inventory was up, but total company inventory was down nearly 7 percent. What is the leverage you are

looking at engine? I assume the inventory must be very low in the engine business, total company is down and PowerGen is up. You are getting a better mix ISX vs. N14? I need some help on understanding how big of an impact does that have? Can you give us some help on PowerGen vs. engine profitability on near-term?

At this stage, absorption or a kind of operating leverage is still significant issue for us on heavy-duty plants. Heavy duty is still at very low levels. What we have been on for the last, nearly 7 quarters is figuring out how to reduce fixed cost and be more efficient in our plants. We have done both variable cost reductions through people reduction and also Six Sigma projects and others to improve efficiency and to reduce cost. We are still operating at very low level. While we saw a little bit of improvement over March, it is still below the forecast we had for heavy duty back in October. The absorption rates are still an issue in heavy duty and each incremental sale there has a pretty significant positive impact. In the power markets now, with PowerGen we also are at lower absorption levels since they had dropped off as you mentioned the one or two megawatt

sets.

Is that in the engine business?

Right, that is in the engine business. Engine business has that plant as well. On the medium-duty plants, we have a sort of mixed view on absorption in the plant that supplies Chrysler. We are still, at relatively low levels historically by and we will get significant advantage in those plants particularly as we move into the second quarter and third quarter and really start to ramp up demand for price. We will get significant advantage there. The other mid range plant is more driven by construction markets. So, that will attract more construction.

Can engines be profitable starting next quarter and for the year?

Engine business, three years ago was running at 4.1 billion dollars and we think it will be around 3.3 billion dollars this year and their target is to breakeven at that level. They will be very close to that. I don't know if they will get to that point. I will just add that significant part our gross issues is the absorption in our heavy-duty engine plants and the plant in Daventry, England, which is our high horsepower entered to the degree that as the heavy-duty engine business improves, our gross margins will improve. The leverage going up, the same as it was going down. It is better because we have lowered our break-even points. To the degree that how you forecast the heavy-duty business, we should get a benefit from that. As far as the high horsepower is concerned, half of that business goes to power generation and to the degree that doesn't recover. We will still have an absorbing issue in the Daventry plant, which is included in the engine business.

We are forecasting David that we can get a breakeven point with the engine business in the second quarter.

What is the order picture for fourth quarter? What is the take on? Any orders into fourth quarter?

We are forecasting fourth quarer to be lower than second quarter and third quarter. There are some key uncertainties, but I am going to take the best few that we can. We do anticipate being profitable.

Ok back in thank you very much.

Next question comes from Gary McManus with J.P. Morgan Securities, Inc. Please proceed with your questions.

Hai Tim, Tom, and Karen. You talked about the October emissions, there is a lot of going on. As you know, is not there, they are going to emphasis big noncompliance term . Any chance that these term are reduced for that? What kind of prebuy impact do you think there is going to be?

What extent are you going to raise production between now and October? There is a lot of talk on the fuel economy being negative on the new engines vs. the old engines and you have got to get a field-testing on that. Can you tell us what is happening out there in all these areas?

I am greatful Gary. Let's talk about the prebuy first of all. Our early estimates were that it could be as much as 10,000 engines and we have seen some activity and has had discussions with most of the OEMs and we think that there could be as much as 5,000 to 10,000 more. So, the prebuy, there is a lot of action going on right now. However, I was at the truck rental

and leasing convention as a speaker there. I probably talked to 15 fleets. Some of these are fairly large fleets. They were asking me the same question about what should their ordering patterns be, what's all of the uncertainty and confusion that's in the marketplace. However, every single one of them said that if they didn't have the to , if they couldn't get value for the trading on their used trucks and they couldn't utilize the truck right after that, they were not inclined to do the prebuy. So, I think still the conditions of the amount of used truck inventory, the availability of capital

will dampen some of the hysteria that I think is out there. If you look at, in terms of our position is that we are certainly certified the ISX engine, our B engines will be certified. We will apply for that fairly certain. To our knowledge, there is only one other engine manufacturer who has submitted an engine for an application for certification. All of the engine manufacturers with the exception of one are using cool . In terms of our product, we have been in the development for more than three years. We will have 6 million test miles, which is more than normal on a product introduction and 115,000 test hours. There has been over 31 trucks running for two years. We are in production. We produced engines in March. So, we are doing the manufacturing verification. In terms of the operating results, we think that the fuel economy will be better than any of our competitors and will be as good as our best engine today. There will be some deterioration. We continue to work on that. But, the rumors in the marketplace tend to be exaggerated considerably in terms of reliability, in terms of performance, in terms of oil change intervals, and all that. It will be the same or better than what our engines are today. I think that the competitive pressures and the uncertainties have created an opportunity to have rumors. We developed a website (indiscernible) in order to combat some of these rumors. So, we update it regularly. So, when we find out that people need

information, then we can provide it on an accurate basis. As far as the NCPs go, they are non-conforming penalties, they have been published and approved by the EPA and approved by the Office of Management and Budget (OMB). There was a common period that is now closed and the next steps are for the EPA to put the final numbers to the OMB for their approval. What we have been pulled by the regulators. There was nothing said in the comment period that would substantially or materially change their perspective. As far as the political and legal maneuverings or something, I really can't comment on that. We have made the investment. We have played by the rules and we have an engine that's certified and we think that's the right way to go.

Ok thanks. Just kind of an followup in that, what is the pricing strategy, you have to spend a lot of money to develop these engines. One of your competitors, presumably have to pay high levels of NCPs for a while. What's the pricing strategy?

I don't want to talk about our pricing strategy. What we have said is that the engine price could go up anywhere from 2,500 dollars to 3,500 dollars, but because of the competitive positions in the marketplace, all of the engine manufacturers are really not talking publicly about their pricing strategy. This is really one of four steps in our strategy for the North American heavy-duty market. We wanted to have the most competitive engine at the 2.5 gram standard. We think we will do that. We think we are doing that right now and that will allow us to have a competitive advantage, which will allow us to both gain market share as well as improved profitability through pricing. We have talked about this through many of the teleconferences. But, the first step was to find partner OEM. We have really done that through long-term sales agreements which has allowed us to do the second part which means price differently and we, basically now are not involved with the

discounting of the historical thing. Then they have the and then drive cost out of the system and we are continuing to look at options that will substantially reduce the cost of our heavy-duty business and we think those four primary steps will allow us to have a very good business earnings of 5 percent through the cycle. We are well into it, but isn't

without risk. But, we are right where we said we would be when we put this business model together.

Thanks Tim.

Our next question comes from Mark Koznarek with Midwest Research. Please proceed with your question.

Thank you. Just a clarification here there is a comment about an extra week in the quarter. Do we lose that week somewhere in the year that makes for a better cost comparison coming up?

The way it works is that it doesn't at all come in one time. All we did was, in the first quarter we have got closer to calendar of course. We are just trying to get closer to just calendar each quarter. So, it is relatively minor. It was not a strategic adjustment was matched up. So, it doesn't come back a couple of days in a quarter. There will be a substantial change in the future ones. The will be no shorter launch of one of the quarter in the future, substantially.

In terms of heavy duty, what's your production and/or demand outlook for this year has a change from the prior quarter? How do you see your production rates scheduling out in second quarter, third quarter, and then the fall off in the fourth quarter?

Our numbers have increased somewhere between five and I am sorry 10,000 and 15,000 units and so we are now seeing somewhere between 137,000 and 143,000 as opposed to what we have planned to be about 127,000 or 128,000 before. We are seeing increased demand from all of our OEMs. We have adjusted our bill rates and they are going up. We would expect to see some of that this quarter and probably a greater increase in the third quarter and there will be a decrease in demand in fourth quarter again due to the change in the emission standard.

Hey Mark I just got to correct it now and want to make sure people here it your question about the days, nearly all the days come back in the fourth quarter so that the fourth quarter will be shorter than a year ago by nearly the full week.

Ok great, on follow up to that Tim's response on the engine, the second quarter increase in bill rates and then the further increase in third quarter , are we talking about a doubling by third quarter versus the first quarter? What kind of order magnitude we are talking about here?

I don't think it is doubling. I would just assume that it is a gradual increase throughout that period. I don't want to be anymore specific than that.

And that is how you are managing the cost side of that such that you don't have big absorption problem in fourth quarter?

We are not bringing back people. We will manage our variable cost around it. We have had a Six Sigma project in terms of restructuring our assembly process that I think we can get a very big improvement in productivity. So, it is not in any one's best interest to have a huge spike in demand to bring away cost back and then have that to relay it off in the fourth quarter. So

We are being extremely careful about that.

In the fourth quarter, we will not have in production here in Columbus and settle how to take costs out of the business. We don't have a do for any.

Ok then a final clarification here, did tom say that the powergen would be profitable in second quarter?

Yes.

Our next question comes from Joanna Shatney with Goldman Sachs & Company.

Good morning.

Hai Joanna.

The prebuys you talked about the 10,000-15,000 units, it's a significant number well more down do much from the peak, but it doesn't sound like you are seeing the prebuys going to impact 2003 units that significantly. Is that true?

Yes I got it you were asking the opinion. This is not a hard fact and it's just based on the conversations that I had with both fairly large fleets and their pattern and these are people I have known for long time as well as the OEMs. We are seeing increased demand right now and a part of that maybe a start of the slow recovery and part of that is the prebuy. I can't really know what's going to happen in the third quarter or the fourth quarter, but our expectation is this is going to be modest which would not have an impact in 2003. I think we will be seeing a recovery in the heavy-duty truck market in 2003/2004 if you look at the patterns. I feel that from our perspective, we really did bottom in the first quarter of this year. I thought it would have been in the fourth quarter of last year, but we went down again.

Ok. Can you talk a little bit about cost reduction? In the last conference call you talked about to be an incremental 25 million dollars in 2002 vs. 2001. How much of that did we see in the first quarter and has that number changed for the full year?

What we are really planning on and seeing is a net 10 million dollars reduction in cost in each quarter, going forward. Most of that that we realized in the first quarter came from the efforts of the engine business, but if you go through our direct and indirect material purchasing programs, you look SAR, especially look at Six Sigma and also capturing the two restructurings that we have done in the last 18 months, we are seeing we are on plan with our cost reduction. The absorption has been in two areas. First, heavy and medium duty truck is at very low levels. We have lowered our breakeven, but you can only go so far as we have had an absorption problem there that the cost reductions have helped mitigate, but not completely eliminated. Second, in the commercial generator set businesses stand by and that's at Fridley, Minnesota absorption, it's new engine England, and it's our Daventry engine plan. If you look at those four areas, that's where our problem or that's

where the challenges have been. We think that we are going to see an increasing demand in the medium and heavy-duty so that should help on that absorption. We think we will still have some issues on the commercial genset side for at least another six months as their inventories burned off.

Ok. And then last question this time cash flows, can you tell us what the free cash flow is going to be for this year?

We still think it's going to be in that 60-80 range. I put the number in the lower end of the range instead I said with the profit. Because of our comments before that we think a lot of our working capital movements were essentially timing rather than anything else and the ratios have demonstrated that, our viewers will get to back to that same place. There is no question that there are challenges thereby. Like cost reduction we have got lot of focus on those areas and I am confident that will that there our capital a lot higher as going well and we are going to still have our inventory and receivable programs. So, I am confident we still get to the same place.

Does that sounds like the CAPEX numbers of the year might go lower? Can you just give us an update there?

I think so. When we talked about 150-170, I see that at the lower end of the range. It will be a little bit lower if I think right now. We see it at about the same range and the lower end.

Ok great thanks very much.

Our next question comes from Andy Casey with Prudential Securities. Please proceed with your question.

Good morning Tim, Tom, and Karen. Got a few questions a lot of main questions are all been asked but in terms of the first quarter cost reduction and 10 million dollars benefit most of that you said came from engines. Does that include product coverage cost benefit?

No. I was really referring to the first would be Six Sigma, second would be the benefits from the two restructuring programs that we have had, and third would be on the direct and indirect purchasing. I think because the volumes have been low in some of our markets and some of the supplier agreements that we have had, we are seeing some pressure for pricing there. So far we have been able to manage that fairly well. The improvement in product coverage would not be included in 10 million dollar, but that would be in addition to that.

Ok and then in terms of power generation, last quarter you talked some of the restructuring actions at Fridley. Are those mostly behind you now?

The one we didn't complete on time was the movement of the smaller alternatives from Fridley, Minnesota to Mexico. That's pretty much done now. So we should be seeing the benefits there. The other was the move of the electronics businesses and we saw some spikes in certain types of demand and so we didn't go smooth, as we wanted to. That was really in the third quarter and fourth quarter of last year. So, we are through that. But as I indicated little earlier. We are going to be

taking more headcount out of the power generation businesses because we don't anticipate the volumes coming back. We have already done that in some cases in the first quarter and most of that would be completed by the end of this quarter.

On powergen in the commercial market in the second quarter, are you expecting a sequential deterioration or sequential kind of less than seasonal improvement there?

No, the best way we can predict would be certainly at the levels what we are seeing in the first quarter. I out myself in the market last week and called on some non-regulated subsidiaries of utility companies, some big electrical contractors, and also electrical consultants who was trying to get a feel personally about what was going on here and all of them indicated that there was more activity on the market that they were starting to see more action or more activity in this area. I don't think it's going to go anywhere. Since that impact of September 11, you have got was a fairly mild

winter. Some of the boom markets like telecom aren't there anymore. I can't foresee right that this is going to get the worse, but as I said that we and our competitors didn't anticipate the depths of the decline in this of the market and we produced inventory in the fourth quarter primarily and that's caused much more pricing competition and tougher pricing in the first quarter and we know what our inventory levels are and we think we know what our competitions inventories levels are and that's going to take awhile. So even if we see an uptake in this commercial standby generator set business, I think we still got to that inventories. So I wouldn't expect any significant increase.

In the first quarter, the underlying build for Dodge Ram in total was up 28 percent. Does that indicate that Dodge was willing to increase production on the current model in front of the change over in mid-year? In the second quarter, you expected continued improvement. Is that in anticipation of the changeover or is that continued build out of the old model?

That's continued build out of the old model. Their demand is up. Their inventories were low. We have seen an increase of somewhere around 35 percent to 38 percent in that business and that's just the current business. That doesn't have to do with the model changeover, which occurs, I guess on July. 1 and so, anything that we are seeing on the new truck is everybody who has driven it, in the test and all that, have been delighted with the performance and Dodge is going to be promoting that. So, our expectation is that that business will be very good in the second half of this year and again, that's an engine that we produce in one plant. There are two specifications. No marketing costs. It's a good business for us and it has been because of the model changeover, it has been really depressed. This is a good sign for us.

Our next questions comes from David Raso. Please proceed with your follow up.

On the heavy-duty truck engine's, first near-term the competitive landscape price increases, what did you put through on price increase, was it on April 1st? Why did the price increases go through following on some of the price increases of the truckers have to go, the truck manufacturers?

I don't know what you are referring to on an April 1 price increase.

What was the timing that clearly some of the pricing is going up in the industry, taking advantages of some of the prebuy strength? If the timing was on April 1st, what should we be thinking on pricing for your engines? It was even stated earlier in a call about price improvement.

If there were pricing increases in the first quarter or in April or whatever, that would be the increased price of a truck, but not the increased price of an engine. We have not increased our prices of current engines to OEMs. What we have done and Cummins has done because of our new heavy-duty business model, with our long-term agreements we no longer are

interfacing with the end-user and providing multiple disciplines or discounts. The transactions on the truck are between the truck OEM and the end-user and that's one of the strategic things that we tried to do. As far as the pricing for the October. engines, the new engines, we will increase our prices, but I am not talking publicly about that. That's a matter between us and the OEMs and it is also valuable strategic in competitive information and this isn't the right form to have that discussion.

It seems like an opportunity lost not to try to get some pricing now with the strength of the prebuy that is without question occurring and lot of the production most of their production is too much built through September 30 that's more an issue of somewhere about close to October 01, but trying to meet the demand right now, there is some component issues getting the components over the next 4 to 5 months meaning that there is prebuy ramp up in demand. I would think it's an opportunity lost not trying to get some price right now?

I think that's an issue or a question for the truck manufacturers. I think your pipe is interesting. I am sure they are all thinking about that. For us, our pricing relationship with the OEM is a strategic relationship and it's a long-term kind of

deal. So, we are looking on improving realized pricing while improving value to the customer with their OEMs. That's really a hit for us. We can't really respond up and down in that way with our pricing to the OEMs.

Do you have that you would mention that fuel efficiency of the new engine or the new EGR? Is it similar to your best engine today?

Our ISX engine is the most fuel-efficient engine in the marketplace today in our opinion. We think we can document that. So, if you assume that the other engine manufacturers have a compliant engine in October 2002 and we all use the same technology, we think, we will maintain our fuel economy advantage over the current situation. Our fuel economy on the EGR engine deteriorates vs. N14, but we think it is equivalent to the ISX. The point I am trying to make is that there is a lot of chatter in the marketplace that there is going to be a big reliability problem, a big fuel economy deterioration, higher cost, more frequent oil interval changes, and it's just simply not true.

The biggest issue for the truck is that if you run through the fuel efficiency loss calculation, the difference between 1percent, 2 percent, 3 percent, 4 percent or 5 percent makes a difference on the cost of the new trucks as well and the carrying cost over three years, assuming that the bigger guys every three years. I am trying to understand is the comment that the fuel efficiency from today's engine the N14 and October 01, the ISX. Does that not the 2 percent to 5 percent we have been hearing from earlier comments from Volvo and ?

We will lose some fuel efficiency at the outset. We think we will be better than our N14 and so, therefore still have a significant lead on the competition. We will provide the total package to the customer better performance and all advantage and make him want to buy the truck. We will get our fuel economy back into where we are now. We think we can actually make progress as we continue to work on the engine to get back to where we were.

Are you actually thinking you can get back to where you stand today?

Even on the initial side, we think we will offer our customer a good package.

That will conclude our teleconference today. Thank you for joining us.

Ladies and gentlemen that just conclude your conference call for today. We thank you for your participation and after you please disconnect your line.