Lear Corp (LEA) 2022 Q3 法說會逐字稿

Good morning, everyone, and welcome to the Lear Corporation Third Quarter 202 Earnings Conference Call. (Operator Instructions) We also like to note that today's event is being recorded.

At this time, I would like to turn the conference call over to Ed Lowenfeld, Vice President of Investor Relations. Sir, please go ahead.

Thanks, Jamie. Good morning, everyone, and thank you for joining us for Lear's Third Quarter 2022 Earnings Call. Presenting today are Ray Scott, Lear President and CEO; and Jason Cardew, Senior Vice President and CFO. Other members of Lear's senior management team have also joined us on the call. Following prepared remarks, we will open up the call for Q&A. You can find a copy of the presentation that accompanies these remarks at ir.lear.com.

Before Ray begins, I'd like to take this opportunity to remind you that as we conduct the call, we will be making forward-looking statements to assist you in understanding Lear's expectations for the future. As detailed in our safe harbor statement on Slide 2, our actual results could differ materially from these forward-looking statements due to many factors discussed in our latest 10-Q and other periodic reports. I also want to remind you that during today's presentation, we will refer to non-GAAP financial metrics. You are directed to the slides in the appendix of our presentation for the reconciliation of non-GAAP items to the most directly comparable GAAP measures.

The agenda for today's call is on Slide 3. First, Ray will review highlights from the quarter and provide a business update. Jason will then review our third quarter financial results and our full year 2022 outlook. Finally, Ray will offer some concluding remarks. Following the formal presentation, we would be happy to take your questions.

Now I'd like to invite Ray to begin.

Thanks, Ed. Now please turn to Slide 5, where I will provide a brief overview of our third quarter financials. Our financial results improved significantly in the third quarter, reflecting higher production volumes and our strong new business backlog. Sales increased 23% to $5.2 billion and core operating earnings more than doubled to $235 million. Operating margins improved in both Seating and E-Systems to the best levels in over a year, with further improvements expected in the fourth quarter. Operating cash flow improved to $252 million in the third quarter, reflecting higher earnings and improved working capital management.

Slide 6 outlines recent key business highlights. Lear's sales outperformed the industry again in the third quarter. And year-to-date, we have grown faster than the market by 4 percentage points, reflecting outperformance in both business segments. In E-Systems, we recently announced the most significant new electrification award to date, where we will supply General Motors with a proprietary battery disconnect unit for all battery electric truck derivatives and GM's Ultium battery platform through 2030.

We also continue to receive recognition across our business segments from a leading industry publications. In the latest J.D. Power and Seat Quality study, Lear received more than twice as many awards as any other seat supplier and 1/3 of the total awards granted. This is the second year in a row we have far outpaced our competitors and another indication of our leadership position in operational excellence and quality.

We won an Automotive News PACEpilot award for ConfigurE+ with zonal safety technology. This smart wireless technology, which is the first ever passive safety system designed for removal of seating automatically activate safety features in the second and third row of the vehicle based on detected location of the occupants. This solution further strengthens our PACE award-winning ConfigurE+ product offering, which is in production today with Volkswagen. ConfigurE+ brings unparalleled safety, ease of use and functionality to the vehicle seating. Utilizing long rails embedded in the floor, seats can be placed in any location with all mechanical and electrical connections secured automatically.

During the quarter, we also joined Climate Group's RE100 initiative. By integrating our energy-efficient playbook and renewable energy strategy across the company, we plan to source 100% renewable energy for electric power consumption at our global sites by 2030.

Slide 7 provides an update on key initiatives in Seating. During the third quarter, we launched production in our new seating assembly plant in Detroit that is supplying seats for the GMC Hummer EV pickup truck being produced at GM's Factory Zero. This plant also produced seats for several other GM electric vehicle programs that will be produced at Factory Zero. The new facility was designed to be aligned with our Industry 4.0 and ESG strategies and will allow for scalable manufacturing and flexibility in production.

ESG is one of Lear's 4 strategic pillars and an area of emphasis for our customers, who are looking to -- for the supply base to -- for innovation -- to innovative solutions. In Seating, we have made significant progress developing sustainable solutions to differentiate Lear as a market leader. In recent months, we have won development contracts with 2 global automotive leaders for FLEXAIR, Lear's 100% recyclable non-foam alternative that will reduce CO2 emissions by 50%, mask by 20% and improved breathability, which will improve comfort performance.

Our ReNewKnit sustainable suede alternative material is a first-to-market automotive textile that is fully recyclable at its end of life. Composed of 100% recycled plastic bottles, ReNewKnit fibers are spun from polyester yarn and finished with a foam free recycled fleece backing. This product will launch in seating and door panel applications with a premium automaker in 2024.

Thermal comfort systems is Lear's newest division dedicated to developing full system seating comfort with complete modularity. By integrating our existing seating capabilities with thermal comfort systems, we will extend our competitive advantage and leadership position in Seating. Our system reduces complexity and cost while offering superior performance, efficiency and comfort. Specifically, our newly designed seating system can reduce subcomponents by 50% and increased airflow by 40% directly to the occupant, which creates a better time to sensation.

Our design focuses on heating and cooling the occupant rather than the entire cabin, which can help improve energy efficiency resulting in improved battery range. With our thermal comfort system expertise, Lear is the only seating manufacturer poised to capitalize on the market trends in EVs, ridesharing and second and third row comfort while also achieving greater design, cost, production and energy efficiency.

Based on the benefits of our -- that our solution provides, several customers have recently awarded just-in- time contracts to Lear that include design and sourcing responsibility for the thermal comfort systems. We expect this trend to continue, and we'll provide opportunities to increase our market share in both just-in-time assembly and thermal comfort solutions and improved Seating's margins.

Turning to E-Systems on Slide 8. I will highlight 2 products we developed for General Motors that are driving growth in electrification. Battery disconnect units are the primary interface between the electric vehicles battery pack in the electrical system. Lear has produced BDUs for multiple customers, but the PACE award-winning BDU we designed for the GMC Hummer Pickup enables high performance and leverages our energy-efficient design to improve range and produce faster charging.

Lear integrated 2 battery disconnect units into 1 system, supporting 2 parallel 400-volt systems, enabling safe and rapid charging. The innovation features flat flexible wires that quickly dissipate heat for improved thermal management and reduce component weight. We also are manufacturing key components in house such as bus bars and engineered components. The BDU achieved a 20% weight reduction, a 32% size reduction and 135% improvement in power transfer as compared to traditional competitor offerings.

GM recently awarded Lear the BDU on all full-size SUVs and trucks built on its Ultium electric vehicle platform through 2030. GM's decision to source the BDU on a long-term basis allows Lear to invest in product and process innovations, which will drive improvements in cost and quality throughout the program life. We are investing in a new dedicated facility in Michigan to produce the BDUs and other electrification components. This site is expected to generate $500 million in annual electrification sales when it reaches full production.

The second product I want to highlight are intercell connect boards, which are the electrical and mechanical connection system that brings individual batteries together into an integrated battery module to enable high-voltage power for the vehicle. Multiple modules are combined to support various sizes of the Ultium battery packs. And depending on the individual vehicle platform battery size requirements, this can require up to 24 ICBs per vehicle.

Our ICBs are produced through a fully automated assembly process, which with approximately 60% of the components being manufactured by Lear. This level of vertical integration of highly engineered components, such as molded, stamped, insulated and conducting technologies, including bus bars, positioned us to win this award. The initial award is expected to generate over $100 million in annual sales with production beginning in late 2023. Our technology is adaptable to technology road maps across evolving customers' needs, and we are pursuing additional business opportunities with a broad range of customers for this newly developed ICB product line.

Now I'd like to turn the call over to Jason to review the third quarter financial results in more detail.

Thank you, Ray. Slide 10 shows vehicle production and key exchange rates for the third quarter global production was up 29% compared to Q3 2021 and up approximately 25% on a Lear sales-weighted basis. Volumes were higher in each of our key markets, with North America up 24% and Europe, up 20%; and then China, up 35%. During the quarter, the U.S. dollar strengthened significantly against the euro and the RMB impacting our financial results, primarily on a translation basis.

Slide 11 highlights Lear's growth over market. For the third quarter, total company growth over market was 1 percentage point, driven primarily by new business in both segments. These systems grew 2 points above market, while Seating grew just slightly above the market for the quarter. Through the first 3 quarters, Lear has grown 4 points faster than the market with Seating growing 4 points and E-Systems growing 3 points over market.

If you look at the last 3 years, both business segments have grown at an average rate of 6 points above the market. The 6 points of growth over market in Seating has been achieved through market share gains and new program awards reflected in our backlog as well as favorable platform mix.

We estimate that our backlog in 2020 through 2022 represents approximately 4 points of Seating's growth over market and favorable platform mix represents the balance. We anticipate continued market share gains and strong backlog over the next 2 years, but would not anticipate the favorable mix to continue.

Turning to Slide 12, I'll highlight our financial results for the third quarter of 2022. Our sales increased 23% year-over-year to $5.2 billion. Excluding the impact of foreign exchange, commodities and acquisitions, sales were up by 26%, reflecting primarily higher production on Lear platforms and the addition of new business.

Core operating earnings were $235 million compared to $98 million last year. The increase in earnings resulted from the impact of higher production on Lear platforms and the addition of new business, partially offset by the impact from foreign exchange.

Adjusted earnings per share improved significantly to $2.33 as compared to $0.53 a year ago.

Operating cash flow generated in the quarter was $252 million compared to a use of cash of $4 million in 2021. The increase in operating cash flow was due to higher earnings and an improvement in working capital relative to 2021. The improved working capital was driven primarily by our aggressive management of inventory levels in a difficult production environment.

Slide 13 explains the variance in sales and adjusted operating margins in the Seating segment. Sales for the third quarter were $3.9 billion, an increase of $722 million or 23% from 2021, driven primarily by an increase in volumes on Lear platforms and our strong backlog. Excluding the impact of commodities, foreign exchange and acquisitions, sales were up 26%.

Core operating earnings were $255 million, up $111 million from 2021 and with adjusted operating margins of 6.6%. The improvement in margins reflected higher volumes on Lear platforms, our margin-accretive backlog and an improvement in commodity costs, partially offset by negative net performance and the impact from foreign exchange and acquisitions. Net performance was dilutive to margins, largely due to a year-over-year increase in engineering spending as well as higher loss costs for our new program launches.

Slide 14 explains the variance in sales and adjusted operating margins in the E-Systems segment. Sales for the third quarter were $1.4 billion, an increase of 23% from 2021. Excluding the impact of foreign exchange and commodities, sales were up 28%, driven primarily by higher volumes on key platforms and our strong backlog, partially offset by the impact of foreign exchange.

Core operating earnings were $53 million or 3.9% of sales compared to $23 million and 2.1% of sales in 2021. The improvement in margins reflected primarily higher volumes on Lear platforms and our margin-accretive backlog, partially offset by higher commodity costs and the impact from the strengthening U.S. dollar. The commodity cost impact was driven by a combination of the revaluation of our copper inventory as well as increased component costs, partially offset by negotiated pass-through agreements with our customers.

The positive net performance was driven primarily by an improvement in plant productivity and lower premium costs, which resulted from a modest improvement in the stability of customer production schedules.

Now shifting to our 2022 outlook. Slide 15 provides global vehicle production volumes and currency assumptions that form the basis of our full year outlook. At the midpoint of our guidance range, we assume that global industry production will be 6% higher than in 2021, an increase from our prior guidance. We have reduced our outlook for North America and Europe while increasing the outlook in China. The high end of our outlook remains consistent with IHS' forecast for industry production of up 7% compared to 2021. Our production outlook on a Lear sales weighted basis is an increase of 5% year-over-year, in line with our August outlook.

From a currency perspective, as the dollar continues to strengthen, we have updated our assumptions. Our 2022 outlook now assumes an average euro exchange rate of $1.05 per euro, which reflects our fourth quarter exchange rate assumption of $0.99 per euro.

Slide 16 provides more detail on our current outlook. We are reiterating our guidance for all key metrics. While we did see a modest improvement in the stability of customer production in the third quarter, industry conditions remain challenging, including the continuation of short notice downtime announcements from customers in all regions.

Slide 17 highlights our strong balance sheet and liquidity profile, which is a competitive advantage for us in the current rising interest rate environment. We do not have any near-term outstanding debt maturities. Our earliest debt maturity is in 2027. And overall, our debt structure has a weighted average life of almost 15 years. Our cost of debt is low, averaging less than 4%. In addition, we have $2.8 billion of available liquidity.

Our focus is on growing and strengthening our core product lines to improve operating margins and cash flow generation. As we have previously stated, we are targeting to get back to an 80% cash conversion ratio over the next 2 years, driven by improved operating performance, synergies across our 2 businesses, savings from our restructuring actions and optimization of our manufacturing footprint.

We executed several tuck-in acquisitions to bolster the thermal comfort capabilities in Seating, and increase our product offerings in electrification and connection systems and E-Systems. While we continue to invest in Industry 4.0, we don't anticipate any additional acquisitions in the near term. We are committed to return excess cash to our shareholders, having repurchased about $75 million worth of stock year-to-date, and we continue to repurchase shares in the fourth quarter.

Slide 18 illustrates the Lear's specific drivers that will improve margins over the next couple of years. Within the portfolio, we continue to focus on products and customers that will support strong long-term financial returns. We continue to win key new business in connection systems and electrification, as highlighted by the expansion of our BDU awards as well as through innovative products like our Intercel Connect Board. In Seating, development of our modular solution will allow us to reduce cost and mass while increasing profitability. Our thermal comfort business is on track to be accretive to ceding margins in 2024.

We continue to wind down our underperforming product lines and replace that revenue with margin-accretive backlog. We've been focused on what we can control. We recently completed a comprehensive review of our manufacturing operations and cost structure and have initiated a plan called Lear forward, which is focused on driving efficiencies in our plants and across our segments.

Our restructuring initiatives are designed to both improve efficiency and provide more long-term flexibility in our manufacturing facilities. We've taken what we've learned from combining portions of Seating and E-Systems operations in 1 South American facility and are applying those learnings to our facilities in Mexico and Morocco. To improve cash flow, we are focused on driving down inventory levels that remain elevated due to unstable production schedules and improving capacity utilization to reduce capital expenditures.

These Lear's specific drivers will improve margins and free cash flow generation. Further improvements in industry volumes and moderation in commodity costs and labor inflation would lead to significant further margin and cash flow expansion.

Now I'll turn it back to Ray for some closing thoughts.

Thanks, Jason. Please turn to Slide 20, which highlights how Lear is strategically positioned to drive value for our shareholders. Our product portfolio is powertrain agnostic, well positioned for the shift to electrification, but also poised to continue to benefit from the production of ICE vehicles. Both of our business segments have outperformed industry growth rates by 6 percentage points over the past 3 years.

We are the leader in automotive seating with a growing 25% market share. Lear is the largest provider of seats for luxury vehicles, and we have consistently been recognized by J.D. Power as the quality leader. Our financial returns in seating lead the industry, and we are investing in innovation to further separate Lear as the leading seating supplier.

Electrification and other added content in the vehicle will drive growth in E-Systems. And we expect margins to grow as we increase scale and vertical integration across our portfolio of products. We are winning significant new business through innovative products such as the BDU and the ICB and are identifying additional opportunities across these product lines. We have a long history of driving operational excellence, and we will continue to improve manufacturing flexibility and efficiency across our operations.

We have a strong balance sheet with no near-term debt maturities and have locked in a low-cost debt structure that protects us from rising interest rates. We are targeting 80% cash conversion and have programs in place to return excess cash to shareholders through quarterly dividends and share repurchases.

As we work through the challenging industry conditions, we are proactively taking steps to position Lear for future success. I couldn't be more proud to lead the Lear team and want to thank all of our employees for their dedication and hard work. And now we'd be happy to take your questions.

(Operator Instructions) Our first question today comes from Joseph Spak from RBC.

Ray and Jason, I guess, I first wanted to sort of just dive into some of your comments on mix and how do you expect that to play out right now into '23? It sounded like you didn't really expect it some of the benefit you've seen to continue. It was obviously even a little bit of a headwind in the quarter. So maybe you could just talk a little bit more about that? And maybe if you could quantify the impact you see for next year? That would be helpful.

So Joe, it's probably a little bit early to provide pinpoint guidance for next year. But the point of that sharing that slide with investors today was really just to quantify how much of our growth over market in Seating over the last 3 years has been a result of platform mix and customers prioritizing their most profitable platforms and how that's benefited our seat business. And so what we've experienced over the last 3 years is roughly 2 points of that growth over market has been driven by mix.

And just to give you an example, the GM full-size truck and SUV platform, I think the volumes are higher and 2022 than they were in 2019 in North American market that's down significantly over that time period. Also some of the luxury platforms the Audi Q5, for example, is up over that time period.

So we would expect to see continued strength from those platforms. They're still great platforms for our customers, but we wouldn't expect to see continued growth, consistent with, say, the North America market growth rates overall over the next couple of years. Not sure that, that benefit unwinds. But it's unlikely to continue at that pace. It's really the primary point we wanted to communicate.

Okay. Got it. And then just as a second question, I was wondering if you could update us on some of your conversations with your customers on recoveries, maybe within each segment? How much within that volume mix other was some of the recoveries? And if you can sort of talk about whether that was in-period or retroactive? And how we should think about that dynamic going forward?

Yes. I think if you look at -- probably the best way to look at that is we're -- if you're thinking about how to model next year, as you look at our second half outlook, most of the commodity recovery in the second half of the year does relate to the second half. But in the Seating business, in particular, there's about a 30 basis point margin benefit for commodity recovery that we received in the second half that relates to the first half. And so if you look at our guidance for the full year, we have Seating in the second half of the year at 6.7%, just under 7% in the fourth quarter. And if you strip out that 30 basis points, it's more like 6.4% as sort of the right launching pad to go into next year.

In E-Systems, it's fairly clean with some of that same timing benefit and commodity recovery being offset by the revaluation of our copper inventory. And so we have assumed margins in the second half of the year in E-Systems of 4.3% and would expect that to be sort of a good launching point for 2023 for modeling purposes and then you do the math in the company overall, it's roughly 4.5% in the second half of the year.is what we've embedded in our guidance. And then Ray, if you want to elaborate on the recoveries.

Yes. As far as the conversations with the customers, and I think, Joe, you heard me say this before. Last year, we obviously were in for different negotiations at different points and even earlier this year. And I think the majority of the customers were in a mindset of these are more transitory and kind of wait and see on getting some of these things resolved. Where I believe right now, the majority of our customers are more in line with a general policy and guidelines for how they'll resolve it. And so I think that's a very constructive and positive move in respect to this from our perspective.

Now there are different areas that we are going to have to drive efficiencies, labor being one that we have to work on labor and some of the labor cost. But some of the more fixed costs, the inflationary costs, the commodity costs have been defined in either some type of share agreement or recovery agreement. And so I see that as a very positive move. And even though there's a lot of work still to be done, at least generally, the customers are more willing to sit down and negotiate on a longer-term basis.

And I also think that, combined with that, you can solve these issues, and it depends on how you respond to your customers and with threats or other ways of getting the customer to pay shutdowns, those type of things that we're seeing other suppliers' behaviors as far as how they're getting at the negotiations. But we've taken our approach that let's balance this thing, let's work with them, let's collaborate. Let's -- and we've a tremendous amount of VAV, CTO, as we call it, negotiation that we can work into cutting costs along with solving some of the peace price issues. And then obviously focused on growth.

So we've taken a much more balanced approach, but the good news is the customers are much more willing to look at guidelines or policies that they put in place for resolving these things. And that's been a very positive move that I've seen from the customers over prior, say, the last 6 to 8 months.

Okay. Just -- and sorry, just to be clear, in those sales walks for the segments like E-Systems, the recovery in that commodity bucket is where those recoveries are. That's not just straight -- the straight sort of movement in copper. It also compensates you for other inflationary costs you may have incurred?

Yes, that's correct. They're both in that bucket. And just also, Joe, real quick to clarify my comments regarding the second half operating margins. The company overall and our guidance would be at 4.7%, and it'd be about a 20 basis point sort of out-of-period recovery for the company overall. So as you're looking at modeling for next year, the right launching point would be about 4.5% for the company.

And our next question comes from John Murphy from Bank of America.

I just wanted to follow up on that question from Joe on the recoveries. I mean it sounds like the automakers have been a lot more understanding about the volatility in their schedules and the problems that, that's created from you. So just curious what kind of -- sort of recovery you're getting from that? And then also, when do you see these schedules stabilizing? I don't think in the current releases, you believe that there's going to be stabilization maybe in the near term or maybe you do. When do you actually get stabilization as opposed to maybe even real recovery in absolute terms?

I think the recovery, we're actually seeing some of the recoveries. So I think, as I mentioned earlier, each customer has different policies and each customers are treating these recoveries slightly different, but they are recognizing that there needs to be a mechanism for recovery. And there might be timing elements to that or ways that we resolve it because there is a direct correlation in some respects to allocation or supply issues based on how we're negotiating some of these settlements, either with directed suppliers or with our own sourced suppliers. So that recognition of resolving it is, I think, a very positive change from our customers.

With respect to how, again, I think we're still seeing allocation problems. We're still seeing shutdowns in respect to our customers around the world. And we're seeing those things in different ways. And so I haven't seen a significant shift. I wish I get to sit here and say that I'm very optimistic about the second or third or fourth quarter next year. I think these type of allocation issues are going to be with us for the short to midterm and maybe all the way through next year. So I don't see that changing significantly from where we're at today.

And Ray, maybe just a follow-up on that, though. I mean, if we're in a somewhat constrained environment, and it seems like demand is reasonably okay, at least relative to the supply, the question around mix might be or sort of that the speculation around mix might not be that bad just because we're so constrained. I mean how do you -- I mean how do you think about mix going negative? Do you think that like volumes need to be up 10%, 20% for mix to go negative? And if we see something that's 5% to 10% up that mix might still be pretty darn strong for you? Just how do you think about that going forward?

Yes, I think that's the right way to look at it. If there's a more significant industry recovery, say, 8%, 10%, 12% over a couple of years in North America and Europe. That's where there could be a little bit of unwinding of the mix benefit that we enjoyed for the past 3 years. If it's 2%, 3%, 4%, 5% in that range, it's certainly going to be less pronounced and maybe not a factor at all.

Okay. And then just lastly on the BDU. I mean, it sounds like you -- that goes through 2030, you're kind of highlighting that's a longer-term program. But as we start thinking about that as being sort of more of the powertrain as opposed to electrical system or seating those contracts have traditionally been sort of 7 to 15 years as opposed to sort of 4 to 5, right? I mean it spans 2 to 3 product cycles -- vehicle product cycles as opposed to 1 product cycle. So do you believe as you get into the electrical system more around the powertrain specifically that you might have a lot longer-term contracts and the economics might be a lot better for you because like you said, you can work on these efficiencies for a longer period of time?

Yes. I think that's why we we're very specific in how we are describing that because it is a unique type of contract, particularly around the difference between Seating and E-Systems. And that's exactly the intent is that working in a very collaborative way with General Motors, we're able to drive out efficiencies over a much more longer term, and we understand exactly our vision of where we're going to be out to 2030. And so those type of contracts are exactly the type of expectation, I think we have internally because the investment that's required, the type of capital outlay that we're putting in place and the longer-term vision so we can really scale that properly and get the benefits that our customers are looking for and then what we're looking for as far as the fair return.

So we couldn't be more excited about that B2U. It was really nice bit of work that the engineering team did here at Lear Corporation, along with exclusive collaboration with General Motors to really get at an efficient system and that's exactly how we're looking at it. And those capabilities that we have with the patents and the technologies and the way we're automating that facility can help us across multiple customers, too.

And our next question comes from Colin Langan from Wells Fargo.

Any update on the commodity headwind for the year? I think last quarter, you said it was $155 million net and $720 million gross. Are those still the same numbers? Any update there?

Yes. The $155 million, that number is still where we're at. What we have seen is a little bit of movement between Seating and E-Systems, both in terms of the gross impact and the net impact. So Seating is about $10 million better than we had thought when we sat here on the second quarter earnings call, and E-Systems is about $10 million worse on a net basis. And that's really a result of steel coming down a little bit, and that's benefiting Seating and then in E-Systems, seeing the effect of -- well, one, the copper revaluation of the inventory in the quarter, which also has an impact on the second half overall. And then also some component cost increases that we're working through negotiations with our suppliers on and the commercial recovery associated with those. We've seen some movement there as well. But overall, on a net basis, it's unchanged, Colin.

And on a gross, the $720 million seems a little high when I look at Q4.

On a gross basis, it's come up a little bit as well. So that's still a decent number, but it may be as much as $10 million to $15 million higher than that.

Got it. And you mentioned very clearly that the base exiting this year, second half is 4.5%. How should we be thinking about the puts and takes into next year from this space? I mean, production in the second half is actually a little bit higher than the full year. Is there more help from production schedules stabilizing next year? And is there going to be more help into next year from cost savings from some of the pricing? Or is that kind of already in your second half numbers? So just trying to think about how we should think about that?

Yes, I want to be careful not to get into too detailed discussion on '23, providing guidance. But I can share a couple of comments that should be helpful. One was the run rate as we exit the year. The other I think if you look at our backlog, we announced a backlog for '23 of $1.450 billion and then another $600 million in '24. So $2 billion of business rolling on over the next 2 years. .

We have seen a little bit of movement in the backlog number itself. This year, lower volumes, maybe slower ramp-ups on some of the new programs that have launched. And so we're, I think, $135 million lower this year on our backlog. And we see a similar phenomenon next year where that backlog number is going to be a little bit lighter than what we had previously anticipated, but it will still be a strong number for the company overall, and particularly over that 2-year period. I think $2 billion over '23, '24, still something that investors can expect to see.

So I think that, that will provide a benefit. Our margins on our backlog are rolling on at or above segment margin targets in both Seating and E-Systems. We expect that to continue and that will be a tailwind for next year. If you look at commodities, certainly, we've seen kind of a mixed bag there. Steel in North America has come down by more than half from its peak. So that's a positive. Europe steel has come down, but not nearly as much. So a little more uncertainty around that. Copper has come down by $1. And so we should see a modest benefit from that next year.

But on the oil-based commodities, we're still seeing a lot of pressure there. So foam, chemicals, yarns, things like that, resins, which impacts both segments. I think it will continue to be a factor next year. And while maybe not a headwind, it certainly won't be a tailwind as we look out to next year. You will see some benefit from the restructuring program we have in place. But as you highlighted, Colin, some of that is also reflected in our second half run rate.

So at this point, that's probably all we're comfortable sharing for next year. It's difficult to say what's going to happen with the production environment. But as we highlighted in our prepared remarks and Ray talked about a moment ago, we're still seeing customers shut down on short notice. We're still seeing the effects of the chip shortage on our operations.

And then lastly, I guess, foreign exchange, the strong U.S. dollar is certainly going to weigh on revenues for next year. And I'm not sure as I look at the analysts' expectations for next year that, that's been factored in yet year-over-year, that would likely be a bit of a headwind, particularly on the revenues, not so much on margins.

Our next question comes from Emmanuel Rosner from Deutsche Bank.

Maybe just picking up where you just left off on Colin's question. One additional factor I think you had mentioned in the past was your goal to try to recover some of these unrecovered commodities from the last 3 years over a number of years going forward. Is that something that you would still view as a tailwind as we move into 2023?

Yes. We've talked, Emmanuel about half to 2/3 of that unwinding through a combination of recoveries and moderation of the commodity costs themselves. So on the recovery portion of that, there should be a modest improvement still as previously communicated over the next 2 years and some of the commodities where there's a longer negotiation period or lag on the recovery of some of our European steel programs, leather, some of the leather contracts have a little longer lag period or take longer to negotiate. So some of those should benefit us in '23 and '24.

Okay. Understood. And then just rewinding back on the quarter itself, and I apologize if I missed it. I joined a little bit late. It seems like your earnings and performance played out quite a bit better than what you maybe were previewing sometime in September at a conference. Can you maybe go back over what played out better than expected? And to what extent is it sort of like a sustainable trend?

Yes. What's -- there are 2 things to happen. One, production held up a little bit better than what we were anticipating. So I think when we spoke at that conference, we were mired in some very recent announcements from customers that were weighing on production schedules and that it did improve a bit towards the very tail end of the quarter. That's one.

The second is the timing of some of our commercial negotiations really both in Seating and E-Systems, benefited the third quarter. And so some of the things that we had anticipated happening in the fourth quarter ended up getting pulled into the third quarter and that improved the results in both segments. And that's also the reason why we're holding guidance for the full year as opposed to raising it on the stronger-than-expected third quarter.

Okay. That's very clear. And then one just final point of clarification. So your slide about gross over market in -- on Slide 11. And again, apologies if I missed that earlier on. But -- so I guess a little bit softer than what you're generally targeting. It seems like this was impacted by unfavorable platform mix. This is not something that you would expect recurring on a go-forward basis. It seems like you're still targeting the 4% and 6% growth above market looking at?

Yes. I think if you look long term at both segments, 4 points of growth over market in Seating and 6 points of growth over market in E-Systems is still the right way to model it. In the -- over the next 2 or 3 years, you may see some moderation in that seat growth rate because of the mix benefit we've enjoyed over the last 3 years. And so I'm not sure if you caught the first question of one of your colleagues had was that on that topic, but I'll just give you the same example again, the GM full-size truck production in 2019 compared to 2022, it's increased over that time period and the North American market has declined.

And so that's a mix benefit to us. And so what we've said is that roughly 2 points of the growth over market over the last 3 years in Seating has been attributable to that mix benefit. I'm not suggesting it will unwind necessarily, but I wouldn't expect it to continue. And if there is a very strong recovery in industry production, particularly in North America and Europe over the next 3 years, then I think that there will be some unwinding of that. There's a limit to how much some of those platforms could go up because customers have run them at near full production over the last 2 years despite the shortage of components. They've prioritized those products. And so that's what we're trying to communicate, Emmanuel.

And our next question comes from Mark Delaney from Goldman Sachs.

I think it was the first quarter when the company raised its 2025 electrification target to $1.3 billion, and I think about $1 billion have been awarded at that point as you think about some of the new bookings you've been able to announce, including the BDU win in particular, but some others as well. I mean, it would seem like there's perhaps some upside potential to that $1.3 billion target based on the awards strength. So hoping you could give some more color on that.

Yes, Mark, that's exactly right. So year-to-date, in electrification, we've had more than $400 million of new business awards that's annual revenue. And we had targeted $500 million for the year. So we're a little bit ahead of that pace that we were looking for. And if you look at the 2025 targets that we raised from $1 billion to $1.3 billion earlier in the year, we see a very clear path to $1.3 billion and slightly beyond that at this point based on that General Motors battery disconnect unit award and the interconnect board -- intercell connect board award earlier in the year. Those 2 things taken together likely push us above the $1.3 billion in 2025.

That's helpful. And then you mentioned the Lear forward strategy in your prepared comments. I was hoping you could share some more color on what sort of financial implications there could be perhaps in terms of margin improvement as you fully execute on that program?

Mark, we'll talk more fully about that on the fourth quarter earnings call when we issue guidance for next year. But some of the more encouraging aspects of the projects, from my standpoint, are the: what we're doing in Morocco and Mexico, where we're taking a fresh look at our capacity utilization and our manufacturing strategy, both in terms of how we oversight those facilities in the region and whether there could be more shared overhead across segments, but also the capacity utilization effects of the lower industry volumes over the last couple of years, sort of ringing out some of that excess capacity and using that as a lever to reduce new CapEx to support programs that are launching over the next 2 and 3 years.

Yes. I can't tell you. We're going to go through -- we have internal targets here that will express externally at another time. But right now, the discovery that we're going through, obviously, we had a pilot program down in South America that worked extremely well. And when you look at the opportunities that we've identified already, we have teams in Morocco and teams in Mexico right now, sharing best practices, so we can get at these immediately.

But the shared resources between E-Systems and Seating is a significant opportunity for us. The working capital and the inventory and what we're going to do and share with transportation, transportation loads, how we're looking across each one of the different divisions is already -- we've been able to recognize opportunities there in our free cash flow particular situation and capital. And that's just not the capital that we have on the ground today, where we're looking at reusing capital, but extending capital life and then also reusing buildings and facilities that we have, so we don't have to make the future investments as we're looking at potential situations heading into next year.

So we have a team on this, a dedicated team, a Lear team, some of the best individuals in the company, are focused on this crossing both the different divisions. And we have internal targets that we're marching to and we're going to hit those numbers. And we'll share more about our findings and what we're targeting in the 2023 guidance when we're good to disclose that.

Our next question comes from David Kelley from Jefferies.

This is Gavin Kennedy on for David Kelley. Good to see your electrification and connection systems traction today. For connection systems specifically, is it still tracking towards $500 million in 2022 and $1 billion by 2025? And if so, any incremental color on what you're bidding on and where you see the biggest opportunities would be great?

Yes. So the 2022 outlook is still right around $500 million. If you look out to 2025, I think we talked about $900 million to $1 billion depending on how much inorganic growth we've had and -- and so we don't have any inorganic opportunities on the near-term radar. So if you exclude that, I think and you look at what's happened with foreign exchange rates and volume -- industry volume outlooks for that time period. I think they're -- in Europe and North America, for example, 25% is something like 13% or 14% lower than what we saw at the beginning of the year that may weigh on the number a little bit.

But I think in terms of the new business wins, the organic growth that we had targeted we're right on track and perhaps a little bit ahead of schedule with the intercell connect board award and the magnitude of that.

I think just to add to that, we laid out a very specific plan in 2019, a strategic plan in what we're going to do in E-Systems. And we're marching right along that path, and I couldn't be more proud of what we've accomplished. And despite some of the industry challenges, maybe not reflective in the margins at this time. But when you take a step back, we've strengthened the organization. We brought in very selective individuals that are focused on key elements of our business. We talked about realigning the business around not just product around ROIC, but region and customer. And that's intact and in place, did a very comprehensive product portfolio where we're trying to be everything to everybody and we've narrowed our scope, and we've looked at where we have the right to win, and we've defined it very clearly, power distribution, Ts and Cs and very selective electronics. And man, I couldn't be more excited about how we're winning in each one of those different areas. .

And what we talked about was how we're going to expand margins, it was really that growth fixed exit strategy or mentality, and that's exactly what we're doing. We're deemphasizing parts of our business and winding it. We're fixing parts of our business that we have in place right now with our customers. And then we're growing in the areas that we've talked -- we've touched on.

And the other element that we touched on was this customer diversification. It's amazing how quickly we've moved from 1 customer that represented anywhere from 30% to 35% of our overall E-Systems business at one point to a much more balanced customer portfolio where -- in the future, General Motors could be our largest customer represented where we really didn't have a lot of business. So we've done a nice job of expanding our customer portfolio.

And the thing that we talked about was this power distribution versus selective electronics and vertical integration. Our integration in some of these components we're talking about with bus bar capabilities that others are acquiring companies to get the capabilities, we have it in house. The overmolding with M&N plastics that we acquired was one of the main reasons we were able to secure this business we're talking about, and what a great acquisition that was, which was somewhere around $50 million, and we've got targets to expand that well above $100 million and the Ts and Cs with the plug bar that we won, which is the main interface of the battery in the vehicle.

The plug bar is a major Ts and Cs business that we won with Volkswagen and now the most recent awards that we've announced. I couldn't be more excited around what we're doing and how we're really focused on power distribution, Ts and Cs, very selective Ts and Cs, and then also very selective, electronics is playing out well.

And then I think some of these key -- like I said, the key acquisitions and partnerships. We've done a nice job with very selective partners that are going to help us gain access into Ts and Cs. That's already working well for us. and also the acquisition of M&N. So that's resulting in profitable growth.

And the backlog has been incredible over the last several years, and we're very confident going forward that we're going to continue to win now that we have some of these first-to-market capabilities that we can stretch across other customers and other products within the customers' portfolio. So really, really excited. Now we just got to get that margin going. So that's the next step, and we continue to work it.

That's really helpful context. And then in regards to acquisitions, which you just mentioned, you mentioned in the prepared remarks that you don't anticipate any additional M&A in the near term? Is this simply a digestion phase given the number of acquisitions to date? And then looking out a year or 2, what potential M&A opportunities would encourage Lear to get more acquisitive?

Yes. Right now, we've done a nice job with I consider to be small tuck-in acquisitions. Kongsberg acquisition in Seating with thermal comfort was a home run. I mean that's a great company. It gave us immediate credibility. Like I said, we won multiple programs, now having that in-house capability, not working with outside companies to win the thermal comfort designs and more importantly, sourcing that design. And so obviously, bringing that in the house was a big one.

Obviously, we're still going through the process of IGB with active cooling and some of the other elements that I think will complement what we did with Kongsberg. So that one is in the pipeline right now. We've got to finish that one. That's hopefully will be done by sometime next year, first quarter, maybe or hopefully sooner, but that's going to continue to complement what we're doing with thermal comfort because I absolutely believe what we're doing there and how that's going to differentiate Lear and help us really expand our margins, because it really is something that customers are interested in, not just our OE customers, but the end consumers on a much more efficient system when we talk about time to sensation and we cut right through that.

And when we talk about what's important is the element that we've done organically is this polyethylene or this FLEXAIR that is revolutionary. It's first to market. It changes the whole foam context on what we're doing as far as recyclable, I mentioned earlier, cuts down CO2 emissions by 50%. The combination of those with foam and trim in the thermal comfort is good. And then E-Systems, I think we did a nice job with M&N. We're doing a nice job of organically investing in what I said is vertically integrating the components from molded capabilities and bus bars.

And if there is any area right now, and again, it will be a continuation of small talk in would be in just continue to secure our industry-leading operational excellence in smaller things like Industry 4.0. We're really looking at how we can create a modular system that is much more flexible, agile and get some of the customer needs and changes, but also protects our core competency, which is operational excellence. But that -- those would be smaller.

And our final question this morning comes from Chris McNally from Evercore.

I apologize for the monotonous questions here at the end, I'm going to ask about commodities and growth over market. So on commodities, specifically looking at E-Systems, 210 basis points year-over-year in Q3. I think on the last call, you had talked about almost 95% sort of the commodity, it would come in the first half and I'm just curious if we focus in -- on E-Systems because I think it's such a big part of the story is the margin increase, how much of the hit down raw materials is still lagged as opposed to -- you already know that you're going to have the recovery coming in the next 2 quarters based on contract? And how much is you actually have to go out and negotiate price from here? So that's the first one.

Yes. So the half of the commodity impact for systems was the copper revaluation in the quarter. And so it really inflated the margin impact. And then you'll see the benefit of that over the next several quarters as we consume that inventory and our copper costs go down. The other half is related to component cost increases. And there -- we've been in negotiations for much of the year. It isn't so much new to the third quarter as if you look on a year-over-year basis, there was very little in the third quarter of last year that impacted us. And if you go -- if you fast forward from Q3 to Q4, we do expect some moderation of that.

And so it's a combination of the copper revaluation sort of inflating the number and just the timing of our negotiations both with suppliers and customers. And if you look out to next year, I wouldn't expect that level of headwind certainly to continue. And I would expect that over time, we'll see that moderate overall.

I appreciate you putting that together. That makes sense. And then growth over market, completely understand the discussion, particularly around seating, think about sort of 4% backlog growth no longer having that bump above that because of mix. But if we look at Q3 where you had specifically in North America, a negative growth over market. I know there's a lot of weird things when the volume is up so much. Should we expect, though, that even in the short term, growth over market and seating gets back to sort of that 3%, 4%? Or is there anything next quarter or 2 where the mix is still an issue because we are still seeing pretty good production schedules on some of those platforms that you spoke about into Q4? So proceeding can growth over the market get back into the positive in the fourth quarter?

Yes. It can get back to a positive number in the fourth quarter, and I think you'll see less mix impact, but you could see some mix impact continue in the near term, say, over the next couple of quarters.

Okay. So maybe just something slightly less than 4%. Okay.

And ladies and gentlemen, at this time, we're going to end today's question-and-answer session. I'd like to turn the floor back over to Ray Scott for closing comments.

Yes. Thanks. Well, I'm sure that the Lear employees are the ones still on the phone, and I just want to extend my appreciation and thank you for a great quarter. And again, I want to thank you for working with our customers to create a value proposition, the BDU, the ICB, the seat team just thank you for working with the customers in a collaborative way, and I think the results speak for themselves. I appreciate all your hard work and dedication, and I appreciate it. Talk to you later. Bye.

And ladies and gentlemen, with that, we'll conclude today's conference call and presentation. We do thank you for joining. You may now disconnect your lines.