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DAN > SEC Filings for DAN > Form 10-K on 21-Feb-2014All Recent SEC Filings

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Form 10-K for DANA HOLDING CORP


21-Feb-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations (Dollars in millions)

Management's discussion and analysis of financial condition and results of operations should be read in conjunction with the financial statements and accompanying notes in Item 8.

Management Overview

We are a global provider of high technology driveline, sealing and thermal-management products for virtually every major vehicle manufacturer in the on-highway and off-highway markets. Our driveline products - axles, driveshafts and transmissions - are delivered through our Light Vehicle Driveline (Light Vehicle), Commercial Vehicle Driveline Technologies (Commercial Vehicle) and Off-Highway Driveline Technologies (Off-Highway) operating segments. Our fourth global operating segment - Power Technologies - is the center of excellence for the sealing and thermal technologies that span all customers in our on-highway and off-highway markets. We have a diverse customer base and geographic footprint which minimizes our exposure to individual market and segment declines. In 2013, 44% of our sales came from North American operations and 56% from operations throughout the rest of the world. Our sales by operating segment were Light Vehicle - 38%, Commercial Vehicle - 27%, Off-Highway - 20% and Power Technologies - 15%.

Operational and Strategic Initiatives

During the past three years, we have significantly improved our overall financial prospects - improving the overall profitability of our business, increasing cash flows and addressing structural costs. We have also strengthened our leadership team and streamlined our operating segments to focus on our core competencies of driveline technologies, sealing systems and thermal management. As a result, we believe that we are well-positioned to place increasing focus on profitable growth and shareholder returns.

Shareholder returns - Our strong financial position enabled us to provide returns to our common shareholders in the form of cash dividends and the reduction in the number of common share equivalents outstanding. We declared and paid four quarterly common stock dividends of five cents per share in both 2013 and 2012. During 2013, we redeemed our Series A preferred stock, the equivalent of 21 million common shares on an as converted basis, for $474 and we repurchased 17 million common shares for $337.

Technology leadership - With a clear focus on market based value drivers, global mega trends and customer sustainability objectives and requirements, we are driving innovation to create differentiated value for our customers, moving from a "product push" to a "market pull" product pipeline. We are committed to making investments and diversifying our product offerings to strengthen our competitive position in our core driveline, sealing and thermal technologies, creating value for our customers through improved fuel efficiency, emission control, electric and hybrid electric solutions, durability and cost of ownership, software integration and systems solutions. Our September 2012 strategic alliance with Fallbrook Technologies Inc. (Fallbrook) provides us the opportunity to leverage leading edge continuously variable planetary (CVP) technology into the development of advanced drivetrain and transmission solutions for customers in our end markets.

Additional engineering and operational investment is being channeled into reinvigorating our product portfolio and capitalizing on technology advancement opportunities. In 2011, we combined the North American engineering centers of our Light Vehicle and Commercial Vehicle segments, allowing us the opportunity to better share technologies among these businesses. New engineering facilities in India and China are now on line, more than doubling our engineering presence in the Asia Pacific region with state-of-the-art development and test capabilities that globally support each of our businesses. In December 2013, we announced the opening of a new technology center in Cedar Park, Texas to support our VariGlide™ CVP technology alliance development initiatives.

Geographic expansion - While growth opportunities are present in each region of the world, we have a primary focus on building our presence and local capability in the Asia Pacific region, especially India and China. In addition to new engineering facilities in India and China, a new hypoid gear manufacturing facility in India began production in 2011 and, in 2013, we commenced construction of a new gear manufacturing operation in Thailand that is scheduled to be operational in 2014. We also completed two transactions in 2011 - increasing the ownership interest in our China-based joint venture with Dongfeng Motor Co., Ltd. (Dongfeng) to 50% and acquiring the axle drive head and final assembly business from our Axles India Limited (AIL) joint venture - which significantly increased our commercial vehicle driveline presence in the region. We have expanded our China off-highway activities and we believe there is considerable opportunity for growth in this market. In 2012, we opened a business development office in Moscow, Russia to focus on expanding our business opportunities in this region and, in 2013, we expanded our distribution and aftermarket capabilities supporting this market. In South America, our strategic


agreement with SIFCO S.A. (SIFCO), entered in February 2011, makes us the leading full driveline supplier in the South American commercial vehicle market.

Aftermarket opportunities - We have a global group dedicated to identifying and developing aftermarket growth opportunities that leverage the capabilities within our existing businesses - targeting increased future aftermarket sales.

Selective acquisitions - Our current acquisition focus is to identify "bolt-on" acquisition opportunities like the SIFCO and AIL transactions that have a strategic fit with our existing businesses, particularly opportunities that support our growth initiatives and enhance the value proposition of our customer product offerings. Any potential acquisition will be evaluated in the same manner we currently consider customer program opportunities - with a disciplined financial approach designed to ensure profitable growth.

Cost management - Although we have taken significant strides to improve our profitability and margins, particularly through streamlining and rationalizing our manufacturing activities and administrative support processes, we believe additional opportunities remain to further our financial performance. We have ramped up our material cost efforts to ensure that we are rationalizing our supply base and obtaining appropriate competitive pricing. With a continued emphasis on process improvements and productivity throughout the organization, we expect cost reductions to continue contributing to future margin improvement.

Acquisitions

Fallbrook - In September 2012, we entered into a strategic alliance with Fallbrook. In connection with this transaction, we obtained an exclusive license to Fallbrook's CVP technology, allowing Dana to engineer, produce and sell driveline products using this technology for passenger and certain off-highway vehicles in the end markets Dana serves. As part of this alliance, Fallbrook will also provide Dana with development and other support through an engineering services agreement and several Fallbrook engineers have been hired by Dana. Under the exclusive license agreement, Dana paid Fallbrook $20 for the markets licensed to Dana; $7 was paid at closing, $5 was paid during the fourth quarter of 2012 and $8 was paid during the first half of 2013.

Dana Rexroth Transmission Systems - In October 2011, we formed a 50/50 joint venture with Bosch Rexroth to develop and manufacture advanced powersplit drive transmissions for the off-highway market. We contributed $8 to the venture in 2011 and are accounting for our investment under the equity method.

Dongfeng Dana Axle - In June 2011, we paid $124 to increase our equity investment in Dongfeng Dana Axle Co., Ltd. (DDAC) from 4% to 50%. Our investment in DDAC is being accounted for on the equity method. DDAC is the primary supplier of truck axles to Dongfeng. DDAC offers a complete range of truck axles in the Chinese market, including drive, steer, tandem, and hub-reduction axles for light-, medium- and heavy-duty trucks, as well as buses.

Axles India - In June 2011, we acquired the axle drive head and final assembly business of our AIL equity affiliate for $13.

SIFCO - In February 2011, we entered into an agreement with SIFCO, a leading producer of steer axles and forged components in South America. In return for a payment of $150 to SIFCO, we acquired the distribution rights to SIFCO's commercial vehicle steer axle systems as well as an exclusive long-term supply agreement for key driveline components. Additionally, SIFCO has provided selected assets and assistance to Dana to establish assembly capabilities for these systems. We are responsible for all customer relationships, including marketing, sales, engineering and assembly. The addition of truck and bus steer axles to our product offering in South America effectively positions us as the leading full-line supplier of commercial vehicle drivelines - including front and rear axles, driveshafts and suspension systems - in South America.

Divestitures

Divestiture of Leisure and All-Terrain Business - We completed the divestiture of our axle, differential and brake systems business serving the leisure, all-terrain and utility vehicle markets in August 2012. The total proceeds received of $8 approximated the net assets of the business following an asset impairment charge of $2 recorded in the first quarter of 2012. Sales of the divested business approximated $53 in 2011 and $32 in 2012 through the date of the divestiture.

Divestiture of GETRAG Entities - On September 30, 2011, we completed the divestitures of our 49% equity interest in GETRAG Corporation and our 42% equity interest in GETRAG Dana Holding GmbH for $136.


Divestiture of Structural Products business - In 2010, we completed the sale of substantially all of the assets of our Structural Products business to Metalsa S.A. de C.V. (Metalsa). We had received cash proceeds of $134 by the end of 2011 and $10 remains receivable as we work to resolve the claims presented by Metalsa. The Structural Products business that we retained generated sales of $48 in 2011 and $34 in 2012 through the August cessation date. Prior to the third quarter of 2012, Structural Products was reported as an operating segment of continuing operations. With the cessation of operations in the third quarter of 2012, the activities relating to the Structural Products operation are now reported as discontinued operations.

Segments

We manage our operations globally through four operating segments. Our Light Vehicle and Power Technologies segments primarily support light vehicle original equipment manufacturers (OEMs) with products for light trucks, SUVs, CUVs, vans and passenger cars. The Commercial Vehicle segment supports the OEMs of on-highway commercial vehicles (primarily trucks and buses), while our Off-Highway segment supports OEMs of off-highway vehicles (primarily wheeled vehicles used in construction, mining and agricultural applications).

Trends in Our Markets

Global Vehicle and Engine Production

                                                                 Actual
(Units in thousands)            Dana 2014 Outlook       2013      2012      2011
North America
Light Truck (Full Frame)         3,550     to 3,650     3,623     3,464     3,181
Light Vehicle Engines           14,700     to 15,100   14,348    13,805    11,699
Medium Truck (Classes 5-7)         200     to 210         201       188       165
Heavy Truck (Class 8)              260     to 270         245       279       255
Agricultural Equipment              75     to 80           75        75        69
Construction/Mining Equipment      150     to 155         157       163       149
Europe (including E. Europe)
Light Truck                      6,900     to 7,100     7,071     6,905     6,939
Light Vehicle Engines           21,000     to 22,000   20,817    20,426    20,715
Medium/Heavy Truck                 380     to 390         400       400       430
Agricultural Equipment             240     to 250         244       255       240
Construction/Mining Equipment      310     to 320         298       322       320
South America
Light Truck                      1,300     to 1,400     1,273     1,219     1,172
Light Vehicle Engines            3,800     to 4,000     3,696     3,644     3,739
Medium/Heavy Truck                 200     to 210         221       172       219
Agricultural Equipment              55     to 60           54        48        47
Construction/Mining Equipment       18     to 22           20        19        19
Asia-Pacific
Light Truck                     20,000     to 21,000   19,994    18,672    16,509
Light Vehicle Engines           45,500     to 46,100   44,577    42,857    39,693
Medium/Heavy Truck               1,500     to 1,600     1,503     1,492     1,720
Agricultural Equipment             800     to 850         788       750       682
Construction/Mining Equipment      550     to 570         555       614       615

North America

Light vehicle markets - Improving economic conditions during the past three years have contributed to increased light vehicle sales and production levels in North America. Release of built-up demand to replace older vehicles and greater availability of credit have also stimulated new vehicle sales. Production of approximately 14.3 million light vehicle engines in 2013 was 4% higher than 2012 production of 13.8 million engines, which was up about 18% from production of 11.7 million units in 2011. The higher production in 2013 occurred predominantly in the light truck segment, whereas production growth in 2012 was strongest in passenger cars. In the full frame light truck segment where more of our programs are focused, production was up about 5% in 2013 after increasing 9% in 2012. The higher production levels are generally reflective of higher light vehicle unit


sales which were about 8% higher in 2013 than in 2012 after expanding about 14% in the prior year. Sales increases in the full frame light truck segment were 8% in 2013 and 5% in 2012. Days' supply of total light vehicles in the U.S. at the end of December 2013 was around 64 days, up slightly from 58 days at the end of 2012 and 51 days at the end of 2011. In the full frame light truck segment, inventory levels increased to 67 days at the end of 2013, as compared to 65 days at the end of 2012 and 56 days at the end of 2011.

Looking ahead to 2014, we expect that the North American markets will be relatively stable, with more modest increases in light vehicle sales and production. An improved financing environment and housing sector along with more stable fuel prices are positive developments. But unemployment levels continue to be relatively high and political tensions among the U.S. government bodies pose an element of continued uncertainty about economic growth prospects in 2014. Our current outlook for 2014 light vehicle engine production is 14.7 to 15.1 million units, a 2 to 5% increase over 2013, with full frame light truck production expected to be about the same as in 2013.

Medium/heavy vehicle markets - As with the light vehicle market, medium duty Classes 5-7 truck production increased over the past three years, but with the rate of production growth slowing in 2013. After production increased more than 40% in 2011 and 14% in 2012, production of about 201,000 units in 2013 slowed to an increase of 7% from the 188,000 units produced in 2012. In the Class 8 segment, after production increases of more than 60% in 2011 and 9% in 2012, production of about 245,000 units in 2013 declined 12% from a build of 279,000 units in 2012. Class 8 order levels were rather sluggish during the second half of 2013 as truck buyers were cautious about the overall strength of the economy and opted to hold off on replacing existing vehicles. Orders near the end of the year improved some, but as mentioned above there continues to be some uncertainty surrounding economic prospects in 2014.

With the mixed outlook surrounding the North America economy, we currently expect 2014 Class 8 production to be in the range of 260,000 to 270,000 units, which represents a 6 to 10% increase over 2013. We expect medium-duty Classes 5-7 production for 2014 to range from 200,000 to 210,000 units, which is flat to up 4% compared with 2013.

Markets Outside of North America

Light vehicle markets - European production levels the past few years have been adversely impacted by overall economic weakness brought on in part by sovereign debt concerns, high unemployment levels, governmental austerity actions in many countries and other economic factors. The region began seeing some economic stability take hold in 2013. After being down about 1% in 2012, European production of light vehicle engines and light trucks increased 2% in 2013. We expect the current economic stability to persist in 2014 with light truck production flat to up slightly and light engine production flat to up 6% from 2013. After increasing the previous two years, South American production levels weakened in 2012, with light vehicle engine production down about 3% and light truck production up 4% from 2011. Light vehicle engine production rebounded in 2013 to be up 1% over 2012 while light truck production increased another 4% from 2012. At present, we expect full year 2014 light vehicle engine production to increase 3 to 8% over 2013, with light truck production being up in the range of 2 to 10%. Production of light vehicle engines and light trucks in the Asia Pacific region were up 8% and 13% in 2012 after rebounding from production levels in 2011 that were adversely impacted by the effects of natural disasters in Japan and Thailand. Production levels improved further in 2013, with light vehicle engines up 4% and light trucks up 7% from 2012. We expect production levels in 2014 to remain solid, coming in flat to up 5% from 2013.

Medium/heavy vehicle markets - Some of the same factors referenced above that affected light vehicle markets outside of North America similarly affected the medium/heavy markets. The challenging economic environment in Europe was a primary driver of a 7% decline in medium/heavy truck production in 2012 after a more than 30% increase in 2011. With the improving market environment this past year, medium/heavy truck production in 2013 remained about the same as in 2012. We currently expect a modest decline in production levels in 2014. South American medium/heavy truck production levels were down more than 20% in 2012 due largely to overall economic weakness in the region and a pull-back in purchases caused by engine emissions changes in Brazil. With the Brazil emissions effects behind us and some improvement in economic conditions, production in 2013 was up about 28% from 2012. Our South American outlook for 2014 has medium/heavy truck production coming in about 5 to 10% lower than in 2013. Asia Pacific medium/heavy truck production in 2012 was adversely impacted by slower growth in China, coming in more than 13% lower than 2011 levels. This reduced level of production in 2012 followed a production decline of about 5% in 2011 as a consequence of the natural disasters which disrupted production that year. Pent up demand for trucks after two years of restrained production, along with some economic strengthening, contributed to increased production in 2013 of about 1%, and we expect 2014 production to be flat to up 6% from 2013.

Off-Highway Markets - Our off-highway business has a large presence outside of North America, with about 75% of its sales coming from Europe and about 12% from South America and Asia Pacific combined. We serve several segments of the diverse off-highway market, including construction, agriculture, mining and material handling. Our largest markets are the construction


and agricultural equipment segments, both of which experienced increased demand in 2011 and 2012. While the agriculture market remained fairly stable in 2013, the construction/mining segment experienced considerable weakness with global production down about 8%. Our 2014 production outlook for both the agriculture and construction/mining segments is flat to up modestly when compared with 2013.

Commodity Costs

The cost of our products may be significantly impacted by changes in raw material commodity prices, the most important to us being those of various grades of steel, aluminum, copper and brass. The effects of changes in commodity prices are reflected directly in our purchases of commodities and indirectly through our purchases of products such as castings, forgings, bearings and component parts that include commodities. Most of our major customer agreements have provisions which allow us to pass the effects of significant commodity price changes through to those customers. Where such formal agreements are not present, we have historically been successful implementing price adjustments that largely compensate for the inflationary impact of material costs. Material cost changes will customarily have some impact on our financial results as contractual recoveries and inflation-based pricing adjustments typically lag the cost increases.

Higher commodity prices increased our costs by approximately $20 in 2013, $50 in 2012 and $100 in 2011, while material recovery and other pricing actions increased sales by about $30 in 2013, $110 in 2012 and $60 in 2011.

Sales, Earnings and Cash Flow Outlook

                     2014
                    Outlook         2013       2012       2011
Sales           $6,800 - $6,900   $ 6,769    $ 7,224    $ 7,544
Adjusted EBITDA   $760 - $770     $   745    $   781    $   765
Free Cash Flow    $275 - $295     $   368    $   175    $   174

Adjusted EBITDA and Free Cash Flow are non-GAAP financial measures. See the Non-GAAP Financial Measures discussion below for definitions of our non-GAAP financial measures and reconciliations to the most directly comparable GAAP measures.

Sales in 2011 increased significantly from 2010 as market volumes bounced back from a relatively weak period of economic conditions globally. Certain acquisitions also contributed to our 2011 sales growth. During the past two years, however, we experienced uneven end user markets, with some being relatively strong and others somewhat weak, and the conditions across the regions of the world differing quite dramatically. Considering our served end markets and regional economies, on balance, the effect of market volumes on our sales has been relatively stable. Weaker international currencies relative to the U.S. dollar during the past two years were the most significant factor reducing our reported sales, while scheduled light vehicle program roll-offs also contributed to the decrease. For 2014, we expect market volumes in most of our end user markets and regions to be stable or up sightly with some currency related headwinds expected, principally in South America.

Throughout the past three years, we placed significant focus on right sizing and rationalizing our manufacturing operations, implementing other cost reduction initiatives and ensuring that customer programs were competitively priced. In combination with an improved and relatively stable global economic environment, these efforts were the primary drivers of our improved Adjusted EBITDA margin as a percent of sales. We expect to see continued benefits from increased volumes and cost and pricing actions in 2014 which will provide the basis for improved profitability.

Our cash flow in recent years benefited primarily from increased earnings and lower capital spending, more than offsetting higher working capital requirements associated with increased sale volumes, higher tax obligations and larger pension funding commitments. Free cash flow in 2012 was impacted by a $150 voluntary contribution to our U.S. pension plans. In 2013, free cash flow benefited, in part, from a strong focus on inventory reduction and other working capital efficiencies during the latter part of the year. We also benefited from the receipt of $28 of interest relating to a callable payment-in-kind note receivable. With our relatively stable sales outlook, we expect another strong year of free cash generation in 2014. With the back half of 2014 expected to be stronger than 2013, we expect higher sales will require some increased working capital. Our outlook of $275 to $295 includes expected capital spend of $210 to $230 which is up slightly from 2013. Cash taxes of about $130 and restructuring expenditures of about $40 are similar to 2013 levels. With the additional debt we added in the second half of 2013, net interest will consume cash of around $70 in 2014. Net interest in 2014 includes $40 of interest received in January 2014 from the sale of a callable payment-in-kind note receivable, which compares with $28 received in 2013 from prepayment


proceeds on this note. Pension contributions are expected to be lower in 2014 at around $25 as we don't expect to make additional contributions to our U.S. plans in 2014 based on their present funding levels.

While improving our overall profitability and strengthening our financial position the past three years, we also began putting increased focus and investment into product technology and directing increased attention to the growth initiatives described in the Operational and Strategic Initiatives section above to position us for profitable future growth. Partly attributable to some of these new technologies, we have net new business that has been awarded through the end of 2013 that is expected to increase sales by $560 during 2014 through 2016, with most of that coming in the last two years. The higher returns associated with this new business are expected to help drive increased future Adjusted EBITDA margins.

Consolidated Results of Operations

Summary Consolidated Results of Operations (2013 versus 2012)

                                              2013                       2012
                                                     % of                       % of       Increase/
                                      Dollars     Net Sales      Dollars     Net Sales     (Decrease)
Net sales                            $  6,769                  $   7,224                  $     (455 )
Cost of sales                           5,849         86.4 %       6,250         86.5 %         (401 )
Gross margin                              920         13.6 %         974         13.5 %          (54 )
Selling, general and administrative
expenses                                  410          6.1 %         424          5.9 %          (14 )
Amortization of intangibles                74                         74                           -
Restructuring charges, net                 24                         47                         (23 )
Other income, net                          55                         19                          36
Income from continuing operations
before
interest expense and income taxes         467                        448                          19
Interest expense                           99                         84                          15
Income from continuing operations
before
income taxes                              368                        364                           4
Income tax expense                        119                         51                          68
Equity in earnings of affiliates           12                          2                          10
. . .
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