Lear Corp (LEA) 2004 Q2 法說會逐字稿

Good Morning, my name is Linda, and I will be your conference facilitator. At this time I would like to welcome everyone to the Lear Corporation 2nd quarter earnings conference call. [Operator Instructions] Thank you. Ms. Ann Bork, Director of Investor Relations, you may begin your conference.

Good morning everyone, we would like to welcome you to Lear's 2nd quarter 2004 earnings call. This morning we filed our press release and slide deck with the SEC and we also posted them on our website for you and you can find that at www.lear.com.

I would like to take a few minutes to introduce who is in the room with me today. We have Bob Rossiter, our Chairman and CEO, Jim Vandenberghe, our Vice Chairman, Dave Wajsgras, our Senior Vice President and CFO, Jerry Burgess, our Treasurer, Bill Dirks, our Controller, Mel Stevens, Vice President of Corporate Communications, and we have a special guest, Bill Pumfrey, he is the President of our Asian Pacific Division. Today we are going to be giving some forward looking statements that our subject to risks and uncertainties, some factors that could impact our future results can found on our slide deck and the last page. We will also be talking certain non-GAAP financial measures and again the definitions for those can be found in our slides.

Now if you will turn to slide 2 I will go through the agenda. First Bob Rossiter, will give a strategy update focusing on Asia, next Jim Vandenberghe will give an operating review, then Dave Wajsgras will give a financial review and also update our 2004 guidance. And lastly we'd be happy to take your questions. Now I'll turn it over to Bob.

Thank you very much, Anne.

If you'll turn over to slide 4, before we get into the second quarter, I'd like to update you on our strategies and major trends in our business. Our customer focus strategy is on change. Satisfying our customer is what Lear is all about. Our overall business has never been stronger. Customer demands are always tough and in this market we all know that. It is a very, very competitive market, but we have met their requests and their requirements and we've still delivered solid financial results. Our growth in terms of our backlog is at its highest level in our history and our diversity of our new sales is very well balanced. Our objective to grow with the Asians is in fact happening inside and outside of Asia. We have put significant infrastructure in Asia with particular emphasis on China and Korea. Go to slide 5.

Our strategy is simple, that is leverage our strong position with our North American customers. We believe total interiors is going to be a reality, and the way we're going to achieve that is to focus on the things that we do best and that's deliver the highest qualify products in the business. We continually focus on improving the quality of our products. Also customer satisfaction. The best service in the business. We believe that will allow Lear to get the new business and the growth and sell total interiors. But we also believe it's going to affect our competitiveness situation and make us even stronger and more competitive in the future.

In Europe we want to improve our business structure, and we have done exceptionally well recently. We're focused on seating, cockpits and electronics as growth opportunities for the future. Our financials continue to improve. I'd like to point out that we're on track to achieve our third consecutive year of margin improvement in Europe. In Asia and the Asian producers in the world market are our top priority. There is great growth potential with these customers and we are well positioned to grow and they want us. If you'll go to slide 6?

For the past few years we have significantly increased our presence in the Asia Pacific region. In fact, we are in six key markets in Asia. China, Korea, Japan, India, Thailand, and the Philippines. In total we have 22 manufacturing sites and seven engineering centers in Asia, and those manufacturing sites are growing. In China, we are very diversified in terms of our product offering. It is the broadest product capability we have in Asia. We are well positioned for growth in the Asia Pacific region and we have our special guest today is Bill Pumfrey, the President of that operation and he is successful out there and doing extremely well so if you've got any questions for him he's ready to answer. But the future is bright in Asia for Lear. If you'd go to slide 7?

We're well-positioned in terms of the diversification and technology. We continue to develop strategic partnerships to enhance our position. Also at the same time we are growing with the Asian producers in our primary markets in both North America and Europe. We have excellent capability, technology, partnerships, and our reputation is growing quickly with the Asian customers. If you'll go to slide 8? Our total Asian sales have doubled over the last two years. Much credit goes to Bill Pumfrey and his fantastic team out there. With the strategy and the focus we have in place, we are going to grow. I'd like to now turn it over to Jim Vandenberghe.

Thanks, Bob. Moving to slide 10, first off good morning.

Slide 10 summarizes our second quarter operating highlights. Really the key financial highlight is that the company delivered record second quarter net sales of 4.3 billion and net income per share of $1.65 per share. I think importantly we reached agreement on the open issues for the may facility actions that we've talked about in the past few quarters Our quality metrics continue to improve and we received four world excellence awards from Ford.

And as Bob just discussed, we're delivering on our strategy to expand our presence in Asia and with the Asian OEMs globally. During the second quarter we made significant progress in China we won our first [TEAC] business with GM[Daiwoo] on a future program in Korea. . And in North America, we were awarded new seating business with Mazda. Over the past quarter, the new business that we've picked up from the Asian OEMs amounts to over $300 million. And also importantly, earlier this month we completed the acquisition of Grote & Hartmann and the integration process is well underway.

Going to slide 11, quality and customer satisfaction remain our top operating priorities and we continue to drive quality improvements worldwide. We are focused on defect prevention, and using data driven tools such as Six Sigma as well as process improvement tools, including Lean Manufacturing. You can see from the slide we've made significant improvements in defective parts per million over the last four years and we're on track for a fifth consecutive year of improvement. Now going to slide 12. We believe our focus on quality and customer satisfaction paving the way for future growth. Next few slides provide an update on some of the significant new business.

I'll start out with an update on China. As you know, China represents a sizeable growth opportunity for the automotive industry and as Bob mentioned, in recent years we put significant infrastructure in place to be in a position to participate in China's growth. We have steadily been winning new business that will come online over the next few years and just recently we secured new business, significant new business, that is coming online later this year. With our first wholly owned foreign entity in China we won seating business with First Auto Work, China's largest automaker. This business for the Audi A-6 will begin production in October of this year. In addition we've opened our first electronics plant in China to supply Shanghai GM in China, Honda in Japan, and Saturn in the U.S..

In terms of future business, our joint venture with [Yung He] was awarded the seats on a future Peugeot program which will go into production next year and we've established a strategic partnership with Dong Feng motors to support future business with Nissan and Honda. Slide 13, North America, we continue to make progress with the transplants. We won our first seating business for the Mazda brand. We took over production of seats for the Mazda 6 and seat components for the Mazda Tribute and Ford Escape on June 1st. This business expects to have a running rate of about 100 million in annual sales. And while the award of this new business I've talked about is great news for Lear long-term, launch and engineering costs obviously will have a somewhat dilutive impact in the second half. Slide 14 highlights our major launch activity in the second half.

We will be supporting the domestic automakers launches with the Buick Lacrosse, Dodge Dakota, Ford Freestyle and Ford 500 and the Jeep Grand Cherokee. In Europe we are launching the Audi A6, the BMW 3 series and the Citroen C6 and key launches include the Honda Pilot, [inaudible] Odyssey, Nissan Liberty and the Toyota Tacoma. Slide 15, take a look at content per vehicle. Our European content per vehicle has been increasing steadily over the past 3 years. This year we are on track for an all-time high content per vehicle given the high European concentration and our backlog. 2005 we see our European CPV growing or continuing to grow but at a more moderate pace.

Moving to slide 16, in North America our content per vehicle this year is negatively impacted by program phaseouts and a lower than historical North American concentration of our backlog. Next year we expect our CPV in North America to resume its solid growth trend as a record of new backlog is scheduled to come online. So in summary from an operations standpoint, we are solid. We have the management team in place to execute our strategy, which is to profitably grow our business. At the same time, we'll continue to drive cost and quality improvements throughout our company so that we can meet the ever increasing needs of our customers Now I'd like to turn it over to Dave for a finance review.

Thanks, Jim Now, if everyone could move to slide 18.

Starting with a look at the production environment during the quarter, North American production was about flat versus last year. Key Lear programs were down more than the industry average. Some of the platforms include the GM Yukon and Tahoe which is down about 11% and the Ford Explorer which is down about 7%. The Taurus Sable and the Bonneville LeSabre large car programs were also down. In Europe production was up about 1%, while Western European production was down about 2%. The_Euro during the quarter was 7% stronger than last year. Moving to slide 19, which outlines our second quarter financial results.

We had record second quarter net sales of 4.3 billion up about 4% from 2003. Core operating earnings were in line with last year resulting in a 20 basis point decrease from a margin perspective. I'll add more color on this in just a minute. Our net income per share was $1.65 up 7% from last year. SG&A has a percentage of net sales with 3.7% up 20 basis points driven in large part by preproduction development costs which support new business in all of our major markets. Interest expense was around $39 million down about $9 million reflecting both interest rate related actions and lower net debt balances within our debt portfolio. Other expense at 14.8 million was in line with previous guidance. Lastly we continued to realize benefits from our global tax planning efforts resulting in continued improvement in our overall effective tax rate. You now move to slide 20.

This chart further explains the impact of the more significant financial drivers during the quarter. Increase of 183 million in net sales reflects new business coming online and the favorable impact of foreign exchange which is offset in part by unfavorable vehicle production mix. Our core operating earnings were essentially flat with improved net operating performance and the profit contribution of new business globally being offset by the impact of new business development expenses, cost associated with facility actions, and the mix of vehicle production. Last quarter we indicated that to contain the pricing of our raw materials in the intermediate term is difficult but largely achievable. Since then market dynamics have intensified. During the quarter, we did absorb much of the impact. As we look to the back half of this year, the adverse cost pressure could be even more significant. Our operating margins were down 20 basis points to about 5% reflecting the factors I just discussed as well as the impact of foreign currency.

If you'd move to slide 21 looking at free cash flow, we generated about $140 million during the quarter. Strong conversion on our sales and the positive results from working capital management allowed us to support a higher level of capital spending. The important point here is that our ability to generate cash is allowing the company to invest in profitable growth opportunities worldwide. Looking at slide 22, I'll now update the guidance. For the full year, North American production remains unchanged at around 16 million units. We've raised our European production estimate to about 18.5 million units, up from 18.2 million. For the third quarter, we see industry production in our major markets essentially flat with a year ago, 3.6 million units in North America and 4.1 million units in Europe.

If you'd look at slide 23, we see third quarter net sales at roughly $3.8 billion, up around 9% from the third quarter in 2003. The increase reflects growth from our new business backlog, the acquisition of Grote & Hartmann and the impact of foreign currency. The mix of expected vehicle production is partially offsetting these increases. As most of you are aware, we closed the Grote Hartmann acquisition just a few weeks ago. We've begun to integrate these operations into Lear's existing infrastructure to avoid duplication and redundant costs. We expect these activities to result in about 5% of dilution in the back half of the year relating to certain expenses such as moving and relocation costs. This acquisition provides in-house design, engineering, and manufacturing capabilities for terminals and connectors and related technology. We see this acquisition as key to our overall strategy of continuing to leverage off of our existing product folio. Turning back to the full year guidance at $16.8 billion sales are expected to be up 1.1 billion versus 2003. The addition of new business globally and the effect of foreign currency are the most significant drivers.

The first half trend in some of the light truck platforms is forecasted to continue through the back half of this year. Full year sales outlook is up about $200 million from our prior guidance reflecting primarily new business wins in both Asia and with Asian automakers globally which come online this year. If you'd move to slide 24, this slide updates the outlook for capital spending and cash flow. Our full year capital spending forecast is now in the high $300 million range. The increase from the prior guidance includes expected spending for near term programs and strategically important business development initiatives. I'll provide more details on this in a minute. We expect free cash flow to be in the low to mid $300 range which is consistent with our prior guidance. Moving to slide 25.

Our need to invest more capital this year reflects a number of positive factors. First we have a short investment cycle on some of our recently awarded programs. In addition, we've targeted some critical programs for accelerated spending such as the GM total interior award and the new Ford Explorer to ensure successful launches in 2005. We're rolling out new Lear technologies and products such as our cost efficient flexible seating architecture to provide the best overall value to our customers. Today we're in the process of commonizing seat structures on 13 different programs with multiple customers and expect to expand this technology across six new programs in the next 18 months. To sum up, we're investing cash today to support growth plans and ensure successful launches of high priority programs in the future. Moving to slide 26, here is what this all means to our earnings guidance. In the third quarter we see net income per share in the range of $1.05 to $1.20. For the full year, while there are a lot of puts and takes, our guidance remains unchanged at 5.85 to 6.25 per share. Looking at slide 27, this should help explain our full year earnings guidance and put it in perspective.

Material cost pressures are not moderating. Development costs are increasing. In the second half, we have significant preproduction spending for recently awarded programs. Vehicle production mix in North America is a key swing factor. Right now, it looks to be a little more unfavorable than we had previously thought, but changes to incentive programs or a pickup in demand, especially for SUVs and trucks would have a positive impact on our results. You could see some upside from our European operations if production assumptions turn out to be overly conservative. Lastly the effective tax rate is expected to be in the 26 to 27% range compared with our earlier estimate of around 28%. On balance, while we are maintaining our overall guidance range, today we see a more challenging second half than we anticipated a few months back.

Moving to slide 28 and to wrap-up the formal part of today's conference call, our growth strategy is in place with progress accelerating. Asian growth and other new business development globally is requiring increased capital investment this year. Second quarter financial results were solid and the major facility actions have been resolved. Our full year guidance is unchanged despite challenges and risks that we just outlined. The record backlog in 2005 is expected to support continued CPV growth in Europe and renewed CPV expansion in North America. Now we'd be happy to take your questions.

[Operator Instructions] We'll pause for just a moment to compile the Q&A roster. The first question is from Stephen Girsky of Morgan Stanley.

Good morning everybody, can you hear me?

Hey Steve.

I know you don't put your backlog out, but this preproduction cost increase, this is related to business that was not in the backlog or did you underestimate what's in the existing backlog? Can you give us some color on that? ?

Yeah. This was not in the previous backlog, Steve. As I mentioned it's about 300 million in business and really what's impacting more is it's coming on stream in the second half.

So the preproduction costs that you alluded to that would be sort of weighing down, that relates to this 300 million in new business?

It relates to about two-thirds of it. About two-thirds of it is coming on stream in the second half

Okay, and this free cash flow number stays the same despite the fact that you're taking the Cap Ex up? The earnings are unchanged. What's going right here on the cash flow front?

Right. If you look a couple of months back, we had -- and I think this was a question on the last call. We had estimated our working capital to run negative at around $100 million and our latest look at this working with the team around the world basically says it's going to be about a negative 50 million. Its essentially offsetting.

Just on the raw materials what are you guys -- is it steel? Is it surcharges you're paying? Is it something that's sort of we should just expect higher raw material costs going forward?

Yeah, let me just try to frame that succinctly. The market dynamics, as I said in the formal part, with both the steel industry as well as the impact on resins has continued to be difficult which is slightly different than our thinking a few months back. The short version is I had spoke to about a 10 cent impact for the year on the last quarterly call. Now we're seeing it at more than double that.

For this year?

For this year and it's primarily in the back half of the year.

Wow, okay. Thank you. Thanks.

The next question is from Gary Lapidus of Goldman Sachs.

Hey, good morning. So the principally the wide range on Q3 is this issue of raw material uncertainty?

I'm sorry, Gary. Go ahead.

And if that's the case, is it -- I guess I would just think that you don't see a purchase contract at least this close in? To largely allow you to know what your purchase prices are? Is that really not the case?

There's two swing factors in the third quarter guidance. One is raw materials as we're continuing to have discussions almost literally as we speak with the Tier Two suppliers. And the second part is the European production outlook. We don't have clear visibility with European production as we do in North America.

I see. Second, on interest expense, it looks like you did pretty well in the first half. You were running like 39 million a quarter. It looks like you're saying that's going to go up substantially to 46 or something like that per quarter?

Yeah, thats a good question, there is a couple of things happening there. We funded the Grote & Hartmann acquisition. We do see a slightly higher interest rate environment in the short-term, and lastly we are considering some debt actions in the not-too-distant future.

And so would you expect the quarterly run rate as you move into 2005 to be more like that 46 plus kind of number? Per quarter?

As we move into 2005, it might even be a little bit better than that.

Better? Lower than the 46?

Lower than the 46.

And then just lastly, it looks like this CoCo thing is more or less a done deal, and I know you've got some of that stuff and I think you've said it's like 25 to 30 cents depending on your level of earnings.

Right.

Would you contemplate ways to offset that? You know, maybe repurchasing stock? How might you think about dealing with that dilution?

Well, two points. One is it's an accounting issue. It doesn't change the economics of the company. And I know you're aware of that. The second part is I think you may be addressing a potential repurchase program. We were in the market over the last quarter and incurred about $25 million repurchasing some of our stock. As we go forward, we are considering a more moderate repurchase program, but again we will bump that up against alternative investments.

It won't be on the order of what Microsoft just announced, will it?

You never know, Gary.

Okay. Take care.

We're a little short of their 50 billion.

But you're working on it.

Yeah. We're working on it.

The next question is from John Casesa of Merrill Lynch.

Thanks very much. I want to go back to this issue of preproduction costs and the backlog. Just to be clear, this Mazda business, is this takeover business, Dave? Is that how you characterize it? Or Jim?

Yeah. I think the best way to characterize -- this is a great example of our team taking a proposal to a customer, but basically there was a huge cost disadvantage to the Mazda vehicle, so basically we were able to demonstrate to them by commonizing the future program with some of the Mustang components. There was substantial savings to Mazda. And also we could make significant savings in the short-term on their existing program by us using our sourcing capabilities. So again this thing happened relatively quickly, but we did takeover some business that was previously done by one of Mazda's [Karitzu] partners. We took it over immediately, and over the next six months we'll fine tune that operation to what we would call a Lear standard and implement some of these cost reductions. So, yes, it was -- I guess you'd call it a conquest business. I think it's really more a demonstration of Lear's capabilities in finding customer [inaudible-papers shuffling]

To be clear, Jim, this thing was not in the backlog? You won it short of short order because of the efficiencies of the Ford programs. Could this happen to you? Would this have been unlikely if Johnson were doing the seats here or is this a more likely event because there's a structural change or why couldn't Johnson come along and demonstrate some efficiencies programs you're on and pull the business?

In this particular case, the vehicle is the Mazda derivative of the Mustang somewhat. It's not built on the exact platform, but again it was a huge opportunity for us to commonize parts on those platforms.

Okay. And then on the BMW 3 series --

Just to add to that, there's always the threat that a competitor can come in with something. We feel the way we run our business, we're driving for quality and competitiveness. We believe we're in a strong position and can maintain that. But that doesn't mean that sometime in the future somebody couldn't attack a piece of the business

Sure BMW 3 series, that is a new interior? I didn't think the car was new this year. What's the launch expense related to that or the launch issue?

BMW 3 series -- there's a log for the 1 series. Are you talking --

Is it the 1 series then on page 14 that you're probably referring to?

Yeah.

Okay. It's the 1 series. That makes sense. Let me just ask you about China. How much of your asset base there can be wholly owned? How do you think that's going to go? Would you care to venture a guess at what your sales are going to be in China this year, next year? ?

Yeah. The sales in China this year will now exceed over 300 million, and as we look into next year it's well into the $400 million range.

Consolidating the joint ventures. Right?

Consolidated and unconsolidated. Primarily most of the business in China today is consolidated.

Okay. And you announced, though, that one of these ventures -- one of these businesses is wholly owned now by Lear? The business that's supplying First Auto Works? ?

Right. John, that's the new business that we just were awarded earlier this year.

Right.

And it goes into production rather quickly.

And, Bill, just going forward, what's the template there? Do you think you'll be able to do -- have more wholly owned entities or will the rule continue to be partnerships or does it just depend on the customer? ?

I think it depends on a lot of things. We've found that joint ventures and partnerships we have with both customers and other suppliers has proven to be very successful in managing the opportunities that we have going forward. This particular incident certainly boded much better for us to have as a wholly owned foreign entity. We're also looking at that from a standpoint of Tier Two products as well

Okay, and then just two other quick ones. Can you give me the European content per vehicle growth X currency? And on the advance spending for the Explorer and the GM total interior program, is that just a pull ahead of spending or is that additional spending on the program? ?

Okay, two things. The FX adjusted the growth and CPV is about 7% in Europe and will be about 7% for the year also if thats adjusted. And for the two programs that we highlighted, that's pull ahead spending. Let me address, 'cause I wasn't sure of the slide you were referring to. On page 14 when we talked about the second half launches, there's two things going on. There's a refresh of the BMW 3 series and there's a new launch of the BMW 1 series. That's what's happening

The 1 series presumably being more important for you guys? ?

Longer term it's more important.

In terms of additional content. Okay. Thanks, Dave.

Okay.

The next question is from Chris Ceraso of CSFB.

Thanks. Good morning everyone. Maybe if I can ask Bill a question about pricing in China. Clearly the prices on new vehicles is coming down fast. How are you seeing that in terms of the components you supply? ?

Well, certainly there's price pressure as our customers work to be able to be competitive in that environment, but at the same time we're certainly seeing volume benefits for us as well as the ability to continue to locate more cost competitive supply base as that volume begins to go. So we continue to use the Lear formula of driving down our costs and offering our customer value and the mix between the two is proving beneficial to us.

So are your margins still going up or are they flattening out? ?

Yes. Margins over there will be going up over time. You've got to keep in mind that there is significant infrastructure growth as we're growing the business in that part of the world.

I think the real key in China is not so much the margin expansion as it is the growth expansion, the sales and top line expansion. I think that's where we'll benefit.

Also with regard to Asia Pacific but maybe more as it relates to the Japanese customers, you noted that your quality has improved pretty sharply over the past few years. Is your quality at a level that meets the needs of, say, Toyota where it is now or has that been a stumbling block to winning business with them or is it just the fact that they like to use their own suppliers?

Our quality has been satisfactory to our Japanese customers. We've won awards from them not only for quality, but we talked about at the last call we got a value achievement award from Toyota. We also won the Lexus launch award from Toyota earlier this year. So that is helping us propel our position along with our technology and our position on global basis to grow our business with the Japanese substantially.

Great, one last one if I could. You mentioned in terms of the Cap Ex discussion that you're dealing with shorter product cycles. Is that something that you see as sort of a permanent change in the business that will cause a permanent increase in the level of Cap Ex that you have to expect? ?

Now, we've looked at that. We're going through our planning cycle in the third and fourth quarter like we do every year. We see capital being in sort of the low $400 million range over the next 2-3 years, which pretty much lines up with where we see depreciation. The short cycle times you're talking about for example might be on cockpit programs which, in a lot of cases, have an 18 month to 2 year lead time versus seating which has a 3 to 4 year lead time.

Thank you very much.

The next question is from Rod Lache of Deutsche Bank.

Good morning everybody. A couple things. What is your share repurchase authorization today?

Yeah. We have availability of 2.8 million shares.

Okay. And I guess given the conviction that you're communicating here on the cash flow, why wouldn't you be more aggressive on buying the stock? Has the other opportunities for cash kind of changed recently? Are you guys looking maybe at some acquisitions? ?

Yeah. We are continuing to evaluate the economics of alternative investments for the cash which do include some potential smaller niche acquisitions as well as the repurchase program.

Mm-hmm. Okay. I guess switching gears a little bit here, you're saying that the second half head winds are becoming more significant. Raw material costs, engineering costs. But aren't the facility action costs coming down? Is that still the case? And what is your overall outlook for margins in the back half? ?

Right. Facility actions are coming down. Clearly year-over-year. But the combination of the integration costs for Grote Hartmann, the -- Jim spoke to the new Mazda business which is slightly dilutive this year but will be nicely accretive as we move into 2005 so there's integration costs in the back half. There's the preproduction engineering and prototyping expenses that we've been talking about through most of the call as well as the pressures on raw materials which is essentially offsetting a lot of the good news from an operational performance standpoint. On margins in the second half, we see margins being flat to slightly down year-over-year.

Okay. What is specifically the head wind that you see some higher engineering? Can you quantity that? ?

Yeah. That's a good question. The second half engineering expense versus what we had been thinking a few months back is up about $10 million to $12 million.

And you said the raw material is like a 20 cent head wind for the full year? ?

I said it's more than double what we were anticipating before, that would be the math.

And lastly, you guys were looking at 1.25 billion of backlog kicking in next year and I just want to clarify you said you won 300 million of new business, but half of it's this year, and so this is the other half just incremental to that 1.25? ?

I think the key here is we said half or two-thirds of it is coming on this year, but we'll still get the benefit of it next year as well.

We'll get into the details of the backlog discussion at the end of this year or very early next year.

Great. Okay. Thanks.

It looks good.

The next question is from Darren Kimball of Lehman Brothers. .

Hey, guys. A lot of my questions have been answered, but if I could just follow-up a little bit on the facilities agreement, can you elaborate a little bit on what was agreed to? I'm also curious if you can quantity what -- did you incur the costs that you expected to incur in the second quarter? And is it still correct to expect that that sort of goes to sort of normal levels or not material levels in the second half? ?

Yeah. In terms of the facility actions, the two major ones were two plants that had GM labor contracts. We inherited those with the Delphi acquisition, one was Auburn Hills and one was Grand Rapids. We have since closed the Auburn Hills facility, and we had to go through that negotiation process. And we've also -- the General Motors Grand Rapids contract has been revamped and renegotiated to the point where now it is a Lear contract with essentially Lear work rules and it makes that facility a competitive operation versus where it was before. So those were the two primary facility consolidate actions, and those got completed in the second quarter.

Okay, with respect to the overall costs associated with those actions, we had put out on a slide either the last conference call or the year end that those major facility actions will cost about $25 million and that is what we incurred for those actions.

And that normalizes in the second half? ?

When you say normalizes --

Well, you guys said it's never zero, that it's usually something close to 5 million a quarter.

Yeah. That's about right. We expect to incur in terms of 10 to 15 million in the back half of the year.

Okay. And with regard to your chart on your Asian sales, I was just wondering if you could give us sort of the North American cut, where are your sales to Asian producers in North America today are and maybe some sense of that future bar.

Yeah. In North America, you're talking about the 1.6 billion? ?

Yeah.

Of that, close to a billion of it, right under a billion of it, is in North America. And the majority of the balance is today in China.

And if I looked at -- if I give effect to your 3-year backlog, where might that billion dollars be? ?

With respect to the three-year backlog, that billion dollars should be approaching about a billion and a half plus. Okay.

The plus was for the Mazda? ?

The plus means a billion and a half to a billion eight. .

Where is the Mazda facility by the way? ?

You said all your questions were answered. .

Sorry. Where is the Mazda facility that you took over?

Well, we didn't take over a Mazda facility but Flat Rock is the Mazda assembly plant. .

You pulled the business out of a domestic facility -- were the seats imported? ?

No. The seats were made by a [Karitzu] partner located here in North America several plants and we took those operations over. .

You took the operations rather than bringing it into your facility? ?

Initially we took the operations over. Now, we have longer term plans that we really can't comment on.

I gotcha. Okay. That is all of my questions. Thank you.

Thanks, Darren. .

The next question is from Ron Tadross of Banc of America Securities. .

Good morning, guys. On slide 6, I just wanted to ask -- most of my questions have been answered but in China you have 11 facilities. How many of those are JVed and how many are yours?

They're all JVs right now. We're going to be opening up a wholly owned entity later on this year.

Then the 300 million in sales, does that come out of those 11 facilities or is it 600 million out of those 11 facilities? ?

The additional 300 million, part of that comes out of the facility I just mentioned that we're going to be opening up later this year. .

I'm just talking about the 300 million you guys said you have in China now. .

He wants to know if the total value of the sales is -- with our partner share. .

Most of that is coming out of the 11 facilities but there is a portion of the 300 million that will be coming out of the new facility later this year. .

And just one other question on the balance sheet. The receivables were down a lot, 1Q to 2Q. Is that just like a production thing where the production volumes were tailing off? ?

Yeah. It's just typical seasonality and production volume has tailed off. .

It seemed like it was a little more pronounced this year than normal. The production volumes coming in 1Q to 2Q have been normal?

A little bit. That was part of the driver. .

So there wasn't anything else in there? ?

Well, you'll recall that last year we also had our outstanding balances on our ABS facility on our Akron building. So that works into that as well. .

But you didn't have that in the first quarter, did you,.

Not in the first quarter. I'm sorry, comparing to last year, not in the first quarter, no. .

Okay, thanks a lot. .

The next question is from Mike Bruynesteyn of Prudential. .

Hey, guys, it's Mike from Pru. Your tax rate assumption, can we carry that into 2005?

Yes. .

Okay. Great. And, Bill, how you doing? ?

Good, Mike. How are you?

Could you talk about potential for component exports from China? I may have which missed that.

As Jim mentioned, the electronics plant we opened up earlier this year is exporting product both to Japan and to the United States and we are actively looking at some opportunities to continue that and our other products as well. .

So you're clearly able to overcome the logistics challenges, et cetera, and still save costs?

In some cases. Yeah. .

In other cases you're not? ?

Well, there are a lot of different areas within Asia that provide us competitive advantage for low cost, not just in China. We've got operations in India and the Philippines which in some cases tend to be more competitive than China.

Yes, they can overcome for some of those products the logistic costs. Others make more sense to do it here in the United States or closer by. .

Can you talk about which types of components are more amenable to that?

Wire harnesses where there's higher labor content, things like that. Some of the other product ,which is heavier, bulker like seat components, et cetera, are more of a challenge. .

Great. Thanks a lot. .

The next question is from Himanchu Patel of J.P. Morgan. .

Dave, you had mentioned earlier in the call that first half trends on light trucks you were expecting them to continue into the second half.

Right.

But then you also mentioned that in North America product mix looked a little less favorable than what you originally expected. I'm presuming at least part of that comment refers to the [T800]. [T800] production was down 5 or 6% in the first half. Can you just give us a sense, your guidance for 5.85 to 6.25, is that sort of -- what sort of brackets would you put around T 800 production going into the second half of the year if we had sort of a 5 to 10% decline on production there? Would that still be a reasonable guidance or does that start getting too aggressive?

Yeah. We're using published schedules with respect to the third quarter. Looking out to the fourth quarter, we basically take J. V. Power and along with our own kind of internal intelligence adjust those members. I'd rather not get specific on product lines as to where we're forecasting, but it is down. It is down versus the first half.

But down sequentially versus H1? .

Yes. .

Year on year is that kind of the same 5%ish type of decline that we saw in H 1 or does it get directionally worse or better?

It is down directionally. It's down directionally a little bit. .

Can you just remind us again what you exactly make on that aside from seats -- you have the SUVs and you have part of the pickup? Is Is that right?

The GMC 800, we provide all the seating and the doors. . And the doors on the pickups. .

I thought there was one does Johnson do one of the Sierra or the Silverado seats? ?

Well, they do, but they are -- They're Tier Two to us. They'll sales still go through us.

Right. Okay. Thank you. Your next question is from Brett Hoselton of Key Banc Capital Markets.

Good morning, gentlemen. With regards to the -- I know you don't want to get into much detail but with regards to the $300 million of new business how does that relate to the 100 million? The 300 million you're just picking up 200 million this year and then you are picking up an additional 100 million next year?

The 50 million that was in the first quarter is now in the second. LAUGHTER

First off, it's the 200 million in sales that have changed from our guidance previously, about 100 of that is from the acquisition of Grote Hartmann and the other 100 is new business coming on stream this year, and that relates to the Mazda business and the business in China. And so of the 300 million in business that we won from the Asian OEMs, approximately 100 will come on in the second half. The additional 100 will come on in next year and then we haven't spoke specifically about where the third 100 rolls into our backlog. Perfect. This is a couple questions for Bill.

Bill, you said something interesting. I think the general perception in the investment community is is that pricing pressure will cause margins to deteriorate for most suppliers in the China region. However it seems like you're suggesting that you expect margins to improve going forward. And can you kind of speak to that point? ?

The best way to look at it is certainly we have pricing pressures and we're helping our customers with the situation that they have. But to offset that we have two factors. One is the volume growth that we are experiencing, and two is our own cost reduction efforts that we have along with our joint venture partners and our increased purchasing capability in the region.

Would you say that you're representative of a typical supplier in China? Maybe JCI or Delphi or anything like that? Or wouldn't you be able to compare?

I don't think we can comment on anybody else's business. I think we kind of like what we do, though. .

Okay. With regard to the seating business in China, my impression is that it's a very highly fragmented group of component suppliers. My question is, if that's the case, how do you see that evolving over the next five years? ?

From a total seat perspective or the seat components?

I'd say -- well, in North America -- we've kind of rolled it up into a system supplier. We are tending in that direction whereas years ago we used to be largely component suppliers. Do you see a similar evolution taking place in China or do you see it remaining highly fragmented for a long period of time?

I'll answer that. I think it's pretty much like here in North America. Every automotive business, Europe, America, eastern Europe, they all start out the same way. They're component suppliers going to a manufacturer. In China's case, they have some of that. In some places the Chinese manufacturers have their own suppliers, that supply the complete seating system. In some of those cases we bought those operations. And in the future, it's going to be very similar to the way things operate here in North America and Europe. It will be system suppliers supplying complete seat systems and later on I believe it will turn into suppliers of total interiors with electronics capability. .

Does that suggest that we should see some sort of a wave of consolidation, acquisitions and so forth over the next five years?

Yes. .

The one other thing I'd like to point out on that is that traditionally given the volume base and the structure of the industry, the automotive manufacturers have tended to have one supplier with the key components with the growth we're seeing in China today, the supplier diversification is giving a very big opportunity to a company like Lear. .

That just leads me to the final question I had. Who are your chief competitors in China at this point in time? And how would you characterize yourself? How are you positioned versus some of your chief competitors? What are your major advantages and disadvantages in your mind?

Did you say cheap?

Chief.

Chief...

Who are your top competitors

They're the same competitors we face in every market we're in in the world from a seating standpoint. It's Johnson's and [Forecea]. From electronics, it's Siemens and [Baud] The same people we face everywhere. Delphi. There's no new competition

Do you have any significant advantages or disadvantaged versus those competitors in China? ?

I certainly do. I'm Bob Rossiter. I think we have the strongest team in the industry and I think that is a distinct advantage. I also believe we've got the right strategy going forward and I believe we're going to grow. Do I think we have an advantage? I absolutely do.

Thank you very much, gentlemen.

The next question is from Rob Hinchliffe of UBS. .

Good morning everybody. Dave, you talked about debt actions earlier. Maybe I missed it but what specifically were you referring to?

Yeah. I really can't comment much further. Oh.

Okay. Don't take it personally. Tax rate, Dave? Is that sustainable into next year, 26 to 27?

Yes, it is. And it's consistent with what we've been saying for the past 12 to 18 months.

I know it's just trending down. On the Mazda business, I think maybe Darren was asking about this. You took over the facilities. Did you have to buy anything to do that to take these facilities over or no? ?

Yeah. Basically it was just an [inaudible] purchase. We bought the equipment that was there.

Does that give you the inside track for the Ford CD 3 platforms now? The vehicles built off the six platform? ?

We bought the equipment and so forth that was there. And as part of that, we have the follow on program for Mazda again where we will integrate a lot of the things that we're doing for the Ford Mustang. That's so basically where it's at. I think the huge opportunity for us is obviously if we can do that with seats, we can do that with their electrical needs and also with their interior needs, and we see great opportunity there. I might add we are also -- Dave mentioned our flexible hardware strategy and how we're using that to consolidate the amount of structural components that we provide in the vehicle. We recently were awarded that business for an OEM in Japan as well so that's what we think we bring to the party, our access to all the customers, all the products out there and the leverage we have in terms of from a design standpoint knowing what to provide them which gives them the best value at the lowest cost. .

The Explorer mid cycle, does that bring similar opportunities like the mid cycle for the 800? Do you guys get a lot of new content on that? ?

There is more content. And I might add we have the flexible hardware in that as well. Which is the reason we're pulling some of that capital forward. But, yeah, I mean as everything else, every time a new vehicle comes on stream it will have more of the safety features. The sensor mats and so forth we've seen in other new product launches.

And the last one obviously the GMT 800 is big one for you guys, roughly what percentage of your revenue comes from the 800? ?

We never get specific on particular platforms.

I thought I'd try. Thanks. The next question is from Jon Rogers of Smith Barney.

Good morning.

I just have one question on the gross margin. Dave, you had commented that operating margin was down for several reasons, but it looks to me like gross margins actually improved despite all the mix issues and head winds that you were talking about. Can you give some color on the improvement there?

Sure. Well, the improvement in gross margin is the result primarily of the Six Sigma programs, the Lean manufacturing programs that Jim had spoke to earlier. That's what's principally driving the gross margin. You drop down to the SG&A where the preproduction engineering is captured, that's what ultimately drives the operating margin.

Thank you. The next question is from Dominic Martilotti of Bear Stearns.

Not much left to ask.

I think we're going to take this question and maybe one more.

All right.

Just a couple follow-ups. First on the Mazda, does that basically open the door for you guys to look at the rest of their business with potential opportunities there? ?

Yes.

Looking at the slide 6 where you basically outline all your facilities capabilities in Asia, clearly you have certain specific areas where you focus on each of the countries. Is that limiting you to what you're bidding on in those areas or are you guys basically bidding on anything that you're capable of globally and then you will ramp up to those programs if you were to win those?

Absolutely. We're continuing to push all of our products and our capabilities and technologies in all these regions, especially with our key global customers. .

There's no limitation in terms of what's coming out for, quote, any of these regions really?

No. .

That's all I have. Thanks. .

Magdalena, we'll take one more question

The next question is from Edward O'Keene of Basso Capital. .

Hello. I was just wondering if you can give us any comment at all on your dividend policy going forward especially in light of what you see over the next couple of years.

Yeah. We spoke to that in the past and have indicated that we would review the dividends program annually and do expect obviously over time to increase our dividends. But I can't get specific at this point. .

Okay. So what metrics would we be looking at? I'm trying to find out what we should be following. [inaudible] Seems like you are saying the second half of this year is tight in terms of cost structures. I don't know how next year is going to look like, but what metrics should we be looking at?

I'm going to let our treasurer, Shari Burgess, who has been quiet for the whole call, answer this one.

Well, we take a look at the total payout ratio and we include dividends and share repurchases in that. We will look to be competitive with the industry and make sure that we're paying out things that make sense in light of our other investments. .

What I meant was do you look at payout ratios or the yield that you provide? Is that what you look at?

The yield does not work into our thinking.

Yield not, but the add ratio maybe it might?

Yeah. Yeah. .

Thanks a lot.

Magdalena that, I'm going to finish up right now. I want to thank you all for being on the call. I know at this point usually there's only the Lear team on, and to them I want to say it was a very good quarter again. You should be proud of the things you're doing. The future is bright for our company and we're doing well. Our goal to improve our operations and really run operations excellently around the world is really taking place for manufacturing quality and financial strength this company is doing really well. The second half as always is going to be tough. We always say that. But we know how to do it and this is the best team in the business, and I know we're going to succeed. Everybody at Lear, thank you all very much. Good-bye.

This concludes today's Lear Corporation conference call. You may now disconnect.