Linamar’s (LIMAF) CEO Linda Hasenfratz on Q3 2017 Results – Earnings Call Transcript

by admin on November 12, 2017

Linamar Corporation (OTCPK:LIMAF) Q3 2017 Earnings Conference Call November 7, 2017 5:00 PM ET

Executives

Linda Hasenfratz – Chief Executive Officer

Roger Fulton – Executive Vice President, Human Resources, General Counsel and Corporate Secretary

Dale Schneider – Chief Financial Officer

Jim Jarrell – President and Chief Operating Officer

Analysts

Mark Neville – Scotiabank

Peter Sklar – BMO Capital Markets

David Tyerman – Cormark Security, Inc.

Matthew Paige – Gabelli & Company

Michael Glen – Macquarie

Todd Coupland – CIBC

Operator

Good afternoon. My name is Kristi, and I will be your conference operator today. At this time, I would like to welcome everyone to the Linamar Q3 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. [Operator Instructions]

Thank you. I would now like to turn the call over to Linda Hasenfratz. You may begin.

Linda Hasenfratz

Thank you. Good afternoon, everyone, and welcome to our third quarter conference call. Joining me this afternoon are members of my executive team; Jim Jarrell; Mark Stoddart; Roger Fulton; Dale Schneider; as well as various members of our finance, legal and corporate development teams.

Before I begin, our General Counsel, Roger Fulton, will make a brief statement regarding forward-looking statements provided on this call. Roger?

Roger Fulton

Thank you, Linda. Certain information regarding Linamar discussed in this teleconference, including management’s assessment of the company’s future plans and operations, may constitute forward-looking statements. This information is based on current expectations that are subject to significant risks and uncertainties that are difficult to predict.

Actual results may differ materially from those anticipated in the forward-looking statements due to factors such as customer demand and timing of buying decisions, product mix, competitive products and pricing pressure. In addition, uncertainties and difficulties in domestic and foreign financial markets and economies could adversely affect demand from customers. These factors as well as general economic and political conditions may, in turn, have a material adverse effect on the company’s financial results. The company assumes no obligation to update the forward-looking statements or to update the reasons why actual results could differ from those reflected in the forward-looking statements.

Linda?

Linda Hasenfratz

Thanks, Roger. I’ll start off with sales, earnings and content. Sales for the quarter were $1.55 billion, up 6.5% from last year, which is fantastic to see, particularly given market declines in North American light vehicles.

Vehicle markets for the three regions we serve were up 1.4%, but the North American light vehicle market was down 7.7%. The access market was up slightly over last year, but again Skyjack outperformed global unit growth with double-digit revenue growth on continued market share growth. Our growth is illustrative of the power of a significant backlog of launching business to offset softer markets.

Earnings saw another strong level of performance in Q3. Adjusted net earnings increased 9.2% compared to last year. The adjustments we made this quarter require some additional explanation. In short, Q3 2016 had the benefit of a few very positive adjustments to earnings, while, conversely, Q3 2017 suffered from a few very negative adjustments. I will list them for you.

First of all, last year we had a $3.1 million gain in balance sheet adjustments, whereas this year we saw a $10.1 million loss, for a difference of $13.2 million at the OE level. Balance sheet FX adjustments below the OE level relates to the valuation of debt, which was a $2 million gain last year and a $1.8 million loss this year.

Q3 this year, we saw a negative impact to our tax rate due to the impact of a future tax rate reduction on deferred tax assets, which represented another $1.1 million at the net earnings level. Q3 last year, we saw a net recovery related to the premature ending of some customer contracts, which of course did not repeat this year.

Lastly, with some pretty big swings in FX this quarter, we are also experiencing a more significant impact from transactional and translational exchange, which again was a hit this year in comparison to the exchange rates we were at last year. Typically, we see this impact mainly in the Industrial segment, with Powertrain/Driveline at least partially offsetting the Industrial impact. But we did not see that this year on the Powertrain side, partially due to the launch of some new contracts denominated in U.S. dollars replacing programs that were denominated in Canadian dollars. The impact of these last two items together represented a $14.5 million swing in OE last year to this year.

I know your first question is going to be, how much was the impact last year and how much this year? Unfortunately, I’m unable to provide you that detail. We signed NDA agreements with the customers involved in the discussions last year which prevent us from disclosing any detail around those discussions. You will have to make your own determination of what to deduct from last year’s results and what to add back to this year’s of this overall $14.5 million swing.

All I can tell you is both impacts were significant. Over all, if you normalize both quarters and tax effect the swings, the difference in net earnings represents a 9.2% increase in adjusted net earnings, as I already mentioned.

Another key impact this quarter of course was the decline in North American vehicle markets of 7.7%, which obviously impacted mature business programs. Although the decline in sales on these mature programs was offset by sales on new programs launching, clearly, programs in launch will not enjoy the same profitability of a mature program; meaning, the earnings decline was not fully offset.

On the positive side, the market impact is expected to moderate in the fourth quarter, to a drop of 2.6% in North America. These impacts affected the growth in both segments, as well. Adjusted earnings growth in the Industrial segment was 13.3%, on sales growth of 14.1%; and in the Powertrain segment, 0.7% growth on sales up 5.1% due to mature program declines, as discussed.

With a somewhat improved market outlook in North America for Q4, we do still expect to see adjusted net earnings growth for the year in the high-single-digit or low-double-digit range. 2018 will see double-digit earnings growth. We expect to see strong full-year net margin performance for 2017 and 2018 once again in the range of 8% to 8.5%.

Investing in our future continues to be a priority for us at Linamar. CapEx in the quarter was $114.9 million, or 7.4% of sales, continuing to trend up, as expected. We’re expecting 2017 CapEx as a percent of sales to be higher than last year, clearly, but not quite into our normal 8% to 10% range. Next year, we do expect to be back in that range of 8% to 10%, but likely at the lower end.

Our strong earnings, spending discipline and focus on reducing working capital allowed us to continue to reduce net debt levels, by another $52 million, to maintain net debt to EBITDA at 0.92 times. This represents a cumulative reduction in net debt of $445 million since our acquisition of Montupet at the end of the first quarter last year.

In North America, content per vehicle for the quarter reached $158.28, up 6.9% to last year, thanks to launching business mostly offsetting a 7.7% decline in production levels. Q3 automotive sales in North America, as a result, were relatively flat over last year, at $662 million. This is a great example of the importance of launching business to offset market cycles, a strategy Linamar has long employed.

In Europe, content per vehicle for the quarter was $72.18, a new record, up 6.4% over last year, thanks mainly to a positive mix in the region and a market that was up 5.5%. Our Q3 2017 automotive sales in Europe, therefore, grew 12.2% versus last year, reaching $361 million.

In Asia Pacific, content per vehicle for the quarter was $10.41, up 23.2% from last year. Our Q3 2017 automotive sales in Asia Pacific were up 27.5% versus last year, reaching $124 million in a market that was up 3.5% in production volume. Linamar continues to target doubling our current footprints in Asia in the next five years.

We were very pleased with the continued content per vehicle growth in every global region, as content per vehicle is an important driver of Linamar’s overall growth. Our expanding content per vehicle reflects our increasing market share thanks to large amounts of launching business. These launches are proving to be a key factor and differentiator for Linamar in times of softer vehicle production levels.

Other automotive sales not captured in these content calculations were $56 million, down a little from what we saw for the same quarter last year. Non-automotive sales were up 13.6% in the quarter, at $346 million, versus $305 million last year, thanks mainly to growth at Skyjack and also some growth in our off-road vehicle business.

Turning to the market outlook, we’re seeing an outlook of growth or moderate growth this year in most of our markets, except North American light vehicle, where we do see a decline, and flat to moderate growth is expected in 2018 pretty much across the board.

For the global light vehicle business, the forecast is for a decline in light vehicle volumes this year, to 17.3 million vehicles in North America; moderate growth in Europe, to 22.3 million; and quite modest growth in Asia, to 49.7 million. Next year is expected to be flat in all regions globally, with growth of 0.2% to 1.5% depending on the region.

Industry experts are predicting on-highway medium/heavy truck volumes to grow this year in both North America and Asia, which are predicted to be up 8% and 12%, respectively, and more moderate growth in Europe of 4%. Next year will see continued growth in North America, at about 12%; more moderate growth in Europe, of about 3%; but a decline in Asia. Off-highway medium and heavy duty volumes continue to be soft but are starting to show some signs of improvements, as we saw this quarter.

Turning to the access market, we saw growth again this quarter, with global volumes up slightly, as noted. Outlook in the industry for 2017 is an expectation for growth of 5% to 10% in the global aerial work platform market, driven by growth in all product groups and all regions. 2018 should see continued market momentum, but more muted, with growth of up to 3% forecast.

We continue to see positive industry metrics, with significant infrastructure spending planned for the next couple of years in every region and an ARA forecast of 3% to 5% rental revenue growth for the rental business.

Skyjack’s backlog remains substantially higher than it was last year at this time, which is a good sign, as well. It’s our goal to continue to outperform the market through market share growth, as we have so successfully done in the last several quarters.

Turning to new business, we continue to see solid levels of new business wins and a strong book of business being quoted. We are on track for another record year of new business wins in 2017.

Q3 was another very strong quarter for us, with quite a few notable strategic wins. We’re seeing more outsourcing of components and systems that in the past were exclusively done in-house, such as fully machined transmission cases, fully machined cylinder heads and blocks and more complex subsystems. Our customers today need to invest in a wide variety of areas in today’s rapidly evolving automotive industry, including different propulsion systems, autonomy and mobility, more broadly, which seems to be triggering an acceleration of powertrain outsourcing, which is very exciting.

Internal combustion engine vehicles remain an exciting area of opportunity for us thanks to this higher level of outsourcing, which is more than making up for the forecast of absolute numbers to decline for ICE vehicles over the next 25 years. In fact, we see our addressable market in these vehicles increasing from about $100 billion today to nearly $200 billion by 2030.

Equally exciting, of course, are all the new types of propulsion vehicles currently in the planning stages. All of hybrid, battery/electric and fuel cell vehicles hold enormous potential for us. We’re currently quoting substantial opportunities for these vehicles and of course winning business, as well. In fact, year-to-date business wins for electrified vehicles is 20% of our overall wins, compared to a market share of these vehicles today of only 3.9% but forecast to grow to 14% by 2020. In other words, we are punching way above our weight when it comes to content wins in electrified vehicles.

We are also notably seeing a big increase in business wins outside North America. In fact, year-to-date business wins outside North America represent 54% of overall wins this year. This makes sense, as of course 80% of the world’s automotive industry is outside North America, but great strategically for us given our heavier concentration to date on the North American market.

Global vehicle growth is forecast to continue to grow at a compound annual growth rate of 1.8% over the next 25 years, according to the latest estimates by Bloomberg. Changing dynamics and new technologies are having various impacts, some driving demand up, others driving demand down, but the drivers for growth are expected to exceed the drivers for contraction.

This continues to paint a picture of great opportunity in this market in a variety of areas which Linamar continues to capitalize on. We have 200 programs in launch at Linamar, representing nearly $4.7 billion of annual sales at peak. We moved $150 million of launch business to production this quarter but had a great quarter in new business wins.

Look for ramping volumes on launching transmission, engine and driveline platforms to reach 20% to 30% of mature levels this year; meaning, programs currently in launch will add another $450 million to $500 million to sales this year. Programs that have moved to production from launch this year thus far are adding another approximately $170 million in incremental sales growth this year, for total business launched in 2017 of between $600 million to $650 million. These programs launch quite steeply next year, growing another 80% to 90%, for total launches of between $900 million and $1 billion in 2018. In addition, as noted, Skyjack is targeting to drive above-market growth this year again, in markets up 5% to 10%.

Temper that growth with the loss of business that naturally ends each year, noting to expect such at the low end of our normal range of 5% to 10% this year and the higher end in 2018, as well as normal productivity give-backs each year, which are typically around $60 million or $70 million a year.

Our strong backlog of launching business will do a great job of driving growth for us in the high-single-digit range, or better, this year and next, despite flat or down markets. New business wins are of course also filling in growth for us in the midterm, as well. Our current estimate is for $7.75 billion to $8.25 billion in booked business for 2021, based on current industry volume forecasts layered with new business wins and adjusting for business leaving.

I’d like to highlight a couple of our more interesting wins this quarter. First, we won a program for a case and fully machined cylinder block. This win is important for a few reasons. First, it is significant in terms of sales value, as there is significant content in a fully machined block.

Secondly, it is a realization of the great partnership of Linamar and GF Automotive, as our JV will produce the casting, while the machining will be done at our nearby facility in North Carolina. The casting win will now fill Phase I capacity for the foundry.

Finally, it is strategically important, as fully machined blocks are very rarely outsourced. It is only in the last 12 to 18 months that we’ve seen this type of program put out to bid by our customers. Linamar is uniquely positioned globally to win fully machined blocks and, for that matter, head programs as we have deep expertise around such, something only a very small number of suppliers can boast. Startup production for this business is 2020 for more than 200,000 per year at peak volumes.

Along the same lines, we also won in the quarter a fully machined cylinder head assembly program, this one in Europe. Again, the program is meaningful in annual sales, given the heavy content in a fully machined head; meaningful and strategic value for a fully machined product which also includes low-level assembly of seats, valves and guides; and another product for which we have very little competition globally.

Startup production is in 2019 for more than 250,000 units per year at peak volume. This win takes our wins in Europe to more than $300 million in annualized sales at peak this year-to-date.

Next, we picked up another hybrid vehicle job, this one in Asia, for a differential assembly, 100,000 per year at peak. SOP is 2019. We continue to build important content on hybrid and electric vehicles and have several more programs we are bidding on, as well. This also adds to the backlog in Asia where we have already this year won more than $100 million in annualized new business due to start over the next several years.

Finally, we also picked up another substantial connecting rod program, at 6.8 million rods per year at peak. This takes our year-to-date wins for connecting rods to more that $50 million in annualized sales.

Turning to a strategic update, we continue to proceed extremely well with our new plant developments in North Carolina and Chongqing. In fact, we held the grand opening for our GF-Linamar JV in North Carolina just last month to a fantastic turnout of customers looking for large light-metal casting component capacity. I think the fact that we have filled our Phase I capacity already is evidence of the market need for this capacity. Our customers were impressed by our state-of-the-art facility which looks amazing. So I have no doubt we will see continued growth there.

We also continue to work towards developing our strategies around the long-term markets we target, such as food and agriculture, water, power and age management, even as we continue to build our transportation and infrastructure businesses. Our key strategies for the transportation market are to continue to increase our content per vehicle potential in electrified vehicles as these products climb in volume, while at the same time mining an opportunistic internal combustion engine market as it declines in volume but increases in addressable market. Our key strategies in the access market are to continue to globalize the business and expand our product lineup in all regions.

Finally, with respect to diversifying to new markets, the new markets mentioned, we are prioritizing the agriculture/food market as our first step in that regards and scanning the world for interesting acquisition opportunities in this increasingly technically sophisticated market.

Additionally, Skyjack opens a new customer access center. It looks great and is the perfect place to bring customers to celebrate Skyjack’s long history and showcase new technologies.

Turning to an innovation update, we have lots of activity happening in all our global centers. Our innovation team continues to work with partners, bringing us interesting technology opportunities to enhance Linamar’s product offering in the material development and product innovation areas. These are great opportunities to explore new markets, as well.

We are finalizing designs for our new innovation hub in Guelph to incubate interesting innovation ideas to challenge existing markets and technologies, with construction due to start soon on the reimagining of our very first plant out in Ariss. We have a team working hard on several initiatives in the artificial intelligence and machine learning areas, as well.

We are also a lead partner in a super cluster proposal for advanced manufacturing, which was recently shortlisted for the final competition that combines the power of our technology sector with the strength of a manufacturing sector here in southwest Ontario. There’s a huge amount of opportunity in these technologies to dramatically improve efficiencies of our operations, both on the shop floor and in the back office, as well. In other areas of operations, our plants continue to perform well, both on mature business metrics and in terms of launch.

Finally, I want to spend a few minutes with you reviewing the outlook with regards to NAFTA and the potential impact on us at Linamar as that seems to be a very popular topic these days. First, although the NAFTA discussions have as of the last round become more contentious, the issues really boil down to four key areas of disagreement; first, rules of origin for the auto industry; second, the proposed sunset clause to bring us back to the table every five years; third, dispute resolution; and fourth, to some extent, government procurement.

I personally believe there’s an opportunity to come to resolution on each of these issues if all parties want that to happen. The most pertinent area to us, of course, is the first issue. The Americans have put on the table an increase of North American content per vehicle to 85%, from the current 62.5%, and a new concept of 50% U.S. content. General consensus opinion is there is no chance that country-specific content will be agreed to by Canada or Mexico. So there is no sense in evaluating that scenario.

Would some modest increased level of North America content be agreed to? Some believe this may happen, but that it is unlikely to be 85%. Perhaps a more modest increase would make sense, and even that is not clear if all parties would agree to, given their current positions.

But how would that affect us? Well it depends on the amount, of course, and whether it might force us to reshore any components we might be buying overseas. But, frankly, the percent of our auto sector purchases currently from outside of North America are only 7%; 93% of what we buy is North American content, mostly from the U.S. If anything, there’s a chance we could win some new work if our customers have an issue with meeting new content requirements and need to reshore something that we could do for them.

But what if the three countries can’t come to an agreement on these issues and NAFTA is dissolved? If NAFTA disappears, it’s most logical to assume that we would assume WTO most-favored-nation duties, which are in the range of 2% to 2.5%. It is not logical to assume some highly punitive tariff level being imposed, as that would contravene WTO rules, and I have to assume that the U.S. would at very least want to remain part of WTO. So 2% to 2.5% duties are the most likely outcome of that scenario.

I’ll remind you that we give cost reductions to our customers every single year of 1% to 2%, which we’ve successfully worked hard to offset through continuous improvement and cost savings. Can we find a way to cost save away another 1% or 2%? Can we pass on to our customers anything we can’t cost save away? What about our government? Perhaps with an extra 2% or 3% in their pockets from duties imposed, they would have the cash flow to reduce corporate taxes to offset this cost. What about exchange rates? Would the Canadian dollar weaken to offset this cost?

The bottom line is, one way or another, we would deal with the 2%. No one is going to spend billions of dollars shifting work to different countries for 2%. The key, as always, is having great technology with products our customers want, which is now and always will be our strategy.

The most likely result is the extra cost that OEMs are forced to absorb from a whole variety of suppliers will be passed on to the consumer. Nothing will change on the manufacturing footprints, and the consumer will suffer, with no compensating upside of new jobs. The effect on individual companies is unlikely to be material, but the effect on the economy as a whole could be significant.

America has much more to lose than they will ever gain to take that road. That of course is why it is completely illogical to ever impose new trade barriers, but I digress into a political discussion that’s perhaps best to avoid.

So with that, I will pass it over to our CFO, Dale, to lead us through a more in-depth financial review.

Dale Schneider

Thank you, Linda, and good afternoon, everyone.

As Linda noted, Q3 was a solid quarter, with sales growing by 6.5%, and net earnings before non-recurring items and FX impacts grew by 9.2% in an environment where the North American vehicle market was down 7.7%.

For the quarter, sales were $1.55 billion, up $94.2 million from $1.46 billion in Q3 2016. As Linda mentioned, we had four significant items in the quarter that are impacting the results. To recap, these significant items are; firstly, the changes in the FX rates had a significant impact on the balance sheet revaluations but also on the transactional and translational impacts on sales and expenses; secondly, we did have a non-recurring net recovery last year related to the premature ending of some customer contracts; and finally, there was a future tax rate reduction that required the related future tax assets to be revalued. The change caused by these significant items represents a 9.2% increase in net earnings and a 9.4% increase in adjusted EPS.

Operating earnings for the quarter were $141.9 million. This compares to $163.9 million in Q3 2016, a decrease of $22 million, or 13.4%. Like net earnings, operating earnings growth was suppressed by three of the significant items that I just recapped. OE net of these items grew by 3.7% over last year.

Net earnings decreased $14.9 million from the same quarter last year, to $107.3 million. Net earnings before non-recurring items and FX impacts increased by 9.2%, though. As a result, net earnings per share on a fully diluted basis decreased $0.24, or 12.9%, to $1.62. After backing out the significant items, fully diluted EPS would have increased 9.4%.

Included in net earnings for the quarter was a foreign exchange loss of $11.9 million, which was comprised of a $10.1 million loss from the revaluation of operating balances and a $1.8 million loss due to the revaluation of financing balances. The FX loss impacted the quarter’s EPS by $0.14. From a business segment perspective, the Q3 loss due to the revaluation of operating balances of $10.1 million was the result of a $5.9 million loss in Powertrain/Driveline and a $4.2 million loss in Industrial.

Further looking at the segments, sales for Powertrain/Driveline increased $62 million, or 5.1%, over Q3 last year, to reach $1.29 billion. The increase in the third quarter was driven by the additional sales from launching programs in Europe, Asia and North America; increased volumes on our light vehicle automotive customers in Europe and on select programs in North America; and additional sales from our on- and off-highway vehicle customers; which was partly offset by the lower volumes from the significant declines in the North American light vehicle market, which was down 7.7%, and the unfavorable changes in foreign exchange rates.

Q3 operating earnings for Powertrain/Driveline were lower by $16.1 million, or 13%, over last year. In the quarter, Powertrain/Driveline earnings were impacted by the net production volume increases that I just described, which was more than offset by the non-recurring net recovery from Q3 related to premature ending of customer contracts; the unfavorable foreign exchange impact from the revaluation of the operating balances; the foreign exchange impact from unfavorable changes in foreign exchange rates; the unfavorable product mix that resulted in North American automotive decline’s impact on higher-margin mature programs incompletely offsetting the lower-margin programs in early stages of launch. And finally, we did have increased management and sales costs supporting our ongoing growth. If you adjust out the significant items we’ve discussed, the segment’s earnings grew by 0.7%.

Turning to the Industrial, sales increased by 14.1%, or $32.2 million, to reach $260.3 million in Q3. The sales increase was due to strong market share gains and increased volumes for booms in all three of our sales regions; strong market share gains and increase in volumes for telehandlers; and market share gains in scissors in Asia; offset partially by unfavorable changes in foreign exchange rates.

Industrial operating earnings in Q3 decreased $5.9 million, or 14.9%, over last year. The primary drivers of the Industrial operating earnings results were the net increase in volumes, offset by unfavorable changes in exchange rate from the revaluation of the operating balances; lower margins as a result of changes in customer and product mix favoring new products with lower margins; an unfavorable foreign exchange impact from the changes in foreign exchange rates; and the increased management and sales costs supporting the growth. If you back out the significant items we’ve discussed, and adjusted segment earnings would have grown by 13.3%.

Returning to the overall Linamar results, the company’s gross margin percent decreased to 14.9% in Q3 2017. Gross margin decreased by $3.6 million due to the increased earnings as a result of the increased volumes in both segments, but being offset by the unfavorable changes in – unfavorable foreign exchange impacts on the changes in foreign exchange rates; the non-recurring net recovery in Q3 2016 related to the premature ending of customer contracts; the unfavorable product mix in Powertrain/Driveline that resulted from the North America market decline; and an unfavorable customer and product mix in Industrial.

Cost of goods sold amortization expense for Q3 decreased to $79.4 million. COGS amortization as a percent of sales decreased to 5.1%, as compared to 5.8% in Q3 2016. On a dollar basis, amortization decreased over last year, as available equipment was redeployed to launching programs to reduce the amount of capital that was required.

Selling, general and administration costs increased to $79.4 million, from $73.7 million in Q3 2016, and remained flat as a percent of sales, at 5.1%. The increase on a dollar basis is mainly due to the higher management and sales costs that were incurred in the quarter that are supporting the ongoing growth.

Finance expenses decreased by $4.4 million from Q3 2016 to $800,000, due to higher interest earned on our excess cash and long-term receivable balances; repayment of the private placement debt that was replaced with short-term floating debt at lower borrowing rates; the lower interest rates on our credit facility as a result of the deleveraging that has occurred since Q3 2016; and the repayment of short-term floating debt.

The consolidated effective interest rate for Q3 decreased slightly, to 1.9%, compared to 2.1% in the same period last year, as a result of the higher interest earned and the repayment of the private placement notes.

The effective tax rate for the third quarter was 23.1%, compared to 22.4% in the same quarter last year. The effective tax rate in Q3 2017 was a result of the increase caused by the future tax rate reduction that required the related future tax asset to be revalued. We are expecting the effective tax rate for 2017 to be in the range of 22% to 24%.

Linamar’s cash position was $524.9 million on September 30, an increase of $62.8 million compared to September of 2016. Third quarter generated $194.2 million in cash from operating activities and, in the last 12 months, generated $442.8 million in free cash flow.

Net debt has declined by $274 million since September 2016. Debt to capitalization decreased to 33.7%, from 41.3% in Q3 2016, and remains below our target of 35%. Net debt to EBITDA decreased to 0.92 times in Q3, down from 1.16 times reported in Q3 last year, and remains under our target of 1 time. The amount of available credit on our credit facilities was $518.7 million at the end of the quarter.

To recap, Linamar had a solid quarter, with strong sales and adjusted earnings growth. Sales were up 6.5% in an environment where North America vehicle was down 7.7%. The strong sales led to solid adjusted earnings performance before the impacts of non-recurring and FX changes, which resulted in net earnings before these items improving by 9.2% for the quarter.

That concludes my commentary. I’d like to open it up for questions.

Question-and-Answer Session

Operator

[Operator Instructions] First question comes from the line of Mark Neville [Scotiabank].

Mark Neville

Hey, good afternoon.

Linda Hasenfratz

Hi.

Mark Neville

Just, first, Linda, I appreciate the NAFTA comments. I guess first question, there was a number of adjustments this quarter. So I got the $10.1 million for the balance sheet items, $1.8 million for finance balances. But it sounds like there’s a few other items and I didn’t quite catch all those. So if you can just again maybe recap those?

Linda Hasenfratz

Sure. No problem. What I’m going to do is give you the difference to last year, which is what is driving the gross figure that we’re talking about. So balance sheet exchange delta was $13.2 million at the OE level. So we had a loss this year and a gain last year. So the total difference was $13.2 million.

Customer – we have the customer issue last year, which was a gain, and we had some transactional FX issue this year, which was a loss. And the combination of those two items, in aggregate, was $14.5 million, again at the OE level.

We had another balance sheet impact of debt revaluation, which was a change of $3.8 million. So again it was a gain last year and a loss this year, and the total difference is $3.8 million. We had the tax impact this year – and that $3.8 million, by the way, is at the pretax level. Then we had a change in tax regarding future tax rates around deferred tax assets, which was a hit of $1.1 million, and that was at the net earnings line. So when you take all of that into consideration, it adds up to an adjusted net earnings growth of 9.2%.

Mark Neville

Okay. And Linda, I think you mentioned, I’m just trying again to square away some of these numbers, the 3.7% growth in operating earnings, I think this quarter if you exclude the impacts. So is that sort of guiding to $170 million of operating income this quarter adjusted for all these items? Or again, is that sort of some give and take from last year?

Dale Schneider

Well that’s looking at normalizing both quarters for the four items that Linda just mentioned. So if you adjust out both of those quarters for the ups and down, you get the 3.7% growth.

Mark Neville

Okay. Okay. And again, we don’t know what last year’s impacts were. Okay.

Linda Hasenfratz

You just need to make a decision for the $14.5 million how much was the gain last year related to those contracts that ended and how much was the FX impact this year.

Dale Schneider

But as Linda noted before, both of those impacts were significant.

Mark Neville

Okay. But the FX translation again, that’s again – I guess, I mean that’s a question of whether we want to adjust for that, if it’s just movements in exchange rates and the impacts on earnings, right? It’s not necessarily –

Linda Hasenfratz

What I said though, but it is a significant impact. And it is a factor in the comparison to last year. So in our opinion it is something that we consider because exchange rates can change all over the place. And as we try to look at our earnings in a kind of clean number, that is outside of the FX so that we can understand the underlying operating performance. So that’s how we look at it.

Mark Neville

Okay. Just on the M&A, you mentioned ag. I’m just curious to sort of how close something there could be, maybe what you would be looking at? Just maybe additional color? I think it’s the first time you’re calling out a specific first target, if that’s the right word.

Linda Hasenfratz

Yes, we’ve been talking for some time about expanding our business into new markets, which we feel are key for the future, and agriculture is one of those markets that we’ve been talking about. It’s a market we already know, of course, to some extent thanks to our Hungarian business in corn heads and other agriculture accessories. And we just feel like it’s an area where technology is fast evolving to better utilize assets, create more precision farming with less waste, and we think the market is quite attractive and has a lot of opportunity for growth. So we’d like to further expand into it.

For any of these new markets, an acquisition is really the sensible strategy for a newer market, as it significantly reduces basically the time to develop and launch your own product and establish what are pretty complex distribution networks. So really those are the key advantages to doing something from an acquisition perspective compared to a greenfields perspective.

So we’re looking at all kinds of opportunities. We look at many things around the globe. So there’s a lot of interesting opportunities out there, and we wanted to just continue to highlight that to our investors.

Mark Neville

Okay. And maybe just one last one before I get back in queue, just on the axle. There was a big win last quarter. I think more recently you’ve been talking about some other opportunities in the pipeline. I’m just curious if you can update on those where they stand, if there’s still opportunities.

Dale Schneider

Sure. Yes, we continue to be quoting on several large packages, similar in size to the one that we had won. No sourcing decisions have been as yet, but we see something fairly soon.

Mark Neville

Okay. Thank you very much.

Operator

Next question comes from the line of Peter Sklar [BMO Capital Markets].

Peter Sklar

Thanks. Just to confirm, Linda, the $14.5 million you’re talking about, which is the combination of the customer issue and certain foreign exchange issues, are the foreign exchange issues translation and transaction impacts for the quarter?

Linda Hasenfratz

Yes, that’s correct. So they’re separate to the balance sheet impacts that are the $13.2 million difference that I described.

Peter Sklar

Okay. And then I think earlier in your comments when you talked about the debt revaluation on your financing balances, the foreign exchange revaluation, that’s the $1.8 million this year. Is that correct?

Dale Schneider

That’s correct.

Peter Sklar

Okay. And then I just have one last question. So with all these issues swirling around the industry now with NAFTA as well as the new tax proposal that came out last week, are you seeing that that is affecting your behavior in any way or, more importantly, is it affecting your customers’ behavior in any way in terms of how it’s allocating business? Or is it slowing down in terms of allocations, waiting to see how things unfold? Is there any practical impact at this point?

Linda Hasenfratz

We have seen no impact, no changes in our customer behavior, no changes in terms of business that we are being awarded.

Jim Jarrell

In fact, I think we’re seeing an uptick in quotes and things like that that has a lot more sourcing opportunities here at this point in time. So we’re not seeing anything, as Linda stated, around big things to the U.S. or things like that.

Dale Schneider

Peter, as Linda talked about, and Jim, we’re seeing a lot heavier quoting activity and a lot more value added. And again, just mainly due to the reasons regards to the whole electrification of the vehicle, the autonomous vehicle, the investments that the car company is making in ride sharing and ride hailing. And they’ve got to find the cash to fund this, and one of the ways seems to be is outsource or increase the content that they’re outsourcing. Even on uplifts and things like that, Mark and Peter, we’re seeing that coming to here. Nobody is asking us on uplift to take something to the U.S. or different locales. So we’re not seeing anything.

Peter Sklar

So no one has said to you we’d prefer you to spend your capital in the U.S. on this program?

Dale Schneider

No, not at all.

Peter Sklar

Okay, thank you.

Operator

The next question comes from the line of David Tyerman [Cormark Security, Inc.].

David Tyerman

Yes, good evening. The first question, I just wanted to clarify on the $13.2 million that you mentioned, Linda, and then the $10.1 million loss that you mentioned also on the FX balance sheet revaluation, what’s the difference between the two?

Linda Hasenfratz

The difference between this year and last year on the balance sheet is $13.2 million. So this year there was a loss and last year there was a gain. And the difference between the two is what I’m talking about it.

David Tyerman

Okay. Fair enough. So just when I look at the differences, if I adjust out the changes in the balance sheet revaluations on the segment results and do a margin on them, so they’re down a fair bit, if I’ve got it right, about a 1.5% in Powertrain/Drivetrain and maybe around a little less than 5% in Industrial. Is the Powertrain/Drivetrain pretty much this effect of you’ve got less of the mature programs with the big margins and a lot higher proportion of the new programs that haven’t yet ramped up to those levels? Is that what’s basically driving that? And so as the volumes return to a more normal kind of split, you should go back to the old levels?

Linda Hasenfratz

First of all, your math isn’t quite right on the change in Powertrain earnings. So Powertrain earnings are up 0.7%. So you mentioned a number of a decline. If I adjust out everything that I talked about, we actually have a – it’s flat to slightly improved. The reason that it is not more improved on the 5% sales growth is the reason that you mentioned, that we had launching programs that offset the sales of mature programs that were down with the market being down, but don’t have the profitability yet to offset the profit. And then, similarly, Industrial segment adjusted growth is 13.3%. So they were up pretty nicely.

David Tyerman

But the margins were down quite a bit, were they not adjusted?

Linda Hasenfratz

Adjusted margins are actually fairly similar year-over-year if you adjust out all of those pieces.

David Tyerman

Okay. I’ll have to go back and check the numbers. They look different to me. But anyway. Okay. That’s all for me. Thanks.

Operator

The next question comes from the line of Matthew Paige [Gabelli & Company].

Matthew Paige

Yes, good afternoon. I guess one question from me. As you pay your debt down so quickly, maybe now is a good time for you to walk through your capital allocation priorities, moving forward.

Linda Hasenfratz

So we obviously prioritize growth for free cash flow. So we’re putting it towards new programs. We’re potentially new acquisitions and investments in innovation. Any excess cash after that, we would look at other ways we can return value to shareholders, such as dividends or share repurchase.

So it’s all done in the context, as well, of future cash requirements based on where we see things going in terms of that growth and the investments that’s required. So it’s something that we look at from a dividend perspective certainly every quarter. We did increase our dividend, if you recall, back in March by about 20% or 25%. So we increased it quite a bit and are continuing to hold steady on that.

Matthew Paige

All right. Well, thanks for time. I’ll pass it on.

Operator

The next question comes from the line of Michael Glen [Macquarie].

Michael Glen

Hi, good evening. Just to clarify again on the adjustments, the $14.5 million number that you talked about, that was a gain that was embedded in last year at the OE level?

Linda Hasenfratz

No. The $14.5 million is a combination of a gain last year and a loss this year. So a gain last year on these few customer contracts that ended and a loss this year from transactional and translational FX in comparison to what the exchange rate was last year. So it’s helping to explain the difference between last year and this year. I didn’t provide you a split between the two because I signed NDA agreements with the customers around which those gains were realized last year. So I can’t disclose it specifically.

Michael Glen

Okay. And I guess that gain would have been in the Powertrain/Driveline? That’s safe to assume?

Linda Hasenfratz

Yes.

Michael Glen

Okay. And then is there a way to provide for us – because just predicting the margins is obviously challenging, but is there a way to think about what should be a normalized type margin in the Powertrain/Driveline segment?

Linda Hasenfratz

Yes. We do normally suggest an 8% to 10% margin level on the Powertrain side and a 14% – 12% to 16% on the Industrial. We’ve been running at the high end of that on both sides, but those are the kind of ranges that we normally talk about.

Michael Glen

Okay. And then just one in terms of you talked about the some of the vertical integration on the forging and casting activity. Can you talk about the advantages that you gain as a company by adding that capability to your business?

Jim Jarrell

I think the best way of looking at it is one-stop shopping to the customers. So you get logistics gains on the costs, you get design control on the full product line from base material, forging, casting through machining, advanced machining and assembly. So you really control the full value chain and you control the full cost of that product and the full design control of that product line.

Michael Glen

And does that, as you become more vertically integrated, does that have an impact on our margins, over all?

Jim Jarrell

Yes. I think you can control the costs more yourself. So you can control the margin more yourself.

Michael Glen

Okay. Is there – like is it a positive impact or would it create a drag on the margin?

Jim Jarrell

I would say it’s a positive impact to have control over the full value chain.

Michael Glen

Okay, thanks. That’s all my questions.

Linda Hasenfratz

Thank you.

Operator

The next question comes from the line of Todd Coupland [CIBC].

Todd Coupland

Good evening, everyone. Linda, thanks for the color on NAFTA. I’m just wondering, I get your point on 2% WTO being a low number. How does that look with parts going back and forth across the border multiple times before they’re finished? Does that – do you think over time that ever changes where the plant should be decision if that’s the new world we’re living in?

Linda Hasenfratz

I don’t think it changes where the plant should be, because those costs back and forth are the ones that I was talking about, that the OEMs are going to end up having a little bit of cost here, a little bit of cost there, a little bit of cost there. So for the individual companies it’s not really a material impact, but to the OEMs it’s going to be a bigger number. And that’s why you’re going to see consumer prices increase, because they’re not going to be able to absorb that. So they’ll drop it to the consumer in terms of increased pricing.

So that’s why I feel like the impact to individual companies will be minimal, but the impact to the economy could be significant. So I think that’s a real issue. We don’t want to see vehicle volumes decline. And if prices go up, then that’s what happens.

Todd Coupland

And then just one follow-up. So it seems like with midterms in the U.S., this is going to be a noisy issue, probably through most of 2018, before you actually can get down to even close to discussing what a real deal looks like. So we just sort of have to breathe as we work through this. Is that the way you’re thinking about this?

Linda Hasenfratz

I think the good news is, as we’ve just talked about, it is not affecting behavior. People are sourcing us business. We’re still quoting lots of business. We’re winning lots of business. We’re launching. We’re investing. And everybody is continuing on as we have been. So that’s the good news; it’s not affecting behavior that we’ve seen any indication of. So if it continues on, then that’s unfortunate, but at least it’s not a shadow hanging over us from an actual business perspective.

Todd Coupland

And then I don’t really get the math on all these items, but I’ll leave it for an offline discussion. But from an overall perspective, operating earnings and EPS, were they, ex these items, were they up 3% or 9%?

Linda Hasenfratz

Yes. So operating earnings were up 3.7% and EPS was up 9.4%.

Todd Coupland

Okay. Thanks very much.

Operator

Final question from David Tyerman [Cormark Security, Inc.].

David Tyerman

Yes. I just want to come back to the numbers, because I just recalc’d them again. So when I look at the numbers back in 2011, the segmented line, the operating earnings for Powertrain/Drivetrain, you’ve got $108.2 million. You had an FX reval of $5.9 million. So you add the two together, you get $114 million on $1.29 billion in revenue. So it’s 8.8% margin. The year before, the equivalent numbers were 10.1%. So it seems to me that they’re down. Am I missing something there?

Linda Hasenfratz

Yes, you are missing something, because the 10.1% was a reported margin last year, not an adjusted margin.

David Tyerman

I thought they’re adjusted. Or is there something else in there other than the balance sheet that you’re suggesting?

Linda Hasenfratz

You’ve got to take out the balance sheet impact and the customer program. You’ve got to take both of those things out. And when you take both of those things out of last year and you take both balance sheet and transactional FX out of this year, the margins are a little bit down, but not much. But they are a little bit down because, as noted, mature business leaving, launching business offsetting with not as much earnings. So obviously there’s going to be some margin impact, but it’s actually not that dissimilar. And on the Industrial side, it’s actually even closer. The margins are almost exactly the same when you adjust out from both years all those factors.

David Tyerman

Sorry. Linda, when you say margins, are you referring to percentage margins or operating income?

Linda Hasenfratz

I’m referring to operating income divided by sales. So the percentage margin.

David Tyerman

Okay. So there’s actually – there’s three factors here you’re talking about then; transaction – maybe I guess four. Transaction, translation, this charge – the benefit you had last year, and then you actually have the balance sheet stuff, too. Is that correct?

Linda Hasenfratz

Right. That’s right.

David Tyerman

Okay. I have no idea how to analyze this. It’s too complicated to really understand where we are in an absolute level and then be able to try and model off that, going forward. I understand the difference in the year-over-years that you gave us. That’s fine. But we need to model going forward on an absolute basis, and this isn’t very helpful from that standpoint, because I don’t know next quarter what I should be considering when I look at revenues and at margins, percent margins.

Linda Hasenfratz

I think that you have everything you need to be able to do that, with the exception of the split between on the $14.5 million. So if you make an estimation on what that might have been in a gain last year and a loss this year and apply that to the segments, you will have all the data you need to be able to see what the normalized number is.

David Tyerman

Except for we don’t have any idea what that split is.

Linda Hasenfratz

You need to make an estimate.

David Tyerman

How can we make an estimation? How do we do that?

Linda Hasenfratz

I’m telling you both were significant. So I’m hoping that that’s helpful. And I wish I could be more helpful to you, David, but I signed an NDA that I wouldn’t disclose. So I can’t do it. I’d love to, but I can’t.

So you’re going to need to make an estimation around that. And I know this isn’t the best way to look at the quarter and, believe me, we struggled with this one. But we decided it was better to at least give you this information to help you understand what was happening this year compared to last year than to not tell you anything and have you interpret the quarter in a much different way than what has really transpired.

David Tyerman

Okay. Final question then. When you say high-single-digit off of 2016 for this year on EPS growth, can you give us any insight, rough idea, of what the level last year was that you’re working off in that assumption?

Linda Hasenfratz

Well, I’m working off of an adjusted number, which obviously does take into consideration the factors that I’ve been talking about. So I’m talking about – the high-single-digit is on the top line, first of all. And I did talk about adjusted in the high-single-digit or low-double-digit level.

Secondly, for you to be able to – I honestly believe, David, if you’d just take a minute to think about how that $14.5 might split and then just pop that into your model, it’s all going to be clear. You’ve got all the pieces you need.

David Tyerman

Okay. I’ll have a look. Thank you.

Linda Hasenfratz

Thanks.

Operator

There are no audio questions at this time.

Linda Hasenfratz

Okay. Well, to conclude this evening, I’d like to leave you with three key messages, as usual. First, we’re very proud to have driven another quarter of strong adjusted earnings growth of 9.2% in soft markets. Second, we’re very excited about the level of new business wins we are both quoting and winning. We’re winning strategically key products and significantly deepening our foothold in strategically important areas such as electrified vehicles and our business outside of North America. And finally, despite heavy launches and investment required for such, we are operationally solid and still generating free cash flow to further strengthen our already stellar financial position.

So thanks very much, everyone, and have a great evening.

Operator

This concludes today’s conference call. You may all now disconnect.

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