帕卡 (PCAR) 2017 Q4 法說會逐字稿

Good morning, and welcome to PACCAR's Fourth Quarter 2017 Earnings Conference Call. (Operator Instructions) Today's call is being recorded, and if anyone has an objection, 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; Harrie Schippers, President and Chief Financial Officer; and Michael Barkley, Senior Vice President and Controller. (Operator Instructions)

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. Thanks to the accomplishment of PACCAR's 25,000 outstanding employees around the world, 2017 was an excellent year for the company. PACCAR achieved record revenues of $19.5 billion and net income of $1.68 billion. Net income includes a $173 million onetime benefit from the new U.S. tax law. Excluding the onetime tax benefit, PACCAR reported annual adjusted net income of $1.5 billion, the second highest in the company's history.

2017 was PACCAR's 79th consecutive year of generating positive earnings. Last year's results reflect record heavy-duty truck market share in the U.S. and Canada, record worldwide aftermarket parts results and a strong European truck market.

PACCAR celebrated many important achievements in 2017. DAF XF and CF trucks earned the prestigious International Truck of the Year award. Kenworth and Peterbilt achieved record U.S. and Canada Class 8 retail market share of 30.7%. Kenworth and Peterbilt also launched the new PACCAR front and rear axles and the PACCAR automated transmission in North America. The PACCAR engine factory in Mississippi earned the 2017 Plant of the Year honor from Quality Magazine. The PACCAR Innovation Center opened in Silicon Valley. PACCAR Parts opened new distribution centers in Brisbane, Australia and Panama City, Panama and is constructing a new PDC in Toronto. DAF was honored as Truck Brand of the Year in Brazil for the second year in a row.

PACCAR's fourth quarter sales and Financial Services revenues were a quarterly record $5.45 billion. And quarterly net income was $589 million, including the $173 million onetime tax benefit. Quarterly adjusted net income, excluding the onetime tax benefit, was $416 million. PACCAR delivered a record 44,300 trucks during the fourth quarter, 10% higher than third quarter deliveries.

PACCAR increased its regular quarterly dividend in April last year and declared total annual cash dividends of $2.19 per share, including a $1.20 per share special dividend declared in December. PACCAR has paid a dividend every year since 1941, and its total dividend yield was an excellent 3.1% at year-end.

We estimate that PACCAR's 2018 effective tax rate will be 23% to 25% compared to an effective tax rate of approximately 31% prior to the new law. The new U.S. corporate tax rate and accelerated depreciation of machinery and equipment will generate positive cash flow for PACCAR and its customers.

We expect first quarter margins to be about 50 basis points higher on similar truck and parts volumes when compared to the fourth quarter last year. And based on our current market assumptions, we expect 2018 full year margins to be comparable to first quarter levels.

U.S. and Canada Class 8 truck industry retail sales totaled 218,000 units last year. In 2018, we estimate that the market will be in a range of 235,000 to 265,000 units. The 2018 U.S. and Canada truck market will benefit from U.S. GDP and industrial production growth as well as greater capital investment resulting from the new U.S. tax law. The European heavy truck market was a robust 306,000 units in 2017. And looking at this year, we anticipate that the above 16-tonne truck market will be another strong year and be in a range of 290,000 to 320,000 vehicles.

PACCAR Parts generated record pretax profit of $614 million and revenues of $3.3 billion in 2017. These outstanding results were driven by a growing population of PACCAR trucks and engines and investments in technology and distribution centers. For the fourth quarter, PACCAR Parts achieved record quarterly revenues of $877 million and record pretax income of $157 million. We expect parts revenues to grow 5% to 8% this year.

PACCAR Financial Services revenues were $332 million in the fourth quarter and pretax income was $73 million. The good results benefited from continuing strong portfolio performance. U.S. Class 8 industry used truck sales volumes increased during the quarter. And Kenworth and Peterbilt resale values continue to command a 10% to 20% premium over competitors' vehicles. For the full year, PACCAR Financial Services earned pretax income of $264 million.

For 2018, PACCAR plans to increase research and development spending to a range of $280 million to $310 million and capital expenditures to a range of $425 million to $475 million. PACCAR is investing in new aerodynamic truck models, integrated powertrains, including zero emission electric and hydrogen fuel cell technologies, advanced driver assistance and truck connectivity technologies and expanded manufacturing and parts distribution facilities.

As the company begins its 113th year, we are in an excellent position to lead the industry with the highest quality products and services. Thank you. I'd be pleased to answer your questions.

(Operator Instructions) Your first question comes from Steve Volkmann with Jefferies.

And your next question comes from Steven Fisher with UBS.

I know this will be in the K, but can you give us maybe what the year-over-year contribution was for volume and currency in the quarter on revenue and gross margin? And maybe how you're thinking about the components of what gets you to the 50 basis point margin improvement over the course of 2018?

So let's talk about the -- I'll let Michael talk about the revenues and the currency effects, but I'll just address the margins as we look at the first quarter. The fourth quarter, because of the holiday period in North America, Peterbilt and Kenworth have fewer production days, so that -- you'll have more production days, and we have a bit higher margins in North America compared to Europe. And so that mix is a bit of an unfavorable effect in the fourth quarter and it'll be favorable in the first quarter. And just some other expenses and sort of the customer and product mix in the first quarter is more favorable than what we saw in the fourth quarter.

Yes, the overall -- this is Michael. The overall currency effects for the fourth quarter were $142 million additive to revenue and about $8 million to pretax income.

Okay, sorry, that was foreign currency, you said?

Yes.

Okay, terrific. And then I want you to just talk about the supply chain here. How is it managing the increased demand for trucks? And where are the tightest points that you're seeing at this point? Is it able to meet the ramp-up here?

As we do in all ramp-ups, we always work very closely with our suppliers, give them a lot of forewarning about our plans. And so at this point, we don't see any particular challenges in working with suppliers to achieve the market demands that we currently see.

Your next question comes from Steve Volkmann with Jefferies.

Hi guys, shall we try again?

Okay.

Sorry about that. I just want to make sure I understood, Ron. When you're talking about the margins in the first quarter and for the full year, are you talking EBIT or gross margin?

I'm talking about gross margin for truck parts.

Okay, that's what I thought. And then, let's discuss just a little on SG&A. Shall we think about that being sort of flat in dollar terms? Or will you spend a little bit more there as well? So just your thinking there.

So if you look at the fourth quarter, that's probably fairly indicative of what our run rate will be for 2018, probably with a little bit of upward pressure because of exchange rates. These rates will be higher for 2018 than they were in 2017.

Okay, and then you talked about sort of spending a little bit more on some drivetrain integration and electric and all that. How should we think about this kind of longer-term over the next kind of 3 to 5 years? Are you going to have to sort of spend increasingly larger amounts of R&D and CapEx to kind of get ready for whatever the future looks like in heavy truck? Or is this sort of a sustainable kind of rate?

I'd say it's more sustainable. This is with 2021 greenhouse gas emissions on the horizon, we're investing now for that, so I think we have a pretty clear view of -- that this level is probably kind of the sustainable level for the next foreseeable few years.

And do you have a target year for when you think you'll have an electric vehicle of any sort ready for the market? And then I'll pass it on.

We'll have it ready when the customer demand is there to support that. We're obviously investing, like a lot of companies are, in zero emission technologies. And as the world evolves and as those vehicles become economical to the customers, that's the point at which we'll definitely have a product in the market.

Your next question comes from Jerry Revich with Goldman Sachs.

I'm wondering if you could update us on factory overhead performance in the quarter or over the year. You folks have had costs rising to support the production ramp, and I'm just wondering how did that evolve into the fourth quarter?

Yes, it was very normal. I mean, reflected our build rates. We got good operating leverage on our factory operations. So I would say, it was very normal.

And in terms of the drag from that factory overhead ramp, how does that evolve as we think about '18? Is it any easier to ramp from here? Or are we thinking about similar drag in terms of factory overhead cost growth in '18 as we saw in '17?

I think we'll see again, very normal progression. Factory overhead will go up as we increment build rates or come down as we decrement build rates. And so all very normal and -- so I don't have anything else to add there.

Okay. And can you talk about the parts business? The price cost dynamic was a headwind on a year-over-year basis for the past 2 quarters. Did you folks turned the corner in the fourth quarter? And can you just talk about the strategy there in terms of why pricing has lagged inflation for parts for you?

Yes, I don't think it's pricing. There are -- we have incentives, and because of the great volume, the great programs that our PACCAR Parts team provides, the dealers earn some higher incentive levels that they haven't earned before. And so that's reflective, but that also is reflected in the fact that we achieved record sales and record profits.

Okay. And lastly in terms of the new tax structure, does that impact your thinking in terms of how much excess cash you need on the balance sheets, since now you don't have unremitted foreign earnings, the way you did under the prior tax jurisdiction? Any change to how you're thinking about target levels of cash?

Yes, we'll progress -- as we progress through this year, we'll become much more -- smarter each quarter about how this progresses. But we do see a, definitely a favorable benefit. And so we'll be thinking about our capital allocation strategies as we go forward.

Your next question comes from Joel Tiss with BMO.

So I'm just wondering if you can give us some of the factors, like what held back the incremental margins in 2017? Just some of the things is it -- have you pretty much optimized all your production? Or is there something else in there?

No, the single biggest item, Joel, was just material cost movement. In 2016, we had very nice, favorable material cost movements. 2017 was just the opposite. So they went in different directions year-over-year. And so that was probably the single biggest item. And then we launched some new products that had a lot of renewable elements to it. And so as we launch those products, we put our initial accrual rates for warranty and some of the other costs at slightly higher rates, just to be conservative. Products are performing excellently in the market. So we'll see some benefit of that as we go forward.

Okay. And I didn't see in the press release your market share in Europe. Can you give us a sense of what it was?

Yes, 15.3% for the full year and 15.7% in the fourth quarter.

Great. And then just last, on that AMT product, is that a PACCAR product? Or do you buy it from someone else and rebrand it?

It's rebranded. But it's -- but I would say, Joel, it is a -- it is customized to mesh with our axles and our MX engines. So it's a unique configuration for our vehicles.

Your next question comes from Ross Gilardi with Bank of America.

Ron, I was just curious what you're seeing in -- with used truck pricing. And is -- are you seeing any recovery there? And if so, is it translating at all into better new truck pricing?

I would say it's stable. The used truck prices have been fairly stable during the second half of the year and as we start into 2018. And I would say that -- say the same thing for new truck pricing that is relatively stable.

Okay, got it. And any thoughts on the finco, how that would shake out? I mean, you got off to a -- in 2018, you got off to a weaker start in early 2017, and that was partly due to the weakness in used truck pricing. Should -- do you think you'd get a little bit of a bump there? And should we kind of consider this Q4 run rate for earnings kind of what we -- should we use that for 2018?

Yes, I think probably if you took an average of the full year, divided that by -- full year last year, and divided that by 4, that's probably a fairly indicative run rate, plus or minus, for developments during the course of the year.

Got it, okay. And then just thoughts on the, like the state of the U.K. Market, I mean, the U.K. registrations have been soft. And so it's hard to know if that's really indicative of what you guys are experiencing. So did you see a tailing off of momentum or absolute declines in your U.K. business as the year closed out? And expectations, the U.K. for 2018?

Our team there did a great job. They finished, when you look at the combined above 16-tonne and the 6 to 16-tonne market, they, for the second year in a row, were over 30% share of that market. So our teams do a great job there, and we're working closely with our customers for negotiating orders for 2018. And so we expect, as the year progresses that the U.K. market, by the time we get through the year, will be similar to 2017 levels.

Your next question comes from Jamie Cook with Crédit Suisse.

Two questions, one on the margin commentary for 2018. You're tweaking your margins down, or maybe splitting hairs, essentially flat versus what you said last quarter for '18. But your industry retail sales forecasts are up. So I'm just wondering, sort of what's changed. Is it just material cost? Is it market share? If you could just talk through why wouldn't the operating leverage be better on higher sales, and maybe if you hit the high end of your forecast, how to think about margins? And then my second question, some people are increasingly concerned that as the U.S. truck market continues to be stronger, and we continue to raise 2018 industry forecasts that, that takes away from '19. Are you getting more concerned that sort of '18 is the peak of the cycle, just given the strength that we're seeing?

No, we're, we were not concerned about the peak. We're obviously working closely with our customers to meet their needs today, tomorrow, and whatever those needs are, we'll be -- work closely with them, to make sure that we meet those. And we'll flex to -- adjust to whatever the market demands are, and that's a real strength of our company. As we think about margins, there's a lot of factors that can impact 2018 margins, material costs, other factors as we progress through the year. So it's early days. We feel pretty good about the first quarter, and we'll see how things develop for the full year.

Your next question comes from Ann Duignan with JPMorgan.

This is Abdul Tambal on behalf of Ann. Can you just talk about what kind of impact do you expect changes in the U.S. tax law to have on your capital allocation strategy? And would you expect any -- you guys to make any changes on your dividend payouts which is currently around 50% of net income?

No, I don't foresee any particular change. Obviously, that will be a matter for discussion with the Board as we discuss things during 2018. But I don't see us making radical changes, significant changes in our capital allocation approach and our dividend practices.

Your next question comes from Tim Thein with Citigroup.

Ron, I just wanted to circle back with your comments earlier on, on pricing. Maybe you could just talk a little bit more about the outlook in terms of what you're assuming here in '18 in, both in the U.S. and in Europe. And I guess somewhat related to that, I'm just thinking, from an industry standpoint here, we're approaching what, 2.5-, kind of 3-plus year highs in terms of quarterly projected build rates. I'm just curious what do you think? I know there's some changes in terms of potential ownership, similar to what we saw in Europe I guess a couple of years back. But maybe just, what do you think that dynamic is holding back, or dynamics, that are holding back the pricing opportunity in North America, and I guess lesser -- less so in Europe. So maybe just some comments there.

So maybe, Tim, can you clarify for me what you -- you talked about changes in potential ownership. What...

Yes, just some potential consolidation. You had some ownership change a couple of years ago in Europe by another entity. And I'm just wondering if there's a similar kind of overlay here, in potentially North America, without naming obvious companies.

Yes, sure. I mean, I -- there's consolidation that goes on sort of continuously in the transportation industry. And we work very closely with the predecessor and the successor companies to try and maintain the strong relationships. And as you know, this is an industry that's built a lot on personal relationships, and that's important for us and our teams. As we think about pricing, it's -- it's just a competitive market, and we price to meet our customers' needs. We have great trucks that have -- earn a premium in the marketplace. And we work closely to earn our share of the market. And we're all about profitable market share, and that's our focus, and we'll continue to do that. And so the competitive environment will dictate what the pricing opportunities will be or not be.

Your next question comes from Seth Weber with RBC Capital Markets.

I wanted to ask about the strength in the parts sales again. I mean, is there anything that you could call out there with respect to whether it's the MX engine starting to kick in? And just, is a mid- to high single-digit growth rate the right way to think about this business now going forward, is my first question.

Yes, so on parts, I think it's a combination of higher truck populations and certainly the increased engine population with MX engines in North America now. The programs that the teams have put together with fleet services, billings, the e-commerce capabilities that we have, we're now up to over 130 TRP stores around the globe, the TRP brand. So all those things are elements that contribute to, I would say, above industry growth levels in the parts business. And sure, we'd hope to be able to continue to build on those. But we're focused on continuing to build that business during the course of this year.

Okay. And then, just on the -- I think I heard deliveries flat sequentially 4Q to 1Q. Is there any regional color that you could give us there to help?

Yes, I think just because of the workday adjustments, there'll be slightly higher North American deliveries in the first quarter and slightly lower European deliveries in the first quarter.

Your next question comes from David Leiker with Baird.

This is Joe Vruwink for David. I enjoyed your booth. It's -- so it's good to see a truck company at a tax show.

Yes. So Harrie was there. Harrie went -- Harrie, what are your comments about that?

Well, we had the nice hydrogen truck there, then our autonomous trucks. And we got a lot of traction, a lot of positive feedback from everybody who was at the show.

So I actually wanted to ask about the zero emission truck because it's obviously not new for PACCAR. You've had vehicles, imports I think for several years now. What are some of the, I guess, challenges in getting the existing electric platforms into higher volume applications at existing fleets?

I think the major thing we need is a breakthrough in battery technology for electric trucks to really scale and really be significant for heavy commercial trucks.

And then when you think about fuel-cell trucks, there's a lot of infrastructure that has to -- hydrogen fuel cell has to be, that has to be developed, to support fuel cell technology. But all things that we're working with our truck divisions and with some of our suppliers on developing the capabilities to be ready when the demand is right.

And when we think about breakthroughs in battery technology, is that energy density? Is that packaging? Is that thermal in the heavy-duty application? There's obviously very aggressive forecasts for automotive lithium ion battery technology. What are some of the limitations in taking that into a heavy-duty application?

For the heavy-duty applications, it's -- weight is very important because a truck carries a lot more than a person, like a passenger car does, and the cost and the range that the truck can operate. Those are 3 things that are much more important for a heavy truck than they are for a car.

Yes, and the packaging on the chassis and on the truck. So I -- boy, there's a lot of things that will matter as that technology gets closer to the market.

It will see applications in the small trucks first, and it will make its way in the coming years.

And if you have your crystal ball in the room, 5 years from now, what sort of volume might this be commanding of PACCAR, overall?

That crystal ball is a little bit dim right now.

Your next question comes from Nicole DeBlase with Deutsche Bank.

I guess on the truck segment, last quarter, you guys did 1% positive pricing. Did that continue into 4Q?

I assume you're getting that from the 10-K or 10-Q?

That was from the Q, yes, Ron.

I just -- there's a lot of dynamics in those individual line items that impact whether it's heavy-duty mix, medium-duty mix, customer mix. So you've got to look at that total table in -- as one. So it's a little bit difficult to parse into any individual line item.

Okay, so we should just wait for the K for that, I guess?

Yes.

And then, I guess on the -- what you guys have seen internally with respect to order activity in the fourth quarter, so it's been really strong for the whole industry. Just curious about mix, so any interesting that you're seeing with respect to like day cabs versus sleepers versus vocational vehicles, et cetera?

No, I think -- the demand is up in really all segments. I would say that, probably in terms of percentage growth, maybe a little bit higher demand on the day cab side. And we're seeing some of that on -- in the used truck market where the used day cabs have a bit of a benefit compared to what they had been say, 6 months, 9 months ago.

Your next question comes from Andy Casey with Wells Fargo.

Ron, I'm wondering -- or somebody, could you please discuss how Q4 gross margin performed versus whatever the embedded expectation was. In the Q3 call when you gave volume growth, it ended up being a little bit higher. I'm wondering if the margin was a little bit lower. And if so, was that -- well, was it lower?

I don't remember exactly what we said. But as you look at third quarter versus fourth quarter, part of what we saw was the fact that fourth quarter had higher deliveries in Europe versus North America which, again, a bit of a dampening effect on overall margins. And there were some impacts of customer and model mix in terms of the products that got sold, the customers that we sold to. And we talked a little bit about the fact that fourth quarter was a record sales period for the parts business. And the good news is we had to pay slightly higher incentives, but that -- the incentives really spurred on the additional -- help spur on the additional volume and profitability, so...

Okay. And then, I guess if we step back from the shorter term, I'm wondering if the company has changed how it balances, kind of short-term truck margin versus longer-term total margin growth or profit growth potential that could be driven by increased engine population in the field that could support higher aftermarket sales in the future.

I don't think there's anything fundamentally that's changed about how we think about operating leverage and margin enhancement. Some years, quarters, things go your way like material costs. Sometimes, they don't, so. But I think long term, we still have a similar perspective on how we thought about margins and operating leverage over time.

Okay. And then, I know you suggested new and used pricing right now is pretty stable in North America. I'm just wondering if you're seeing any of the typical forward signals that could suggest pricing could start to improve during 2018.

As we sit here today, I would say pricing is fairly stable.

Your next question comes from David Raso with Evercore ISI.

The margins, I'm just trying to get a feel for the fourth quarter, the price cost that was incurred and what's your price cost assumption for 2018. I mean, I -- and when you pull up the currency, the gross margin was 14.2% a year ago. You pull up gross margins -- I'm sorry, pull out currency, the gross margins were 14.7%. So it's just -- to see the gross margins down, even ex currency, and North America is 51% of deliveries this quarter, a year ago fourth quarter, they were only 42%. So I thought that would be a positive mix. So I'm just trying to digest, a, how painful was the price cost in the fourth quarter; and what are you expecting for next year to kind of come up from this level and then maintain?

So as I mentioned before, the key differences are the mix between Europe and North America in terms of volume.

And I apologize, I'm talking year-over-year. Year-over-year North American deliveries were 51% of the total. They were only 42% a year ago. So the mix is positive year-over-year, but the margins ex currency are down 50 bps. That's all. I'm just -- it's a price cost issue, I'm just trying to reconcile.

I don't know what currency numbers you're using, and how you're getting those. All I can just tell you is that, when you look at fourth quarter last -- this year -- or fourth quarter '17 versus fourth quarter '16, you had the effects of material cost movements was the single biggest factor, beneficial in '16, challenging in '17. The parts incentives had a bit of an impact. And those are -- sort of the two biggest factors. And as you look forward into next year, those sort of tend to reverse. And you got the European and North American mix favorable as we get into the first quarter.

And just to be clear, maybe I misheard you. I thought earlier, you did give us the currency impact for the quarter. It was $142 million for revs and $8 million for profit, so...

And that's for the total company. Total revenues, total profitability, truck parts, finance, et cetera, et cetera.

Okay. So I was giving it all to the truck part, I think is the large majority. But again, just so I'm clear, price cost next year, what's the base? Is it a neutral after this year, a negative -- or sorry, '17 a negative? Just making sure we understand the puts and takes.

Yes, I'd say at this point, we're probably thinking about it neutrally.

Your next question comes from Mike Shlisky with Seaport Global.

Wanted to touch on the used truck market again. It's certainly great of course that your brands have good value retention over time and get solid pricing. But if we have a fairly strong 2018 for new truck sales, is there a risk that the supply of trade-ins on the used side rises as we go through 2018, and that pricing could come down a bit? And can you give us color as to what PACCAR has done to kind of work with their dealers, since the last time we had high inventories on the used side, to kind of keep the impact small, going forward?

Yes. So as we think about used trucks, I mean, we're seeing good demand for used trucks as we sit here today, and no reason to indicate that that's not going to continue for the near term. We've done a lot of things to support our ability to handle greater volumes of used trucks. We built a new used truck center in the Chicago area. It's been open now just about a year. We're just opening another used truck facility in the Los Angeles area, in Fontana. And so we continue to enhance our internal abilities. And obviously, we've always worked very closely with our dealers on the distribution of used trucks through the market. So we've done a lot of things to enhance our capabilities over the last several years.

Okay, got it. And then secondly, just on parts, can you tell us how many TRP parts stores opened in the quarter, and kind of how far along are you to a full build-out to what you're hoping to do globally?

Well, I don't know how many during the quarter. I know we finished over 128 year-end, and we're over 130 as we sit here today. I don't think we have a view of what full population is. And just as we continue to add dealer locations for Peterbilt, Kenworth, DAF, we'll add locations for TRP to meet market demand as they develop. So there's no end number or endgame in sight. It's just, continue to take advantage of distributing parts to all the areas that -- where we can support our customers.

Can I ask then, I mean, is that a big piece of the 5% to 8% growth you've got planned for parts in 2018? Are there additional locations planned with -- for stock ups coming here? Or is it the -- is the vast majority of your growth for '18 organic parts growth?

I'd say it's a combination of both. I think it's the programs, it's the population of vehicles and it's TRP expansion.

Your next question comes from Mike Baudendistel with Stifel.

I just wanted to ask you if you had any preliminary expectations for Class 8 market share in 2018. I mean, does it decline from the -- what it was in 2017, if there's a big shift to -- from vocational trucks to -- sales to large fleets?

No, I -- our teams will -- they've worked very hard over the years to develop the market share. When I started with the company 24 years ago, Peterbilt and Kenworth had a combined share of 21%. And over the 24 years, they've been able to increment that to 25%, to 28% and to now 30%. And so our view is to continue to develop the best trucks in the market, provide the best value for our customers and organically grow our share profitably in our primary markets. So that will be our focus for 2018 as well.

Got it. And I also just wanted to ask you, is there anything we should be thinking about in terms of the mix impact of TRP? I mean, if TRP consists of a larger portion of your total parts business, does that because a drag on margins and parts at all?

No, I -- it's -- in terms of the percentage, it's in the 10% to 15% of total sales range. And so I don't see it being a major factor in parts margins.

Your next question comes from Joe O'Dea with Vertical Research.

First question is just on build rates. And are you currently building to the kind of volumes that you expect in 2018? Or do you think that there's still some upward move in where your build is, to hit kind of in the midpoint of your expectations?

Well, as we have progressed into 2018, we have taken some additional build rate increases, both in North America and Europe to support demand. And so we'll maintain that as long as the demand is there.

Okay. And then a quarter ago, you talked about the sort of 14% to 15% gross margin range. It looks like initial expectations for '18 are that you'd kind of be in the middle of that range. There are industry forecasts out there with volumes, particularly in North America, well above where you are currently. If we think about the market maybe trending closer to those expectations versus yours, how do you think about the operating leverage on that? Would that mean gross margin closer to the higher end of the range? Are there reasons why we shouldn't anticipate some leverage on that?

We'll -- there's just no -- I guess, I mentioned earlier, there's a lot of factors that impact that overall margin outcome. And we feel really good about what we're seeing and expecting for the first quarter. The rest of year, there could be opportunities. We'll just have to see how the year develops.

Your next question comes from Neil Frohnapple with Buckingham Research.

Ron, can you give us more granularity on the outlook for the European above 16-tonne market for this year? What are the drivers to get you kind of to the higher end of the range and then conversely, the lower end? And as a follow-up, can you share anything regarding the trends in your order book for DAF in Europe, like you've done in prior quarters?

Yes, orders for DAF have been very strong. When we look at quarter -- fourth quarter, compared to the, say the fourth quarter in the prior year, I think they're up about 20%?

27% up.

27% up. So as I mentioned, we've taken some additional plans to increase our build rate this quarter. And so it's going to be dependent on the market. You look at the tonne freight activity in Germany in the month of December, I think the activity was up 6% in the month of December, and for the full year, up about 4%. So we enter the beginning of this year with strong freight activity. DAF obviously has a great product, just won Truck of the Year in the fourth quarter, and that -- those products provide up to 7% improved fuel efficiency. So it's a great value proposition for the customers, if the customers haven't bought trucks for 4 or 5 years. Today's trucks, it's double-digit improvement in terms of operating efficiency. So there's a lot of reason for customers to purchase new vehicles, take advantage of the lower operating cost.

Okay, great. And then Ron, given the outlook for North America heavy-duty industry production to continue to increase this year, and it sounds like you guys have already increased your daily build rate. As we begin to close in on the recent peak 2015 levels, does PACCAR have enough capacity in its factories to support this level of demand, or if the market continues to inflect higher, considering where your market share is today versus just a few years ago?

Yes, we definitely do. And we continue to monitor that and make the investments. As you know, we completed the Westerlo paint facility in Europe last year, which basically increased the capacity of our paint operations in Europe by about 50%. And we continue to monitor those capacity factors and make the investments. And so in our capital plans this year and next year, we'll continue to look at that, not just for our factories but obviously we're looking at that for our parts distribution activity as well. We're building the new PDC in Toronto and we're looking at some additional investment on the parts side to continue to support our customers with their truck up time.

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

Yes, 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.