CNH Industrial NV (CNHI) 2021 Q1 法說會逐字稿

Good morning and afternoon, ladies and gentlemen, and welcome to today's CNH Industrial 2021 First Quarter Results Conference Call. For your information, today's conference is being recorded. (Operator Instructions) At this time, I would like to turn the call over to Federico Donati, Head of Investor Relations. Please go ahead, sir.

Thank you, Sara. Good morning and good afternoon, everyone. We would like to welcome you to the webcast and conference call for CNH Industrial first quarter 2021 results for the period ending March 31. This call is being broadcast live on our website and is copyrighted by CNH Industrial. Any other use, recording or transmission of any portion of this broadcast without the expressed written consent of CNH Industrial is strictly forbidden.

We are pleased to have here with us today our CEO, Scott Wine; and our CFO, Oddone Rocchetta, who will be hosting today call. They will use the material available for download from the CNH Industrial website. After their presentation, we will be holding a Q&A session.

Please note that any forward-looking statements we might be making during today's call are subject to the risks and uncertainties mentioned in the safe harbor statement, including the presentation material. Additional information pertaining to factors that could cause actual results to differ materially is contained in the company's most recent report 20-F and EU annual report as well as other periodic reports and filings with the U.S. Securities and Exchange Commission and the equivalent authorities in the Netherlands and Italy.

The company presentation may include certain non-GAAP financial measures. Additional information, including the reconciliation to the most directly comparable GAAP financial measures, is included in the presentation material.

One final remark. Once again, our team is connecting from different countries. So please forgive us if there are moments of silence during the call while we manage the transition between speakers.

I will now turn the call over to Scott.

Thanks, Federico. I would like to begin by commending our entire CNH Industrial team, especially our supply chain and production personnel, for their exceptional efforts, not only to keep our factories working for our customers, but also to drive margin improvement in this very turbulent environment.

We're seeing very strong market demand across the board in every region in each of our segments. This rapid acceleration is typically a more positive scenario and certainly upside remains. But in conjunction with COVID-related slowdowns and other unique capacity constraints, the spike in demand is exacerbating the commodity shortages and shipping restrictions we are creatively working to address.

For example, Tom Verbaeten and his team's adroit management of an excessively long list of lagging parts and services has both kept operations running and increased inventory turns, leading to strong revenues and lean stock levels at the end of the quarter.

Our robust start to 2021, exceeding both the first quarter of 2020 and the first quarter of 2019 results, reflects the team's ability to deliver solid top and bottom line growth while overcoming the aforementioned challenges and, of course, assimilating a new CEO. It is a testament to the commitment, drive and ingenuity of our global workforce as well as the wisdom and drive of our senior leadership team, which, together, are our foremost competitive advantage.

Next, I'll review the industry volumes that we saw in the quarter to better put our business results in context. The AG machinery industry was quite healthy in Q1 due to a range of factors, including rising commodity prices, improving trade with China and replacement of aging fleets. Tractor sales worldwide were up over 50%, and global combine sales were also strong.

We expect the Agriculture segment to continue performing well in 2021 given that our order backlog now extends deep into the second half of the year, with production for cash crop equipment fully covered through year-end in North America. Construction Equipment again saw growth in light machines driven by the ongoing surge in the residential segment, and we were pleased to see fleet demand drive expansion and heavy equipment as well. Our regions outside of Europe demonstrated vigorous year-over-year recoveries, albeit from fairly easy comps. For an industry that for years has been driven almost solely by China, this renewed global strength is encouraging.

The European truck market was up over 22% year-over-year in the quarter, recording the highest quarterly industry volume since the third quarter of 2019 and only marginally below the first quarter of 2019. In total, light trucks were up over 20% year-over-year for the quarter driven by Europe but with double-digit growth across the board. Medium and heavy-duty trucks were up 16%, also with strong performance in all of our end markets.

Finally, the worldwide bus market continues to lag driven by effects of the pandemic on travel as well as delayed spending in municipal and regional transportation authorities. Despite supply chain constraints and higher-than-projected retail demand, we outproduced worldwide tractor retail by 5% in the quarter, while in combines, we overproduced by 14% worldwide and by 41% in North America. The company inventory levels for tractors and combines versus year-end 2020 was therefore up 25% and 60%, respectively, ahead of the key ordering and delivery season for these machines. These elevated production levels enabled us to keep pace with demand, but output challenges remain as our AG order book more than doubled year-over-year for both tractors and combines.

Very strong growth in North America for tractors and South America for combines is keeping pressure on our factories. But thanks to the determined execution of Derek Neilson and his AG team, daily production rates will increase progressively throughout the year.

Construction Equipment overproduced retail worldwide by 14% in the quarter, but just 5% in North America where demand was exceptionally strong. Company inventory for light and heavy equipment was up 38% and 13%, respectively, versus previous year-end levels. Our order books remain up year-over-year in all regions for both heavy and light construction. Trucks overproduced retail sales worldwide by 18% in the quarter. In Europe, we overproduced retail and light-duty trucks by 18% and by 16% in medium and heavy trucks. Company inventory was up 38% in light trucks and 4% for the medium and heavy segments.

Truck book-to-bill was 1.92 for Europe and 1.29 for South America. Market share in Europe for trucks was flat overall versus the first quarter of 2020. IVECO's LNG market share was at 53%, and industry penetration for LNG trucks was approximately 4%, up more than 100 basis points from 2020. With improving economic conditions, government stimulus and another round of tightening engine emissions requirements, order intake in Europe was up almost 100% compared to the first quarter of 2020, with light-duty trucks up 95% and medium and heavy-duty trucks up 101%. Order intake for natural gas-powered trucks nearly tripled driven by Poland, Germany and Italy. This combination of solid retail performance and very healthy order books gives us confidence in the strength of our sales through most of 2021.

I will now turn the call over to Oddone to take you through some of our key financial details.

Thank you, Scott, and good morning and good afternoon to everyone on the call.

And now Slide 6 with our Q1 results highlights. For the top line, first quarter net sales increased 41% with higher volumes, mix and price realization across all segments. Likewise, these drivers accounted for a 700 basis point increase in our gross margin, also benefiting from higher production levels.

Moving down the P&L. First quarter Industrial Activities adjusted EBIT [sorted to] $545 million with an adjusted EBIT margin of 7.7% driven by strong performances across segments. Free cash flow in the quarter was a cash outflow of $371 million, reflecting seasonal capital absorption. Industrial Activities net cash ended the quarter at $591 million, a decrease of $0.2 billion from December 31, 2020.

Q1 net income was at $425 million or $0.30 per share. Adjusted net income was $454 million or adjusted diluted earnings per share of $0.32, an increase of $520 million compared to the same quarter of 2020. The adjusted effective tax rate for the quarter was 25%.

At the end of Q1, our available liquidity stood at $13.9 billion, down $2 billion sequentially.

Turning now to Slide 7. We focus on Industrial Activities net sales, which were up $2.1 billion and 36% on a constant currency basis. Sales by region and product in the quarter-over-quarter comparison were up across the board, certainly helped by the initial COVID impacts in the prior year period but also significantly supported by accelerating demand.

Foreign exchange translation had an impact of approximately 5% in the first quarter, and net sales split by region was directionally in line with last year, but we continue to model the rest of the world share increase.

Agriculture's net sales totaled $3 billion in the first quarter, up 34% on a constant currency basis versus prior year, mainly due to higher industry demand, better mix, favorable price realization of 4.2% gross and lower destocking actions.

If we look at the performance by region, North America and Europe showed better mix in high horsepower tractors and combines. In South America, we had strong harvester sales.

Construction net sales were $656 million in the quarter, up 55% on a constant currency basis, as a result of higher volumes, realignment of dealer inventories to higher retail deliveries and better price realization.

Commercial and Specialty Vehicles net sales reached $2.8 billion in the quarter, up 30% on a constant currency basis year-over-year, primarily driven by higher truck volumes across all regions and an already strong COVID-19 impact in Europe in March 2020.

Powertrain net sales totaled $1.2 billion in the quarter, up 52% on a constant currency basis, driven by stronger OEM demand. Sales to external customers of FPT accounted for 47% of net sales. That number was 44% last year.

Turning now to Slide 8 with the Industrial Activities adjusted EBIT by driver and by segment. Volume and net pricing were the primary drivers for earnings increase across all segments in the quarter. Q1 2021 adjusted EBIT for AG was $399 million, with an adjusted EBIT margin exceeding 13% driven by strong sales, better mix and positive price realization. For Construction, adjusted EBIT was $25 million with a 3.8% margin, an increase of $108 million due to the positive price realization, cost containment, lower quality-related charges and favorable volume and mix. Commercial and Specialty Vehicles adjusted EBIT was $76 million with adjusted EBIT margin of 2.7% driven mostly by favorable volumes and mix in Europe and South America and positive price realization on the back of stronger demand. This was the highest Q1 profitability for the segment since 2013. Powertrain adjusted EBIT was $115 million, an increase of $84 million with adjusted EBIT margin to 9.3%, thanks to higher production and strong sales, partially offset by higher freight costs and higher R&D spending.

On the right-hand side of this page, you can appreciate the gross margin performance across segments. That was driven by price realization, high production volume and lower quality cost despite initial raw material adverse impacts and raising trade costs.

Moving to Slide 9 and our Financial Service business. Net income was $91 million, up $11 million compared to quarter 1 2020, primarily because of lower credit risk provision, favorable retail loan and lease margins in North America and better results from the sales of off-lease used equipment. In the quarter, retail originations were $2.4 billion, and the managed portfolio, including JVs, at the end of the period was $25.8 billion. Delinquencies were down 50 basis points versus same quarter last year and remain at historically low levels.

Next on Slide 10, I'd like to discuss the net financial position and free cash flow performance of our Industrial Activities. Free cash flow of Industrial Activities was negative $371 million as a result of historically low seasonal working capital growth with inventory increase, partially offset by higher payables. Consolidated debt, including our Financial Service liability, was $23.8 billion at March 31, 2021, and Industrial Activities net cash position at $591 million decrease from 78 -- $786 million as of December 31, 2020.

During the quarter, the Industrial Activities gross net debt decreased 14% to $6.3 billion from $7.3 billion at the end of December 2020. It was, in large part, accomplished by exercising the (inaudible) on the receivable EUR [360] million, CNH Industrial Finance Europe notes due in May 2022 and the early repayment of various bank facilities due in early 2022 for $440 million. This is in line with our capital allocation that includes an effort to lower Industrial Activities gross debt while our operations improve their financial performances.

On this note, I will ask Scott to comment on our growth path, and I'll be back for the Q&A.

Thank you, Oddone. While we remain firmly committed to our ongoing efforts to lower industrial debt, we do intend to hasten our organic growth by investing heavily in research and development, equipment and infrastructure. We see this as a multiyear escalation in R&D funding as we strive to accelerate market share gains and profitable growth.

We will continue to make strategic inorganic investments intended to accelerate growth, innovation and margin expansion. During the first quarter, we acquired CEG, our long-time distributor in South Africa, enabling us to improve margins and better serve our customers in the region. We also took minority stakes in 3 key technology companies: Monarch Tractor, Bennamann and Augmenta, to accelerate our alternative propulsion and autonomous strategy. Augmenta is a technology company based in Greece, focused on automating farming operations through real-time processing of on-the-edge computer vision and artificial intelligence for crop sensing and overall machine automation.

These partnerships underscore CNH Industrial's ongoing commitment to targeted investments in advanced agriculture technologies, facilitating the creation of an open innovation ecosystem that will strengthen our entire range of products and solutions. This ecosystem will enable us to offer customers' rapid and easy access to breakthrough agriculture technologies, which enhances both farming productivity and sustainability, and will also reinforce the product portfolio of AGXTEND, the company's accelerator for tech start-ups.

As a leader in sustainability, we intend to take a pioneering role in the development of the circular economy and alternative propulsion with plans to deliver complete net 0 carbon solutions.

In March, we completed the acquisition of a minority stake in Bennamann Limited, a U.K.-based technology company that specializes in producing LNG with their proprietary cryocooler [liquefication] technology, using biomethane from organic farm waste or agricultural waste. Their technology also provides flexible methods of packaging LNG tanks on smaller vehicles. Bennamann's technology for capturing fugitive methane will allow us to offer our customers end-to-end solutions, unlocking the power of biomethane through all 4 stages of the value chain, capture and process, storage, distribution and use, from a variety of organic waste sources. We believe alternative propulsion and AG is anchored around the potential of renewable natural gas with battery electric vehicles as an alternative on smaller machines.

This context drove our minority investment in Monarch, a California-based specialized electric tractor start-up focused on developing full electrified propulsion with autonomous functionality. Their technology has the potential to significantly enhance our electrification, autonomy and agronomy capabilities. Over the next few years, we intend to introduce products across various power ranges and applications using these and other technologies, and we are very excited to start testing them with customers. Our ambition is to become the preferred partner for net 0 carbon farming and create a sustainable, defensible competitive advantage in the process.

Generally speaking, we have increased our market expectations across all regions and all segments in light of increased commodity prices and resurgent demand, supported by uneven but promising global rollout of COVID-19 vaccines. We now expect the AG industry recovery we saw in most regions over the next -- last several quarters to continue and perhaps significantly escalate. We see notable strength in North and South America for combines and tractors with overall solid demand across all AG regions. Farmer sentiment is improving driven by higher commodity prices and carryover incomes as well as surging soy and corn demand from China. Lower dealer inventories across the segment are also encouraging both new retail sales and inventory replenishment.

For Construction Equipment, we see the industry demand continuing to recover, with heavy equipment now contributing meaningful to the upcycle. While an infrastructure bill was not yet formalized in the United States, contractors and dealers are starting to factor this potential spending into their order activity. Demand for trucks continues to show significant industry recovery in 2021, with heavy and medium truck volumes in Europe increasing by about 40%.

Truck orders began an upcycle in the third quarter of last year, and that trend has accelerated in the past few months. We expect this positive momentum to persist, contingent upon the resurgence of the main European economies and the ability of the supply chain to keep up with demand.

While buses still lag the overall market recovery, the business should also benefit from the pent-up demand we see in other segments as the reopening spreads across Europe and eventually South Africa.

The company's 2021 outlook assumes a progressive improvement in economic conditions as populations, end markets adjust to less COVID, more stimulus and overall better circumstances.

Considering our strong first quarter financial results and the robust order books we see for the remainder of the year, we have chosen to update our financial guidance as follows: For 2021, we now expect net sales of industrial activities to be up between 14% and 18% year-over-year, including the effects of currency translation. We will continue to keep SG&A lower than or equal to 7.5% of net sales. We anticipate positive free cash flow to be slightly higher for Industrial Activities in a range between $600 million and $1 billion. Finally, R&D and CapEx are projected to be about $2 billion combined for the year.

Towards the end of the first quarter, we terminated discussions around the sale of IVECO. Though we have maintained friendly relations with that counterparty, this decision was primarily based on 2 factors: confidence and speed. After considering all inputs, including the strengthening performance of our on-highway business, we determined that singularly focusing on executing the spend was our most certain and fastest path to separation. We now have all necessary resources dedicated to our original strategy of spinning the on-highway business, or NewCo, from CNH Industrial by early 2022.

Our defense, firefighting and FPT businesses will be included in the spin as they are closely aligned with the types of products and engineered manufactured by our commercial vehicle business. Additionally, the FinCo will be split into 2 parts so that both CNH Industrial and NewCo will be able to extend best-in-class financing to our dealers and customers.

Ahead of the spin, which pending regulatory approvals will occur in the first quarter of 2022, we will hold an investor roadshow for the on-highway business and an extraordinary general shareholders meeting in the fourth quarter of this year. We will provide regular updates to our stakeholders throughout the process.

I will conclude with a few summary comments before turning to Q&A. Demand across our end markets remains quite strong, and this should continue for the remainder of the year and likely into 2022 for some segments. We expect most of the supply chain pressures present in the first quarter to persist in the near term, but we believe we are positioned to protect our gross margins through pricing actions and careful management of procurement and logistics.

The spin execution is well underway, and our preparations are starting to go here. Between strong execution and a solid order backlog, the robust first quarter performance of our future on-road highway business, hints at the potential of this NewCo. There are still questions and challenges to be resolved. But other than customary regulatory approvals, we believe we are in control, and it can execute the necessary steps to meet our goals.

We are scaling our investment in both innovative products and services, not only through taking various stakes in leading-edge technology start-ups, but by hiring talented new members to the team. In April, we appointed Parag Garg as our Chief Digital Officer; Marc Kermisch as the new Chief Information Officer of our off-highway business, and this follows the March appointment of Kevin Barr as our Chief Human Resources Officer. Kevin's extensive leadership experience in the industrial equipment industry will be instrumental as we align our organization and enhance our culture to become more customer and dealer centric.

Parag will spearhead our crucial digital technology efforts, leading the charge to build precision agriculture and construction into a competitive advantage. And Marc will champion improvements to our information technology infrastructure, security and end-user accessibility, providing a robust framework for future growth. These hires signify that we are moving with purpose and pace to improve accountability and agility and, ultimately, execution for all stakeholders.

With growing momentum in our end markets, flexible and improving execution across our business and an ambitious but achievable strategy in place, the CNH Industrial team is well positioned for the rest of the year and beyond.

I will now turn the call over to Sara to open the line for questions.

(Operator Instructions) And we will now take our first question from Ann Duignan from JPMorgan.

Good morning, everybody. Just 2 quick follow-up questions. One, you mentioned in your opening remarks just there that demand is strong across several sectors, which, of course, we understand that, but it's likely to spill into 2022. So could you comment on that beyond North America row crop? I think we all understand the fundamentals there. But beyond North America row crop, where else do you anticipate demand remaining strong into 2022?

And then as my follow-up, can you size the specialty business for us, both revenue and profitability, just so we can update our -- sum of the parts valuations?

Yes. Thanks, Ann. Obviously, the North American market is driving the vast majority of our significant confidence in the AG market going forward, but we did see encouraging strength in Europe. And South America is still, especially with combines, remains a very strong market that we think is likely to get better as the global economy continues to improve.

So it was all agriculture that you're referring to when you say 2022 strength? And then my question on NewCo, please.

Yes. No, I think that most of the 2022 strength that we see right now is in North American AG. Although I'll tell you, I'm very encouraged by the performance of Stefano Pampalone and the construction team because that business is as strong as we've seen it in quite some time. So not quite pushing into 2022 but likely will before too long.

And specialty business (inaudible)?

Oddone, do you want to take that one?

Yes. So on the second question, if you look at the details of our net sales split, the specialty vehicle is what is listed as others in the [CSMB]. So it's around 6% of sales. And we'll get -- as soon as we have the packages ready, we will come with the numbers for on-highway and off-highway with some additional details.

We will now take our next question from Steven Fisher from UBS.

Obviously, very strong pricing ahead of costs in the first quarter. Can you just talk about how you see that developing, the cadence of it over the course of Q2 to Q4? And it sounds like it's going to ultimately be a net headwind, but just wondering how quickly that translates from the strong positive in Q1 to that more challenging position.

Thanks, Steve. And obviously, with commodity inflation, like we're seeing across the space, pricing has been a better environment than we've seen in quite some time. And I -- really across the board in each of our segments, we're seeing strong pricing, and we think that's likely to persist through the remainder of the year. And as we said, we're not sure it's going to quite cover every aspect of the cost that we incur, but certainly, the team, as they demonstrated in the first quarter, feels confident that they can get most of it.

Okay. And it sounds like your order book gives you much better visibility for the second half than you had just 3 months ago. I'm curious, where do you see the biggest uncertainties at this point? I'm guessing you're going to say, broadly, supply chain, but I'm wondering how much risk do you see to actually delivering your targets versus restricting any upside or if there's any other areas of the uncertainties you'd call out.

Yes. Well, I mean, you surmised right, the biggest challenge and uncertainty is in the supply chain. But as we saw the team in the first quarter, managing the industrial machine, really did a nice job of -- I mean, essentially, it's not managing. It's micro managing the supply chain, and they did that very well. I think we see near-term pressure in the second quarter that we just have to work through. And obviously, you see that, but there's -- we believe based on our actions and what we see that it's going to get better throughout the second quarter, and we expect a better situation, an improving situation in the third and fourth quarter.

But we've just got to -- the semiconductors fortuitously haven't impacted the overall business or because we've -- the team has done a very good job managing it. We have a specific issue with IVECO that we're handling with heavy-duty trucks and a key supplier that will likely impact a little bit of the second quarter. But overall, I think we do see our way through managing it, and we'll look to capture as much upside as we work through the year as we possibly can.

We will now take our next question from Martino De Ambroggi from Equita SIM.

The first question is on the incremental margin. If I look at AG and CE, they were astonishing in excess of 40%. I clearly understand it's comparing 2 very different quarters. There is a ForEx impact affecting the performance. But could you elaborate on what is the reasonable incremental margin in the different divisions in the current environment? And the second question is on the failed divestiture of IVECO. I understand what you mentioned at the beginning. But can we say, is there any 1 or 2 reasons justifying the change -- particularly justifying the change of the decision? And once you spin off the business, in my view, the less likely scenario is to see the on-highway business staying -- as a standalone entity. Am I right or totally wrong in this assumption?

Oddone, do you want to take the incremental margin? And I'll pick up on the spend.

Yes. But I think you commented well. I mean the incremental margin to the first quarter last year are not that significant. And we are looking at incremental margin for the remainder of the year that I have, let's say, a shape that is similar to the incremental margin we typically have when we have growth in sales. So I would say, mid low double digits, 20 plus, consider that we have additional R&D expenses in the second part of the year, which will affect the margin.

And as it relates to the spin or the failed discussions that we had, really, we've always, from the beginning, felt like we had a clear path to create a NewCo anchored with some key shareholders that we would share, and that was and remains our primary goal. We did get a -- an interesting bid from a counterparty that we all know, and we thought that was worth pursuing. And I will tell you that we vigorously pursued that. There was tremendous effort on both sides.

And I -- we thought if it could be executed, it would be a very good path forward, lots of scale benefits for the business. And quite frankly, we worked as hard as you can possibly imagine to try to get that to fruition. And as we really assessed things when we backed away, we did not see after all of that energy and effort that there was a clear path to do that in a reasonable timeframe with reasonable certainty. And that really is what drove us to move a different way.

And I think if you look at the industrial landscape and search for successful Chinese mergers or acquisitions of European or U.S. companies, it's not very prevalent. I mean it's a very difficult task. And ultimately, as we work through it, we saw that.

Yes. And for the future, once it is spun off?

Yes. Well, I mean, obviously, our friends at Daimler have seen the same thing that there's an opportunity to create a separate truck company. We think that benefits us. I mean, remember, IVECO is showing improving results. And I feel like that with the lead we've got in LNG and the partnership to use Nikola to bring in additional alternative powertrain technology, we feel like that they can be a leader in that space. And with very strong brands in Southern Europe and then obviously with the key resources of FPT and our very strong defense business currently, we think it's a very, very positive opportunity for shareholders going forward.

We will take our next question from David Raso from Evercore ICI (sic) [ISI] Group.

My question relates to how the 2021 dynamics are setting up '22. Normal seasonality for your business on revenue given the strong start to the year, the normal sequential trends would -- you would suggest the revenues could be up over 25%, and you're guiding 16%. So I'm just trying to get a sense of, is that sort of a fair representation of how you're digesting the supply constraints where it's, call it, roughly a 10% restraint on your revenues? Because when you look at even how you changed your industry outlook, you basically raised your revenues only as much as you raised the retail demand. And I'm curious, how does that make us think about inventory at the end of the year? It doesn't seem like there's any inventory rebuild at all.

And then lastly, with that setup, are you handling '22 order books differently? Some of the planter early order programs seem a little earlier. I'm just curious how you're addressing '22 given all these dynamics. And particularly, of course, if you're willing to provide it, how are you thinking about pricing if you're opening some of these order books up earlier?

Good questions, David. As it relates -- I mean, obviously, the near term is limited. I mean we're going to run our plants at capacity for the year. And what we're able to yield based on supply chain is what we'll take. We've got -- we're actually having more discussions around 2022, the next year, than would be typical because of the fact, obviously, to get inventories both in the channel and our factories where we need to be, it's likely -- and ultimately, to stabilize the supply chain, you've got to stabilize your orders.

And I think we're working through that dynamic right now. But right now, it's -- with geopolitical concerns as much as they are, it's very difficult and probably not smart to predict too much too far ahead. But I will tell you that your early signs at this point are that it's going to be quite strong, and that means pricing actions should continue to be strong throughout the year and into next.

But can you provide some sense of are you -- like the plant's early order program seemed to -- at least it seemed a little bit earlier to me than I've seen in the past. Are you opening up the ability to take orders for '22? But of course, I assume the customer wants a price point with it. So I'm just trying to understand, even the inventory levels, where are they today? Because it doesn't sound like there's any inventory build the rest of the year. So not to push you, but just trying to get a little quantification. Inventories are x percent below normal now, just so we can think about that as the setup exiting the year.

Oddone, you want to take that because I can't compare to what we've done historically?

Yes. I wouldn't say inventory are lower than we would like them to be, even though they're much lower than what they were last year and for part of the previous years, right? We overproduced in the first quarter on tractors and combines. Probably we would overproduced more, but demand was stronger than we expected.

We keep producing, as Scott said, full capacity, and we are also increasing the capacity of some of our plants for the later part of the year. That, of course, goes against with all the constraints we talk about in supply chain, and our suppliers also needed to increase production.

We have some limited inventory built in the fourth quarter, but a lot will depend on how the demand will end up playing in the later part of the year.

We will take our next question from the line of Brett Linzey from Vertical Research.

Wanted to come back to AG margins. Obviously, very strong in Q1 and -- in what is typically a seasonally lighter revenue quarter versus Q2. If I go back historically, just look at that seasonal lift Q1 to Q2, it's been around 400 basis points. Is that the right level we should be thinking about sequentially here? Just trying to think about the phasing for the year.

Are you talking about sequential margins or sequential growth?

Sequential margins.

Yes. I would not make that assumption given what we're seeing in the supply chain right now. I -- again, I was really impressed with the way the team managed through supply chain issues. I mean, obviously, we all know what they are in the first quarter. We are not seeing them abating. In fact, we saw them get worse towards the end of the quarter. We managed through April. It was difficult, and we expect it to be difficult but get slightly better as we manage through the year. So that's what we're seeing.

But there's no reasonable way to expect that we're going to be able to take the first quarter margins and grow them going into the second quarter. It is a challenge that we're working through, and we will. We're very focused on delivering for our customers. We're very focused on getting the price to cover our activities. But it's not an external scenario with the supply chain that I would bet on margin enhancement going into the -- from first quarter to second quarter.

Obviously, we do expect things to -- we'll manage them, and they'll improve throughout the year, but that first quarter to second quarter is not one I would bet on.

Okay. And then just one more on precision farming. I was wondering if you could just update on how pull-through looks on new technologies. And if you might be able to quantify the revenue run rate for that platform, the precision farming and digital within the AG business.

Yes. Well, we've been working on this for many, many years. And I would say the energy effort and money being spent to advance from where we are now to where we're going with precision AG, I think the positive news with precision is what the -- most farmers need right now, we've done the research, we're extremely competitive. And where we're trying to make sure is when that next big transition goes is that we're also competitive. And we talked about some of the minority investments we took to position ourselves there. And obviously, bringing Parag on board just truly a digital precision, somebody that I believe can really help us step up our efforts here. And the work that Jay Iyengar and the technology team have done -- I mean we're really reasonably well positioned.

To the extent that, that drives a specific current revenue stream, it's not nearly where we think it can and ultimately will be. So we don't really break that out specifically, but we see -- we have seen it increase quarter-over-quarter over time, and we think there's a step function increase coming.

Got it. Congrats on the good start to the year.

We will take our next question from the line of Kristen Owen from Oppenheimer.

Just as a follow-up to that last question, if you could dig in a little bit more on sort of the corporate venture capital that you've participated in these 3 deals that you announced over the last quarter. Can you talk about how these early-stage investments sort of play into the overall capital allocation framework and then how we should think about the commercial opportunities presented by the investments as they mature?

Yes. We, obviously, have a tremendously capable and talented engineering team within the CNH Industrial network, but we certainly don't believe that we're the only ones that can come up with good ideas and new technologies. And so we have a pretty good ability. And because of our strong brand presence and global presence, there's a lot of opportunities that people approach us about bringing their technologies to market and leveraging our networks. And so sometimes we go find them, and sometimes they find us.

But every time we do it, it's a -- it's certainly an immaterial investment from a financial standpoint, but it -- a small investment from us can mean a lot of difference to get these start-up companies to get a little more perspective. But it's not just the money. Much -- most of the time, it's access to our platforms, our distribution channels that really brings them to us. So it allows us to get in with not a ton of money, but also to build something.

And as I said in my prepared remarks, I mean, we certainly plan to take many of these technologies and help us advance products that we can bring to market for our customers. And that is the goal.

Great. And then as a follow-up question, you talked about the strong rates that you had in LNG, seeing that continue. Relative to your development work in battery electric and fuel cell electric, as the overall market comes back, can you provide some commentary around customer appetite to experiment with some of these longer-dated technologies versus more of what would consider sort of the transitional fuels like natural gas? Can you just talk about what you're hearing from your customers in that regard?

Yes. We have some unique challenges in our end markets in that the use cases are very different than automotive where I think battery electric has been more popular but still a quite de minimis share of the overall automotive market. So some of those challenges -- and that's really the work that Gerrit Marx and his team are working through partly with the Nikola joint venture, but also with the work that we're doing is how do you bring those technologies into different use cases and different requirements. And I think the work that they've done with LNG, and it's very small, still 4% of the overall market, we've got more than half of the market share. So we've got tremendous experience there.

Really, LNG is hurt, if you will, by the lack of government support and subsidies. If we could get that, and we've certainly been lobbying for it, that would help in the on-highway segment. But because of the significant experience we have in on-highway, that's why we believe with the potential for a -- the circular economy of fuel and on a farm environment with methane, that, that could be a very attractive opportunity for us because of the similarities with LNG and what we've already known how to do.

So we're positioning ourselves really with the alternative fuels, but with various partnerships, we feel like we can bring the battery electric solutions if they will work in our environment. So I think we're as well positioned with alternative fuels and electric as anyone.

We will take our next question from the line of Larry De Maria from William Blair.

Discuss a little bit about the Monarch, et cetera. But earlier in the call, I believe you said you'd want to -- you're going to increase investments in R&D. So can you give us an idea of absolute percentage R&D we should model for RemainCo? And is this a change in strategy now to do more internally over time? Or is this more of a catch-up because we haven't invested enough?

The -- on the percent of the RemainCo sales, I can't figure that on the back of my paper here. But I will tell you, it is not necessarily a change in strategy. It is a continuation of a strategy that was put in place several years ago that wants to expand both organic growth but also margin enhancement. And that does take an incremental investment in R&D. And really, a lot of our effort is related to alternative powertrains and precision technology and digital. And I think it's no secret that we are in a good position but not as good as we can or should be when it comes to those categories. And I think that's an area where you'll see us make a good bit of investment.

But just if we look across our portfolio, we'd like to have market-leading products in all of our categories. And I can tell you, as we look at it, we're not there now. And we're putting the money to ultimately -- you can't do it all at once, but we're making the investments to try to position the portfolio to be very, very competitive across the board, and that does take incremental R&D dollars. But [it's about] growth and margin expansion. It's not just growth. We've got to deliver improving margins at the same time.

And was the comment specific to AG R&D increase? Or was it overall R&D increase? And then just to clarify, last question, are we officially sold out in large AG this year? Are we -- or are you still taking some orders for the fourth quarter?

For -- we're taking orders for the fourth quarter in most markets, not much available in North America right now. And I'll tell you, our investments -- again, I commented on the improving results in the Construction Equipment segment. And ultimately, that's an area where we've talked openly about we need some product across the portfolio. We need a strengthening of product. So that will be an area that gets investment as well.

We will take our next question from Monica Bosio from Intesa Sanpaolo.

I apologize, maybe I lost part of the conference. I was wondering if you can give us an indication of the raw material impact on the first quarter, and if it's possible, a likely scenario of the total impact adjusted for raw materials over the full year. I'm just trying to figure out if your pricing increase is able to offset at least the raw material impact even if there is the issue of the semiconductor shortage.

And the second question is on the AG business. First quarter was really amazing in terms of profitability. I understand that R&D is going to increase. There is a challenging environment in terms of supply chain, but I'm supposing that it's reasonable to expect a double-digit margin -- well above the double-digit margin in terms of adjusted EBITDA margin by year-end. Is it reasonable I am [grounded]?

Have at it, Oddone.

Yes. So on the raw material, we say during the call that definitely, we see a raw material increase and the headwinds, and we also see headwinds in freight cost by moving parts from one plant to the other and from our supplier to our plants, but we also say that we expect to cover most of it with pricing, and the environment has been favorable on pricing throughout most of last year and this year, and we expect to work more on that.

Your second question was on AG margins. I don't know if you were there, we commented that we don't expect the AG margin in the second quarter to be better than the first quarter, contrary to typical seasonality. And we expect to have more of these raw material headwinds and supply chain headwinds on the second part of the year or on the remaining part of the year, I would say. But again, we will contrast most of it with pricing.

We will take our next question from Rob Wertheimer from Melius Research.

I appreciate all the discussion on technology. I had kind of a narrow question on that subject and maybe a broader one. When you look at (inaudible) tractors, obviously, kind of big row crop stuff uses a ton of energy. I'm not sure electric will get there. But maybe from your knowledge of duty cycle, you have a view on how broad that could be within the smaller tractor thing. I don't know if it covers 10% of the range or 40% or potentially more.

And then just in general, your philosophy, please, on how you intend to invest in technology. Do you intend to sort of continue the partnering like with Nikola and Monarch on more niche areas and focus hard on your core? What do you think is most important for CNH itself to invest in?

Well, thank you. Monarch was an interesting one. As you may or may not know, we are a leader in specialty tractors. So we do very well in grape harvesting. And interestingly, that is where their initial focus is. So it's a specialty market, a specialty need. And one of the things is we're trying to become more customer-centric and really design the exact products that our customers need. Monarch has kind of given us an example of how to do that. They're spending tremendous time in the vineyards and making sure they understand the entire customer need and experience so that they can meet that need with their autonomous electric tractors. And obviously, we bring a lot of experience ourselves. So the combination does make sense.

As you indicated, I think these smaller specialty tractors is a more likely near-term benefit. We don't see our big combines and tractors, high horsepower going out with pure battery electric anytime soon, but I think the specialty market and we believe Monarch is very well positioned to help them and us take that -- bring that technology to market.

And then as far as how we look at technology investments, we really look at our portfolio and try to understand what it is our customers want and need, and then we just determine the best path to get there. Obviously, when we can, we prefer to develop it organically, but there's both a time and cost benefit you have to weigh as you look at these things. So sometimes it's better to go out and make an acquisition and allow you to essentially rapidly accelerate your position. So we'll look at both scenarios. And I mean I think in the next several years, you'll see us make a lot of progress organically and probably some inorganically as well.

Okay. And then just where do you see like the biggest opportunities? Is it input savings? Is it big data around how to improve yield? Is it automating different features? I mean I'm just a little bit curious if you're able to tell us what you think is the most appropriate pathway. And I'll stop there.

Yes. Well, I mean, really, I think, as you look at the market, the requirement, if you will, for lower emissions is going to be a key driver. So we're going to make investments there, as we talked about. We believe the need for less use -- there's -- the tillable acreage is not going to grow. And to be able to get yield from the acres that we have and all the things we can do that without putting more necessary but not always helpful things into the ground. So I think a lot of the technology we're investing in give us the ability to both improve yield for the farmer and, ultimately, their returns as well, but also good for the environment. So those are where we're making the investments, and those are the things we think we can get paid for.

We will take the next question from the line of Ross Gilardi from Bank of America.

Look, Scott, I understand the supply chain challenges and how that can constrain this year from a margin perspective. You covered that many times already this call. But the guide clearly seems to be implying next to no revenue growth in the second half. And I guess that's where I'm a little bit confused. You're saying you were able to overproduce in the first quarter. You've actually been able to build some inventory. You're getting pricing. So are you concerned about your ability to keep your factories running due to supply chain constraints? I just don't really understand why revenue growth would slow that sharply given your comments on the order book and many of the other things that you've said.

Well, remember, the comps get more difficult as we go through the year. So the fourth quarter growth is not a layup that we're going in. So that's part of what's driving it. But it's also -- and obviously, we're running our factories at capacity through the year. That's the plan. And to the extent -- we are able to deliver that. But right now, as I talked about with IVECO and the S-Way is we've got just a transmission problem, that's going to caused us to set a few thousand units at the end of the quarter.

So it's those kind of things that we have to manage through. And to the extent we can, as I said in prepared remarks, there's this likely upside if we get some of that stuff behind us. But we're just not willing to look right now and to say that we can do that with certainty. So it's a combination of the comps getting tougher and our uncertainty about the ability to navigate significantly better throughout the year.

Okay. And then when do you think you'll clarify your thoughts, particularly on AG margins through the cycle? And any initial thoughts that you're willing to share? I mean one competitor is saying they can do 10%, another is saying 15%, which now looks conservative. I mean are you willing at all to commit to being somewhere in the middle and say the 12% to 15% margin range through the cycle for AG? And if not, just when do you think you'll make that a bit clear? Obviously, you had the Investor Day before your arrival. But certainly, the market will be clamoring to know what you think on profitability through the next cycle given everything [you're left with].

Yes. You guessed right that I'm not going to prognosticate on where margins are going to go through the cycle at this point. But I will tell you, from what I've seen so far, what Derek Neilson and his team have done in a very difficult environment in the first quarter -- and there's a tremendous amount of improvements that we can drive to take that to another level of performance. So I don't think we're anywhere close at this point to what we can do in the future. It's just -- the challenges are in the near term. But I think our long-term margin potential is up significantly from the current standpoint, and I'll put a number on that as we get closer to the spin.

Our final question comes from Tim Thein from Citigroup.

Actually, just to dovetail on that last thread there. Lots of discussion on the call regarding near-term margins and price/cost and all that. But I'm curious, as you've had more time kind of to look under the hood, how do you feel about -- what are your -- the initial kind of takes you had was that you thought the company as a whole, had a lot of opportunity just from a gross margin perspective. So how do you think about -- whether that's on the cost side, pricing side of both, how do you feel about, again, just some of the opportunities there relative to your initial expectations?

And then the second question was on -- there was an earlier question around presales. And I'm curious -- and this is maybe more North American AG centric or it is more North American AG centric, but that's historically not been as well utilized, in my view anyway. Maybe you disagree, but by the case in New Holland dealers in North America, do you think is there an opportunity now just given how far out you are and with potentially a longer runway of growth ahead of us that there's an opportunity to increase that? Obviously, dealers will have to be involved in that, but how do you feel about just the opportunity to increase that, again, presell as a percentage of the total wallet?

Yes. Well, we've already demonstrated -- without just the work that's been done, our presales improved year-over-year going into 2021, and I'm extremely confident that they're going to improve rather dramatically going into 2022. So that's already starting to happen.

I was encouraged on the last call by what I'd seen. I'm very confident and encouraged about what our future potential is now. Really, this business, as these industrials do, comes down to product brand distribution. And we really have an opportunity to get notably better. I think we're better at product, in most cases. Brand and distribution is a huge opportunity. We talked a lot about technology. We're going to make investments with both precision and digital to move up to scale there. Our -- but I feel really, really good about the outlook for this company.

And I think as we talked about on the call, even the spinoff of the on-highway business, I'm encouraged by what Gerrit and the team have done, and I think they're well positioned as well. So the overall strategy was laid out, I think, is the right one. And with our investments that we've talked about and a little bit tighter execution, I think the future for AG and Construction is really, really bright, both from a revenue growth and a margin expansion perspective.

That will conclude the question-and-answer session. I would now like to turn the call back over to Federico Donati for any additional or closing remarks.

Thank you to everybody, and have a nice day. Thank you.

That will conclude today's conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.