Lear Corp (LEA) 2016 Q3 法說會逐字稿

Good morning. My name is Angel and I will be your conference operator today. At this time, I would like to welcome everyone to the Lear Corporation third-quarter 2016 earnings conference call.

All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question and answer session.

(Operator Instructions)

Thank you. Mel from Lear Corporation, you may begin your conference.

Thanks, Angel. Good morning. Thank you for joining us for our third quarter 2016 earnings call. Our press release was filed this morning with the Securities and Exchange Commission and the presentation slides for our call are now posted on our website at www.lear.com through the Investor Relations link.

Today's presenters are Matt Simoncini, President and CEO; and Jeff Vanneste, Chief Financial Officer. Also other executives in the room today to help with your questions.

Before I begin, during the call we will be making forward-looking statements that are subject to risks and uncertainties. Some of the factors that could impact our future results are described in the slide titled Investor Information at the beginning of this presentation, and also in the SEC filings.

We will also be referring to certain non-GAAP financial measures. Additional information regarding these measures can be found in the slides labeled Non-GAAP Financial Information at the end of the presentation.

Slide 3 shows the agenda for today's review. Following our formal presentation we will be pleased to take your questions.

Now if you will all turn to slide number 5, I will hand it over to Jeff.

Lear had another great quarter. As a result of our strong sales backlog and industry-leading cost structure, we achieved record sales, core operating earnings and margins. During the quarter we entered into a strategic partnership with Tempronics to add seat heating and cooling technology to what are already the most complete component capabilities in the industry.

In e-systems we continue to develop our systems architecture and connectivity capabilities. Specifically, we have recently been awarded multiple 48-volt electrical distribution programs, as well as several high-power programs.

In addition, we have received our first customer awards for secured gateway communication modules. These continued investments and business wins, combined with our low-cost footprint will enable us to continue our profitable growth in both segments.

In recognition of our strong operating performance and financial strength, Moody's upgraded our credit rating to investment grade during the quarter. This follows a similar upgrade from S&P last year. Based on our year to date performance and our confidence in the outlook for our business, we are again increasing our earnings and cash flow outlook for 2016.

Slide 6 shows vehicle production in our key markets for the third quarter. In the quarter, 21.3 million vehicles were produced globally, up 5% from 2015, and generally in line with our expectations. While the US dollar versus the euro was flat, the dollar strengthened against currencies in other key markets, including China, reducing sales by approximately $50 million during the quarter.

Slide 7 shows our reported financial results for the third quarter. Our reported sales increased by 5% from a year ago to $4.5 billion. Excluding the impact of foreign exchange and commodity prices, sales increased 7% reflecting our strong sales backlog and market share gains.

Pretax income before equity income, interest, and other expense was $345 million, up $43 million from a year ago. Equity income increased $3 million, reflecting strong sales and operating performance and our non-consolidated joint ventures in China. Other expense was $14 million in the third quarter, down $8 million reflecting a net reduction in foreign exchange losses. Net income attributable to Lear was $214 million, up $33 million from the prior year, primarily reflecting our strong sales growth and operating performance.

Slide 8 shows the impact of nonoperating items on our third quarter. During the quarter we incurred $17 million of restructuring costs related to a plant closure as well as census-related actions. Excluding the impact of nonoperating items, we had core operating earnings of $364 million, an increase of $44 million from 2015. The earnings improvement reflects the benefit of new business, and favorable operating performance.

Adjusted for restructuring and special items, net income attributable to Lear in the third quarter was $230 million and diluted earnings per share was $3.19, up 25% from 2015. The increase in Earnings per Share reflects our continued strong operating performance, and the benefit of our share repurchase program.

Slide 9 shows our adjusted margins in the third quarter. Lear's adjusted Company margin was 8%, up 60 basis points from a year ago. In seating, sales of $3.5 billion increased 5% from last year. With adjusted earnings of $270 million, up $34 million, or 14%.

Excluding the impact of foreign exchange and commodity prices, sales increased by 7% reflecting addition of new business. Seating adjusted margins were 7.9%, up 70 basis points from a year ago. The increase in margin reflects higher sales and favorable operating performance.

In e-systems, sales of $1 billion were up 4% from last year with adjusted earnings of $150 million, up $14 million or 10%. Excluding the impact of foreign-exchange and commodity prices, sales were up 7% primarily reflecting the addition of new business and improved production volumes on key platforms. E-systems adjusted margins improved to 14.8%, up 80 basis points from a year ago, reflecting the increase in sales, and favorable operating performance.

Slide 10 provides a summary of free cash flow which was $158 million in the third quarter and $794 million through the first nine months of 2016. The Company continues to generate strong free cash flow. On a year to date basis, we have converted approximately 70% of our operating income to cash, reflecting the high quality of our earnings. Our free cash flow yield of 12% is the best in our peer group within the top 10% of all companies in the S&P 500.

Slide 11 provides an update on our share repurchase program. Our philosophy and historical practice is to employ a balanced approach of investing in the business and consistently returning cash to our shareholders. The strength of our balance sheet allows us the flexibility to take advantage of market opportunities both with potential acquisitions, as well as the repurchase of our own shares.

In February, Lear's Board of Directors increased our share repurchase authorization to $1 billion through December of 2017. During the third quarter of 2016, we repurchased 1.3 million shares for a total of $153 million bringing the year-to-date total to 5 million shares or 7% of our shares outstanding at the beginning of the year.

Since initiating the share repurchase program in 2011, total cash return to shareholders is $3.3 billion including dividends. Our share repurchases represent the reduction of approximately 38% of our shares outstanding at the time we began the program.

The average price paid to repurchase shares over the life the program is about $73 per share. At the end of the third quarter, we had 71.2 million diluted shares outstanding, and the remaining purchase authorization of $442 million.

Slide 13 highlights the key assumptions in our 2016 outlook. Our guidance is based on an industry production assumption of 89.5 million units, an increase of 3% from 2015. This is consistent with the latest customer releases, and IHS forecast. Our 2016 financial outlook is based on the most recent exchange rates for all global currencies, which includes an average euro assumption for the year, of $1.11 per euro.

Slide 14 shows our financial outlook for 2016, which as I mentioned earlier reflects an increase in earnings and free cash flow from our prior outlook. Our sales are projected to be approximately $18.6 billion, consistent with our prior guidance.

Core operating earnings are projected to be in the range of $1.5 billion to $1.525 billion with the midpoint of $38 million from our prior guidance. Interest expense is projected to be $83 million. Adjusted net income is expected to be between $980 million and $1 billion, up from our prior outlook of $935 million to $975 million.

Free cash flow is expected to be $1 billion, an increase of $100 million from our prior outlook. Our assumptions for restructuring, capital spending, and depreciation and amortization are all unchanged from our prior outlook. This guidance reflects record sales, earnings and free cash flow.

Now I will turn it over to Matt.

Great job, Jeff. Thank you. Please turn to slide 16.

This slide shows the trend of our earnings growth. Our operating earnings over the last five years have increased at a 14% compounded annual growth rate. Over the last three years, our annual growth was 22%.

During both periods our earnings growth rate was double the peer group average. Over the last three years our sales and earnings have grown faster than any of our direct competitors.

We have nearly doubled our core operating earnings and increased our operating margins by 250 basis points since 2011. During the same period, our strong cash flow has allowed Lear to invest in the business and retire approximately 38% of our shares.

Please turn to slide 17. The investments that we've made over the last several years have positioned us to continue to drive sales and earnings growth well into the future. In seating, we have the most complete component capabilities of any seat supplier. We recently added seat heating and cooling technologies through our investment in Tempronics and are receiving great customer response to our craftsmanship initiative and our new intelligent seat.

In e-systems, we have expanded our industry leading capabilities in power and signal management with the acquisitions of Autonet and Arada. As a result, we are extremely well-positioned to capitalize on the rapidly growing vehicle communication and connectivity megatrend.

We offer hybrid and high-power electrical systems including 48-volt architectures, as well as industry-leading battery charging capabilities. In addition, we are a below cost producer in both product segments. Given our unique product capabilities including industry-leading cost structure and experienced management team we expect revenues to grow by 5 percentage points or more above the industry growth rate over the next 5 to 7 years.

In summary, our record sales and earnings reflect investments we have made to expand our product capabilities and improve our cost structure. We continue to outperform our peer group on free cash flow yields, earning growth and return on invested capital.

We're well positioned in both business segments to deliver sales growth of 5 percentage points above the market well into the future. In short, we are in the best competitive position in our history and we expect to continue our strong sales and earnings growth into 2017.

Now I will be happy to take your questions.

(Operator Instructions)

John Murphy, Bank of America Merrill Lynch

Good morning, guys. A question on slide 17? This 5% growth above market or more is incredibly helpful -- Matt, is there a difference between the two segments where the E-Systems might grow significantly faster, and seating might be just a bit slower? I'm curious if you can give us some guidance on the two segments there?

From a market share penetration I would say they're both going to penetrate markets at about the same rate. I would say the content growth is going to be higher in the e-systems, just by the type of product and content and feature and improvements we are seeing in the vehicles. I think the content growth is a little bit higher in electrical. As far as penetrating and getting market share, they're both winning share.

That's helpful. Just a follow-up on that market share comment. One of your big competitors out there is saying they're going to take market share in China by another 10% within the next five years. I'm curious what your viewpoint is on your market share in China?

Is that an issue or opportunity? And as we think about the dynamics of how the JVs are set up in China, isn't market share a lot stickier and harder to come by in China? I'm just trying to understand the dynamics of the China market.

We been gaining share in China, and we've been gaining share everywhere in the world. In China we expect that trend to continue. We're penetrating the market. Our JV relationships are really strong.

We have a (inaudible) consolidated book of business here that's approaching $2 billion. Our backlog in that region with those JVs are approaching $1 billion. I like where we've been, I like where we're going, it's huge opportunity for Lear Corporation. I think it's a great opportunity there.

I can't really speak to -- for us, really, we have a track record of sales in earnings growth. We're not selling a promise in the future of doing those things. I'm flattered that they want to be Lear when they grow up. I guess that's the best form of flattery. Right? That is what my take is on those statements.

Just on Tempronics - is this the kind of thing where this will replace Gentherm? I'm curious what this means for heating and cooling in seats? Has that become pervasive? Does that go to 100% penetration, and what does that mean for content on seats for you?

It's a better technical solution. It still needs to be proven out and put into production. We think it's a much more efficient way to heat and cool a seat at a lower cost than the current solution. When you integrate it with what we do already, fabric and leather, sewing and foam, we can provide a solution that is probably the best crafted seat in the industry at the lowest possible cost.

It is just a piece of the puzzle. The technology is pretty amazing. It's very efficient. We're looking forward to getting it into the seats pretty quickly.

Just one last one for maybe both you and Jeff? Cap allocation in these buybacks have clearly done a great job of shrinking the share count, but given your strong earnings and cash flow in these buybacks, the stock is not responding well to it.

Would you consider potentially building up cash on the balance sheet to potentially allay any concerns about any fears about a downturn? Or consider paying down debt instead of buying back shares? I'm just trying to understand if there would be any change in allocation philosophy going forward and building up a bigger buffer of cash?

I don't think so. We have a pretty strong balance sheet as it stands. The profiles are very good. Especially when you taken of the consideration the untapped revolver that we have. We have more than adequate liquidity right now to invest in the business while absorbing any market dislocation.

We personally don't see that happening. We think the global market is expected to continue to grow. We share that, and we think the map is pretty strong. The balance sheet as it sits today is actually really strong. For us we will continue to invest in the business. We are going to continue to look for opportunities to make smart acquisitions.

And we will return the excess cash and liquidity to shareholders and share repurchase for the exact reason that you said, which was the stock is hugely undervalued. From a multiple standpoint right now we are in the mid to low 4%s on an EBITDA basis -- which is ridiculous. We're the number one seat maker in the world as far as profitability and sales growth, and performance.

We have an electrical segment that is over $4 billion, and to subscribe a mid-4 type multiple on a Company like this is just ridiculous. We think it's the best investment in the space.

That's very helpful. Keep it up, guys. It was a great quarter.

Itay Michaeli, Citi.

Good morning, everybody. Just sticking with slide 17, there's two questions there. Matt, I think you mentioned a five to seven year outlook for the revenue growth outperformance? Is there a -- is that pretty evenly split throughout the [profit of the years] or is there maybe a back-end (inaudible) or a front-end (inaudible) to that? Secondly, can you talk about the long-term margin implications of growing revenue at five points or higher above market?

Yes, it's pretty even. And as evidenced by that, if you look at our history of backlog, we have been adding about $1 billion in revenue through the backlog, which is independent of content growth and mix. We've been adding about $1 billion of backlog a year pretty steadily and 2017 will be no different.

We do not expect that to change with what we are seeing in our bookings and the booking rates, and some of the development programs that we have. We do not expect that to change. It is not a hockey stick. We're not promising something in the future. We're just saying it's going to happen pretty consistently throughout the five to seven year period.

For a margin profile standpoint, we're happy with the margin profile that we're at right now. We think at this rate we will continue to gain share and deliver performance well in excess of our cost of capital, and the investments that are required to support backlog. The margin profile stays pretty consistent through the period.

Great. Lastly, I think you raised your free cash flow outlook by more than the earnings outlook? Jeff, I think you talked about cash flow conversion improving this year? Is that sustainable going into the next couple years? Or is there anything special you need to help your cash conversion in 2016?

No. As I said in the presentation it's the strong quality of earnings, earnings are high. We're converting that to cash. There is nothing special either in the actual results or the guidance for the year. We can continue to generate strong free cash flow beyond 2016.

Great. That's very helpful. Thanks guys.

Ryan Brinkman, JPMorgan.

Hello, thanks for taking my question. Assuming that Adient does become more aggressive in bidding for new seating business -- which it looks like, they're saying they are, to restart organic growth -- what is the most appropriate strategy in that scenario for Lear? Would you look to maybe leverage your low cost footprint to protect the share or prioritize margin?

How much of the impressive expansion in seating margin in recent years, particularly this year, do you think is coming from stronger pricing or operating leverage provided by a less aggressive Adient, versus how much is coming from more company-specific structural factors like the amount of costs that you have been able to take out of the business?

Rational pricing in the space is nothing new. We've seen it by different competitors throughout our history. For Lear, we like to compete on our capabilities and our footprint, which is low-cost footprint, great capabilities in selling, combining that with leather and fabric and the ability to assemble a seat.

That drives our performance. For us, our backlog is profitable, we have proven that over the last five years as we have added new business through the backlog and through the net bookings that this business has come on and support margin expansion. We don't expect that to continue.

In the end, we like to compete in our capabilities and our footprint, not on irrational pricing. I don't think that's going to change.

On the CapEx guide of $525 million for the full year, it does imply a pretty big increase in 4Q? I think $225 million or so? Looking back over the past five years it does appear that 4Q is always the highest spending quarter, but the increase this year would be more. Is that potential upside to your free cash flow for the full year if you don't quite hit that $525 million guidance? Or is there something specific impacting the timing this year?

Ryan, we expect to hit it, it might be a bit aggressive. We're using the holiday break in many cases to get the plants refreshed or add some of the capital when we're down both in Europe and North America over the holiday break. It could be a little conservative, if you will. We might do a little bit better on that line.

It's a timing issue between Q4 and Q1. There might be a little bit of it upside there. There might be a little bit of an upside. But right now, that's our best call for the quarter.

Okay, thanks. Congrats on the quarter.

Thank you.

David Leiker, Baird.

Good morning, everyone.

Good morning David, welcome to the call.

Thank you, it's a pleasure.

It's been a while. (laughter)

Well, yes. I want to follow up on a couple things other folks have touched on.

Let me guess, let me guess, you have a question on Adient?

No. Actually I don't. (laughter) On slide 17, the five points or more above market -- I think the numbers you gave in Detroit with your backlog in the new business and how that flows on, you're lower than that here the next couple years. Am I right in the way we are looking at that?

No, you're not actually. From our standpoint the backlog, this year, is roughly $1 billion. Next year is roughly $1 billion. That is how we do the math. The way we define a backlog, David, is net new business. It's not raw bookings, it's not high probabilities, it's not assumption of content, just raw bookings. To me, 5% in that regard, on $18 billion base is $900 [million] -- we're in excess of that. And we'd expect that to continue.

I think if we look at your full-year guidance and back into what the Q4 revenue guide is there, the organic growth are actually steps down in Q4 versus the balance of the year.

The backlog actually in the fourth quarter is probably the highest that we are going to have out of the four quarters. It's a mix issue. You have got the shut down periods in Europe as well. Getting some headwinds on some of the car lines that aren't doing as well as others in the fourth quarter. You've also got FX and some commodity adjustments that go through that line. The backlog in the quarter is about $250 million -- I might be off a couple [tens] but that's about the number.

Okay, on the 48-volt launch -- can you talk a little bit more about what it is that you have on there and what you were doing, the content that you have on there? You play role of an integrator, and what the scale of that opportunity is for you?

I've got Frank Orsini's here today. He's the president of E-Systems and he can talk about that. Frank?

David, on the 48-volt technology, we have scalable technology in all three of our product lines. The electrical distribution business with both wire harnesses and terminals and connectors, and we also have electronic products. And in some cases, as you mentioned, we are doing the full integration of the entire architecture for certain customers.

So just to put some scope on it. We have active projects, awarded projects with four different customers now. Which is up from the last time we were on the last earnings call and 12 different name plates. All those projects will be launching in the 2018-2019 timeframe as the slated SOPs for both 2018 and 2019 on all those programs that I'm mentioning.

So a lot of activity going on in the area. It ranges by customer, by product line. We have content across all three of our main products and it's with multiple customers.

Is there a way you could give us for us value of what the content per vehicle would be on something like that? I'm guessing it's probably a range?

Yes, it ranges. Because on certain car lines we actually have all three product lines going in. On certain car lines we have terminal connectors and wire. It can be anywhere from 10% to 30% higher than a standard program depending on the configuration.

Okay. Great. Thank you very much. Good talking with you.

Thank you.

Rod Lache with Deutsche Bank.

Good morning, everyone. One point of clarification on that 5% growth comment, in the $1 billion backlog? On this year's revenue, $1 billion would be like mid-5%, and if you subtract about 2% price, you're in the mid-3%s? I would presume your backlog would need to accelerate into the maybe $1.3 billion, $1.4 billion range to get there? Am I doing the math wrong or forgetting about something? When you are commenting on your -- .

You're doing the math exactly right. For us, from the backlog standpoint, backlog represents organic sales growth and market share penetration. Obviously pricing impacts the top line, as does commodity adjustments, as does FX. You doing the math right.

Okay. You're saying that the organic growth above market basically may be a little bit lower in the next year or two, but then ultimately grow to the -- .

We're comfortable with the 5% in the near-term, yes.

You are? Above market?

Above market.

Okay. So it's coming from something other than the backlog?

No, it's coming from the backlog.

Okay. Maybe we can revisit that off-line? Another question I was curious about is you made this comment a couple years ago? I'm not sure if it still really applies, but in the past you had mentioned that margins typically decline a lot in the first year when you win a completely new piece of business.

I think you were referring to this when, I think it was 2013 when like 40% your business rolled over in one year? As we look out over the next couple years, and things like the K2 becomes the T1 contract in 2018, let's say? How should we be thinking about that? Kind of preparing for the various phases of maturity in the business, is that still a relevant comment?

It is a relevant comment, Rod, but what happened in 2012 and 2013 was that 40% of the book of business changed over an 18-month period which was highly unusual. And so with us now, we do not see that massive turnover or changeover in a period that is so narrow. We do believe as new programs come on, through efficiencies and what have you, the number comes down, and then we work up as we get more efficient in the production and we're able to execute some of the engineering changes that benefit both the customer and Lear Corp.

We're comfortable with the margin profile in seating with the current configuration of structures, trim, sewing, leather, fabric and what have you, in assembly. And that high 7%s to low 8%s, we're comfortable with that margin profile. We think that is reflected in the backlog. The backlog will continue to support that type of performance in seating.

Okay. Just one last one. I don't know if you can comment on this, in the past there were a number of specific kind of discrete initiatives that you had outlined for us to improve margins? One in particular was the North American structures business back in 2013 was like a $1.1 billion business at breakeven.

I think you have turned this around to at least high single digits by now. Are there a few things you would be able to call out as opportunities still going forward to mitigate headwinds if we do see some pressures in the industry?

We are still performance improvements that we can make in our North American structures of business. They have done a great job returning that business to solid profitability, but I still think there's opportunities to get that business performing even better still from a structural standpoint. In South America, we returned to profitability this quarter.

But I still think there's more opportunity there to get that into a more sustainable run rate. That would be an opportunity. I think there's opportunities in Europe to improve the margins, which is still a little bit below in seating, the target margins overall for the businesses. We continue to look at structure cost and the ability to do business there differently. There's always opportunities to get better, Rod. And to offset headwinds that you may see in other places, I think the same is true for us.

Great. Thanks, Matt.

You're welcome, Rod.

Joseph Spak, RBC Capital Markets.

Good morning. Congrats on a great quarter.

Thank you.

I guess I just want to revisit something you said about the fourth quarter? Because the guidance implies your sales will be down about 1% -- you're basically sticking with HIS, which has industry up about 1%. The $250 million in the backlog seems worth about five points, you could take maybe another two off for price.

Is it about a 5% headwind from what you, I think called, mix about the right way to think about? And what is really underlying that headwind in the fourth quarter?

Really, what we are seeing is a little bit of weakness as has been publicized in the Ford pass cars which we have a lot of content on. Electrical and seating, Focus, Fusion, Taurus, and that's probably the key driver. We are literally on hundreds of different car lines.

It's an incredibly complicated mix to articulate. Those car lines are probably the biggest driver of the mix headwinds that we are facing in the fourth quarter.

Okay, so mostly North American passenger car?

Right.

Okay. In terms of housekeeping, I know you called out materials -- is there any color you could give us in terms of, on the material perspective in commodities, how much that impacted the quarter? And then an update for the year?

It didn't have a significant impact at all in the quarter. I think what we have seen on commodities, let's say between the end of the second quarter and this quarter is steel, for example, actually improved pricing-wise between July and [October]. Leather relatively flat and copper continues to slightly go down.

It didn't have a significant impact on the quarter because we bought ahead largely on steel, and were indexed largely on the copper, and on the hide market side. It didn't have a significant impact in the quarter.

Thanks a lot, guys.

Chris McNally, Evercore ISI.

Hey guys, thanks so much for taking the call. One quick question on this idea of mix, which would lead into a question on the truck outlook for 2017? A bunch of us have tried to ask the question about the 5 points of outgrowth? Isn't sort of this 2% that maybe people are trying to fill the hole for -- isn't that from mix and truck, premium higher tech?

You've been beating your $1 billion backlog number for several years, including the last two. And so could you comment a little bit on how favorable mix is impacting the business, and how that sort of may play out over 2017 and 2018?

What we are seeing is growth in the global market. And while we may see the growth rates in North America slow down, and mix change a little bit, when the mix does change, it seems to be rotating to CUVs and SUVs overall. Typically, CUVs and SUVs have more content, especially in seating, than pass cars. That's kind of a global phenomenon.

In Europe, and it has been going on in Asia. That rotation, especially with the industry growing overall, is beneficial in the long term to Lear, just because CUVs and SUVs typically have more content. From our standpoint, I think everybody is laser-focused on North America. Obviously that's a major market.

But we are seeing continued growth in Europe and Asia. Overall the growth is expected to continue into 2017 from an industry standpoint. The mix - the key is to be out of the right car lines. Our mix is pretty diversified around the globe.

We sell to virtually everybody at some level and we're well represented in every kind of subproduct category. Right now, we are just seeing a rotation out of pass cars. Were seeing strength in luxury brands, which we're more than well represented on as well as SUVs and CUVs.

That's great. So as I think about 2017, 2018 and beyond -- this trend should continue? I think one of the questions people also have is when we think about GM into 2017, it's probably more like a flat, maybe down year in truck, just given that they're running flat out. Is it fair to say that the trends globally are still supportive for mix going forward?

Absolutely, it's fair to say that.

Okay. Thanks so much, guys.

You're welcome.

Matt Stover, SIG.

Thanks very much for taking the call. A couple tactical things, and then a bigger picture? Could you give us a little color on that delta in that North America [CPV]? I assume it's some of the issues on the car side? If you could illuminate that for us? I think it was 424 versus 442 last year?

I think you hit it. It's largely the impact of lower production on pass car vehicles, and specifically more the Ford lineup, and the Chrysler lineup of vehicles. It's certainly one of them in the Chrysler lineup. The impact the commodities had a drag effect in North America also in the quarter.

And the backlog for us, albeit, $900 million or $1 billion, is largely at least for 2016, in Asia and Europe. We didn't get a large tailwind on the backlog for North America. Those are the primary drivers.

Okay. If I look at the ERND delta and the incremental margin in the third quarter, it looked like it converted a little higher. Is there any unusual recoveries or anything like that in there?

No, not really. It was a pretty clean quarter. That number is driven largely by the timing of the backlog as we are winning new business ops we will [have the] engineering ready and that drives that rate. There's really nothing unusual that went through there, Jeff?

No, it was a clean quarter.

Okay. Following onto Rod's question, I think what Rod was getting at is when you talk about this 5% delta, that is on content growth, but that does not -- .

Actually, it's not content growth. Market share gain.

Sure. All of the above.

The biggest driver on that number, though, Joe, is penetration gains on the net new business. Yes, it's impacted by mix, share, industry, contact growth, pricing, FX, a lot of things [in that line].

So that is after the effect of pricing on your business?

After the effect of pricing, correct.

So you feel as though your growth rate will elevate to the 5% after the effect of pricing? I guess the question then becomes, should we think differently about your ERND investment in CapEx? That would be somewhat of a delta from where you have been?

Not as a percentage of revenue, no. As a percentage of revenue, yes in a raw number, it will go up. As a percentage of revenue, no it won't.

Okay. Thanks, guys.

You're welcome.

Emmanuel Rosner, CLSA.

Good morning, everybody.

Good morning, Emmanuel.

An additional point of clarification on the backlog comments. You were talking about this 5% outperformance, and roughly $1 billion of backlog a year. At least $1 billion is pretty consistent with the $800 million or $900 million that was reported in the last backlog disclosure for 2016 and 2017. However 2018, last time you updated us, was it $300 million? Are you basically saying that by the time we hear back from you with a new backlog and will look much more like $1 billion?

Yes, that's exactly what I am saying.

Okay, perfect. (laughter) That's it. It's clear.

Let me put more color on it. We are winning business in that timeframe. I know you know this, if you would have looked at 2017 a year ago, that number what have looked a lot different in fact, closer to how 2018 looks. They're still a lot open sourcing in that period. We've been waiting more than our fair share.

Perfect. More strategically, you've expressed early on in this call some frustration on the stock valuation. You were talking about low 4 times EBITDA which is obviously the case. Earlier, a few months back you looked at the opportunity from spinning off what is now called e-systems and whether that would create value?

I know at the time you concluded it wouldn't. Looking at Adient that is now sort of trading primarily. It is a pure sitting player. It is getting the same 4, 4.5 times next year's EBITDA that you guys are getting without having that E-Systems exposure, Does that make you reconsider these dynamics in terms of the valuation opportunity?

No, not really. What I am concerned about is that Adient should trade at a discount to Lear, for the simple reason they have no track record of performance whatsoever. They are selling a promise in the future. We've had the performance over the last five to seven years, and we are also committing to continue that performance.

We are the most profitable seat maker as it relates to margin, performance, cash generation with the track record, with a management team that has been stable. So, from that standpoint they should give a discount to Lear. Said a different way, Lear should be at a premium to them on seating alone.

When you take into electrical, electrical businesses like our E-Systems division, are trading anywhere from 7- to 10-type multiples. I look at it slightly differently, which I think as a whole we are undervalued. But when operating earnings of over $600 million are coming out of these systems, yes, that should command a higher multiple. We think the best way to get that valuation is to continue to tell the story and take advantage of a low stock price to our share repurchase program.

These two business segments are converging. One of the advantages that we have, quite frankly, over a firm like Adient, or Magna, or even a Faurecia, is the fact that we have over 600 software engineers in electrical. That is driving a lot of this intelligent seating that is really going to be the next generation on how this product will [replace and] years, 5 to 10 years from now.

I don't think it really make sense to split the businesses. You've heard me say that before. I think the frustration is that firms that should be selling at a discount or firms that we should be selling at a premium to, from an evaluation standpoint, is not happening.

I think part of that is there's a lot of misinformation right now that is out the marketplace. Driven by a whole lot of reasons, mainly that you have a company that is trying to sell themselves in the marketplace. Once that clarifies I think we'll get the right valuation.

Great. Very clear. Thank you.

Colin Langan, UBS.

Thanks for taking my question. You seem very confident in the margin outlook based on the 5% outperformance going forward. What is your underlying market assumption needed to hold those margins? Can you actually still hold margins in a flat global market or if the market goes down?

On a flat market, global market, we can. If it goes down obviously that would put pressure on the margins. We do not see that happening. At least that's not how [HIS] is calling it. If you did see a pullback globally, Colin, yes, that will put pressure on the margins. We think we have cost offsets that could mitigate the downside.

Okay. The cost offsets and the benefit of the backlog rolling on would offset and keep your margins [down]? Okay. Can you provide more details around Tempronics, when will the new products be hitting the market? And how is -- it's a strategic partnership, how is it structured? Which you be getting all of the revenue from the sales or will you be just a portion of the component revenue? How will it work?

The key person through that strategy is Ray Scott, our president of seating. He's in the room today. I will have him answer that question for you.

First of all, with Tempronics, we are obviously focused on this value proposition. We believe there will be increased content, like Matt just mentioned on the convergence of E-Systems seating with intelligent seats. This is one other step we are looking at, is how we can grow and really give a value proposition for our customer.

Right now we have invested in Tempronics. We are out selling it today. We have properties in the customer. We are collaborating with the technology, we are integrating it into seat designs.

We are working in the early phases with our customers as we are speaking. We have three targeted customers right now that we are working, not exclusively with, but we're working on development or development-type programs. We are eager to really get this thing moving.

Do you share that through a joint venture, or is it just you are licensing the technology and you get to realize all the profits?

We have an equity at stake. In the company, and we also have licensing, exclusive licensing agreement with them for the automotive space.

So it will move through equity income if you [win this one]?

Yes. Plus the benefit of having a technology, a (inaudible) technology, come through our operating results.

Got it. Thank you very much. Congrats on a great quarter.

Thanks, Colin.

David Tamberrino, Goldman Sachs.

Thanks for taking my question. As I look at the margin expansion throughout the 2016 period so far, we've been seeing the level of year-over-year expansion decelerate from 1Q to 2Q, and 2Q to 3Q. Penciling in what your updated guidance is for the fourth quarter, it looks like that trend should continue?

Could you maybe speak to what you are seeing apart from the mix headwinds that might be driving that lower expansion year-over-year? And is that expected to continue and flatline into 2017?

For us, margins are really just now become a return investment. Right now we are judging our cost of capital in high single digit percentage point. Our return on invested capital is the highest in the space. To me, margins are really just now [come], we believe we are creating value whenever we are posting double-digit type return on investments.

And heating that happens right when we start approaching a 6% margin. Obviously we're well beyond that. An electrical its closer to probably 7% or 7.5%. And again, we're well beyond that. So from my standpoint we're comfortable with the margin profile. Both businesses are performing well. Both are returning well in excess of our cost of capital.

At this rate of margins we're going to continue to penetrate the market and gain share. The rate is decelerating, but it is decelerating to a pretty high number. In fact, I believe -- I can't imagine anyone is making a higher margin in seating than Lear Corporation, quite frankly. It may be decelerating, but its decelerating to a pretty high level.

That's fair. Maybe asking it a different way -- I don't disagree with you. You're certainly making a much higher margin than competitors that I have at least looked at. Previous conversations that you've had with the Street, you've been talking towards 8% margins for seating and maybe mid-14% for margins on E-Systems.

We are there. The question is, is this a mature portion of the cycle for you for margins, or is there further runway? You've gone through the integration of Eagle Ottawa, which certainly helped the synergies realized better than communicated. Trying to understand if there's further runway for that margin expansion in the later stages or if we should be looking at flat margins and harvesting the solid ROIC that you're generating?

There could be. There could be additional margin expansion, but the reality is at this level I think we can penetrate the market and gain share. Our focus right now is profitable growth. Profitable sales growth, we've proven that our backlog comes in profitable.

At this rate I think we can drive shareholder returns, profitable growth, earnings growth, and that's really been our focus. Could seating margins go higher than electrical margins? Yes. We think from our standpoint where we are operating now as a total Company on the plus side of 8% margins -- that is a healthy way to run. At this level that will continue to provide return on invested capital well in excess of the peer group and create a lot of shareholder value.

Understood. I appreciate the insight. Congrats on the quarter.

Thank you.

Brian Johnson, Barclays.

Good morning. This is Steven Hempel on for Brian. Just wanted to drill down a little bit further on Tempronics? I'm not sure if this question is for Ray Scott, or Frank or both. In terms of this technology, how should we think about in terms of vehicle electrical trends in this power trough?

Is this a needle mover for the OEMs in terms of cost savings, can anyone quantify that? Also in terms of this technology, is this going to be targeted more so for luxury slash high-end trim vehicles and AVs? Or is the cost low enough where it could be basically a mass market -- I believe right now heated seats are running around 40 % to 45% in the United States.

First of all, to give you some insight in the technology -- it is the most efficient system in the market. When you look at the system that's out there today, there is a tremendous amount of waste. When you talk about CO2 or energy or just overall efficiency.

And just the fact that it's a lot more efficient when we talk about comfort. You can actually heat and cool the occupant within the seat's system without a tremendous amount of waste as far as how you have to exercise the heat through the seat system itself. We think when you look at the penetration right now, it's more of a replacement of what is out there right now.

We do think that the integration of these components is key. We all know the continued cost that is going on in the auto space, we have to offer our customers a value proposition that gets them a greater efficiency, a greater comfort. At the same time drives an overall cost efficiency within the system.

The way we're looking at it is its just an upgrade of what's out there today. It will be more of a replacement for what is out there. We do also see a tremendous amount of opportunity for growth that is not there today. There is a limitation on the market percentage of what -- as far as penetration with this option, that we're going to be able to increase that.

Okay. A bigger picture question on seating options overall? Power seats, heated, cool, leather and whatnot. How should we think about the variable profit or contribution margins as potentially take rates increase for that type of technology? Just thinking about Lear's margins overall in electrical and seating, and also from the OEM and supplier relationship standpoint?

If take rates to in fact increase moving forward, is that something that comes on at a higher than average level margin, just given the capitals already in place at certain facilities? How should we be thinking about those variable profits/contribution margins?

I think it all supports maintaining the 8% target margins in seating. It's still a relatively small portion of the content growth we're seeing in seating. For us, again, it comes back to the return on invested capital.

At 8%, even with the penetration rates we are seeing, we believe that the return on invested capital will be significant, and significantly higher than our cost of capital which is averaging in the high single digits. There could be some margin opportunities on the technology, especially with the heating and cooling. Some power options I don't really think will be a key driver of margin expansion.

Overall, we think what it does do is support sales growth. Continued profitable sales growth.

Okay great. Thanks for taking our questions.

You're welcome.

William Keller-- I'm sorry, he disconnected. There are no further questions. (laughter)

Ouch. I guess everybody that is left right now are probably Lear employees. I want to thank all of you for your hard work and dedication. This is the best team in the industry, bar none.

I will tell you this, we need to continue to work hard, and work as a team, drive performance, and I want to thank you for all your hard work and dedication. Results like this just don't happen, and they happen as a result of good, hard teamwork. So thank you very much.

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