Modine Manufacturing Co (MOD) 2020 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to Modine Manufacturing Company's Third Quarter Fiscal 2020 Earnings Conference Call. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to turn the conference over to your host, Ms. Kathy Powers, Vice President, Treasurer, Investor Relations and Tax.

Good morning and thank you for joining our conference call to discuss Modine's third quarter fiscal 2020 results. I am here with Modine's President and CEO, Tom Burke; and Mick Lucareli, our Vice President Finance and Chief Financial Officer. We will be using slides for today's presentation, which can be accessed either through the webcast link or by accessing the PDF file posted on the Investor Relations section of our website, modine.com.

This morning, Tom and Mick will present our third quarter results for fiscal '20 and we'll provide an update to our outlook for the rest of the year. At the end of the call, there will be a question-and-answer session.

On Slide 2 is our notice regarding forward-looking statements. This call may contain forward-looking statements as outlined in our earnings release as well in our company's filings with the Securities and Exchange Commission.

With that, it's my pleasure to turn the call over to Tom Burke.

Thank you, Kathy, and good morning, everyone. Overall, third quarter sales were down $67.6 million or 12% from the prior year. These results were in line with our previous guidance.

Third quarter adjusted operating income was $24 million, down $10.8 million or 31% from the prior year, primarily due to lower sales volume in our VTS and CIS segments. As reported last quarter, several of our end markets slowed significantly in the past few months, but conditions appear to be stabilizing.

As for other highlights during the quarter, I'm pleased to report that our free cash flow improved to $11.6 million this quarter, including auto separation and restructuring costs. We have also strengthened our balance sheet by terming out a portion of our short-term debt. Mick will cover this in more detail during his section.

Our new CIS leadership team is keenly focused on identifying opportunities to enhance our margins and improve operational efficiencies. As mentioned last quarter, margins in this segment have fallen below our targets. We have plans in place to strengthen our coils business and grow our coolers business. In addition, we're making organizational and structural changes to how we manage our data center business. The volatility of our data center sales has created short-term challenges due to significant concentration with one customer, but the team is making good progress in diversifying our data center portfolio. I will cover more on this and on other strategic priorities during my segment review.

Before diving into our quarterly segment results, I would like to provide an update on our automotive exit strategy. We spent considerable time and investment separating the automotive business from the VTS segment and plan to start managing and reporting a separate auto segment in the first quarter of fiscal '21. While this has been time-consuming and costly, I believe it was a good and necessary investment and is now largely complete.

Reporting this new segment will provide improved transparency going forward as we transition away from the automotive market. This work included physically separating manufacturing operations, setting up stand-alone IT systems and business processes and establishing new legal entities.

We have named a seasoned leader, and management team is committed to successful separation and dedicated support of our automotive customers. The separation of the automotive business will allow us to showcase the new Modine, which we anticipate will generate higher margins, returns on capital and cash flows. I want to be clear, our primary strategy remains to exit Modine's automotive business as quickly and efficiently as possible. Through our previous efforts to sell the auto business, we determined that it would be more beneficial to divide the existing business to better align and appeal to strategic buyers. Specifically, we are marketing 2 separate components of our automotive business to different potential buyers. With this revised approach, we have been actively engaged with numerous interested parties. We're encouraged with the revised process so far. As we assess our options and their related timelines, there may be some remaining products locations that we will have to address. In these scenarios, our goal would be to complete the exit as quickly as possible when meeting or exceeding our customer commitments as we transition or phase out of certain product lines.

Our objectives are clear. Separate the automotive business and run it to optimize earnings and cash flow, maximize the cash value by divesting the most valuable assets and exit the remaining business as rapidly as possible on a cash-neutral basis. Beginning in the first quarter of fiscal '21, we plan to report the financial results of the new auto segment separately from the remainder of the VTS segment, which will include our heavy-duty equipment business. We continue to believe that pursuing this path is the right long-term decision for the company and for our shareholders. We will lower our capital intensity, better focus management's attention on higher-margin, higher-growth businesses and improve our cash flows, opening up new opportunities for organic and inorganic investments.

Now turning to our third quarter results on Page 4. As expected, we experienced a decline in sales across our vehicular markets. Sales for the VTS segment were down 16% from the prior year. As I previously mentioned, our key vehicular markets have slowed significantly in the recent months and continue to be soft. Overall sales to our commercial vehicle and off-highway customers were each down 26% and automotive sales were down 3%. These market declines have not been isolated to any particular region as we are seeing volume weakness across the globe.

Sales to customers in the Americas region were down 18% from the prior year, with lower sales to automotive, commercial vehicle and off-highway customers. Sales in Europe were also down 18% from the prior year due primarily to a steep drop in commercial vehicle sales as certain programs wind down.

In Asia, sales were down 4% due to lower off-highway sales in China, Korea and India. This was partially offset by higher automotive sales in China. Adjusted operating income for the VTS segment was $5.1 million in the quarter, which is $9.9 million lower than the prior year.

Adjusted operating margin was down 270 basis points to 1.9%. We have quickly responded to the downturn in our markets by cutting structural costs in our business to align our plans -- operating plans with changing customer demand. In addition, we are highly focused on other factors we can control, such as SG&A reductions, improved operating efficiencies and accelerating procurement initiatives. This drives near-term margin improvements and increases our confidence for improved operating leverage when the markets pull out of a down cycle.

Our customer relationships are strong as we continue to deliver leading performance in critical elements like quality, delivery and cutting-edge technology, such as EV solutions for the bus and truck markets.

And as we discussed last quarter, in talking with our key customers, we felt that industry volume declines could prove to be more substantial than many industry forecasts we're expecting. So while these year-over-year declines were steep, they were largely in line with our projections. The silver lining to the market weakening is that the rate of decline in these markets seems to have stabilized. We are not expecting any meaningful recovery in calendar 2020. There are some reasons to be optimistic with regards to the longer-term market outlook. We believe the off-highway and truck markets will be challenged for the next several quarters and then they'll begin to recover. Many are predicting an improvement beginning later in calendar 2020. On the auto side, we anticipate relatively stable volumes, which is key to our divestiture process.

Please turn to Page 5. The largest challenge in our CIS segment was the decline in sales to one large data center customer. This accounted for more than half the revenue decline. Overall, CIS segment sales declined 12% from the prior year.

Sales to data center customers were down 25% from the prior year. Within our served market in this segment, the strong growth in cooler sales that we saw last year was a result of strong capacity expansion in excess of market demand. The drop in sales this year is due to a temporary lull in customer investment and further capacity that is expected to continue into our next fiscal year. We are currently expecting very low volumes for this business in fiscal '21, with a strong recovery in fiscal '22.

Sales to our commercial HVAC and refrigeration end markets were down as well. The majority of the sales decline was related to refrigeration customers, driven by market decline in refrigerated transport in the U.S. The segment reported adjusted operating income of $9 million, down 34% from the prior year. This decrease was primarily due to lower gross profit, driven by lower sales volume and negative sales mix. The new leadership team for this segment has been in place for over a quarter now, and the strategic priorities and related actions have been set.

As I mentioned last quarter, we are keenly focused on improving the profitability of our coils business. We have initiated an aggressive cost reduction program to vertically integrate certain high-cost components and to strengthen our manufacturing operations and business processes. We're also reviewing our product costing and pricing practices to make sure that our quotes have sufficient margin, particularly, on low-volume releases.

The team is working hard to take advantage of our data center growth opportunities and to diversify our customer base. This is being done in conjunction with our Building HVAC team, and I have decided to consolidate these efforts under one leader. I will cover this more in detail as part of the Building HVAC update.

We are also leveraging new technology to reduce energy consumption and total cost of ownership in our cooler and coatings business, and are adding resources to our North American team in order to grow market share. In the upcoming year, we expect the market supporting our coils and coolers products to be relatively flat, with some continued weakness in our industrial markets.

With regard to our largest data center customer, we are planning on very limited sales for the next several quarters based on recent communications with them. However, the long-term demand and projections are very encouraging with projected sales in calendar '21 potentially reaching new highs.

Please turn to Page 6. Sales for our Building HVAC segment increased 1%, driven primarily by higher sales of school ventilation and heating products in North America, partially offset by lower ventilation and air conditioning sales in the U.K.

Operating income increased 4% from the prior year to $13.5 million, and operating margin increased 50 basis points to 20.8%. This increase was largely driven by favorable sales mix and customer pricing. We continue to be encouraged by the strong performance and our competitive position in the segment. We expect the favorable growth trends in our markets to continue and remain focused on growing our data center business.

In order to better capture opportunities in this growing market, we're developing a new single-focused approach to the data center market by combining the resources and capabilities of our Building HVAC and CIS teams. This new structure will allow us to leverage the products across both CIS and Building HVAC, providing a more seamless customer experience along with a more comprehensive solution offering. The end goal is to have greater customer diversification by reaching a broader segment of these markets by introducing new highly regarded products across new geographic regions. This change in strategy is showing early indications of success as we are growing and winning new business with other data center customers.

For example, in the quarter, we secured our first order with a major cloud computing customer in Europe for shipment in fiscal '21. This is a key component of our growth strategy moving forward.

Looking ahead, we see our market starting to pull back a little bit, but they will remain generally positive throughout the calendar year. Within that, we expect to see stronger growth in key markets as macro trends should remain strong.

Our data centers strong growth continues in the co-location and cloud data center space. Given our strong presence in the U.K. markets, the increased certainty around Brexit should provide some stability into the general HVAC market. We anticipate U.K. banks to release capital funding for construction, opening the door to growth again.

As I mentioned earlier, our newly engaged global data center team has solid plans to grow and diversify this business with new customers in fiscal '21. With that, I would like to turn it over to Mick for an overview of our consolidated results and an update to our outlook for fiscal 2020.

Good morning, everyone. Please turn to Slide 7. As we anticipated and detailed by Tom, market softness continued well through the quarter. VTS and CIS segments were the primary drivers of our revenue decline, which resulted in difficult year-over-year comparisons. As reported, third quarter sales declined $68 million or 12%. Of the $68 million decline, over $50 million was the result of declines in truck and off-highway sales along with a drop to our largest data center customer.

Gross profit of $74 million declined 20%, resulting in a gross margin of 15.5%. The 27% downside conversion was in line with our expectations and based on standard fixed and variable cost structures.

Besides the lower sales volume, CIS was negatively impacted by sales mix resulting from the decline in data center sales. Also impacting gross profit was approximately $2 million of costs relating to the product and equipment transfers in support of our automotive exit strategy. Materials and metals had no impact on the quarter. And strength in Building HVAC continued with a gross margin improvement of 120 basis points.

SG&A for the quarter was $64 million. There were two main drivers behind the SG&A numbers. First, we had lower compensation expenses this quarter and began seeing the benefits of our cost reduction plan. Second, we have the temporary costs related to our automotive exit strategy. Preparing to exit the automotive business is a complicated and expensive process, including all of the separation and program management work. To facilitate this process, we created a program management office to support all of the work streams necessary to support the business and transfer products to fully separate our plans.

As discussed previously, the auto business needed to be separated and stood up as a standalone, fully functioning business. This required that we carve out 1/4 of the company that had been previously embedded within multiple locations throughout our global VTS segment. Last, our actual deal-related and transaction work streams, since launching a formal sales process, we incurred costs relating to seller due diligence, accounting, legal and other advisory services. During the quarter, we incurred $12.6 million of costs related to all of this work, including the separation and sale process. Approximately $3 million was primarily related to project management costs. Also, during the quarter, we incurred approximately $7 million of costs to separate the business. These costs included IT, human resources, accounting, tax, legal and audit fees.

Last, there were costs tied to sale process and related to seller due diligence, legal and other advisory costs. During the quarter, these costs were approximately $2 million. I'm encouraged that the vast majority of the separation costs are behind us, and most of the incremental expenses going forward will relate to an actual sale and/or disposition of the automotive business.

Moving on to the rest of SG&A, we have some positive news to report. The balance of SG&A or the amount excluding any of the project-related costs decreased by $5 million or 9%. This was mainly due to lower compensation, including lower incentive compensation. This decrease also included initial benefits from cost savings measures that we detailed last quarter. With regards to reducing operational and SG&A cost structures, we recorded $2 million of severance expenses in Q3. Adjusted operating income of $24 million was down $11 million from the prior year. As previously mentioned, the decline was attributable to a difficult quarter for VTS and CIS. Lower compensation expenses and cost control initiatives led to lower SG&A, which helped offset the volume reductions. As usual, our appendix includes an itemized list of adjustments and a full reconciliation to our U.S. GAAP results. These adjustments totaled $15.8 million. Of this amount, $14 million relates to the automotive divestiture, including $12 million recorded in SG&A and the remainder in cost of sales. We also incurred $2.6 million of restructuring expenses, which consists of primarily of headcount reductions and plant consolidation activities. Finally, we sold the previously closed manufacturing facility in Germany during the quarter and recorded a gain of $800,000. Our adjusted income tax expense was 0 in the quarter and was largely attributable to tax incentives in Italy and a favorable GILTI impact on U.S. taxable income. Adjusted earnings per share was $0.37, down $0.05 from the prior year.

Turning to Slide 8. As anticipated, I'm pleased to report that cash flow improved during the quarter, and we expect that will continue in the fourth quarter. Third quarter free cash flow was $12 million, and net debt decreased $21 million. On a year-to-date basis, cash flow has been impacted by lower cash earnings plus higher working capital and costs related to the automotive exit strategy. As I covered in the SG&A costs, we needed to make some important and strategic investments to support our automotive strategy. The costs are comprised of program management, separation and deal-related costs. In general, these costs will hit the cash flow statement on a lag, usually a quarter or so.

To repeat, I am encouraged that the vast majority of the separation costs are behind us. Most of any remaining costs should be directly linked to a sale process, and we anticipate that future cash flows will benefit from potential asset sales. Besides the improved cash flow, we made some additional balance sheet improvements during the quarter. As I mentioned, net debt declined and our leverage ratio was 2.3. Plus, we recently issued $100 million of senior notes, with the proceeds used to prepay notes coming due in August and repay short-term debt. This not only secured new long-term financing, but will also result in future interest savings. And as another benefit, we reclassified $100 million to long-term debt on our balance sheet.

Now let's turn to our fiscal '20 guidance on Slide 9. Based on our third quarter results and anticipated market trends, we are holding our guidance for sales and adjusted operating income. We are increasing our guidance on adjusted earnings per share with a range of $0.85 to $1 due to a lower tax assumption. Our estimated full year adjusted tax rate is now projected to be around 26%. While our guidance includes the automotive business, we remain focused on the separation and exit strategy. We look forward to moving that business into a separate segment or discontinued operations in the new fiscal year.

With that, Tom, I'll turn it back to you.

Thanks, Mick. There's a great deal of work ahead of us, but we are on the right path. Although the process of exiting the automotive business is taking longer than originally anticipated, we have a plan in place to achieve the best possible solution that will be in the best interest of our shareholders. Walling off the automotive business as a separate business segment will allow us to run it differently, selling those businesses and assets to logical buyers and transitioning in an orderly fashion to ensure there are no customer disruptions. The timing of the downturn in our end markets hasn't helped our process, but we now appear to have greater visibility to the state of our markets. We have clearly spent a significant time and money on exiting our auto business. While our core markets have softened, and we also experienced a large decline in sales to our largest data center customer, all these items had a significant impact on our results and cash flows this year.

However, I am very encouraged about the opportunities in front of us. Modine will be a different company after the auto divestiture with a clear focus on improving our truck and off-highway business. The new CIS leadership team has a clear plan in place to improve the margin profile. And our new global data center approach is leading to new business opportunities. We're developing an operating plan to reflect these actions and others to achieve the savings targets we set last quarter. We will share our expectations for our next fiscal year when we report our fourth quarter earnings in May.

And with that, we'll take your questions.

(Operator Instructions) Our first question comes from Mike Shlisky with Dougherty & Company.

Maybe I want to dive in first into CIS and kind of what's behind some of the downturn there in that business. I guess, can you give us -- maybe bucket some of this more thematically. I know there's one customer that's given you some challenges. But maybe is it -- do you know if the customer has just shut off investment? Is it a pricing problem? Are there other companies out there that are undercutting you on pricing? Are there any issues with your logistics?

No.

Just kind of other -- some more details on what's going on there?

Yes, great question. And let me just, kind of, give some color, starting with covering those points. First off, there is absolutely a great relationship with this customer, okay? Our teams have done a super job in supporting and servicing them. We're in constant communication. We have a dedicated program team that supports them on a weekly basis. We've always said from the beginning, this a lumpy business. And it comes in -- build-out of capacity for that customer. They -- we had a -- if you think back, we had a -- kind of, a peak year in fiscal '19 that lowered some in this fiscal year. What's happened is they're kind of low-end capacity build-out, which they've been clear with us on what that looks like. As I mentioned, we think that's going to have an impact in the next fiscal year for a while, and it's going to really come back strong following that.

As far as the relationship commercially, no problems on pricing, service or support or new entrants coming in and undercutting us. It's not -- we have our established share with them, okay, and they've made that clear. So right now, we just anticipate this low-end capacity build-out on their behalf that they're waiting for their capacity be utilized further before they start adding more orders and more build-out for capacity.

Saying that, I'm very pleased, okay, that with this new single-year focus to the market with the organization structure which we're taking, we've brought the best of resources from CIS and Building HVAC, putting them together to service this customer and other customers broadly with the intent of not only growing, but diversifying more, and we did land an order this year, will be launched in the next fiscal year with another cloud provider that starts generating and improving that, that strategy is going to work from a diversification standpoint. So yes, there's nothing I'm concerned about other than the fact that we're just have to live with the lumpiness. But as we build and grow and diversify the customer base more, we're going to see less susceptibility to that.

Okay. I wanted to also ask about the various cost reductions, as you mentioned last quarter and have certainly come into action this past quarter. Now that you're a few months into it, can you give us some sense as to the timing of and when those might be incurred and when their benefits might hit? And whether you can, maybe, give us some sense as to what might be in COGS and what might be in SG&A?

Yes, let me -- I'll start and let Mick take it from here. Yes, we've been very aggressive as we stated last quarter that focusing on making sure that we adjust our cost basis to adapt to what we see going forward in some of the pressure that we've seen in these markets. So we've had significant reduction in force across businesses to anticipating that and plus other things in procurement that I mentioned in logistics that we're driving cost focus to meet our target of $25 million to $30 million. I'll let Mick, kind of, give you more color on it in detail and how we see that rolling out?

Yes, out of the total savings that Tom referenced, Mike, we were targeting about $15 million in people cost savings. And we began our reductions in January, and so far, run rate savings are right around $13 million. So we're well on our way on that savings run rate. We talked about a $2 million to $3 million cost -- severance cost to do that. And in the quarter here, we had about $2 million of severance charges. And then the run rate of $13 million, it's fairly evenly split between cost of goods and SG&A.

Okay, great. I wanted to get a couple of more clarifications also on the auto separation real quick. A few things that you had mentioned in your prepared remarks. First, did you say that you were -- you're currently pursuing 2 separate sales in the auto -- of 2 different parts of the auto business? Or are you going to sell one and then wind down the other? I also wanted to ask, secondly, if you've completed most of the process of separating the business, can you give us some sense as to the EBITDA results or some earnings number of that business? And maybe third, it sounds like because you're going to be putting this into your fiscal 2021 numbers, I kind of wanted to clarify -- I'm curious, how close you are to actually selling this business? It sounds like this might be a few more quarters that it'll be in your portfolio at the very least, if not more than that. It's going to be officially in your SEC financials starting this fiscal 2021.

Okay. So we've got 3 questions there. I'll take 1 and 3, and turn 2 over to Mick as far as EBITDA run rate. But yes, so just backing up, the process we announced a year ago in January, was to sell the complete auto business. And that is everything -- globally, everything that's automotive, roughly $600 million. Through the process and the challenges that we found, some of that because market concerns and some because concerns that there are different elements in that business -- that some value more than others. We decided when we got to the end was to pull the plug, and we were looking how to come back out because our strategy is still the same, right? Our focus -- strategic, long term, we want to sell the automotive business and leave that segment. So we've been looking at the perimeter. And we brought it back. There's really 2 natural kinds of groups inside of auto. And not to go in too much technical detail, but there's, what we call, liquid cooled or engine-related products business, and there's an air cooled business, which is typically, think of the powertrain cooling module in front of the car. Our potential buyers have interest in either way. So we decided splitting that and selling -- and we're looking at divesting those in separate processes. So we have a process in place for one of those right now, okay, I'd call it the higher-valued portion of that, the way we split that business. That process is underway. And we feel positive with the engagement, as I mentioned, of potential buyers that we're dealing with.

And then the other segment, we're looking at a separate process approach of divesting that business. And that is with the separate set of potential buyers that we're engaged with as well.

Timeline, we're on a time line to focus on the liquid cooled, the first part that I mentioned that we expect that to be active going through the process in the next couple of months, okay, to see that where we come on it. But we're not putting a time line out there and a finish line. We want to make sure that this is a quality approach and we engage all the buyers in a high-quality fashion and have an opportunity to maximize proceeds from that. But that will take the next couple, several months to complete that.

On the other side, we're working with buyers potentially to engage with in what we're communicating on how that moves forward from there. So again, that's the general picture of where we are, and I'll let Mick, kind of, handle the EBITDA question.

Yes, from a margin standpoint, Mike, we haven't disclosed specific numbers, but what we can share. And I think it's helpful, we look -- probably the easiest is use last fiscal year, VTS EBITDA was around 9%. And we said the auto business in totality is significantly below the VTS average. Auto in total is more of a mid-single-digit EBITDA business. And within there, as Tom broke down, there's a pretty broad spectrum of margins. And there, I'll leave it, but there are margins significantly higher within auto, and then there are more challenged margins. But auto as a total within the VTS segment is well below the VTS segment total margin and has been our largest user of capital and the largest requirer, I guess, I'd say, of restructuring costs over the last 5 years. So not only we see a margin improvement post the auto divestiture, but less capital intensity and needs for that business going forward. And Tom, I don't know if you want to add on it.

Yes. I think it's important, and I mentioned that -- and we -- I used the term that walled off as far as the segment reporting and this starting next year, it's important that we have that enhanced transparency that we can demonstrate during the exit period that allows us to show what Modine will look like post divestiture. I think it's really important element of our strategy. We want to be very transparent to shareholders to say, this is walled off. This is what we're looking at divesting. We'll keep our shareholders informed on that process, but you can kind of have show a, call it a, semi pro forma basis, what the company is going to look like when we're done with that divestiture processes.

Next question comes from Matt Summerville with D.A. Davidson.

Just a follow-up on the CIS business. You sort of talked through the data center piece. I'm more curious to see how you feel the business is performing on the commercial HVAC&R side relative to underlying markets? And I guess the genesis of the question is, you've had some operational, executional challenges. Do you feel your market share in that business has stabilized? Or is that still yet to come?

No. I feel it's definitely stabilized. It's a good question. We have a whole new focus on that business with bringing key leadership in both the -- running the overall business and the key positions inside of the operating and customer-facing side. So what we're finding is that besides the operational efficiencies that we're focused on delivery and timing, and which is very important to those customers. And our team has met with all key customers, both large and small. And with our distributors -- representatives, excuse me, on how we're going to attack this both on the performance side, on cost performance and delivery but also on the market-facing side on executing on timing, delivery and pricing. So I feel that we've definitely had -- our share position is holding and expect margins to improve by implementing all these actions.

Our focus, again, as I mentioned, we're targeting 200 to 300 basis point improvement in the next 2 years, okay, to kind of quantify and give you a target what we're shooting for. And of course, a lot of that will include the bounce back in the fiscal '22 time frame with stronger customer orders from that large data center customer, plus we anticipate growing sales with other customers in that business.

The other thing that has really impacted us, Matt, this -- the last couple of quarters in that broader category has been sales, specifically in the transportation, refrigeration side and also on the RV side. So it's a broad category, and I know a lot of people look at broad HVAC industry statistics, but we've got 2 key customers, in particular, that we don't see that as a share loss. But -- and then on top of it, very specifically, we have some nichey business in transportation, refrigeration and RV.

Yes, and that's just purely driven by market demand right now. It's similar as truck capacity that goes right along in hand with the refrigerated capacity needs for transportation of refrigerated goods.

And then just to get back to the pricing comment. You made a comment just a moment ago and in your prepared remarks. Historically speaking, what has -- and this is just on the commercial HVAC&R side, what has been the historical price practice, the historical, maybe, lack of discipline in that business? And what should the expectation be going forward? How important is price in order to get that 200 to 300 bps of margin improvement you're looking for?

Yes. I mean it's a portion of it. I think our discipline needs to improve. Right now, we sell a good portion of that business through representatives that represent us on an exclusive basis. And we've had discussions with those on the discipline that we're going to follow and the -- and kind of the rules-based approach towards bidding new business. So I think you're going to see some improvement directly. It's a portion of that 200 to 300. I don't want to say how much, but clearly, all together with the other factors I talked about is what we're gunning for. But there is a portion of that, that we want to hold pricing discipline. And to that point, a key part of holding pricing is making sure we deliver on time, on quality, okay? That's -- sort of the 2 go hand-in-hand, which I think, so we'll -- as we fix one, will help improve the other one as well, besides a discipline on pricing that we're setting.

And then as a follow-up to the cost-out question, I think, Mick, you mentioned $15 million of people-related savings embedded in the $25 million to $30 million. Can you maybe talk about what the other major buckets are that sort of get you there. And then out of the $25 million to $30 million, how much is being realized in your fiscal '20 versus how much should be realized in fiscal '21?

Yes. Yes, great questions. So out of the balance, call it, $10-plus-million, we've got 2 major buckets and then kind of a catch-all of other. The largest would be procurement. And there's a number of new initiatives on our procurement team, specifically focused on some VAV activities, VAVE activities and indirect spend. There is then some -- targeted manufacturing process improvements. Tom mentioned a little bit in pricing. And then there's just a catch-all. The biggest basket of the balance would be on the procurement side, heavily into next year. Then to your question about this year, we should, out of the $25 million to $30 million, we're targeting to have about $4 million to $5 million in this fiscal year. And then obviously, the balance -- majority of the balance flowing into next fiscal year.

Next question comes from David Leiker with Baird.

This is Erin Welcenbach on for David. So my first question is related to, kind of, the continued downward revisions we've seen in the commercial vehicle markets. In terms of build schedules, it seems like your guidance hasn't changed. So that was perhaps communicated well via your customers schedules last quarter. But just wondering, kind of, what you're seeing in that market there? And if the continued downward revisions in that build process, maybe, causes a need for any additional restructuring actions?

Well, we've studied this backwards and forwards as far as where it's going, both from market data, our customer feedback and the analytics that the team is going through. We feel that we've got underneath this thing with what we've projected last call. We feel that going forward, we think we'll be pretty stable to those projections, but the market outlook for '20, we see overall as far as conditions, what we're expecting is North America mediums being down about 8%, heavies down 23% in Europe, down -- truck market being about 15% down. So we think it's going to stay depressed, as I mentioned in my opening comments. Maybe the back half of calendar '20 we'll start seeing some improvements. But we think we've got ourselves positioned at the right run rate that we're sitting at now that we prepared for.

Okay. That's helpful. And then I guess just switching to, kind of, this combination of leadership between the Building HVAC and CIS segments. I guess, why is now the right time to, kind of, make this leadership transition? Any color you can share on that

Yes, it's a great question, one we've been contemplating since we acquired the asset of CIS a couple of years ago. The concentration on CIS has been really focused directly around one major cloud provider that they did a great job with winning that business, and our teams have brought that business forward and established a great relationship. But the CIS team really wasn't set up to provide other sales and support in the region or globally besides supporting that one customer. The Building HVAC team, on the other hand, has a dedicated data center business centered out of the U.K. but a very deep technical competency that's there, winning business both in cloud, which I announced just the previous comments, and then, of course, with the co-location customers with what we announced with CyrusOne earlier. So bringing those 2 teams together under one leader provides us an opportunity to service both the U.K./Europe base and now the North American team that we want to grow geographically with the competency that sits in the U.K. to augment and support the resources and capability that we have in North America, which, again, is a great team but singularly focused on one customer. So we're looking at switching resources and bringing key U.K. talent from the U.K. to North America to provide that capability, and we're going to have it under one leader, which is our Vice President of the Building HVAC business that has majority of that technical competency under his control today. But again, we'll be servicing the customers of CIS the same way. So there's not any loss of -- or transition or inconsistency in making that transition. So -- and we review that with the customer, and it's received very well. So I'm very excited about the growth opportunity this is going to generate.

Okay. And then my last question, can you just frame what the typical pursuit or kind of sales conversion cycle looks like when you are trying to win an additional cloud customer?

The pursuit, could you just clarify a little more?

Yes, so I guess, really, the question is, in terms of identifying or kind of going after additional customer opportunities, what is the timeline in terms of initial conversations to actually converting that into revenue?

Yes, that's a great question. So I think that from my experience with this new approach, where we're looking at building new customer base in the U.S. that can happen fairly quickly. I mean they project, kind of, a couple of years out where they want to go, bringing people in and the quote to job 1 is probably within a 12- to 18-month cycle, I would say. So it's nothing like, let's say, the automotive or commercial vehicle side. There's a quicker cycle of order to production. And the pursuit in front of that is clearly the message we received loud and clear is, you have the capability both to support the sales and engineering front and the manufacturing front, and you've proven that. We will consider you. So we're leveraging that CIS capability in North America,with the broader global teams that Building HVAC support is bringing new opportunities quickly. So am I answering your question? I really want to make sure that I get this. So I think...

Yes, that was exactly what I was looking for.

Great, okay.

(Operator Instructions) We have a question from Mike Shlisky with Dougherty & Company.

Okay. Just a couple of quick ones here. First, it was announced last week that one of your major customers has made an offer to buy the other in the on-highway world. So I was wondering if you could tell us a little bit about, do you view combining Volkswagen's truck business and Navistar truck business as an opportunity for you? Or do you already feel pretty well entrenched with both of them, and it might be kind of business, as usual, once -- if and when they combine?

Yes. No. That's a great question and one that we feel very good about because you answered it. Your point was exactly the answer. We have good relationships and significant business with both groups now, engaged very deeply in -- they announced the procurement initiative first, which is some time ago, which we've been engaged with that and with pursuing business with both groups. So I feel that we're in a good position, established in their supplier panel. We've -- last year, we were announced a Diamond award winner in -- at Navistar, and that's leading to other engagements. And I'm very pleased to hear about from our team. So we think this is an opportunity to help demonstrate as a global a company that supplies and established with both groups that we can expect a positive impact from that.

Okay. And then what I mentioned, it's kind of one of the topics of the month. Can you maybe comment on your operation in China and in Asia with respect to the coronavirus? Has there been any changes or disruptions or issues that you've seen so far?

Yes. We have not seen any disruption thus far. That's important. And I think what I'll mention is what we're doing is risk mitigation to that. Anticipation of some disruption is our procurement and supply chain leadership has gone through all potential materials that could be impacted by supplier, by partner and we're looking at where we sit, both in inventory today with kind of a timeline out that we think we -- can we have continuity to get through most of our fiscal year. And so we're assessing that, looking at what options do we have if we do see disruption. So look at second source opportunities and working with customers. We sent letters to both our customers and suppliers with this information that we're -- our process approach and risk mitigation. So I think we're well set-up to manage what may come our way. On the ground, okay, what is happening physically in our plants, as you know, pretty much things are shut down until February 10 by the Chinese government. And we're waiting for the post-Chinese New Year holiday for people to return to work. So that's going to be a big portion to see, well, how many people get to work on Monday, okay? And so we're anticipating that we'll be up and running to what degree. And then, of course, what -- how much of our customer base is up and running as well. So I think next week, they will start demonstrating just how much of an impact there is. But right now, I think that we've got people working from home and our, let's say, our leadership team in China, set up to make sure that if they can't get to work right now because of restrictions that they have their laptops on, and we're operating seamlessly that way. But the question is how much of our workforce shows up on Monday and to our customers on Monday as we look forward. So I feel we've done all the work to prepare for that. And we're in a -- let's be prepared for wherever may come at us as it develops.

Okay. If I can just throw in one last one here on data centers. I guess, as you're pursuing new customers in that world, are you trying to, kind of, leverage on the current large customer and that product design or -- are those designs protected by IP, and you can't really sell them to other folks. And I guess the broader question is then, do you have to bring on a lot of extra engineering cost to get these new data center customers or potentially have to bid quite low to get that business, at least at the outset here?

Well, first, I'd say we're pleased with the margins. So I'll start with the last and work forward. It's a large market we're targeting. It's about a $2 billion market, and we look at it, it's kind of broken into 3 categories: cloud, co-location and an enterprise, enterprise being the smallest. And so we're focusing on the cloud and co-location, specifically. As far as and to add to the earlier question from the Baird representative is that upfront proven capability demonstrate you have wide resources and capacity in place is important. So I think that we're well positioned, as I just pointed out, by one example, we won new business in U.K. with a new cloud provider. So that demonstrates the, kind of, the capacity capability we have to do that. As far as technology, and what's walled up or what's not it depends by customer. Of course, some customers will may be engaged in a very direct development work with them, and that's their IP, and we'll support that. In other cases, we'll leverage the IP we have to support that. So engineering capacity we have a deep technical competency base in the U.K., supported by the teams in the U.S. both in CIS and Building HVAC in North America. So we think we can leverage the leadership. We are transferring a key leader over that's self-build at established cloud computing, co-location computing capability in the U.K. to the U.S. and to help build the relationships. He has strong -- the key here is strong relationships both at specifying engineers that support these customers, they depend on specifying firms that develop that for them and we have very good capability at that level. And that's a key, kind of, what I would say, market advantage that we have to leverage this. They're global companies that we can leverage that relationship around the world.

I'm showing no further questions at this time. I would now like to turn the conference back to Kathy Powers.

Thank you. Thanks for joining us this morning. A replay of this call will be available through our website in a couple of hours. I hope everybody has a great day.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.