帕卡 (PCAR) 2016 Q3 法說會逐字稿

Good morning and welcome to PACCAR's third-quarter 2016 earnings conference call. All lines will be in a listen-only mode until the question-and-answer session. Today's call is being recorded, and if anyone has any objections, they should disconnect at this time.

I would now like to introduce Mr. Ken Hastings, PACCAR's Director of Investor Relations. Mr. Hastings, please go ahead.

Good morning. We would like to welcome those listening by phone and those on the webcast. My name is Ken Hastings, PACCAR's Director of Investor Relations, and joining me this morning are Ron Armstrong, Chief Executive Officer, Bob Christensen, President and Chief Financial Officer, and Michael Barkley, Senior Vice President and Controller.

As with prior conference calls, if there are members of the media on the line, we ask that they participate in a listen-only mode.

Certain information presented today will be forward-looking and involve risks and uncertainties, including general economic and competitive conditions that may affect expected results.

I would now like to introduce Ron Armstrong.

Good morning. PACCAR reported good revenues and earnings for the third quarter of 2016. PACCAR's third-quarter sales and financial services revenues were $4.2 billion, and third-quarter net income was $346 million, a strong 8.1% after-tax return on revenues. PACCAR achieved excellent truck, parts and other gross margins of 14.7%, driven by Peterbilt, Kenworth and DAF premium products, a robust European truck market, strong parts sales and rigorous cost control.

Kenworth and Peterbilt achieved record quarterly Class 8 market share of 31% in the US and Canada. DAF increased year-to-date heavy-duty market share in Europe to 15.6%. PACCAR is increasing its investments in delivering new products and technologies, as reflected in the recent introduction of the new PACCAR axle, enhancements to PACCAR MX engines, and the DAF Connect telematics system. I'm very proud of our 23,000 employees who have delivered industry-leading products and services to our customers worldwide.

This year marks the 20th anniversary of PACCAR's acquisition of DAF Trucks. Kenworth, Peterbilt and DAF have achieved great synergies together. DAF has grown its market share from 9% to 15.6% in the last 20 years. DAF sales trucks, engines and aftermarket parts in over 100 countries worldwide. DAF's expertise in powertrain development contributed to the production of PACCAR MX engines in North America and 47% MX engine penetration in Kenworth and Peterbilt trucks.

PACCAR delivered 34,900 trucks during the third quarter. Deliveries in Europe were 4% higher than last year's third quarter with deliveries in the US and Canada reflecting a lower market, partially offset by strong share growth. We have raised our 2016 forecast for Europe's greater than 16 ton market to a range of 290,000 to 300,000 units, reflecting strong demand and a steady economy. The Eurozone's GDP growth for this year is 1.5% with 2017 projected at a similar level.

Freight transport activity on German highways is up 3% year-to-date compared to the same period last year, and we expect the 2017 European heavy truck market to be another excellent year, in a range of 260,000 to 290,000 units.

The US economy is growing 1.5% this year as well. US housing starts will grow 6% to 1.2 million units and the automotive industry will deliver 17.2 million vehicles, comparable to last year's record sales. Our estimate of retail sales for this year's US and Canadian Class 8 truck market is a range of 215,000 to 225,000 units. For 2017, economists are forecasting higher GDP growth of 2.2%, an increase in housing starts of 8%, and strong auto sales of 17.1 million units. Industrial production is expected to grow nearly 2% next year, which should be good news for the truck industry. We estimate US and Canadian Class 8 truck industry retail sales will be in a range of 200,000 to 230,000 units in 2017.

PACCAR global truck deliveries in the fourth quarter are estimated to be about 5% lower than the third quarter, due to more holidays and slightly lower build rates in North America. This is partially offset by higher build rates and more production days in Europe. Truck parts and other gross margins in the fourth quarter are forecast to be 50 to 100 basis points lower than the third quarter.

PACCAR Parts business generated quarterly revenues of $765 million. Parts' quarterly pretax income was $338 million with an excellent pretax return on revenue of 18.1%. These results were driven by the growing number of PACCAR trucks and engines in operation, an expanding network of TRP stores, and the many innovative products and services offered by PACCAR Parts and our dealers.

PACCAR Financial Services' third-quarter pretax income was $71 million. Excellent portfolio performance contributed to the good results. During the quarter, PACCAR Financial enhanced its technology leadership with the introduction of a mobile sales and credit system which allows customers and dealers to complete a loan application, receive an expedited credit decision, and electronically sign a contract on a mobile device.

PACCAR's strong balance sheet and cash flows have enabled the Company to invest over $6 billion in new products, technologies and facilities in the last 10 years.

PACCAR estimates capital spending of $375 million to $400 million and R&D expenses of $240 million to $250 million this year. In 2017, we forecast increased capital investments of $375 million to $425 million, and increased R&D expenses of $270 million to $300 million. These investments will enhance PACCAR's integrated powertrain, deliver advanced driver assistance and truck connectivity technologies, and add additional capacity and efficiency to the Company's manufacturing and parts distribution facilities.

Thank you. I'd be pleased to answer your questions.

(Operator Instructions). Alex Potter, Piper Jaffray.

Hi guys. Thanks for taking the question. I was wondering if you could talk first about growth in the Parts segment. We've seen some good sequential increases here over the past two quarters, still comping down in year-over-year terms though. So I was just wondering. I know that, historically, you had spoken about dealer inventory issues in past quarters, maybe some other moving pieces there. I was just wondering if you could give an update on what exactly is going on there, and whether you are changing your forward-looking expectations that that segment can sustain call it low to mid single digit growth.

No, I think, as we look forward, comparing the second half of this year to the first half of this year, we think that we will see 2% to 4% growth during that period. And as we think about next year with the increasing number of PACCAR engines that are in the field and with our customers, we've sold over 100,000 MX engines so far. I think we feel that next year's Parts revenue growth would continue to see somewhere in the 2% to 4% revenue growth range.

Okay, very good. And then I had another question on raw material price fluctuations. Obviously, that's been a topic that folks have focused in on quite a bit recently, as well as the potential impact on gross margins. I was just wondering if you could provide an update maybe or a reminder exactly how PACCAR deals with that contractually with suppliers' long-term supply agreements and any impact you think that raw material fluctuation could have on margins maybe in the most recent quarter and then in coming quarters as well.

We have 75% to 80% of our purchases are under long-term agreements with our suppliers. Many of those have adjustment clauses that spread the effects of material cost movements over time, and I would say that the effect to date has been pretty nominal.

Okay, very good. Thanks guys.

Timothy Thein, Citigroup. (Operator Instructions).

I think we should move on.

Certainly. Steven Fisher, UBS.

Thanks, this is Cleve Rueckert on for Steve. Two questions. Thanks for the call guys. On the special dividend, how do you determine whether it will be flat year-over-year? I'm just thinking about the market for next year and I'm just wondering what your planning process is for that.

Well, we have a discussion with the board during the course of the fourth quarter, and the board will evaluate a lot of factors, and that decision will be made in our upcoming board meeting. So, if you look at the payout ratio over time, it's typically been in the 40% to 50% of net income range.

Okay. Thank you. And then just on used pricing, how did used prices trend during the quarter? Are you seeing any changes in that market?

I think the used prices, both in North America and Europe, during the third quarter were relatively stable, so not much movement during the quarter.

Thanks very much. I appreciate it.

Nicole DeBlase, Deutsche Bank.

Thanks guys. Good morning. So, this wasn't in the press release, and I know it's still a really small part of your business, but, Ron, I'm curious about your outlook for the Brazil truck market in 2017.

This year, we think hopefully will be the bottom of this cycle, and we expect to see some positive movement. I think the country is taking some really positive moves with some of their fiscal actions, so we are optimistic that the market will improve but, more importantly, we are very optimistic about the DAF product, its position in the market, the DAF dealers who represent DAF, and our ability to grow our share as we move forward. So, somewhere 40,000 trucks probably, plus or minus, compared to 30,000, to 32,000 this year.

Okay, got it. Thanks Ron. That's helpful. And then just shifting to US and Canada dealer inventory, I know, last quarter, you said that you were pretty comfortable with your inventories in the channel. Is that still the case? And then what's your view on industry inventory levels?

I'm very comfortable with our situation. We have less than 60 days worth of inventory in North America. We are in great shape in Europe. So, inventories are in great shape. I think the numbers I see, the industry inventories have moved down, and so that should be good for future orders.

Okay. Got it, thanks. I'll pass it on.

Ann Duignan, JPMorgan.

Good afternoon guys. How are things? Can we take a look at your forecast for 2017 for US and Canada? It's a bit more optimistic than ours or some of the industry pundits. And last year at this time, you were a lot more optimistic about US/Canada for 2016. Can you just talk a little bit about where your forecast might have been wrong for 2016, and where you think the risks might be for 2017? They could be upside or downside, frankly, but what you're seeing out there and what gives you confidence in the 2017 forecast?

If you recall, we get smarter every quarter. And as we progressed, we adjusted US and Canada markets downward and Europe upwards. So, things happen in the economy around the world in the year. So it's -- sometimes you're on the right side, sometimes you are on the other side.

For next year, based on economic growth expectations of 2% or so, plus some industrial production improvement, continued strength in housing and automotive, we feel comfortable with the range of 200,000 to 230,000 for next year, and we will see how that progresses. Again, we will be smarter every quarter.

Yes, but were there any pockets of surprise in 2016 where you thought there might be a better market and it turned out not so? I'm just trying to get some idea of where the weakness might exactly have shown up.

I think was more of a -- again, it's more of a macro view than a micro view.

Okay. And then just as a follow-up, can you kind of size the UK market for us for you versus Eastern Europe, and if the UK continues to be under pressure on Brexit actions or fears versus Eastern Europe maybe continuing to be strong into next year? If you put all of Eastern Europe together, which is a bigger market for PACCAR for DAF?

That's -- so, the UK is typically 10,000 to 11,000 trucks per year, which is a really good market for DAF. And post-Brexit, the demand for trucks and parts is still present. Obviously, the pound movement has had some slight impact on margins, but the pound goes up and down and the prices adjust over time, so whatever impact there is is temporary.

And the size of Eastern European market for DAF?

I don't have those numbers, Ann.

Okay. Maybe we can circle back. I'm just trying to figure out the net-net impact of maybe one being weaker and one being stronger. So I'll get back in line and we can talk about it off-line. Thank you.

Stephen Volkmann, Jefferies.

Good morning. I'm trying to think a little bit about your MX engine penetration. I think, when we first started on this path, it was like a 50% penetration goal, and I guess we've achieved that, and I assume it's going to go higher going forward. I'm wondering if you have just a view of what 2017 might look like. But more than that, I'm trying to think about the utilization at that plant in the US, and I'm wondering -- I'm assuming that, as we get more penetration and more units of MX engine, that should be a margin tailwind for the Company. But I'm curious if you just might flesh that out for me.

As we do with all of our factories, we invest for the expected capacity in the midterm I guess you could say. And as we look long-term, we will continue to make investments to support our expectations. And so we expect the penetration of that to continue to climb gradually over time as more and more customers get the MX in their fleet and transition to more and more MX mix. So, I think we are well-positioned supporting the current market and we will continue to invest with new machinery to support the ongoing needs of -- really our global needs around the world.

So is part of your CapEx increase because you need some more capacity at that plant?

We have some ongoing currently, yes, so we have a little bit of impact in 2016 and some ongoing investment in 2017.

Okay, great. That's helpful. Thanks.

Jamie Cook, Credit Suisse.

Good morning. Two questions I guess. One, given that we are sort of at the end of October, can you talk to sort of what you're hearing from the big fleets and sort of how they are think about 2017 in regards of your retail sales forecasts or what you are hearing from the small and medium-size fleets?

And then I guess the second question on 2017, assuming that your retail sales forecasts are correct, for both the US and Europe, I don't think you talked about this in the prepared remarks. Can you talk about where you think gross margins can be, whether they would be flat, down, or up, just with some of the market dynamics that are taking place? Thank you.

So, our discussions with our customers have really focused on, one, the great performance of our products in the market. Discussions have typically centered on I guess I would say a comparable level of investment next year to what they've done this year, sort of small, medium, large, etc. I think a lot of that will obviously be dictated by how the economy develops.

In terms of gross margins, thinking about next year, obviously there's a lot of things that will impact that over time. Right now, I would say our next year margins would be comparable to what we will see in the fourth quarter this year plus or minus 0.5% up or down.

I'm sorry. What did you say the fourth-quarter margin was?

So, I said it would be down about 50 to 100 basis points from the third-quarter levels.

Okay, great. Thank you so much. I'll get back in queue.

Ross Gilardi, Bank of America Merrill Lynch.

Good morning. Thanks guys. PACCAR was very early at cutting production in late 2015, and you're it sounds like guiding to a slightly weaker Q4. Are you taking production down another notch in the US right now, and would you suspect that, when you do that, you will be able to produce in line with retail for 2017, which you are basically guiding flat to down 2% or so?

Our approach has always been, for a lot of years, has always been to build based on demand of our customers and our dealers, and our actions with respect to production reflect that. The great news is that, in the third quarter, we achieved a record market share from Peterbilt and Kenworth combined in US and Canada of 31%. So, great recognition of the great products that they are producing at their factories currently, and we will continue to build based on what that market demand looks like. So, inventories are in great shape, and so I would think that retail would be closely tied to production levels as we move forward.

Got it. Thank you. And just on Parts with respect to this 18% margin that you've held I think for seven of the last eight quarters or somewhere close to that, do you feel like it is sustainable going forward? Because certainly you have been operating and performing at a little higher than you were two to three years ago.

Sure. And the team has done a great job with leveraging the operating infrastructure that we have in the Parts business. We've obviously added -- enhanced our parts distribution capabilities in the northwestern part of the US with the Renton facility. We will be adding some additional facilities in the coming future, all balanced to meet the market demand and ensure that our customers are getting the best support in the industry with keeping their trucks operating and on the road. So I think we will continue to see that level of performance.

Thank you.

Andy Casey, Wells Fargo.

Good afternoon and morning. It's afternoon here. Anyways, I'm wondering if I could pull some of the information that you usually put in the 10-Q a little bit forward. Could you comment on average selling prices in the truck segment? Was that negative again in this quarter? It had been for the first two quarters.

I think slightly. I think, yes, slightly negative. We are -- typically the average sales price of a truck in Europe is a little lower than the average sales price in North America, so mix has some impact on that.

Okay, thank you, Ron. And then if I look at the FINCO, and I'm splitting hairs a little bit, you have seen some really modest increases in the provisions for losses on receivables. I mean it's clearly not close to the levels of call it eight years ago or so. But what region is driving that modest increase, or is it just kind of spread all over the place?

It's, as you said, it's very modest. The portfolio is performing excellently. That credit loss level is at historically low levels in a few customers in the oil and gas business, but that's the focus of it.

Okay, thanks. And then just a clarification. I think, in your prepared remarks, you talked about sequential parts into the fourth quarter. What was that comment?

I didn't really comment on that, but I think the fourth quarter -- we're looking at comparable revenue levels I think in the fourth quarter compared to the third quarter.

Okay. Thank you very much.

Timothy Thein, Citi.

Great, Ron, can you hear me now? Sorry about that earlier.

Just going back to the US and Canada, obviously, just given Peterbilt's position in the vocational market pretty well represented there, it looks as though your overall retail outlook a little bit more positive than some, but I'm just curious. As we hear from some of the big truckload companies here in the past day or two, it looks like they are pulling back on spending a bit more. So, I'm just curious if you could maybe slice your comments on the US and Canada more finely between trucks versus tractors for 2017 in terms of your expectations for the broader market.

This is Bob. I think we see a fairly comparable level of buy from both the vocational and the over-the-road customers in 2017 from 2016. Both Kenworth and Peterbilt have strong vocational presence. I think, combined, the Company is 35% to 40% market share in the vocational business, which has been very, very good for us over the last couple of years. But increasingly, the new Peterbilts and the new Kenworths are getting even more traction in some of the larger fleets, and so we are getting incremental kind of conquest purchases from customers. But on balance, we think that 2017 is going to look very, very comparable to 2016.

Okay, got it. And then just coming back to the question earlier on used values, can you comment on what -- maybe the MX has been out there long enough and, just given normal trade cycles, presumably you've got a little bit more volume to make a call -- or a little bit more visibility on it. Can you just give us some color in terms of how the trucks with the MX have been performing in the secondary markets?

So, we started to get those first trucks that we built in 2010, 2011 are now passing on to the second owner. And I think what we will see as time goes on is that the durability with the CGI steel that we use to build the head and block and just the rigorous testing that we put the engines through, that that will be reflected in the used prices over time as we move forward. So, we are very optimistic about how that will progress.

Okay, I appreciate the color. Thank you.

Joel Tiss, BMO.

How's it going? If you keep getting smarter every quarter, by 2019, you will be able to give us a single-point earnings forecasts. I wonder, in the Parts decline, if you can give us any color in the quarter, if it was more on the volume side or any pricing weakness or mix.

It's primarily -- it's all volume related, sort of the volume of shipments.

Okay. And then since so many questions are about sort of doubting your flat forecast for 2017, I just wonder if you can give us a couple of things that we should incorporate into our thinking around levers you can pull to show earnings resiliency in 2017 if things are a little worse than flat.

Yes, we commented on it. We continue to make prudent investments in operating efficiency, both in our factories, warehouses, we continue to use more and more technology in our business processes, both in our factories the warehouses. We continue to use more and more technology in our business processes, in our factories, and continuing to provide new technology to our customers. So, we will just continue to make those investments. And if you look back at the history, we've got a history of delivering 5% to 7% efficiency gains over the long-term. And we will continue to make those kinds of investments as we move into 2017.

Okay, great. Thank you so much.

Seth Weber, RBC.

Good morning. I just wanted to ask a bigger picture question. With the launch of the proprietary axle, should we think about that as the start of -- well, not the start, but kind of the next step in increased vertical integration? And can you talk about what your take rate expectations are for that product starting next year? Thank you.

We have a nice balance of vertical integration with some of our components, and great relationships with our suppliers in other areas, and I think we will continue with that balanced approach for this particular axle. If you look out probably a year or two down the road, this axle will probably be 30%, 40%, 50% of the axles that we put on our North American vehicles. And of course, the axles we put on DAF products are 100% PACCAR axles. So we have a combination of vertical and supplier provided. But more and more, much more of the supplier provided components are proprietary in that they are developed to work in a very efficient manner with the rest of our powertrain components. So, you will continue to see that trend as we move forward going with all of our suppliers.

And just from kind of an initial ramp perspective, should we think about it as kind of margin neutral in 2017, and it takes a little while to hit critical mass, or should that be accretive from the get-go?

I don't think it will be -- I don't think it will be a big factor in terms of margin performance.

Okay. Thank you very much.

Neil Frohnapple, Longbow Research.

Good morning guys. A quick follow-up to Andy's question. Within the Financial Services segment, the increase in the interest and other expense in the quarter, what can that be attributed to? It sounds like used truck prices maybe not so much. Anything else you can point to there?

A factor is the used truck pricing and reflecting that as adjustments to depreciation expense over time. So, as we have trucks return off lease, etc., that typically runs through the depreciation expense line. So that's one element of it. And then the rest of it is just the competitiveness of the market and the spread of interest earned and interest paid. So, that's the two elements of it.

Okay. That's helpful. And then how are your inventory levels positioned at your used truck centers in North America? I was just curious if inventory levels are normal or higher than historical levels.

I would say normal. And we are continuing to invest in our ability to support our used truck operations. As time has gone on, we deal with a lot more larger fleets. We are more heavily engaged in taking trade-ins with our customers, working with our dealers, and so we will continue to invest. We are probably going to open, by the end of the year, a new facility in the Chicago area and adding some additional capacity at our facility in Salt Lake City. So it's I would say normal at a higher level, just given the level of activity that we are seeing with trade-ins and operating lease activity.

Thanks for the time.

David Raso, Evercore ISI.

Good morning, good afternoon. The 5% sequential decline 3Q to 4Q, can you help us with that a little bit sequentially when it comes to Europe versus other versus US/Canada?

Sure. It's lower operating leverage from a lower production level for the quarter, slight reduction in price realization in US and Canada because of the competitive market conditions, and a small impact from the movement of the pound versus the euro. The pound, while it's down, is certainly within a range that we've seen in the last near-term history. So, as time goes on, we will work through that and prices will adjust to a more normalized margin level going forward.

And just so I'm clear, that down 5%, that's a production number? Can I equate that to unit number as well? Just trying to work off of a down 5% sequentially, it should be a little over 33,000 units from what you --

That's correct.

But within that, is that sort of a Europe up 10%, North America or US/Canada down high teens with other doing their sequential normal --

Yes, I don't have the specific numbers, Dave, but definitely Europe will be up because of increased workdays, and we have the summer shutdown, so we have more workdays in the fourth quarter, plus a slightly higher build rate, and that will be offset by US and Canada.

And other usually having its usual fourth quarter --

I think will be pretty comparable to the third-quarter levels.

Okay. And then on the US/Canada outlook for 2017, I know it's an industry forecast, not yours. But when I think of the cadence through the year, when we think about retail sales have been running of late still down 20%, orders have been down, up 25%, 30%, the comps do ease, especially for the orders, in the spring. Can you take us through your thought process on the down 2%? Is it an industry order rates starting to turn positive by late spring? And it's sort of a unit sales kind of down high single-digit in the first half, up high single-digit in the second half, a little bit more than that? I'm just trying to think how back-half-loaded is it, but appreciating that the orders at some point you hope turn positive given the comps get easier call it April, May.

Yes, I think all the OEMs have been building trucks out of the backlog throughout this year. And so I think you will see the convergence of order levels, retail sales, production, etc., at whatever the run rate will be. And I think our feeling is that, as we get past the first of the year, we will see some progression, given the economic assumptions about continued GDP growth, strong housing and automotive, and some return to industrial production growth.

I'm not trying to pin you to a month. Should I take that to mean yes. I mean, just mathematically, the orders have turn positive at some point in 2017 to turn around the retail sales to be up or to be

down slightly for the year?

Oh, absolutely. Sure. Absolutely.

Helpful. Okay. Thank you.

Mike Shlisky, Seaport Global.

Good morning guys. So, I was wondering if you can give us your outlook for the Class 5 through 7 market for 2017. I know it's small for you, but would love to hear your color on how that's going and how it might turn out next year.

It will be a comparable level to this year, probably somewhere in the 80,000 unit range.

Okay, great. Could you also give us kind of your thoughts on how share is going in that region, in that size range, both this year, and if you have goals to grow that share next year in Class 5 through 7?

Absolutely. If you look at PACCAR's performance over several years in the medium duty segment, we grow share in North America 0.5 point per year, and we would continue to expect that would be the case in 2017 as well.

If you look at -- 2015 was a record year for medium duty truck deliveries for PACCAR, and we are going to be pretty close to that 2015 level for 2016, and so we are optimistic that we've got the products and the supporting network to make that growth continue.

Fair enough guys. Thanks so much.

Mike Baudendistel, Stifel.

Thank you. I just wanted to ask you on your European outlook of being down a little bit, I think some others are saying it's going to be flat, maybe up a little bit. And I just wanted to get some additional detail on what exactly is concerning you? Is it Brexit or certain other things?

At 260,000 to 290,000 trucks, that is an excellent truck market. We've probably taken a little bit of a conservative approach on the heels of 2016 being at 295,000, which is the best truck market since 2008. So, we hope that it would continue at the current pace, but we've been a bit conservative in terms of our projection for our outlook for next year.

Great, thank you.

Joe O'Dea, Vertical Research.

My first question just on market share in US and Canada, you noted the 31% in the quarter, I think earlier in the year talked a little bit about larger share capture in order activity. So it seems like, over the past few years, market share has been pretty stable. Do you see some momentum building? As you're looking into 2017, do you think that step is a little bit higher?

Yes, if you look at history, when I started with the Company, we were a 21% player and we sort of went up to a new plateau at 25%, and now we are at 28%, 29%. Peterbilt and Kenworth continue to introduce additional configurations around their 2.1 meter platform. Peterbilt just launched their model 520 for the low-cab forward market. We just introduced enhanced axle and engine components that will enhance the performance of the vehicle. So, we continue to increment the product lineup and we will continue to do that as we have done for 20 years, and we think that will lead to continued share growth over the long-term.

A relatively steady market share history over the last couple of years needs to be placed in the context of an oil and gas business that hasn't been generating any truck sales. And we've typically been fairly strong in that segment. So, we are offsetting that loss with some of the new wins that Ron talked about.

That's a helpful point. Thank you. And just a clarification on the proprietary axle. I think, Ron, it sounded like, from your comments, you were talking about some supplier partnerships, and it sounds like this is that case. This isn't taking something from DAF and bringing it over. This is something that was co-developed and will be manufactured in North America and then supplied to you. Is that how this things works?

That's exactly right.

Okay. And so is it -- in terms of the opportunity for you, you talked about it's not really a margin impact. It sounds like it drives more traffic into your dealers, and then there's the obvious benefit of that.

Yes, there's definitely a competitive advantage that comes with this proprietary axle and the integration of it with the rest of the elements of the powertrain, so lighter weight axle, better fuel economy, yes.

Okay. Thanks a lot.

Scott Group, Wolfe Research.

Thanks. Good afternoon guys. So, I had a question. With the share gains that you guys are seeing, are you seeing any noticeable shift of large, larger fleets versus owner operators, and is that something that we should be thinking about that has an impact on gross margins going forward?

I think we've been active in all elements of the market for many years. And we are conquesting new customers all the time, but our product is very competitive. With the fleets and the excellent operating efficiency of our vehicle, the higher residual value, there's a lot of elements that make our products very attractive not only to large fleets, but small and medium-size customers as well. So, a great product lineup, great performance continue to demand 10% to 15% difference in terms of residual value versus the competitive products.

Are you seeing a mix shift within your split between the two?

I think we've seen that over the last five, six, seven years. More and more of our volume is with the medium and larger fleets.

Okay.

That mix gives us the opportunity to get more looks at the parts business than we would maybe with owner operator customers. It also gives us more looks on the Financial Services business. So, that mix shift is a positive thing for us as well.

Sure.

Got you. Okay.

The margin performance over the last five, six years, as we've transitioned, it's been excellent.

Okay. Can you just comment? So, your view on gross margin kind of holding steady from the fourth-quarter level next year, what are you assuming for your Class 8 share and the percent of the engines that you're doing on your own?

Well, you know, we typically will assume a share and penetration comparable to the current levels, and we will continue to put in actions to enhance both of those as we progress throughout the year.

The engine share will be comparable to slightly positive compared to this year, probably in that 50% range.

Okay, great. And then just the last thing quickly, so nice kind of a reduction in SG&A this quarter from second quarter. Is that a good run rate going forward, or is there a little bit more that you guys can take out there?

I think if you average -- take the average spending for the year, I think that's pretty indicative of our level of SG&A spending.

Okay. Thank you guys. I appreciate it.

Kwame Webb, Morningstar.

I just want to do a longer-term question. So, over the last decade, your market share is up almost 1000 basis points. You guys have always been known as sort of this premium product with a low total ownership cost. You've made significant inroads into the fleet market. Do you, at any point, think that your competition kind of gets it and they are trying to mimic that business model at some point, or that product proposition at some point?

And then the second question is how do you think about competing against maybe that potential change in strategy?

I can't speak for our competition. I know what our focus is, and you laid it out pretty well. It's a focus on providing the highest quality products, low operating cost, premium value for our customers, excellent support with aftermarket parts and Financial Services. And that continues to be our focus for the near, mid- and long-term, and we will continue to make investments to build on that. And we will compete toe to toe with our competitors, whatever their approach may be.

And then just the follow-up here. So, clearly, your scales increased. You launched the MX engine four years ago, axles today. Should we start to think about increased vertical integration becoming a much larger part of the story going forward?

As I mentioned earlier, it's a balance of vertical integration and supplier provided proprietary components. And so I think that's the approach that we'll continue to apply as we move forward. And you will see more, as time goes on, you will see more branded PACCAR components, because they are unique to integrate with our vehicle and our powertrain.

Great. Thank you.

Barry Haimes, Sage Asset Management.

Thanks very much. I had two questions. First one real quick. Since Brexit, have you had to put in a price increase to offset the FX headwind? And if so, about how much might that have been?

And the second question is kind of following on David Raso's question about orders in 2017 and when they might inflect. Can they start to inflect upwards, given where used truck prices are now, given that it seems like people are, or at least a lot of customers, are upside down on trades, or do we need a certain amount of price increasing used to kind of get you to that better order result? And if so, maybe how much would you have to come up to kind of put people back in vans? Thanks so much.

So, as I mentioned before, the pound moves up and down over time and pricing adjusts to reflect that. All of the OEMs predominantly have their production on the continent. We are very fortunate in that we are the only UK truck maker, so we have a bit of a natural hedge with respect to UK costs and prices. So, we will adjust pricing as the market needs to adjust to earn a fair return on our trucks over time.

With the respect to used truck pricing, I think, as we progress through next year, customers are keeping their trucks perhaps a little bit longer. At some point, though, the value intersects with the current market and they will be back in the market at some point to reinvest in the equipment. The equipment new has such attractive operating efficiencies with lower fuel consumption, better operating efficiency, the reliability and durability of the products are outstanding, so you have to upgrade at some point to take advantage of those features that are on the newer products.

Great. Thanks so much. I appreciate the color.

There are no other questions in the queue at this time. Are there any additional remarks from the Company?

We'd like to thank everyone for their participation, and thank you, operator.

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