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FDML > SEC Filings for FDML > Form 10-Q on 30-Oct-2012All Recent SEC Filings

Show all filings for FEDERAL MOGUL CORP

Form 10-Q for FEDERAL MOGUL CORP


30-Oct-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following Management's Discussion and Analysis of financial condition and results of operations ("MD&A") should be read in conjunction with the MD&A included in the Company's Annual Report.

Overview

Federal-Mogul Corporation is a leading global supplier of technology and innovation in vehicle and industrial products for fuel economy, emissions reduction, alternative energies, environment and safety systems. The Company serves the world's foremost original equipment manufacturers ("OEM") and servicers ("OES") of automotive, light, medium and heavy-duty commercial vehicles, off-road, agricultural, marine, rail, aerospace, power generation and industrial equipment (collectively, "OE"), as well as the worldwide aftermarket. The Company seeks to participate in both of these markets by leveraging its original equipment product engineering and development capability, manufacturing know-how, and expertise in managing a broad and deep range of replacement parts to service the aftermarket. The Company believes that it is uniquely positioned to effectively manage the life cycle of a broad range of products to a diverse customer base.

Federal-Mogul has established a global presence and conducts its operations through various manufacturing, distribution and technical centers that are wholly-owned subsidiaries or partially-owned joint ventures. During the nine months ended September 30, 2012, the Company derived 39% of its sales in the United States and 61% internationally. The Company has operations in established markets including Canada, France, Germany, Italy, Japan, Spain, Sweden, the United Kingdom and the United States, and developing markets including Argentina, Brazil, China, Czech Republic, Hungary, India, Korea, Mexico, Poland, Russia, South Africa, Thailand, Turkey and Venezuela. The attendant risks of the Company's international operations are primarily related to currency fluctuations, changes in local economic and political conditions, and changes in laws and regulations.

Federal-Mogul offers its customers a diverse array of market-leading products for OE and replacement parts ("aftermarket") applications, including pistons, piston rings, piston pins, cylinder liners, valve seats and guides, ignition products, dynamic seals, bonded piston seals, combustion and exhaust gaskets, static gaskets and seals, rigid


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heat shields, engine bearings, industrial bearings, bushings and washers, transmission components, brake disc pads, brake linings, brake blocks, element resistant systems protection sleeving products, acoustic shielding, flexible heat shields, brake system components, chassis products, wipers, fuel pumps and lighting.

The Company operates in an extremely competitive industry, driven by global vehicle production volumes and part replacement trends. Business is typically awarded to the supplier offering the most favorable combination of cost, quality, technology and service. Customers continue to demand periodic cost reductions that require the Company to continually assess, redefine and improve its operations, products, and manufacturing capabilities to maintain and improve profitability. Management continues to develop and execute initiatives to meet the challenges of the industry and to achieve its strategy for sustainable global profitable growth.

Effective September 1, 2012, the Company began operating with two end-customer focused business segments. The Powertrain (or "PT") segment focuses on original equipment products for automotive, heavy duty and industrial applications. The Vehicle Components Solutions (or "VCS") segment sells and distributes a broad portfolio of products in the global aftermarket, while also serving original equipment manufacturers with products including braking, chassis, wipers and other vehicle components. The new organizational model allows for a strong product line focus benefitting both original equipment and aftermarket customers and will enable the global Federal-Mogul teams to be responsive to customers' needs for superior products and to promote greater identification with Federal-Mogul premium brands. The division of the global Federal-Mogul business into two operating segments is expected to enhance management focus to capitalize on opportunities for organic or acquisition growth, profit improvement, resource utilization and business model optimization in line with the unique requirements of the two different customer bases. Prior period amounts have been reclassified to conform with the presentation used in this filing.

The PT segment primarily represents the Company's OE business. About 90% of PT's revenue is to OEM customers, with the remaining 10% of its revenue being sold directly to VCS for eventual distribution, by VCS, to customers in the independent aftermarket. Discussions about the Company's PT segment or its OE business should be seen as analogous. The performance of PT is therefore highly correlated to changes in regional OEM light and commercial vehicle production, together with the changes in the mix of technologies (such as between light vehicle gasoline and light vehicle diesel) and changes in demand for non-automotive and industrial applications. These drivers are enhanced by the rate at which the Company gains new programs, which is itself affected by the rate at which the OEM's make improvements to emissions and fuel economy - some in response to regional regulations.

The VCS segment primarily represents the Company's aftermarket business. About 75% of VCS's revenue is to the customer in the independent aftermarket, with a further 10% being into the OES market, essentially, dealer supplied replacement parts - a feature more prevalent in Europe than in North America. The OES market is subject to the same general commercial patterns as the aftermarket business. The remaining 15% of the VCS business is to the OEM's or tier 1 suppliers to OEM's. The performance of VCS is therefore highly correlated to the factors that variously influence the different regional replacement parts markets around the world, such as vehicle miles driven, the average age of vehicles on the road, the size of the regional vehicle parcs and levels of consumer confidence. These drivers are enhanced by the relative strength of the aftermarket brands and the breadth of the portfolio offered relative to the changing needs of the local markets.

For a more detailed description of the Company's business, products, industry, operating strategy and associated risks, refer to the Annual Report.

Results of Operations


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Consolidated Results - Three Months Ended September 30, 2012 vs. Three Months
Ended September 30, 2011

Net sales:



                                                Three Months  Ended
                                                    September 30
                                                 2012            2011
                                               (Millions of Dollars)
              Powertrain                     $        982       $ 1,089
              Vehicle Components Solutions            725           755
              Inter-segment eliminations             (105 )        (112 )

              Total                          $      1,602       $ 1,732

The percentage of net sales by group and region for the three months ended September 30, 2012 and 2011 are listed below. "PT," represents Powertrain and "VSC" represents Vehicle Components Solutions.

                       2012             PT       VCS        Total
                       North America     34 %      62 %         47 %
                       EMEA              49 %      31 %         40 %
                       Rest of World     17 %       7 %         13 %

                       2011
                       North America     30 %      58 %         42 %
                       EMEA              53 %      34 %         45 %
                       Rest of World     17 %       8 %         13 %


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Cost of products sold:

                                                 Three Months Ended
                                                    September 30
                                                2012             2011
                                               (Millions of Dollars)
              Powertrain                     $      (881 )     $   (945 )
              Vehicle Components Solutions          (613 )         (635 )
              Inter-segment eliminations             105            112

              Total Reporting Segment             (1,389 )       (1,468 )
              Corporate                               (1 )           (1 )

              Total Company                  $    (1,390 )     $ (1,469 )

Gross margin:

                                                Three Months  Ended
                                                    September 30
                                                2012              2011
                                               (Millions of Dollars)
              Powertrain                     $       101         $  144
              Vehicle Components Solutions           112            120

              Total Reporting Segment                213            264
              Corporate                               (1 )           (1 )

              Total Company                  $       212         $  263

The fundamental causes of the drop in sales and margin performance are the U.S. dollar strengthening, primarily against the euro, combined with reductions in virtually all areas of European vehicle production, reductions in demand for European non-automotive and industrial applications, and lower U.S. heavy duty production. Although the U.S. passenger car market grew slightly, this had only a minor mitigating impact on the Company's sales given that the majority of its OEM sales are to customers outside the U.S. The European passenger car market also underwent a shift in demand away from diesel towards gasoline vehicles. As a result of this change, the diesel share of the passenger car market in Europe moved from 48% in the third quarter of 2011 to 46% in 2012.

Over 70% of the Company's European OEM business serves the light vehicle diesel and heavy duty markets, and given the generally greater technical complexity of these applications, the margins for these parts are generally higher than those serving light vehicle gasoline market. Therefore, not only were the Company's sales significantly impacted by the changes in European demand, but its profits bore a disproportionate adverse impact due to those reductions occurring in some of the most profitable applications within those regions.

Net sales decreased by $130 million, or 7.5%, to $1,602 million for the third quarter of 2012 from $1,732 million in the same period of 2011. Approximately 5.5 points of the sales decline reflects the impact of the U.S. dollar strengthening, primarily against the euro, which reduced reported sales by $100 million. Sales volumes decreased by $40 million, the vast majority of which occurred in the PT segment, in Europe. Net favorable customer pricing, mainly the non-recurrence of prior year aftermarket customer incentives, increased Company sales by $10 million.

Cost of products sold decreased by $79 million to $1,390 million for the third quarter of 2012 compared to $1,469 million in the same period of 2011. The impact of the relative strength of the U.S. dollar decreased cost of products sold by $82 million. The Company noted materials and services sourcing savings of $36 million. The reduction in materials, labor and overheads as a direct result of the reduction in sales volume was only $6 million, due to adverse changes in regional and product mix. Furthermore, because reductions in direct labor lagged behind the reductions in manufacturing output, the Company reported unfavorable productivity of $30 million - including labor and benefits inflation.


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Gross margin decreased by $51 million, including currency impacts of $18 million, to $212 million, or 13.2% of sales, for the third quarter of 2012 compared to $263 million, or 15.2% of sales, in the same period of 2011. The drop in gross margin as a percent of sales by 2 points mainly reflects the market driven drop in OEM volumes on the more profitable applications within the OE business, combined with reduction in direct labor, lagging behind the reductions in manufacturing output. These elements, when combined with a shift in the mix of aftermarket products away from premium and towards mid-grade products, are reflected as unfavorable external sales volumes / mix impact of $46 million, and unfavorable productivity of $30 million - including year-over-year labor and benefits inflation. These decreases were partially offset by a favorable impact on margin of $36 million from materials and services sourcing savings and $10 million of favorable customer pricing - mainly the non-recurrence of prior year aftermarket customer incentives.


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Reporting Segment Results - Three Months Ended September 30, 2012 vs. Three Months Ended September 30, 2011

The following table provides a reconciliation of changes in sales, cost of products sold, gross margin and operational EBITDA for the three months ended September 30, 2012 compared with the three months ended September 30, 2011 for each of the Company's reporting segments. Operational EBITDA is defined as earnings before interest, income taxes, depreciation and amortization, and certain items such as restructuring and impairment charges, Chapter 11 and U.K. Administration related reorganization expenses, gains or losses on the sales of businesses, the non-service cost components of the U.S. based funded pension plan and OPEB curtailment gains or losses.

                                                                                         Total
                                                                  Inter-segment        Reporting                        Total
                                          PT          VCS          Elimination          Segment        Corporate       Company
                                                                         (Millions of Dollars)
Sales
Three months ended September 30, 2011   $ 1,089      $  755      $          (112 )    $     1,732      $       -       $  1,732
External sales volumes                      (34 )        (6 )                 -               (40 )            -            (40 )
Inter-segment sales volumes                  (5 )        (2 )                  7               -               -             -
Customer pricing                             (2 )        12                   -                10              -             10
Foreign currency                            (66 )       (34 )                 -              (100 )            -           (100 )

Three months ended September 30, 2012   $   982      $  725      $          (105 )    $     1,602      $       -       $  1,602


                                                                                         Total
                                                                  Inter-segment        Reporting                        Total
                                          PT          VCS          Elimination          Segment        Corporate       Company
Cost of Products Sold
Three months ended September 30, 2011   $  (945 )    $ (635 )    $           112      $    (1,468 )    $       (1 )    $ (1,469 )
External sales volumes / mix                  9         (15 )                 -                (6 )            -             (6 )
Inter-segment sales volumes / mix             5           2                   (7 )             -               -             -
Productivity, net of inflation              (21 )        (9 )                 -               (30 )            -            (30 )
Materials and services sourcing              18          18                   -                36              -             36
Depreciation                                 (2 )        (1 )                 -                (3 )            -             (3 )
Foreign currency                             55          27                   -                82              -             82

Three months ended September 30, 2012   $  (881 )    $ (613 )    $           105      $    (1,389 )    $       (1 )    $ (1,390 )


                                                                                         Total
                                                                  Inter-segment        Reporting                        Total
                                          PT          VCS          Elimination          Segment        Corporate       Company
Gross Margin
Three months ended September 30, 2011   $   144      $  120      $            -       $       264      $       (1 )    $    263
External sales volumes / mix                (25 )       (21 )                 -               (46 )            -            (46 )
Inter-segment sales volumes / mix            -           -                    -                -               -             -
Customer pricing                             (2 )        12                   -                10              -             10
Productivity, net of inflation              (21 )        (9 )                 -               (30 )            -            (30 )
Materials and services sourcing              18          18                   -                36              -             36
Depreciation                                 (2 )        (1 )                 -                (3 )            -             (3 )
Foreign currency                            (11 )        (7 )                 -               (18 )            -            (18 )

Three months ended September 30, 2012   $   101      $  112      $            -       $       213      $       (1 )    $   (212 )


                                                                                         Total
                                                                  Inter-segment        Reporting                        Total
                                          PT          VCS          Elimination          Segment        Corporate       Company
Operational EBITDA
Three months ended September 30, 2011   $   109      $   52      $            -       $       161      $       -       $    161
External sales volumes / mix                (25 )       (21 )                 -               (46 )            -            (46 )
Customer pricing                             (2 )        12                   -                10              -             10
Productivity - Cost of products sold        (21 )        (9 )                 -               (30 )            -            (30 )
Productivity - SG&A                          (9 )        -                    -                (9 )            -             (9 )
Productivity - Other                          2           1                   -                 3              -              3
Sourcing - Cost of products sold             18          18                   -                36              -             36
Sourcing - SG&A                               1          -                    -                 1              -              1
Sourcing - Other                              1          -                    -                 1              -              1
Equity earnings in non-consolidated
affiliates                                   (2 )         1                   -                (1 )            -             (1 )
Stock-based compensation expense             (1 )        (1 )                 -                (2 )            -             (2 )
Foreign currency                            (19 )        (3 )                 -               (22 )            -            (22 )
Other                                        -           (1 )                 -                (1 )            -             (1 )

Three months ended September 30, 2012   $    52      $   49      $            -       $       101      $       -       $    101

Depreciation and amortization                                                                                               (72 )
Adjustment of assets to fair value                                                                                          (53 )
OPEB curtailment gain                                                                                                        51
Interest expense, net                                                                                                       (32 )
Non-service cost components
associated with the U.S. based funded
pension plan                                                                                                                 (9 )
Restructuring expense, net                                                                                                   (5 )
Income tax benefit                                                                                                            8

Net loss                                                                                                               $    (11 )


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Powertrain

Sales decreased by $107 million, or 10%, to $982 million for the third quarter of 2012 from $1,089 million in the same period of 2011. The Powertrain segment generates approximately 70% of its revenue outside the United States and the resulting currency movements decreased reported sales by $66 million. External sales volumes decreased by $34 million, or 3%, due to reductions in virtually all areas of European vehicle production, reductions in demand for European non-automotive and industrial applications, and lower U.S. heavy duty production. Although the U.S. passenger car market grew slightly, this had only a minor mitigating impact on PT's sales given that the majority of its OEM sales are to customers outside the U.S. The European passenger car market also underwent a shift in demand away from diesel towards gasoline vehicles. As a result of this change, the diesel share of the passenger car market in Europe moved from 48% in the third quarter of 2011 to 46% in 2012. Based on changes in regional production alone, PT's sales should have declined by around 4%-before considering the shift in mix between diesel and gasoline and the other market factors. New program launches therefore helped to mitigate this impact of the market decline, with PT's sales ultimately falling by 4%, in constant dollars-with Europe falling by 8%, and North America and ROW essentially flat.

Cost of products sold decreased by $64 million to $881 million for the third quarter of 2012 compared to $945 million in the same period of 2011. This decrease was due to currency movements of $55 million, and materials and services sourcing savings of $18 million. The reduction in materials, labor and overheads as a direct result of the reduction in volume was only $9 million, due to adverse changes in regional and product mix. Furthermore, because reductions in direct labor lagged behind the reductions in manufacturing output, PT reported unfavorable productivity of $21 million - including labor and benefits inflation.

Gross margin decreased by $43 million, including currency movements of $11 million, to $101 million, or 10.3% of sales, for the third quarter of 2012 compared to $144 million, or 13.2% of sales, for the third quarter of 2011. The drop in gross margin as a percent of sales by almost 3 points mainly reflects the loss in OEM volume, at a variable margin level, on the more profitable applications combined with reductions in direct labor, which lagged behind the reductions in manufacturing output. These elements are reflected as unfavorable external sales volumes / mix impact of $25 million and unfavorable productivity of $21 million, respectively including year-over-year labor and benefits inflation. These decreases were partially offset by a favorable impact on margin of $18 million from materials and services sourcing savings.

Operational EBITDA decreased by $57 million, including currency movements of $19 million, to $52 million for the third quarter of 2012 from $109 million in the same period of 2011. The remainder of the decrease was due to the loss of volume, at a variable margin level, on the more profitable applications, combined with reductions in direct labor which lagged behind the reductions in manufacturing output. These elements are reflected as unfavorable external sales volumes / mix impact of $25 million and unfavorable productivity of $28 million, respectively - including year-over-year labor and benefits inflation, and selected increases in SG&A expense. These impacts were partially offset by an $18 million of materials and services sourcing savings.


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Vehicle Components Solutions

Sales decreased by $30 million, or 4%, to $725 million for the third quarter of 2012 from $755 million in the same period of 2011, largely due to currency movements of $34 million. Some regional price increases, combined with the non-recurrence of prior year customer incentives offset a minor volume decrease of $6 million. However, although sales increased by 4% in North America, all other regions reflected the general lack of consumer confidence, resulting in a drop in sales of 4% in Europe and 3% in ROW, in constant dollars.

Cost of products sold decreased by $22 million to $613 million for the third quarter of 2012 compared to $635 million in the same period of 2011. This decrease was due to currency movements of $27 million and materials and services sourcing savings of $18 million. These decreases were partially offset by a $15 million increase directly associated with external sales volume and changes in product mix, and unfavorable productivity of $9 million.

Gross margin decreased by $8 million, including currency movements of $7 million, to $112 million, or 15.5% of sales, for the third quarter of 2012 compared to $120 million, or 15.9% of sales, in the same period of 2011. This decrease was due to a shift in the mix of products away from premium and towards mid-grade. This is reflected as net unfavorable external sales volume/mix impact of $21 million. Productivity was unfavorable $9 million. These decreases in gross margin were partially offset by improved materials and services sourcing of $18 million and increased customer pricing of $12 million - including the non-recurrence of prior year customer incentives.

Operational EBITDA decreased by $3 million, including currency movements of $3 million, to $49 million for the third quarter of 2012 from $52 million in the same period of 2011. Essentially, the decreases in the cost of materials and services sourcing of $18 million and net customer price increases of $12 million offset mix changes of $21 million and unfavorable productivity of $9 million.

Selling, General and Administrative Expenses

Selling, general and administrative expenses ("SG&A") were $176 million, or 11.0% of net sales, for the third quarter of 2012 as compared to $172 million, or 9.9% of net sales, for the same quarter of 2011.

. . .

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