Goodyear Tire & Rubber Co Earnings Call Insights: Replacement Volumes and Future Outlook

On Friday, Goodyear Tire & Rubber Co (NYSE:GT) reported its third quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Replacement Volumes and Performance Relative to Industry:

Rod Lache – Deutsche Bank: Couple of things, one is just to clarify I missed this, but did you say that there was a $12 million penalty in the SOI for Europe in the quarter?

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Darren Wells – EVP and CFO: Yeah, Rod, the comment there was that we had a reserve for a $12 million penalty under a third-party tire supply agreement. So we’re taking lower volumes from that third party, and we’ve had the reserve for the contractual penalty.

Rod Lache – Deutsche Bank: Okay, so that’s sort of a one-time item, I would imagine.

Richard J. Kramer – Chairman, President and CEO: Yes.

Rod Lache – Deutsche Bank: Can you talk about the – your trend in terms of replacement volumes in a few markets looks like it’s a bit weaker than the overall industry, the 10% drop in North America, I think, you said 20% for Europe. How should we be thinking about that just relative to industry performance right here and then going forward?

Richard J. Kramer – Chairman, President and CEO: I think as we look at it, we have — actually have to look at it. I think you made a good point. Sort of region by region, I think the dynamics are different. So if we look at it sort of in the current quarter, what we see as we think about our share and our volumes, we look at it, we kind of think about three different things. One is, relative to us or relative to everyone, we saw a lower industry because of the general economic weakness. So that certainly impacted our volumes. Second to that, we’re impacted by geographic mix, which I think you appreciate it, we have higher penetration by and large of the mature markets, which were more impacted by the economic situation we’re in than were some of the emerging markets, and that certainly compounded the impact of a weak economy. The third thing is really the choices that we are making in line with our strategy, really focusing on the targeted profitable segments that are in our site and exiting volume in the lower, sort of the lower segments of the market that are not profitable for us. So we are following our strategy making decisions in line with that and certainly are comfortable with it. As we look at volume going out, again I think in North America, certainly we see really a pretty good environment. As I said on the call, our channel inventories are really on a very good shape, they’re at very low levels and we continue to see a lot of pent-up demand there, and I know you guys follow them as well. We see miles driven now up seven out of the last nine months are almost up 1% year-to-date, so the pent-up demand is there it’s just a question of when it comes back. EMEA, clearly, clearly a tougher than we expected, the volumes there from an industry perspective are really approaching – are at really the 2009 recessionary levels, sort of again unprecedented levels and there we’re making changes to increase some flexibility in our supply chain, and I am happy with the decisions we are making to sort of get back to where we want to be more or so in Europe. Overall, I think we look at it and we see where the industry is headed, we’re making our best call and we’re comfortable with it and we’ll continue to monitor it as we go forward.

Rod Lache – Deutsche Bank: So, just to kind of on that last point about the selectivity that you are commenting on, I guess what should we just be thinking that going forward the volumes may not move or probably won’t move in line with the industry maybe a little bit lower, but your pricing will typically be quite a bit higher. Related to that, how should we be thinking about pricing here as we get into this period here from Q3 to Q4 on a year-over-year basis when you start to see a bit of a drop in raw material? Should we be assuming that some portion of that in the near-term is being back into the market?

Richard J. Kramer – Chairman, President and CEO: Rod, on the first point, I think we’re going to stick to the strategy that we have and that’s really not pursuing volumes just to fill the factories, certainly we’re cognizant of our factories and the fact that we need to manage our cost structure and you see us doing that, but we’ll remain focused on those market segments where we can value to ourselves and our customers, and again to your point you see that in the results and revenue per tire, you see it in segment operating income, even in Europe that’s certainly below last quarter, but if we look at where Europe was at the volumes at these levels back in ’09, I think we lost $15 million, we made $105 million a year. So our strategy is, one we’re comfortable with we’re making those choices, but we’re comfortable with the choices that we’re ultimately making. I guess looking ahead; we continue to see lots of opportunities for us that continue to mix up the business. In terms of how we look at pricing going forward, I think you’re right to connect it part to raw material cost, and Darren you can talk a little bit about certainly the RMI’s we have with OEs that impact Rod’s question as well.

Darren Wells – EVP and CFO: That may be the point to make that, first consideration here is raw materials have gone down and stayed down for a while, we see the impact of the raw material indexing agreements or adjustment agreements that we with OEs, with fleets, and with certain OTR customers, clearly becoming a factor, those are decisions we made we’re happy with those decisions, those are going to, those contract provisions help us as raw materials increase. Obviously protect from raw material cost increases, but it does mean that there is price reductions that are automatic in the contracts as raw material costs come down. Starting from that, we’re always focused on having the right value proposition for our products, making sure we’re competitive on that basis. While prices are factored there, we take our own targeted actions; our value proposition goes well beyond price, includes our technology, our service levels, our brands. Every segment’s going to be unique in that respect, but clearly, we’re looking to on an ongoing basis, get the value proposition right for our products and deal with raw material cost as they move both on the way up and on the way down.

Rod Lache – Deutsche Bank: Just to clarify, have you make any adjustments on the replacement market in terms of pricing thus far?

Darren Wells – EVP and CFO: No, I mean, Rod, if you look, going backwards, I think what you’ve seen in the industry is, certainly, you’ve seen some select discounting and promotional activities and we have done that as well.

Rod Lache – Deutsche Bank: Any way to quantify that?

Darren Wells – EVP and CFO: I think, Rod, what we’ve been able to do is we’ve essentially anniversaried all our price increases. You’re still seeing a revenue per tire growth for us, which says we’re continuing to get the benefit, price and product mix. The – anything that we’ve done from a discounting or promotional activity perspective is inherent in that 5%, and I guess that you — I probably have to leave it there. I mean, the revenue per tire growth is not as high as it was as raw materials were increasing. Clearly, that’s – our revenue per tire growth was — has been double digits, it’s 5% in this quarter. You asked a question about going forward, I think, you look at history, our track record is that even as we’ve seen raw materials decline, we’ve tended to still for the most part have some positive price mix effect, and that’s what we’re looking for in the fourth quarter as well even with some significant benefit from raw material cost and the impact of the raw material indexing agreements for the OEs and fleets.

The Future and Working Capital:

Itay Michaeli – Citi: Just the first question on the volume outlook for the fourth quarter of down 3% to 5%. How much visibility do you have on that right now? What are you assuming industry wide and perhaps inventory levels in that channel behind that 3% to 5%? Just wanted to understand kind of how much visibility we have on that target?

Richard J. Kramer – Chairman, President and CEO: Itay, I think it’s almost the end of October right now, so we certainly have a view of how our business is going forward. I think really what we’re giving is the best estimate of what we see from our basis on where the industry is headed right now. Our OE business in North America continues to stay robust. In North America, I think we see volume decreasing as you see on the slides that we have there, but for us our mix and our price and mix continues to be very strong for us. Europe obviously continues to be a problem as we look at where that market is heading given the whole economic conditions there.

Itay Michaeli – Citi: Then just a modeling question, the corporate other walk from SOI to EBIT seemed a little bit higher in the quarter. How should we think about that for the fourth quarter should be similar as what we saw in the third? Then are you still comfortable with the 150 placeholder for 2013?

Richard J. Kramer – Chairman, President and CEO: So, Itay, you’re asking about the walk-in, I think that there are a couple of items there. I don’t think we see anything significant in the run rate. I will say that the stock price movement does affect incentive compensation accruals, and in fact the stock price was up in the quarter had the impact. So, when we did our – I think in the last call when we did our look at 2013, we adjusted that corporate other outlook to $150 million for next year.

Itay Michaeli – Citi: Then as we start to think about 2013, it sounds that you’re still pretty confident on the $1.6 billion of SOI, we talked maybe big picture around with some of the drivers there, just price mix perhaps China I know you mentioned 5% industry or your volume growth assumption, perhaps some restructuring that might be coming like (EMEA) and France, just want to kind of maybe do a broad walk how we should think about the walk between 2012 and 2013.

Richard J. Kramer – Chairman, President and CEO: So, it’s a good question, I think there is a couple of things at how we think about where we are and where we’re going. Number one is really to start where the business is today and we’re very pleased with the progress that we’ve made and in fact we would tell you we’re actually, North America business is much further ahead than we thought we’d be, we reached our – we’re planning to exceed our 2013 target a year early, so as we bridge that we’re actually pretty confident in terms of where the North American business is. As we look – to bridge it further, we’re assuming as Darren said in his remarks a volume increase next year and that’s certainly key both in terms of volume increase from a sales standpoint, but also the throughput we’ll get through the factories to recover some of that unabsorbed overhead that we’re incurring out from the production cuts that we’ve taken. In addition to that, as we look where raw material prices are today, you’re going to see some of that flow through come into at least the first half of 2013 that should help us toward our target as well. Then to your point, you can obviously count on us that increase the cost and productivity and the efficiencies in our business particularly given where the global economy is at. So, as we look at that I think from a structural standpoint, we’re really ahead of our business, we’ve made good progress and sticking to the target of the $1.3 billion, certainly it’s tougher than it was, but $1.6 billion, tougher than it was when we started it, but I think evidence of the structural changes we’ve made in our business is in the fact that we’re sticking to it in the case where we’re about 20 million units less than we said we were going to be when we put that target out in 2011, and we’re not getting, really, a pension tailwind in terms of hitting that.

Itay Michaeli – Citi: Just lastly, Darren, any thoughts on working capital on a full year basis? I think you at a use of $900 million year-to-date. Just want to get a better sense of that, and maybe just talk about fourth quarter free cash flow on that?

Darren Wells – EVP and CFO: Yes, I think that our business model continues to be working capital as neither a source nor use. So we look to continue to grow our business without using cash for working capital. We’ve got a good track record doing that. Obviously, we’ve had a long history now of driving down working capital as a percent of sales, which then allows us to grow our sales without using cash and working capital. Fourth quarter tends to be a working capital reduction quarter, and I think we still expect that this year. Although I would say that we’ve done a better job keeping working capital more consistent, not using as much cash and working capital in the middle of the year this year, and so I think we feel good about that, but we’re still going to see some seasonal inflow in the fourth quarter.