Goodyear Tire & Rubber Co (GT) 2005 Q1 法說會逐字稿

Good morning. My name is Kimberly, and I will be your conference facilitator today. At this time I would like to welcome everyone to the Goodyear 2005 first quarter results conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will a question-and-answer period. [OPERATOR INSTRUCTIONS]. Thank you. Ms. Gould, you may begin your conference.

Thank you. Good morning, and welcome to Goodyear's review of first quarter 2005 results. Our discussion this morning will be available by replay after 2:00 p.m. ET by dialing 706-634-4556 or by listening to the Webcast replay on investor.goodyear.com. The slide presentation that follows our conference call comments is available in Adobe Acrobat on our website. And we filed our 10-Q yesterday.

I would like to remind you this morning that our discussion may contain certain forward-looking statements based on current expectations and assumptions that are subject to risks and uncertainty that could cause actual results to differ materially. These risks and uncertainties are outlined in Goodyear's filings with the SEC, including its Form 10-K for the year ended December 31, 2004, and it's Form 10-Q for the quarter ended March 31, 2005. The Company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

On the call with me today is Chairman, CEO, and President, Bob Keegan; CFO, Rich Kramer; and Treasurer, Darren Wells. Referring to the agenda on Slide 1, Bob will open with a review of our first quarter achievements, as well as what he sees as challenges for 2005. Rich will cover the financials, including the CBUs. And then, Bob will come back to discuss the structural changes that Goodyear has undergone and the outlook for 2005. Now, I'm turn the call over to Bob.

Well, thank you, Barb. And good morning, everyone. Let me say right up front that we had a terrific first quarter, and we did so in the face of an increasingly challenging global economic environment and continuing higher raw material costs. Over the past two years we have embarked on a series of key changes to our business model. You've seen the benefit of these changes in our improved earnings performance in 2004, and now in the first quarter of 2005. Our excellent first quarter results are further evidence that those changes are taking hold and will result in sustainable long-term competitiveness and leadership in the global tire industry. While I am clearly pleased with our first quarter results, I am even more pleased at our progress in fundamentally changing how we do business. Rich and I will now review Q1, and then I'll return to this broader subject.

We enjoyed the Company's best first quarter in seven years, since the first quarter of 1998. To quickly review some highlights, sales increased 11%, a new first quarter record. Units, while relatively flat overall, increased more than 7% in our key North American consumer replacement business, and we gained share. Gross margin was up nearly 1%, and I would remind you that's on top of 2004's gross margin, which was 19.9%, relative to 17.3% in 2003. Segment operating income was $292 million, or 61% over prior year, and our earnings per share was $0.35; $68 million. Now, we achieved these outstanding results by continuing to drive richer product, brand, and customer mix -- my point here is it's not simply product mix. And we did so in our targeted markets via new product launches and significantly better marketing programs supported by strong analytics. We achieved these results by successfully implementing price increases to offset rising global raw material costs, and we achieved these results by reducing our overall cost structure. Our first quarter results are reflective of the continued positive momentum for good year in the market place in all of our regions, and in both our consumer and commercial businesses.

In addition, to significant year-over-year improvement in our North America business, which Rich will address in a minute in more detail, our foreign businesses, again, delivered significant year-over-year improvements, particularly in our European Union, Latin American, and Asian businesses. These improvements reflect initiatives put in place over the last two years, and notwithstanding the inevitable global economic instabilities and currency fluctuations, we believe these changes will provide for both continued competitiveness and ongoing opportunities for improvement in our financial performance.

I want this morning to elaborate on two other key achievements. First, I would like to bring you up to date on the launch progress of our Wrangler and Fortera tires with SilentArmor Technology that we introduced to nearly 300,000 dealers at our February North America dealer meeting. Orders for the Fortera SUV and Wrangler light truck tires featuring SilentArmor with Kevlar are tracking ahead of the launch order rates of the Assurance family of tires that were introduced last year. So we are ahead of the Assurance rates. This is outstanding. To put that into perspective, the Assurance launch was the most successful new product launch in the history of the Goodyear Tire & Rubber Company and our advertising campaign supporting the new SilentArmor products is only just now starting as we hit the spring selling season.

I'm also pleased to note that we successfully completed the 3.65 billion refinancing we discussed in our March call. This refinancing extends a substantial portion of our debt maturities to 2010 and 2011, and does so at comparatively lower interest rates. Thereby, providing us with the time we need to focus on further improving our business economics and deleveraging our balance sheet. While we certainly have many positive drivers for our business, we have seen, and we suspect we will continue to see challenges ahead in 2005. The growth in the consumer OE business has slowed both in North America and Europe. We have been able to offset the impact of lower OE volume by adjusting our capacity to support the growth that we have driven in our High Performance Premium brand tires for the consumer replacement market. Going forward, this will continue to be a challenge.

We fully recognize that if the macroeconomic environment slows, market dynamics are likely to change. Escalating raw material costs continue to challenge the industry and Goodyear. Over all, we are very pleased with our first quarter business progress. At this point, I want to turn the call over to Rich to discuss Goodyear's financials and our business unit performance, and then I'll return to talk, in some detail, about some of the structural changes we've made within the Company over the past several years. It's critical that you understand these changes, because, frankly, they're the generators of our improved performance, and I'll also provide some commentary on our 2005 outlook. Rich, over to you.

Thanks, Bob. Excuse me. Now, Bob has already -- good morning, everyone, I should say first off. Bob has already touched on many of the highlights of our high level financials, but I hope my comments will give you a little bit more detail. Now, looking at a summary of our first quarter results on Slide 3, you can see we have made -- we have continued the progress that we've made in 2004 by again achieving significant year-over-year improvements in both gross margin and segment operating income. As we will discuss, these improvements were primarily driven by our strategy to improve our mix through selectively growing in the target markets that we've identified. Also to use price increases as a means of offsetting escalating raw material cost, and finally to continue our ongoing cost reduction efforts.

Now, worldwide tire units increased 200,000 to 55.9 million units in the quarter and this unit growth was driven primarily by higher branded consumer replacement unit volumes and stronger OE truck sales -- truck tire sales. It's worth pointing out here that our North America replacement volume grew nearly 8% in the quarter versus the prior year. And it's interesting to point out that this growth was really driven by our consumer replacement volumes, and, again, this is against an industry that grew about 2% in the quarter. So good progress on our North America consumer replacement business. Now, also these increases were partially offset by lower consumer OE volumes, particularly in our North America and European Union businesses. Total sales were up 4.8 billion -- or excuse me were 4.8 billion, up about 11% over the prior year. And these sales increased of almost 290 million due to increased volume, higher pricing, and a more favorable product mix, as well as the benefit of about 126 million due to favorable currency translation. Our sales also increased due to an increase in EPD sales by about $50 million. Now, as Bob mentioned our gross margin improved nearly 1 point in the quarter, again, driven by improved price mix of approximately 144 million in the quarter and this certainly contributed to offsetting higher raw material costs of about 119 million in the quarter. Total segment operating income increased to 292 million from 181 million in the first quarter 2004, and this resulted in a segment operating income margin of 6.1%, up from 4.2% in 2004.

Now, just to touch on a little bit of housekeeping, hopefully all of you have had a chance to update your models to reflect the inclusion of our chemical operation in North America, and also to remove some of the interest OE income. I'm not going to go through in detail any of that here, but I would refer you back to the 8-K that we've recently filed, and certainly Barb and I would be available to answer any questions as we move forward.

Now, this quarter was really one of our cleaner quarters and for that reason I'm not going to go through the items between segment operating income and net income as we've done in the past. But what I will say is that in the quarter we did have a net reversal of rationalization charges which on an aftertax basis added about 7 million to net income. But we also recorded an aftertax charge of about 12 million related to general and product liability on discontinued products. Now, the 2004 first quarter also included certain charges which contributed to our prior year loss, and certainly these are referred to in both our Press Release, and also you can find all of this disclosed in our -- certainly in our Form 10-K -- or 10-Qs.

So net income for the first quarter was 68 million, or $0.35 per share on a diluted basis, and this is compared with a net loss of 78 million, or $0.45 per share for the first quarter of 2004. That's an improvement of 146 million on net income and about $0.80 per share to EPS. I would also like to point out that for our -- that our diluted EPS calculation, we're now using 208 million shares outstanding versus 175 million in the 2004 period. And this is consistent with the applicable accounting guidance which requires the inclusion of certain contingently convertible shares in the diluted EPS calculation, and those contingently convertible shares come from the $350 million convertible offering we did back in July of 2004.

Now, turning to Slide 4, you see price mix drove a revenue per tire increase of about 5% overall, and that excludes the impact of currency. In North America revenue per tire increased 3% over the first quarter of '04, and, again, excluding the impact of foreign currency, the European Union was up 4%, Eastern Europe was up 6%, and Latin America revenue per tire was up 9%. In Asia-Pacific, our revenue per tire was up 12%. Again, I think those increases go back and really demonstrate the impact of price mix that Bob has been referring to.

Now, as you can see on Slide 5, our total segment operating income of 292 million improved 61% over the first quarter of 2004. North America and engineered products both had positive segment operating income, and our foreign tire businesses, particularly the European Union and Latin America continue the trend of significant year-over-year improvement. Higher selling prices, improved product mix, the positive impact of currency translation, which incidentally in the quarter was about $20 million to our segment operating earnings, and the benefits of cost reduction programs that we've put in place are the actions that really drove this improvement. We've now seen six consecutive quarters of year-over-year improvements.

Turning to Slide 6, our cash position at the end of March was 1.7 billion, excluding about 163 million of restricted cash that really relates to the settlement trust set up in concert with our Entran II litigation settlement back in 2004. Our cash was down slightly at the end of the quarter due to normal seasonality, where we really used cash in the first quarter to fund working capital. When adding our available credit under various facilities, our liquidity at March 31 totalled about 2.8 billion, and that was, if you recall, about 3 billion at the end of the year, that differential really is the working capital bill that I referred to. But as you also know we completed a $3.6 billion debt refinancing in April, and on a pro forma basis our total liquidity will increase -- or has increased to about 3.2 billion. And I would point out that the $400 million increase really comes from an improvement in providing us additional access to revolving credit agreements, and as I'll speak of in a moment, that's certainly an important factor for us as we manage our liquidity going forward.

With that said, I'll refer you to Slide 7 and you see a pro forma view of the maturity schedule of our capital market's debt and our credit facilities adjusted for the impact of our recent financing. Through that financing, we were able to lengthen substantially the maturity dates of our credit facilities while also reducing variable rate interest rates and increasing our flexibility to repay portions of the facilities temporarily. Which really provides us with an opportunity for real interest savings, again, as we manage our liquidity going forward. Now, just as a note for the second quarter, relative to our financing fees, which are a component of other income, those fees will be higher by about 30 million in the second quarter due to the write-off or the accelerated amortization of fees related to those facilities that we just refinanced. Now, going forward, the $50 million of fees associated with the new facilities will be amortized over the next five years. So as you think about that, our financing fees will actually come down relative to the 26 million of amortizations that you saw in the first quarter of '05.

Now, the improvement we've achieved in debt maturities and in interest expense will really help us to address our increasing pension contributions which you've heard us talk about on a fairly regular basis in the past. If I can summarize for you, our total pension contributions required now in 2005 will be around 470 to 505 million, and that's for the total Company. The domestic piece of that is about 400 to 425 million. Note, the current legislative measures are extended beyond 2005, the required domestic contribution for 2006 will be in the range of 600 to 650 million plus an international contribution of about 70 million. But if the new legislation -- or if new legislation is enacted, as you know there are certain efforts going on in Washington right now, the required domestic contributions could be up to 725 to 775 million. Now, we've not yet released the level of required contributions looking out to 2007 and beyond really due to the number of variabilities that could impact the calculation against specifically things like actuarial calculations, discount rate assumptions, and return on assets. It's very difficult to predict those numbers that far out. Now, with that said, as we move forward, we'll continue to opportunistically access the capital markets to address both the remaining debt maturities we have, as well as those pension obligations, I spoke of. And certainly, we'll continue to look at opportunities and longer term around asset sales and through raising equity.

Now, turning to Slide 8, in the first three months of '05, cash flow from operations was a use of about 172 million compared to a use of about 270 million in 2004. And the improvement in cash flow from operations was primarily generated from the 146 million improvement in net income that I referred to earlier. From a working capital perspective, we used about 460 million in the first quarter of '05, which compared to a usage of about 560 million in the the first quarter of 2004, and that increase largely coming from the increased sales that we've had in the quarter. Now, working capital continues to remain a focus item for us, and I think you'll hear Bob refer to that later on. As we move forward we're going to continue on the initiatives we have in place. Those cash and OE initiatives and really build on the programs we have, because we do see working capital as a cash generation source for us moving forward. Now, relative to capital expenditures, we spent about 85 million in the first quarter, but I would also say we expect to spend about 640 million on CapEx for the balance or for the entire year, which is consistent with the guidance we've given in the past.

Now, if we can move to each of the SBUs, I would like to go through those and give you a little bit of color there. Starting with North America, if we refer to Slide 9, North America had its fourth consecutive quarter, positive operating income, and really it's the first time that North America recorded positive operating income in the first quarter of the year since 2001. So really the first time in four years that we started the year with positive segment operating income. Clearly, very important to us to get 2005 right out of the blocks off to a good start. From a unit perspective we were up around 3%, and sales grew around 10% over the first quarter of 2004. As I mentioned earlier, revenue per tire improved 3% year-over-year, really due to the high quality share gains in Goodyear branded tires in the broad market segment, also due to improved pricing and continued growth in both the dealer and mass merchandiser channels, as well as strong growth in the commercial and off highway markets. Now, our consumer replacement units grew more than three times the market growth of about 2% in the quarter. Again, I mentioned that earlier, we've had an ongoing trend where our replacement business, particularly driven by Goodyear brand has been consistently outperforming industry growth.

Now, we also gained share in our Goodyear branded products, as well as the private label business as we continue to be selective in terms of growing our private label business. And that's worked out very well for us, especially coming out of the beginning of 2004, where we did see a share decrease in our private label business, that's actually back on track right now. And Goodyear and Dunlop branded tires continue to gain shares in the commercial replacement markets which grew about 4%. And we also gained share in the commercial OE markets which again grew about 19% in the quarter. Again, the market strength tier continues to be fueled by the age of vehicles, smaller fleets adding capacity, as well as some buying ahead of the new engine Regs that will come in, in 2070. Now, although our OE consumer units were down about two times the markets, we were able to replace a portion of those units with replacement products in our plants, which really minimize the impact of the lower OE demand. And as I mentioned, North America's total units were up for the quarter, again, despite this OE shortfall.

Also, in the quarter, we launched about 12 new products, and I would say that this is a significant statement about our ability to be successful with our strategy and focused approach to capital investment and R&D. Our orders continue to be strong around the Wrangler and Fortera tires with SilentArmor, the Kevlar feature that Bob just referred to. Certainly we're very excited about this, but more importantly, we find that this product is resonating very well with our dealers, and really that's the key for us as we move forward. Other products that we launched in the quarter included a Dunlop SUV product, the Grandtrek AT20, as well as a high performance Direzza tire for Dunlop. We also released a Kelly Safari Trex and a private label -- and another tire called the EVO Z High Performance tire. All of these which are really driving our volume even beyond the Goodyear brand increases that we've been talking about.

Now, relative to pricing we announced up to a 6% price increase effective February 15th, which certainly you are aware of. We also announced another price increase of up to 7% in the commercial segment to take effect in May, and up to 5% on all consumer brands, which will take effect in June. Now, in terms of profitability Richard's price/mix accounted for nearly 50 million of the improved operating results in the quarter, and lower conversion costs contributed about a $40 million improvement. That lower conversion has reflected a lot of the cost reduction efforts that we're taking place -- taken in North America. Now, these improvements were partially offset by raw material cost increases of about 64 million in North America in the first quarter. So we continue to make progress in our North America turnaround, and we remain focused on the challenges ahead to driving sustained profitability, again, both through cost reduction and improved profitability.

Our European Union business also had an exceptional quarter, as I'm certain you've all seen. Yet segment operating income of [107] million on sales of about 1.2 billion. I will point out that the quarter did benefit from lower spending by the business in the quarter, which benefited SAG by approximately $10 million. And I must say which will likely be incurred really over the course or over the balance of the year. So we should see some of that come back. Now, relative to the markets, consistent with what we talked about in our year-end call, the markets remained weak in Europe. Only the commercial OE market showed growth in the quarter, it was up about 15%. And we did gain share due to continued success of our new products. We also gained share in Goodyear and Dunlop brands in the consumer replacement markets, which was actually down 5% in the quarter. So certainly gaining share in that type of market is something we're very pleased with. Pricing also remains strong in Europe. We had about a 2 to 3% price increase in January of 2005, and that really helped drive that 4% revenue per tire increase I referred to earlier. So in terms of profitability price/mix again contributed about 36 million to the increase in segment operating income, which more than offset what we saw as about a $16 million increase in raw material costs in Europe. Now, the driver of this increase continues to be our focus on continuing improvement in our target markets, and segments and, again, in both the consumer and the commercial business.

Moving on to Eastern Europe. We did gain share in Eastern Europe due to strong growth in Russia, Central and Eastern Europe, in Poland, and in South Africa. Overall, the consumer market was basically flat while the commercial replacement market was down almost 4% due really to what we saw as unusually heavy snow falls in the region, which we really see as something that slowed down sale into the dealers as customers delayed the purchase of their summer tires. Now, mix improved due to increase demand for performance, 4x4, and winter tires, which really is reflected in that 6% revenue per tire growth. Again, we are mixing up on the products. We're selling in that emerging region. Price/mix contributed 15 million to profitability, which more than offset what we saw as about a $9 million raw material increase in Eastern Europe.

Now, looking on the other half of the slide, you can see that our Latin America business segment had another outstanding quarter with 15% sales growth and a 40% improvement in segment operating income. Now, in the the first quarter, pricing and improved mix were able to offset raw material increases of about $16 million. Commercial tire units grew 2.5% versus about a 1% growth in consumer tires. Now, although the OE markets are growing faster in Latin America than the replacement markets which we've seen have had minimal growth, we do continue to improve our price/mix. So really something that is continuing to our benefit, even though we have that anomaly of a replacement market outstripping a -- excuse me, an OE market outstripping a replacement market in the region. Again, pricing and mix contributed approximately $36 million toward the improvement in segment operating income. So, again, another good quarter in our Latin America region.

Now, moving on to the Asia-Pacific region, sales increased 6% and profits improved to 19 million. Now, relative to China we're seeing a modest rebound of the consumer OE market really coming out of that slowdown we saw in 2004. We do see the OE markets, consumer OE markets there gaining momentum. Revenue per tire was up about 12% as countries, such as India continue to migrate to radial tires from bias tires and we're seeing that in our price per tire assessments. Pricing and favorable mix contributed about 28 million to sales growth and on the profitability side, positive price mix of 11 million really offset what we saw as about 8 million higher raw material costs in the Asia-Pacific region. And I would also point out, and you may remember, that the first quarter of 2004 we did have about a $5 million write-off of inventory in our SPT joint venture that was really part of the consolidation of that business under the FIN 46 provisions.

Now, moving on to engineer products while we saw the industrial, the OE truck, and the military businesses really continue to perform well, they really are very strong in profitable markets, the OE auto business is weak, as you all know, and really this is the primary cause of the year-over-year reduction that we saw in operating income. Higher volume favorably impacted operating income by about 17 million, however, we did experience some higher conversion costs in the quarter relative to some training on some new lines that we're putting in, in a number of our factories. And also I must say that higher raw material costs certainly hurt our profitability in the quarter. But overall, while the slowing OE business and higher raw material costs prevent challenges, we remain very positive on the core improvements and initiatives our EPD team is executing relative to cost reduction, partnering with their existing customers, as well as identifying new customers, and introducing new products. Still a lot of momentum in that business as we focus on a lot of new initiatives.

So overall, our businesses continue to execute on their plans, and we are clearly pleased with our first quarter results. And while the Company anticipates that it's operating performance for the balance of the year will exceed its performance in the comparable 2004 period, the rate of gain really is expected to be a little bit less than what we've seen in the first quarter. So with that, I would like to turn the call back over to Bob, and he's going to talk a little bit more about our turnaround efforts, as well as an outlook for 2005. Bob?

Thanks, Rich. As I indicated at the outset of today's conference call, and then Rich has illustrated for the first quarter, the trajectory of our business results has dramatically improved. And I will tell you that we believe the change drivers responsible for our improved performance are sustainable. Now, to put our gains in perspective, I thought it might be beneficial to step back to 2001 and examine for a few minutes how the structural changes we've made to our business, coupled with our seven strategic drivers which we've talked about in prior calls, have resulted in such dramatic change.

In 2001, frankly, we were underperforming in a weakening industry and suffering from considerable self-inflicted pain. In our businesses, our decision-making was hampered by a focus on volume rather than mix flexibility and profitability. We have completely changed that business focus. In the midst of our difficulties we also saw that the industry was presenting attractive and emerging market opportunities. For example, the growth at high performance, ultra high performance and large rim diameter tires. For example, the radialization of truck tires in Latin America and Eastern Europe. So in changing our business focus we directed our attention and our dollar resources toward those opportunities.

To rebuild our businesses we knew that we had to take ourselves to an entirely new level of performance, and we had to make broad-based and dramatic structural changes. Essentially, we had to change the way we do business. So what different choices did we make? I'll provide you with several core choices we made to illustrate my point. They are not exhaustive, but these are very illustrative of the kind of changes that we made. We made the choice to be more selective in our consumer OE business, both to improve our profitability, and to become less susceptible to OE volume fluctuations. This decision, in combination with our emphasis on improving our mix in the consumer replacement market, has shifted our volume to higher margin products. Today we make our OE decisions based on the full system economics, full system economics of both initial OE sale and the subsequent replacement sale. Today, we have the analytic power to understand these OE to replacement loyalty rates by individual car model, and the result has been improved profitability.

In the commercial truck business, we were lagging the competition, but we had outstanding core assets. We made the choice to focus our resources on the truck market by developing industry-leading products, by improving our cost structure, by establishing truck product business units with full P&L responsibility and NAT and in the European union. And by capitalizing on the radialization of the truck tire business in emerging markets. We also saw an opportunity to couple our leading products with a service orientation to create a cradle to grave value proposition, which quite directly allows us to more broadly participate in the profit pools of the growing truck service market. And you've seen a recent example. We recently assumed management of pilots truck service centers in five states as an extension of that value proposition. And I can tell you there is more to come. The result, again has been improved profitability.

Within the consumer replacement business, we made the choice to focus on our core brands, Goodyear, Dunlop, Kelly, and in Fulda in Europe. We have dramatically enhanced our marketing programs, our marketing dollar spend levels, and our focus on the premium end of the product and brand mix. As the OE market softened in late 2004 and early this year, this set of choices provided us the flexibility to take advantage of the strong replacement market demand for our branded products, and the result has been improved profitability. We also decided to be more committed and selective in our private label business, we are today providing a more selective set of customers, better products, better service, and a better overall value proposition. Again, the result has been improved profitability.

We also have made the choice to significantly improve the capability of our teams and to push decision making down in our Company. Our decision making has improved significantly as we have become much for analytic and market oriented in our processes. Our capabilities are improving throughout the organization as we are blending new talent from outside with knowledgeable talent from within Goodyear, and driving decision making again lower at our organization. The result has clearly been improved market based decisions, faster decisions, and, once again, improved profitability. In summary, we made core strategic choices about how we would compete. The resulting structural changes that I've illustrated here this morning, coupled with the focus on the seven strategic drivers, and I'll mention them briefly, outstanding leadership; lower cost structure; cash is king intensity; a fully leveraged distribution network; enhanced brand strength; product leadership; and an advantage supply chain; have driven dramatic change in the way we allocate our capital, and collectively these choices have driven dramatic performance improvements.

We are delivering on the plan we presented to you in 2003. We are gaining share in key targeted markets. We are delivering innovative new products that are being recognized by our numerous third-party awards, and even more importantly are gaining the overwhelming acceptance of our dealers and end-users. We achieved double-digit sales growth in 2004, and again here in the first quarter of 2005. We exceeded our goal for revenue per tire. We've now achieved segment operating income that is 2.7 times the 2001 level. We had significant operating margin and earnings per share improvements. It is these business structure changes, and I would say our demonstrated ability to execute against them, which gives us confidence in our future. You can expect us to build on the price/mix and product initiatives under way, and you can expect us to devote increasing attention to cost reduction cash generation. And I'm going to make some comments on those areas.

To date, we've made significant progress in our three-year cost reduction target of more than $1 billion. And that contributes to our gross margin improvement. However, we fully acknowledge that those reductions have been moderated to a large degree by the headwinds of increased benefit costs, rising raw material costs, general inflation, and the increased production and material costs that result from our structural changes towards premium and high-cost products. I want to repeat that, because I think sometimes this is ignored. The increased production and material costs that result from our structural changes toward premium and high cost products. I want to provide you with several examples of our increasing attention to cost and cash generation.

First, in China, we see the potential benefits of increasing our procurement of raw materials, semi-finished and finished products, equipment, parts and tools from 80 million currently to 800 million over the next five years, 80 to 800 million. This potentially game changing decision will, of course, fundamentally reduce our cost structure. Second, we see additional opportunities ahead by accessing third-party low cost product. Pierre Cohade, the recently appointed President of our Asia-Pacific business based in Shanghai is working closely with our businesses to identify and capitalize on the available opportunities. Third, we continue to analyze our global manufacturing footprint for potential capacity reductions.

Fourth, we will continue to improve the utilization of our global manufacturing footprint through flexibility and increasing product standardization. To date, we import 27 million tires into North America and Europe from low cost sources, and we see that number growing to 32 million in the foreseeable future. This is on track with what we indicated with the plan we presented to you two years ago. And the combination of accessing low-cost third-party supply sources while leveraging and rationalizing our own existing manufacturing sources will further reduce our overall cost structure.

Fifth. Productivity in our manufacturing facilities has the full attention of Chris Clark, our Senior Vice President of Global Sourcing. Chris has assembled a team of lean manufacturing experts both from inside and outside the Company, and is implementing disciplined processes to deliver cost reductions that are well-ahead of inflationary increases. Our objective here clearly is to establish a best-in-class manufacturing organization. Sixth, outsourcing is another area of focus. To date, we have partnered with IBM to outsource our indirect procurement operations in Europe, from which we expect significant cost savings in 2005 and beyond, and we are currently evaluating similar opportunities in other regions.

Seven, cash generation continues to be an area of focus given the cash calls on our business that you're all very much aware of. Our working capital levels while favorable relative to the industry are higher than we need them to be; they're higher than we need them to be. This represents an additional source of financing for Goodyear, and is consistent with our commitment to deleveraging the Company. And of course we continue to review our portfolio of businesses to evaluate opportunities for additional asset sales.

Now, whether it is our additional focus on leadership throughout the organization, a continuation of our sales and marketing improvements, or an intense focus on costs, working capital, and cash, I can assure you that the intensity and the capability we will apply to our opportunities will continue the improvement in our performance. We plan to take full advantage of the momentum that we have today. Now, we acknowledge that we have provided you primarily with areas of focus today that will generate additional questions, and, Barb, you'll be handling those additional questions. And, therefore, we plan to schedule an investors meeting in New York in September to talk more about specifics. And Barb will be getting back to you with details around the timing and nature of that event.

I would now like to turn to Slide 14, and make some comments on our 2005 outlook. The consumer OE business in Europe and North America has been soft, as Rich indicated, while the commercial OE business in both regions has been strong, at 15% growth or better. We believe that the second quarter will remain soft at OE, and I know you've seen April sales results here in North America, our comment remains, we believe that the second quarter will remain somewhat soft at OE. But we're anticipating a recovery in the second half of 2005 as new models are launched. For the year, we would expect the consumer OE market to be flat with 2004. In North America, we expect the commercial OE market trends to continue through the year. Europe is expecting growth to slow in commercial OE to the 6 to 8% range for the full year, slow from the levels of the first quarter.

I'll reference our outlook for replacement markets. On the replacement side in North America, we would expect the market to improve to trend line growth for consumer and slightly better in the commercial market than trend line. In Europe, the replacement market, as you know, has been very weak, although I would comment that the comparisons in France for the first quarter were very, very difficult, given the institution in 2004 of the Ecotax. April appears stronger than the first quarter in Europe, and above last year. And we would expect volumes to come back to 2004 levels with a further improvement in product mix in our Company. Relative to costs, we will be very agressive in accelerating our rate of productivity gains, and reducing our cost structure to offset escalating raw material costs that we anticipate we'll face throughout 2005. On raw materials, we are estimating an increase of 8 to 10% in the second quarter, and, as you know, we had roughly a 10% increase in the first quarter, and for the full year, we're expecting an increase of 6 to 8%.

As Rich mentioned, although our spread over LIBOR is lower after the recent refinancings, the increase in LIBOR has caused our interest expense to be at roughly the $100 billion level again for the second quarter. And we're expecting capital expenditures of about $640 million in 2005, and as Rich indicated we're underspending that in the the first quarter, but we'll be at about that level. As I've said before, we're playing here in this tire industry to win, to be the clear leader in our industry, and certainly today we have momentum in our markets and in our financial performance. I would now like to open the call, Barb, with you for questions.

[OPERATOR INSTRUCTIONS]. Your first question comes from John Murphy with Merrill Lynch.

Good morning.

Good morning, John.

On the North American market, and we made some great advances in the replacement part of that business. Just wondering if you could characterize the market share gains there based on your introduction of products, your better fill rates relative to some competition. Just really wondering what the real driver of those gains were there?

John, I think that's a good question. And I would say to the way you phrased the question, it's a multiple driver kind of situation. I don't think we can say it's all -- that our gains are all because of new product. Look, we've been building a capability in North America over the past two years, John Rich and his team have really done a nice job of rebuilding dealer relations, and that is a key factor. We have introduced great new products, as I've said which are earning industry awards, but more importantly, earning the trust of our dealers and our end-users. We have got a much better analytics now with which we go to market, and that's helping us in price management. But also in terms of driving the mix, not just in product, but also in brand, and in our dealers, and we're making very conscious choices in those areas.

We focused on the Goodyear brand two years ago, and the Goodyear brand is doing exceptionally well. I think we're building our brands and building the kind of equity in our brands that, frankly, those assets deserve. So I think it's a combination of those things that is driving the success. And if you go back to the seven drivers, we said advantage supply chain absolutely critical for us. And you know our fill rates are improving, not yet where we want them to be on the Dunlop brand, but improving. We said we would build our brands, and we're doing that. We said that we would certainly bring innovative new products to market, and we're doing that, and we had to repair dealer relationship, and I think that's behind us. We shouldn't even talk about that anymore. It's already been built, and dealers are very positive. So I think it's a combination of those things which we see here every day.

But specifically you think your fill rates in North America improved in the first quarter?

Yes, fill rates definitely improved. And I'll make a comment here, because there may be other people on the line that would ask a follow-up question to that. Still have some issues with Dunlop, but we're improving in that area. Frankly, the orders that we're seeing on the new SilentArmor products are well-above our expectations.

As I said, they're above the Assurance launch numbers of 2004. So you will hear our dealers commenting on that and, frankly, launching a new product, that's not necessarily a universally bad thing. You know, we've got some issues there. And, of course, in the truck business, I think we, like most people in the tire industry, are somewhat short of product in the truck area, and also in the off-the-road heavy large tire areas for mining and construction. So there are some issues, but we've improved our supply chain today.

And just on Europe Real quick, the improvement in price and mix were big year-over-year gain there, how much of that is Goodyear specific and how much of that is the general move in the market? Because the market seems to be enriching quite a bit. I was wondering how you would [indiscernible] to the market?

I would say this, that we -- again, made some decisions and some tough choices a couple of years ago to really focus on high performance and move into ultra high performance tires in Europe, and as well as the 4X4 segment. And we've built a significant marketing engine in Europe, both in terms of new product, which we don't talk as much about, I guess, on these calls as we do the North American product. So they've introduced new product that has, again, helped us differentiate from the competition. So I would say (a), the market is doing very well in those areas, just as it is in the U.S. Although, Europe has moved quicker and more dramatically, but we are doing better than the market in those areas, both in terms of high performance and 4X4. You can see it in our mix, John. You can see it in the mix in Europe and the revenue per tire that we're getting.

Then just lastly, on pensions, the contributions that you alluded to for this year and next year, those are required contributions; is that correct? And if so, is there the opportunity to maybe go above and beyond those to sort of help prefund the pension plan so you might not have to make such large contributions in the future?

Why don't I start by commenting that, yes, those are required, and then Rich and Darren can follow-up with comments the strategy here.

John, they are as Bob said, they are required contributions, and our intent in doing our refinancing have been -- to put us in a position to be able to make those contributions going forward. In terms of prefunding additional amounts, as we sit here today, that's not something that we have in our plans, but obviously we'll continue to assess everything. As we move forward we have a lot of variabilities that could hit those items relative to some of the assumptions externally, which could potentially even reduce those or increase them. So as we look forward, we'll continue to evaluate that, but given the other initiatives that we're working on at this point, we would not see any significant refunding of that pension obligation.

Those contributions, as far as the funded status, would they improve your funded status, or would they keep it about where it is at about 3.4 billion are so underfunded?

You know, I'll let -- I'm going to let Darren elaborate on that a bit. [multiple speakers]. Remember, when we do fund those, certainly we're making our funding requirements, but also we're making payments out of that plan every year for pension plan participants as well.

Yes, echoing what Rich said, John, I think the -- you know, clearly as we make contributions of the size that we're looking at next year and given where our expense levels are, and that starts to improve our underfunded position, which, as you noted, at year-end it was $3.1 billion. So it's substantially underfunded position, but as we make those contributions, it will come down, and obviously that helps both the funded position and the expense levels over time.

Great. Thanks a lot, guys

Thanks, John.

Ladies and gentlemen, we do ask that you please limit yourself to one question in order to give everyone an opportunity to ask their question. Your next question comes from Rod Lache with Deutsche Bank.

I got the warning just before I got on. [Laughter].

We knew that, Rod.

You saw me on the list, huh? [Laughter].

It's important to be number one.

Maybe I can ask a multiple part question. Just looking at North America, could you tell us what the revenue in EBIT would have been ex-the chemical consolidation? Also looking at North America could you talk about -- the average transaction prices being up 3%. I would thing that that is basically what you would get from mix with the OE down and the replacement up and the commercial so strong. Was there pricing in there, as well? Is that -- is that slowing, or am I missing something? And maybe comment on the prospects for North America the next couple of quarters, with the price increases that you guys have in the back half are you anticipating a meaningful improvement in margins there?

Okay. I'll take the first question. Rod, relative to what North America would have done ex-chemical, it would have been a profitable, a modestly profitable, let's say, but what we don't want to get in the habit of doing is now quoting, like, North America ex-chemical going forward. I'll just tell you that again we would have been profitable, but certainly not the 10 million profitability that you see.

And, Rod, I'll try to integrate your questions even further, and just tell you that, no, we're seeing some pricing stick in North America, as I've said before. On the commercial side of the business virtually everything that we're putting out there in price increases is passing through. And in consumer, a portion is and that continues to be a -- you know, a significant portion. So you can read the 3% as a combination of pricing and mix, as you indicated.

As you know, we've made further announcements in both commercial and in consumer, you've seen that earlier this week, that we put through up to 5%. So our anticipation is that you can continue to see a positive price and mix here going, you know, on through the balance of this year. And we're certainly hopeful about the prospects in North American tire, but I'm not giving specific guidance.

But you would expect EBIT margin improvement? Seasonally, usually you do get that anyway.

Yes, remember, in the second and third quarter for us are the two quarters where you -- we used to think you've made or break -- or broke the year in the second and third quarter. We now thing that you make or break the year in the fourth, first, second, and third quarter. [Laughter]. You know, it's very true. You've got to hit it every quarter, and we're committed to doing that. But the second and third quarter will be, you know, we anticipate North America will show improvement.

Okay. Thank you.

Thanks, Rod.

Your next question comes from Himanshu Patel with JPMorgan.

Hi, guys. If we see oil and steel, let's say moderating or in one case declining, how much of a change in spot market prices is going be to required before you guys would consider the 6 to 8% raw materials to increase guidance for this year to perhaps be conservative? Or are we just not there yet, or are you still thinking that that number still has a lot of upside risk to it?

Well, I think, -- we've all I think in this industry and in other industries, learned the lesson over the past few years, and that is, that changes can be dramatic. Often they can, I guess, just as well be dramatic down. So we're trying our best to be prognosticators here, but essentially we're reading the market and reading the supply demand situation as best we can at this point.

We don't have a definitive prediction beyond the 6 to 8% for the year. Could we be wrong in the upside? Sure. Could we be wrong on the downside? Sure. And we're working to be extremely flexible here in terms of the business and marketing judgments we're make around that. But, you know, we wait until there's a trend and a change that we consider to be significant for our business, and then we make our tactical decisions accordingly. And that's about all I can say at this point on that one. Wish I could be more definitive. Frankly, I wish you guys could be more definitive with us and tell us which way things are going. [Laughter].

Okay, and then, on pricing and mix, going back to Slide 4, the revenue per tire increase across the regions, I'm just interested in Europe. You know, we're seeing a weakness obviously in volume in several categories there. Have you seen sort of any sense of more irrational pricing behavior in that market emerge just in the last couple of months or is pricing still -- I mean the evidence from your competitors suggests that pricing is still is remarkably strong there.

I'll just comment on what we see in the markets. In the consumer markets, we see no wavering. Price increases are sticking, and that may be somewhat surprising to people, but we see those sticking. And in the commercial business, you know, likewise, we see price increases primarily sticking. There will always -- given the breadth of Europe and the diversity of Europe, there will always be some instances where people are maybe do some things that are not aligned with what I've just said. But as an overall statement around Western Europe, no, price is sticking very effectively.

And I think that, you know, you're in a market there, and I think it's important for us to recognize, you're in a market there where mix is very, very important at this point. People are moving the larger rim diameters to ultra high performance tires, to ultra high performance winter tires, and ultimately we feel they'll move to run flat tires. So given all of that, you know, you've got a much richer mix, and that I think to some degree is overwhelming the pricing considerations of the consumer.

Okay. And then one housekeeping question maybe for Rich. The NOLs, when do they expire?

Well, Himanshu, are you speaking of our NOLs in particular more of the when we can utilize our deferred tax assets?

The latter.

Yes, that's what I thought. Basically, by the time we can put our deferred tax assets on the books, we have to demonstrate not on an SBU basis, but on a North American legal entity basis that we have sustained profitability over the long-term. Like most things, getting to the point where you put a reserve on evaluation allowance happens much quicker than the timing in which you can take it off. So I would just tell you it will not be in the next few years, let's say.

Okay. Thank you very much.

Good questions.

Your next question comes from Monica [indiscernible] with Morgan Stanley.

Good morning.

Hi, Monica.

I was wondering just a clarifying question on the pension contributions, --?

Popular topic.

Yes, very popular. In terms of the '06 guidance that you've given, and even the '05, if you were to return on the assets lower than what you're booking on the [indiscernible] statement would any of these numbers be intacted, [indiscernible] assuming certain asset returns?

Yes, Monica the -- it's interesting and we don't want to get into a long pension/accounting debate, but remember what's used under the accounting rules are the estimated returns on plan assets. And when those returns -- the actual differ from estimated there is a calculation and an assessment that you have to go through on deferred -- differences, if you will. And then those get amortized in over time. So there is not necessarily a direct correlation between the -- difference between estimated and actual asset returns. So in other words, if we earn less than the 8.5% that we have baked in our plans the difference -- you can't assume that the difference is automatically going to go into an increased pension expense in -- in the [indiscernible] year in 2006, in this case.

Right, now I know that you smooth it. But I guess the question is, when [indiscernible] go in and measure it you have to look at what the actual returns are. I'm trying to understand your guidance on the cash contribution side. What kind of returns are you assuming?

Yes, Monica, this is Darren. We're assuming the same 8.5% for those years. [multiple speakers].

[indiscernible] let's say the equity remains lackluster, how should we [audio difficulty] should I use those old sensitivities?

Yes, I was going to say Monica there's no good sensitivity to use for the fund -- required funding calculation. The efforts to come up with sensitivities on that has defeated us I think [multiple speakers]. For the accounting numbers I think we've got some sensitivities out there and I think they have not changed from year-end which I that that we had at year-end some sensitivity out there about what a -- half a point difference in our asset returns would do for us if we made that assumption permanently. And I think the number is about $15 million, if we went from, for instance, 8 to 9 -- 8.5 to 9% on that return rate assumption.

And then a question on the cash on the balance sheet, [indiscernible] significant cash, how much of that is in U.S. versus overseas? And correlating that would be, how much of [indiscernible] probably need to operate and you have upcoming [indiscernible] can you talk a little bit about what's the most cash you really need to operate this business in terms of what you need on the balance sheet? I know you have a lot of liquidity outside the cash, but just to give us a sense of how low could that go?

Yes, Monica, we're -- it's a little bit hard to hear you. So I'm going to repeat the question back and make sure I got it.

Okay.

Your first question I think had to do with how much of our cash, the cash that's on our balance sheet is held domestically versus overseas?

Yes.

And the second question had to do with how much cash we need to operate generally?

Right.

Okay. Let me see if I can come at that because it's not on the slide. But in terms of the cash that we had on March 31st, about half of that is domestic. And the -- it's similar to where we have been historically. In terms of how much cash we need to operate the business we don't have definitive guidance that we provide there. Obviously, we do have a lot of locations out there and many of those don't have credit lines to draw on for working capital, so they will typically maintain a cash balance, which at various points of the year are going to be a little bit higher because their working capital is down. So we do have some cash spread around the world to help manage working capital. But I would say that most of the cash that you see on the balance sheet is available to us to use and need, you know, working capital needs and the obligations we have like debt repayment and pensions contributions.

Monica, we're going to have to -- this is Bob, I apologize, we've got to move on. We've got other people in the queue. But follow-up with Barb and with Darren if you would.

Okay. Thanks.

Our next question comes from Saul Ludwig with Keybanc.

Well, good morning, everybody.

Good morning, Saul.

I was just wondering if you could just talk about -- really you blew the numbers away in Europe and in Latin America, the sustainability of earnings at those levels and those margins -- their unusual factors that contributed to them and how do you see those two segments playing out the rest of this year?

Maybe I'll just make a couple general comments, Saul, about it because I think if we went back two quarters you could make the same comment about Eastern Europe, Africa, Middle East as well. Look, our foreign businesses are doing very well. They kill great pains. They've got good market momentum. Rich made a comment about Western Europe, that we have some expenses that, frankly, we deferred for good market reasons out of the first quarter that will hit us as we go through the balance of the year. So we do not expect -- although, we're hopeful, that Western Europe will continue at that kind of weight of earning growth over the balance of the year. So markets are weak in Western Europe as we said. And, of course, that's one of the challenges or concerns we're looking at there as we go forward.

With regard to Latin America I've said on previous calls that we've got an outstanding dealer network, outstanding brands, and outstanding team of people in Latin America and those results are now coming forth. We also recognize the inherent volatility of the political and economic environment in Latin America. And so it's more [indiscernible] to that. If we continue to get -- at least on a relative basis, relatively stable political, relatively good economics we feel very good about Latin America. But I'm not going to try to predict where the next level of volatility may come in Latin America. So we're very definite that we've got a great platform there and we're confident that we're building a great platform in Western Europe as well.

In Europe you talked about why you might have a little down draft because of the expenses. In Latin America with the Real strengthening, does that directionally cause you to be more optimistic, let's say, about the second quarter than the first quarter, because of the strengthening Real?

Well, it would be hard to say directionally it makes us less optimistic. So, I guess it, therefore, Saul, you can draw your conclusion as to magnitude. I think what you're looking for is a magnitude question. I can't give you that. It's just that as things are stable in Latin America, that is a very good sign for us, because of the incredible strength we've got from a market standpoint and now we're proving from a financial standpoint in that region.

Thank you.

Thanks, Saul. And I think --.

Would you turn the call back over to Bob for his closing comments.

Okay. I'll just make a quick comment here, that as I told our shareholders last week at our annual meeting, that based on the successes we're seeing in our global markets and the resulting business momentum, we are very encouraged, but we are certainly not satisfied. Our full intention is to build aggressively on the business momentum that we have, and we recognize, as we've highlighted on this call, and you've highlighted on this call, we have much work ahead of us. But we are now confident, as we pursue that work. I want to thank all of you for joining us on the call today, and thanks for your questions, particularly.

Thank you.

Ladies and gentlemen, this concludes today's conference. You may now disconnect.