Oshkosh - Q4 2015
October 29, 2015
Transcript
Operator (participant)
Greetings, and welcome to the Oshkosh Corporation Fiscal 2015 Fourth Quarter and Full Year Results Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please push star zero on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Pat Davidson, VP of Investor Relations for Oshkosh Corporation. Thank you, sir. You may begin.
Patrick Davidson (Senior VP of Investor Relations)
Thanks, Adam. Good morning, everybody, and thanks for joining us. Earlier today, we published our fourth quarter 2015 results. A copy of the release is available on our website at oshkoshcorporation.com. Today's call is being webcast and is accompanied by a slide presentation, which includes a reconciliation of non-GAAP to GAAP financial measures that we will use during this call, and it's also available on our website. The audio replay and slide presentation will be available on our website for approximately 12 months. Please refer now to slide two of that presentation. Our remarks that follow, including answers to your questions, include statements that we believe to be forward-looking statements within the meaning of the Private Securities Litigation Reform Act. These forward-looking statements are subject to risks that could cause actual results to be materially different from those expressed or implied by such forward-looking statements.
These risks include, among others, matters that we have described in our Form 8-K, filed with the SEC this morning, and other filings we make with the SEC. We disclaim any obligation to update these forward-looking statements, which may not be updated until our next quarterly earnings conference call, if at all. All references on this call to a quarter or a year are to our fiscal quarter or a fiscal year, unless otherwise stated. Our presenters today include Charlie Szews, Chief Executive Officer, Wilson Jones, President and Chief Operating Officer, and Dave Sagehorn, Executive Vice President and Chief Financial Officer. Please turn to slide three, and I'll turn it over to you, Charlie.
Charles L. Szews (Outside Director)
Thank you, Pat, and good morning to Oshkosh shareholders, customers, and employees. With the announcement of my retirement, effective December 31st, this is my last earnings call since I initiated them about 19 years ago, and we were less than 10% of our current size. I will cover three topics before turning the call over to Wilson and Dave, starting with a discussion of our fourth quarter and full year results, and then make comments on the positive long-term outlook for Oshkosh. Today, we announced adjusted full-year earnings per share of $3.02, in line with our revised EPS estimate range for 2015. These results exclude workforce reduction charges of $0.03 per share in the fourth quarter, relating to right-sizing staffing in connection with the mid-cycle dip in Access Equipment demand that we discussed in our third quarter earnings call.
We exceeded our expectations in each of our Defense, Fire & Emergency, and Commercial segments, evidencing the positive view we have for each of these businesses. Access equipment sales met our revised expectations, but its operating income was a disappointment. In the Access, sales mix accounted for nearly half the shortfall versus our expectations. A write-down of used equipment to reflect declining market values in the quarter, as well as higher-than-planned operating expenses and new product development spending, also contributed to the shortfall to previous expectations. We reduced our Access Equipment segment fourth quarter production schedule by more than 15% compared to the prior year quarter, and plan to reduce production in the first half of 2016 by nearly 1/3 compared to 2015, to align inventories to our current outlook for demand. We are not using price as a lever to reduce inventory.
Lower production, of course, will impact our fixed cost absorption and operating income margins in the segment during the first half of 2016. We expect margins to recover from there. We expect this action will also contribute to strong free cash flow in 2016. The Defense segment earnings recovery commenced in the fourth quarter, as we expected, with the restart of FHTV production and the sale of a small quantity of international M-ATV. Importantly, we executed a contract for 273 M-ATVs in August and expect to secure another contract in our first quarter for more than 1,000 M-ATVs, a majority of which we expect to sell in 2016. Wilson just returned from a trip to the Middle East, and he will have more to say about these important contracts and the increasing number of opportunities we are pursuing globally.
Of course, the award of the Joint Light Tactical Vehicle, or JLTV, contract to Oshkosh in August was a historic win for the company. The Oshkosh JLTV provides a leap forward in tactical wheeled vehicle capability for our brave men and women in uniform, and we are honored to serve them once again. We fully expect the contract award to Oshkosh to be upheld following the GAO's review of a competitor's protest. The JLTV award provides a strong, long-term growth catalyst for Oshkosh, and we are ready to successfully execute the contract. As industrials fell out of favor recently in the equity markets, Oshkosh repurchased 2.9 million shares for $112 million in the fourth quarter, as well as increased our share repurchase authorization by 10 million shares. We expect to continue repurchases in 2016, supported by strong expected free cash flow.
Please turn to slide four. While we performed well against our September 2012 Analyst Day targets for EPS in 2013, 2014, we fell short of our original estimates for 2015. The sharp downturn in U.S. defense spending over the last three years, coupled with the unexpected timing of the mid-cycle dip in Access Equipment demand beginning in our third quarter of 2015, were too much to overcome. Despite these challenges, we increased adjusted earnings per share by a 10% compound annual growth rate from 2012 to 2015.
In 2015, we did set a strong foundation for our Defense business with a JLTV award and made important progress in our pursuit of international defense sales, and we sustained margin improvement in our Fire & Emergency and Commercial segments in 2015. Overall, our MOVE strategy continued to deliver margin enhancement. We also sustained smart capital allocation by repurchasing 4.9 million shares, or 6.1% of our outstanding shares in 2015. And today, we announced a 12% dividend increase, effective in November 2015, consistent with our goal of increasing the dividend across the economic cycle. So while we didn't perform up to our original expectations for 2015, it was a good year, and we, we believe we set a solid foundation for sustainable growth.
Today, we also announced an EPS estimate range of $3-$3.40 for 2016. This range is a little lower than implied by remarks during our third quarter earnings call. In light of soft order patterns for Access Equipment and rear discharge concrete mixers over the last quarter. We expect sales of these products will start slow in 2016 and pick up steam as the 2016 construction season starts up. We expect strong performance in our Defense segment in 2016, with much higher international M-ATV sales in the second half of the year to lift earnings per share above 2015 adjusted final results.
Our EPS estimate range reflects a more cautious view of the North American Access Equipment market than some other industry participants, but the difference could be that our estimates relate to our fiscal year, 2016, rather than calendar year, 2016. Certainly, the market could be better if construction trends are sustained. Let's turn to slide five. With my imminent retirement, I would like to ask Oshkosh shareholders, customers, and employees to know that I believe Oshkosh is positioned to perform well for all stakeholders. Yes, there will be challenges, including a soft start to 2016, but overall, I believe Oshkosh has a positive long-term outlook. Oshkosh is an outstanding company with leading brands in all our markets, and these markets have excellent long-term prospects.
Our defense business, which now includes the JLTV and new M-ATV variants, has grown to become a principal partner of the U.S. Army and U.S. Marine Corps and is experiencing increased global demand due to some very difficult conflicts and emerging threats. Penetration of Access Equipment in global markets and sustained construction growth in North America should lead to solid years, years ahead for JLG, the global leader in Access Equipment, despite the mid-cycle dip the business is experiencing today. Our fire, emergency, and commercial segments have solid growth roadmaps. The segments will continue to work together to leverage procurement, technology, and customer synergies, and I fully expect they will remain leaders in their markets. With the evolution of the MOVE Strategy and the Oshkosh Operating System, Oshkosh has created an innovative, continuously improving culture focused on serving and delighting customers.
This should lead to greater levels of customer satisfaction and further margin enhancement. Oshkosh has also become a disciple of the book, The Outsiders, which promotes smart capital allocation. Since 2012, we have repurchased 21% of our shares at advantageous values and consistently raised our dividend. With expected strong free cash flow in the next few years, prudent capital allocation offers the company the opportunity to significantly contribute to shareholder returns. And lastly, Oshkosh has strong leaders to move Oshkosh forward and execute a solid growth roadmap. The entire team across Oshkosh is talented and conducts business with a strong ethical compass. I'm especially confident in Wilson's ability to channel Oshkosh's talent to deliver higher levels of customer satisfaction and shareholder value, and he's supported by my long-term financial partner, Dave Sagehorn, who's proactive in driving strong financial performance.
I believe customers, shareholders, and employees will be pleased with Oshkosh's long-term performance. Wilson, lead Oshkosh forward. Please move to slide six.
Wilson Jones (Director)
Well, thanks, Charlie. On behalf of all the employees of Oshkosh Corporation, I want to thank you for your nearly 20 years of leadership and dedication to Oshkosh Corporation. We wish you well, and we'll work to continue to deliver value for Oshkosh shareholders and customers. I'll start my comments off today with our Defense segment. The biggest news during the quarter was, of course, being awarded the JLTV contract. While there won't be significant revenues from this program in the near term, it's important to note that we expect this program to provide a solid base for our Defense segment well into the next decade. And we expect there will be good demand for our JLTV internationally. Several potential international customers expressed interest in our JLTV at recent trade shows, like Modern Day Marine and AUSA.
International JLTV sales are likely a few years out after we've reached full rate production with the U.S., but we are ready to ramp up at any time to meet customer demand. We expect the GAO to announce its decision on the award protest in December. In the meantime, the defense team isn't standing still. They're preparing to hit the ground running, to execute on the program, and deliver the world's best tactical wheeled vehicle to our soldiers and Marines. At the AUSA trade show, we introduced our new 6x6 M-ATV technology demonstrator. This new variant builds upon the excellent protection and off-road mobility of our battle-proven M-ATVs, while providing greater payload capacity and all-wheel steering for outstanding maneuverability. This vehicle provides great versatility to fill multiple roles, which is critical for modern battlefields.
This latest M-ATV variant, we now have developed nine M-ATV variants that perform a wide range of missions. Having just returned from the Middle East, I can report firsthand that the M-ATV continues to gain interest from our allies. We also conduct further trials in the fourth quarter for potential new customers, and we expect to showcase our capability to integrate communications and other systems into our vehicles with some of these vehicle sale opportunities. Let's turn to slide seven to discuss the Access Equipment segment. As we described during our third quarter earnings call, severe weather in the Northeast, rains across the South, and a pullback in oil and gas construction together appear to have accelerated into 2015, a mid-cycle dip in demand for aerial work platforms and telehandlers. Rental companies have reacted to temporarily lower utilization and rental rates by pulling back on their equipment purchases.
They're also reducing their planned replacement expenditures, which is directly related to low industry purchases during the depths of the Great Recession. Scissor lift demand, however, has actually increased over the last 12 months. We expect Access Equipment demand to remain soft for the next couple of quarters as we enter a seasonally slower period for construction. On a positive note, the softness we are experiencing is partially mitigated by ongoing strength in both residential and non-residential construction. In particular, we expect continued slow growth in housing starts in the United States, and we believe there will be a follow-on, non-residential construction to support the growth in housing. Many of you have heard some of our larger customers talk about this during conferences and quarterly updates. They believe that the next 3-4 years will be strong for non-residential construction.
We agree with them and see that belief backed up by year-over-year improvements in housing starts and other construction metrics. We believe this will contribute to stronger demand for Access Equipment beginning next spring, as seasonal construction activity picks up around the U.S. We haven't yet completed annual negotiations with our large rental company customers, but we now believe it is more likely that our fiscal 2016 sales will be down 10%-15% compared with 2015. This is lower than our initial outlook of down 5%-10%. So what's changed? Our North American customers remain positive about their calendar 2016 outlook for construction equipment rental demand.
Coupled with lower replacement requirements related to low industry purchases in 2009 and 2010, we expect North American Access Equipment purchases for the industry to be down about 5%-10% in calendar 2016. However, we report on a fiscal year basis, and we expect our first quarter demand to be impacted by the current cautious spending conditions we are now experiencing in this seasonally slower construction period. This is leading our fiscal 2016 sales outlook for this segment to be down 10%-15%. Looking outside North America for a minute, we continue to experience solid sales in Europe due to strong replacement demand in parts of that region. We expect sales in Europe to be flat in local currency in 2016, but down in our consolidated results due to currency headwinds.
The Latin American market continued to be slow in the quarter, with weakness in Brazil overshadowing solid conditions in other countries in the region. We're anticipating a weak Latin American market again in 2016. Asia sales were up in the quarter in spite of concerns regarding the Chinese economy, and Australia was relatively stable at levels well off of pre-recession volumes. We believe both the Asia and Australia markets will largely remain steady in 2016. As Charlie mentioned earlier, we have lowered our production rates to match expected lower demand. We also reduced staffing levels. There will be some margin pressure in the near term due to the under absorption of fixed costs as we reduce production and inventory levels in this segment, but it is essential to align our people and operations with demand.
It will take a few quarters to realign inventory levels. This should contribute to strong free cash flow in 2016. Please turn to slide eight for some comments on our Fire & Emergency segment. We ended 2015 in Fire & Emergency on a strong note, with higher revenues, operating income, and operating income margins compared to the prior year quarter, along with substantially increased backlog. The increased backlog reflects share gains in a slowly improving, but still well below average, U.S. fire apparatus market. Positive customer response to recent new product launches, including the Ascendant 107-foot aerial, which was launched earlier this year, have driven the share gains. This is another example of the MOVE strategy at work through application of the V, Value Innovation.
We've also talked extensively over the last few quarters about the changes we are implementing in our fire truck operations. We have delivered improved results and expect to generate stronger performance over the next couple of years as we execute our business improvement roadmap. This includes continuing our efforts to manage vehicle complexity. Please turn to slide nine for some comments on our Commercial segment. In our Commercial segment, solid execution drove strong performance in the fourth quarter that was led by ongoing strength in refuse collection vehicles. As was the trend throughout 2015, the RCV market is going through a period where fleet replacement demand has begun to recover, yet the overall RCV market remains down 5%-10% from normalized levels. In addition, we've gained share over the past year in all major RCV categories.
We expect to continue this momentum in 2016, when we ramp up production of the new Meridian lighter weight front-end loader that debuted earlier this year. Excitement for this high-performing new product is building, and strong orders have required us to expand planned production rates for the Meridian, which is scheduled to begin production in our second quarter. Slowdown in the U.S. concrete mixer market that began in the third quarter, continued in the fourth quarter. The slowdown is similar to what we've described in our Access Equipment segment. While the underlying fundamentals for this market remain positive, notably an improving housing market, rear discharge concrete mixer customers have adopted a cautious approach. One good sign for the business is that our front discharge mixer orders have been very strong in the last two months.
These are longer lead time purchases, and our customers' confidence to order early suggests they believe further growth is ahead. We continue to believe the North American concrete mixer market will perform well in the coming years, especially when you consider that the average concrete mixer fleet age is more than 3.5 years older than it was in 2007, prior to the 2008 downturn. I'll turn it over to Dave now to provide a financial update and our outlook for 2016. Please turn to slide 10.
David Sagehorn (Board Member)
Thanks, Wilson, and good morning, everyone. Consolidated net sales for the fourth quarter were $1.58 billion, a 5.4% decrease from the fourth quarter of 2014. Sales growth in the Defense, Fire & Emergency, and Commercial segments wasn't enough to offset the sales decline in the Access Equipment segment. The increase in Defense segment sales represents the beginning of the recovery from the multi-year sales decline that Charlie noted earlier. The increase in the Fire & Emergency segment sales is a result of a higher production rate, reflecting the slowly improving market and share gain that Pierce has achieved as a result of successful new product launches. Commercial segment sales reflected strong RCV sales growth, largely offset by weaker rear discharge concrete mixer sales as a result of a pause in the recovery of that market.
17.5% Access Equipment segment sales decline was driven by the mid-cycle dip and was concentrated in the North American region. Access equipment sales were also negatively impacted by the strong U.S. dollar. Consolidated adjusted operating income for the fourth quarter was $89.5 million, or 5.7% of sales, compared to adjusted operating income of $116.9 million, or 7% of sales, in the fourth quarter of 2014. Current year quarter results exclude $2.9 million of restructuring costs related to headcount reductions in both the Access Equipment segment and corporate. The Defense, Fire & Emergency, and Commercial segments all posted higher operating income and operating income margins versus the prior year quarter.
However, as with sales, the higher operating income in these segments was not enough to offset the decline in Access Equipment segment operating income. Compared to the prior year quarter, defense operating income and operating income margin reflected the impact of higher sales and overhead absorption, along with lower operating expenses. Fire & Emergency segment results were stronger than the prior year quarter due to higher sales volume and overhead absorption. We're especially pleased with the fourth quarter operating income improvement in this segment. A 9.6% margin in the quarter isn't yet sustainable quarter in and quarter out, due to differences in product mix and the timing of large fleet sales, but it does show that we're on the right track towards attaining a double-digit operating income margin target for this segment.
Commercial segment results were better than the prior year quarter due to higher RCV sales volume and a favorable product mix, offset in part by continued investments in MOVE initiatives. Charlie commented earlier on Access Equipment segment results compared to our previous estimates. Compared to the prior year, lower fourth quarter results for this segment were driven by the lower sales volume and adverse product mix, along with unfavorable absorption associated with the lower production rate and a write-down of used equipment values. Lower incentive compensation expense partially offset the negative earnings impact of the items I just noted. Corporate expenses were $10 million lower than the fourth quarter of 2014, driven by lower IT and stock-based compensation expenses. These were partially offset by costs to support the startup of a shared production facility.
Additional information related to segment fourth quarter financial performance can be found in the appendix to this morning's slide deck. Adjusted earnings per share for the quarter was $0.67, compared to adjusted earnings per share of $0.96 in the fourth quarter of 2014. Lower earnings were a result of significantly lower sales in the typically higher margin Access Equipment segment, partially offset by improved results in the other segments. A higher tax rate in the current year as a result of the positive settlement of an income tax audit in the prior year quarter, negatively impacted earnings per share compared to the prior year by $0.10. The current year quarter benefited by $0.04 per share from a lower share count as a result of our share repurchase activity over the past year, including the fourth quarter share repurchases Charlie mentioned.
Adjusted results in the quarter excluded restructuring costs of $0.03 per share. Adjusted results in the prior year quarter excluded pension curtailment and pension settlement charges of $0.03 per share. Full year adjusted earnings per share was $3.02, down from adjusted earnings per share of $3.62 in 2014. The decrease in full-year earnings per share was driven by lower operating income in both the Defense and Access Equipment segments. Lower Defense segment results were expected, while Access Equipment segments results were negatively impacted by the mid-cycle dip that started in the third quarter. Important to note that both Fire & Emergency and Commercial segments delivered higher operating income and operating income margins compared to the prior year, evidencing continued progress on their journey to attain double-digit operating income margins.
2015 full-year results benefited $0.22 per share as a result of share repurchases. We concluded the year with cash usage of just under $50 million, significantly better than the $150 million usage estimate that we discussed on our third quarter call, largely as a result of slowing down inventory purchases at the Access Equipment segment. Please turn to slide 11 for a review of our expectations for 2016. We are announcing a $3-$3.40 earnings per share estimate range for 2016, representing an approximately flat to 12.6% increase compared to 2015.
At a consolidated level, we're estimating that sales will be up a low to mid single-digit percentage, with an approxmate $600 million increase in Defense segment sales, which assumes receipt of the large international M-ATV order that Charlie talked about. This increase, along with expected continued sales increases in both the Fire & Emergency and Commercial segments, is expected to offset a 10%-15% sales decline in the Access Equipment segment, driven by the continuation of the mid-cycle dip in this market. Importantly, as discussed, we believe the construction activity in the U.S. will continue to improve in 2016, which will help support our customers with exposure to construction markets, both residential and non-residential. We're expecting consolidated operating income margins of approximately 6.5% to 6.75% in 2016.
With the expected significant increase in sales and stronger product mix, we're expecting operating income margins in the Defense segment to rebound to approximately 8.75%. We also expect continued higher operating income and operating income margins in the Fire & Emergency and Commercial segments. We believe operating income margins in the Access Equipment segment will decline to approximately 10.5%, with the major drivers of the decline being lower sales and the additional negative impact on absorption from underproducing to demand to drive lower inventory levels over the course of the year. Partially offsetting these items are targeted cost reduction actions, and we expect the corporate expenses will increase to approximately $145 million-$150 million, reflecting the reinstatement of a target level bonus and, to a lesser extent, support for the startup of a shared production facility.
We are estimating that our effective tax rate in 2016 will be approximately 34%, an increase from 31% in 2015, as we expect lower earnings outside the U.S., generally as a result of the impact of the strong U.S. dollar. We're also assuming a full-year average share count of 75 million, which reflects the impact of 2015 share repurchases, as well as the impact of share repurchases expected in 2016. Finally, we estimate that our free cash flow for 2016 will be approximately $350 million, including an assumption of $100 million of capital expenditures.
The strong free cash flow estimate is driven by a planned reduction in working capital, highlighted by a targeted significant inventory reduction in the Access Equipment segment, offset in part by an expected working capital build of several hundred million dollars in the Defense segment to support expected higher international M-ATV sales later in the fiscal year. Between share repurchases and dividends, including the increased quarterly dividend we announced this morning, we expect to return about half of the $350 million of free cash flow to shareholders in 2016. We expect earnings to be weighted to the second half of the year. As both Charlie and Wilson commented, we believe Access Equipment demand will remain soft until the start of the North American construction season next spring.
In addition, we don't expect the Defense segment ramp up in sales and earnings to really take off until the second half of the year. We expect these factors to lead to challenging conditions and slightly profitable results in the first quarter. I'm gonna turn it back over to Charlie now for some closing comments before we open it up for Q&A.
Charles L. Szews (Outside Director)
Thanks, Dave. We are confident in our longer-term outlook as we seek to capitalize on multiple large international defense contract opportunities and as construction picks up next spring. Meanwhile, we'll continue to target margin expansion and prudent capital allocation to augment our performance. I'll turn it back over to Pat to get the Q&A started.
Patrick Davidson (Senior VP of Investor Relations)
Thanks, Charlie. I'd like to remind everybody, please limit your questions to one plus a follow-up, and then after the follow-up, if you have additional questions, please get back in queue, and we'd be happy to answer them. Adam, let's please begin the question and answer period of this phone call.
Operator (participant)
Thank you, ladies and gentlemen. We will now be conducting a question-and-answer session. If you would like to ask a question, please push star one on your telephone keypad now. A confirmation tone will indicate your line is in the question queue. You may push star two if you would like to remove your question from the queue. For any participant using speaker equipment, it may be necessary to pick up your handset before pushing the star key. One moment while we pull for questions. Our first question comes from the line of Mig Dobre with Baird. Please go ahead with your question.
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Good morning, everyone.
Charles L. Szews (Outside Director)
Morning, Mig.
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Maybe a little clarification, if possible, on your first quarter guidance. Quite a bit below, frankly, what I expected. I guess, can you help me understand what it implies in terms of overall revenue? And I'm thinking of Access in particular, because I'm thinking this is where the delta was. Maybe you can comment on revenue there as well as how you're thinking about margin?
Charles L. Szews (Outside Director)
No, this is Mig, this is a seasonally slower quarter. It's always a struggle for us in this quarter, mainly because there are fewer shipping days. In our fire emergency business, for example, it's tough to get firefighters into the plant to pick up trucks, you know, in the last month and a half in the quarter. So it's always a difficult sort of quarter for us. Yes, we have a slow start in Access Equipment. We also have a slow start in Defense. And what you're gonna see is that we have a strong second half of the year, in part because obviously construction season picks up in the second half of the year, and so those businesses would improve. And you know, we're really expecting to sell a lot of M-ATVs in the second half.
Wilson Jones (Director)
I'll just add one thing there, Charlie. A big, we've heard a couple of the large rental customers talk in the last couple of weeks about a probably slower than expected, CapEx, during this quarter. So that adds to, you know, to, to slowing down as for the quarter, too.
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Sure, and I appreciate that, but just to make sure that you kind of get the street to think about the quarter properly, and there's no confusion here, can you maybe be a little more specific?
Charles L. Szews (Outside Director)
Specific with by segment, Mig, or what?
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Exactly. I'm trying to understand what your view of the Access segment is in the first quarter, just based on what you know today, and how we get to your overall guidance.
Charles L. Szews (Outside Director)
Yeah, it's gonna be a light quarter. It, it will be down, you know, versus prior year. Frankly, every segment's a little bit soft in the quarter, right? If you look at our Fire Emergency business, for example, over the long term, you know, it's a tough quarter for us. It's always the weakest margin quarter in the year. It doesn't mean the year is gonna be difficult. We think our Fire Emergency business is gonna be, you know, quite strong next year, given our backlog and everything else, but it's gonna start out light. When you have, you know, all four of your segments starting off light, it gets us to the point where we're, you know, marginally profitable in the first quarter. But we feel very good about the year. I mean, we've got a-
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Got it.
Charles L. Szews (Outside Director)
Backlog in Defense. You know, we are expecting, you know, another large contract imminently, that gives us a lot of confidence in it.
Wilson Jones (Director)
Mig, the-
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
I appreciate that.
Wilson Jones (Director)
The third-
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Oh, I'm sorry. Go ahead.
Wilson Jones (Director)
Traditionally, our strongest quarter, generally from a revenue and certainly from an earnings perspective, and I think the third quarter, you'll see that again.
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
Okay. And then I guess my follow-up still on access. If I look at your bookings, the run rate in the last three quarters, really the quarters that have experienced this malaise, mid-cycle slowdown, whatever you want to call it, but the annualized run rate of bookings would take you at about, call it, $2.7 billion. Your backlog, obviously, is considerably lower. I guess I'm wondering, what assumptions do you have to make in order to get to $2.9 billion of revenue or maybe higher? I'm presuming that you're assuming improvement from current levels. You'd have to, mathematically. At what point in a year do we need to see evidence of that improvement in order for the guidance to be sound, I guess?
Charles L. Szews (Outside Director)
Right. It’s true, the orders are a little bit lower now. This is historically a low order period, except when the market is just gonna take off in the next year. All right? So you have changes in the order cycle by the larger rental companies. I think you’ve heard in some of the recent conference calls that they say that they’re gonna start off their calendar year a little lighter in terms of capital spending. That is what we are expecting. Having said that, there are all the dynamics present for 2016 to be another good year for the rental industry. They should have requirements for increasing fleet requirements that will translate into you know a good order patterns and good years for us ahead.
We are actively engaged with all the national rental companies today in negotiating, you know, volumes for 2016. We expect them to be good years. We do expect, however, because we're in this little transitory period for the industry as a whole, sort of a mid-cycle dip, that we're gonna be a little bit more impacted in our fiscal year basis than somebody that might be on a calendar year basis.
Mircea Dobre (Associate Director of Research and Senior Research Analyst)
All right, thanks. Good luck.
Charles L. Szews (Outside Director)
Yep.
Wilson Jones (Director)
Thanks, Mig.
Operator (participant)
Thank you. Our next question comes from the line of Ted Grace with Susquehanna. Please go ahead with your question.
Ted Grace (EVP and CFO)
Good morning, gentlemen.
Charles L. Szews (Outside Director)
Morning.
Wilson Jones (Director)
Morning.
Ted Grace (EVP and CFO)
I apologize if I missed this, but I was wondering if we could talk about kind of margin dynamics in 2016, for Access Equipment, just how you'd encourage people to think about kind of price-cost balance, given you're in these negotiations, you know, the dynamics of under absorption. It looks like the implied increment, incrementals are that mid-20. Could you just maybe bracket kind of like what you think is the, you know, the bookends of that and, and what the key variables are we should be thinking about, as we think about profitability dynamics in 2016?
Charles L. Szews (Outside Director)
Well, you have a lot of questions there. You know, it's a competitive pricing environment globally. We do expect to be flattish, maybe up a little bit, but maybe down a little bit, but it's a flattish kind of a pricing environment. Certain parts of the world, the pricing environment is better. You know, for us, for example, in Europe. But from that perspective, that's kind of where we see pricing. From a cost standpoint, you know, the biggest factor that we're facing is fixed cost absorption, right? By taking our production levels down as significantly as we can, that's got a significant margin impact. But from a pure material standpoint, you know, we've got you know, positive trends for us from a pure cost standpoint.
From a, you know, innovation standpoint, we have some positive trends as well. But I think it's gonna be muted, and, and that's why you see our annual margin estimate is down for the year by the fixed cost absorption. That's really the story.
David Sagehorn (Board Member)
Yeah.
Ted Grace (EVP and CFO)
Okay.
David Sagehorn (Board Member)
If you think about it, if you start with what you'd consider maybe a standard incremental margin, that, as Charlie mentioned, there is gonna be a significant hit to that from the under absorption as we work to bring the inventories levels back down. And we'll claw that back through various cost reduction actions, probably a little bit of positive impact on the material side as well.
Ted Grace (EVP and CFO)
Okay. I know in the quarter you called out a provision for valuation reserves on used equipment. Could you maybe just touch on that potential dynamic next year and maybe just clarify exactly, you know, what that impact was in the quarter? I apologize if I missed that earlier.
David Sagehorn (Board Member)
Yeah, I mean, just I guess, first off, used equipment is something that, you know, we've been involved in. We take trades and have always taken trades. Just what I think what you've seen in the market, and you probably take a look at, like, the Rouse data or something like that, the used equipment values have come down a little bit. Some of that's just due to timing of when you, you know, take used equipment and when you move it out. But as we went through the quarter here, obviously, we did see a need at the end of the quarter to make an adjustment there. Overall, it ended up being a several million dollar impact on the quarter.
Ted Grace (EVP and CFO)
Okay. That's helpful. We'll get back to you. Best of luck this quarter, guys.
David Sagehorn (Board Member)
Thank you.
Charles L. Szews (Outside Director)
Thanks.
Operator (participant)
Thank you. Our next question comes from the line of Ann Duignan with JPMorgan. Please go ahead with your question.
Michael Conlon (VP and Group Assistant Treasurer)
Hi, good morning. This is Mike Conlon for Ann.
David Sagehorn (Board Member)
Good morning.
Michael Conlon (VP and Group Assistant Treasurer)
Can you just quickly confirm that the big increase in the Defense backlog is all expected to ship within the 12-month period?
David Sagehorn (Board Member)
When you say that, I guess I'll speak in terms of the total backlog.
Michael Conlon (VP and Group Assistant Treasurer)
Great.
David Sagehorn (Board Member)
I think it's around $1.4 billion. It, as we exited September, approximately $1 billion of that was for sales in fiscal 2016.
Michael Conlon (VP and Group Assistant Treasurer)
I guess as part of the Defense outlook, can you touch on when the assumption is, or does the outlook assume that you get that international M-ATV contract in Q1, in fiscal Q1 here? Or is there-
Charles L. Szews (Outside Director)
Correct.
Michael Conlon (VP and Group Assistant Treasurer)
Okay.
Charles L. Szews (Outside Director)
That's correct.
Michael Conlon (VP and Group Assistant Treasurer)
Okay. Thank you.
David Sagehorn (Board Member)
Thanks, Mike.
Operator (participant)
Thank you. Our next question comes from the line of David Raso with Evercore ISI. Please go ahead with your question.
David Raso (Senior Managing Director and Partner)
Hi, good morning. I think it would behove everybody if you can help us with just how back half loaded this guidance is. On access, can you give us some sense of cadence? Are you expecting a quarter this year where access sales are up year-over-year? Are you expecting the last three quarters of the year to have double-digit margin? I'm just trying to make sure we all understand just how back half loaded it is as we do our work and understand how the orders have to progress as we get in the spring to hit these numbers.
Charles L. Szews (Outside Director)
Sure. We're expecting our sales relative to prior year to be down in the first half of the year and to be flattish in the second half of the year in Access Equipment. So that's sort of the cadence there. In our Defense business, it really starts ramping up in our second fiscal quarter relative to prior years. So first quarter is, you know, flattish up a little bit, and then it picks up, you know, substantially in Q2.
David Raso (Senior Managing Director and Partner)
Okay. So basically down, kind of down 25% first half, flat second half. And the margin, and I'm talking just access. And the margin improvement as the year goes on, can you help us a little bit with that split? We're just trying to get a feel. Are we talking mid single-digit access in the first quarter, get to, you know, 10%, 11% in 2Q, and then we get around 12%, 13% in the back half? Just trying to understand, again, how back half loaded they are.
Charles L. Szews (Outside Director)
We're looking at marginal profitability in Q1, and then double digit for the rest of the fiscal year. And it's really fixed cost absorption that's hitting us in the first quarter.
David Sagehorn (Board Member)
With the low volume.
Charles L. Szews (Outside Director)
Right.
David Raso (Senior Managing Director and Partner)
Okay. And lastly on that, the conversations you're having, the confidence in the order book improving that much to get the back half to flat. I mean, obviously, the fourth quarter created an easier comp. I understand. But to get the back half to flat, the drivers—is it a domestic major rental house comment? Is it conversations you're having on maybe Europe? I know you mentioned a quarter ago, the comp's a little bit harder, but at least there's some encouraging trends in Europe. Where is the pressure point on this second half to be flat in the sense of the spring orders that you're hopeful for?
Charles L. Szews (Outside Director)
Well, first of all, you gotta remember, our second half of this year is pretty soft. All right?
David Raso (Senior Managing Director and Partner)
Right, and the comp got easier.
Charles L. Szews (Outside Director)
Yeah, to be flat, you know, isn't a heroic, you know, assumption given that. But it's clear that when we do talk to our customer base across our national rental companies and our IRCs, you know, we're looking at, you know, good vibes for 2016. I mean, I know some people would like to project greater softness than what we're projecting, but I think we're actually on the more conservative end here than some of our competition. Part of it is that I think we're in a fiscal year basis versus a calendar year basis. But, you know, overall, the trends are positive.
You know, certain customers are reluctant to talk, you know, on calls about exactly what they're going to do because, obviously, they have the opportunity to change their mind over time. You know, but what we're hearing for outlook is very much supported in our outlook that we're presenting today. And the overall metrics for, in housing and non-residential spending and the categories of construction that use our equipment are sound. We're also seeing, for example, in our front discharge business, which is somewhat correlated, that, you know, we're, you know, customers are ordering early. That's a good thing. We should have a really good year in front discharge next year, and that's another sign that, you know, housing and construction are gonna be good next year.
David Raso (Senior Managing Director and Partner)
Okay. And again, I'm sorry if I missed it. That the pressure point on these spring orders, it's not terribly different than your traditional mix? Is that what I should be thinking? This is not a conversation we're having on the independent channel or Europe that gives you confidence that spring orders pick up. Is it just-
Charles L. Szews (Outside Director)
Well, it's confidence in-
David Raso (Senior Managing Director and Partner)
The generic view of what you're hearing across the whole customer platform?
Charles L. Szews (Outside Director)
It's confidence in the agreement discussions we're having in national rental companies today. It's confidence in the IRC conversations we're having today. In Europe, you know, we're expecting to be flat to maybe even up a little bit in Europe next year, you know, in terms of local currency. With the currency impact, it could be flat to down. But overall, you know, those discussions are going quite well in Europe. So I think we've got, you know, a lot of positives here, and I don't think we should be, you know, overly concerned about, you know, another shoe to fall.
David Raso (Senior Managing Director and Partner)
No, I appreciate the color. Thank you very much.
Charles L. Szews (Outside Director)
Sure. Thank you.
Operator (participant)
Thank you. Our next question comes from the line of Peter Skibitski with Drexel Hamilton. Please go ahead with your question.
Peter John Skibitski (Director, Aerospace & Defense Equity Research)
Good morning, guys.
David Sagehorn (Board Member)
Good morning, Pete.
Peter John Skibitski (Director, Aerospace & Defense Equity Research)
Am I understanding, I think you're implying in the sense that this initial M-ATV order, I think it's 275 vehicles or so roughly, that maybe they all don't deliver in the first quarter. I think that was the prior expectation, but maybe now you're thinking maybe half in the first quarter, half in the second quarter. Is that fair?
David Sagehorn (Board Member)
Slightly more than half in the first quarter and then the rest in the second quarter.
Peter John Skibitski (Director, Aerospace & Defense Equity Research)
Okay, gotcha. And then just on that order and on subsequent M-ATV orders, you know, out of the Middle East, what's your guys' expectation of the cash collection cycle on those? Because we've seen some other companies have some difficulty in terms of prompt payments, and so I'm just wondering what you guys expect.
David Sagehorn (Board Member)
Pete, it's certainly the payment cadence is certainly different than we experienced with our U.S. customer. But we believe we have that factored into our free cash flow outlook for the year.
Peter John Skibitski (Director, Aerospace & Defense Equity Research)
Okay. Is it less than 90 days? Is that a reasonable expectation or more than that?
David Sagehorn (Board Member)
You know, I think it's history would say it depends on a contract-to-contract basis, and on a customer-to-customer basis. So, again, I guess what I would say is it certainly is a longer payment term profile than we see with our U.S. customer.
Peter John Skibitski (Director, Aerospace & Defense Equity Research)
Okay. Thank you.
Charles L. Szews (Outside Director)
Thank you.
Operator (participant)
Thank you. Our next question comes from the line of Tim Thein with Citigroup. Please go ahead with your question.
Timothy Thein (Analyst)
Great, thank you, and Charlie, best of luck in retirement.
Charles L. Szews (Outside Director)
Thank you.
Timothy Thein (Analyst)
Yeah, Wilson, just on the, just coming back to the international M-ATV award and kind of where that stands. Obviously, there, there's been some reports recently of some budget cuts amongst the largest Middle East weapons buyer. Yet one of your Wisconsin brethren, just a half hour ago, noted that they're seeing some shifts in terms of the spending towards Defense in the Middle East. So I'm just—I just want to come back and get your, obviously, this contract has been out in the horizon for a while. You know, kind of what gives you the confidence to go ahead and actually bake it into the guidance after, I guess, having just been there recently. So maybe just an update there, please?
Wilson Jones (Director)
Sure, Tim. It always helps to go, right? Where you can sit with the customers and talk face to face, and we're reading and hearing all the same things that you just mentioned there. I can tell you that across the Middle East, there's a big concern for this new enemy that's developing, and there's not a lot of mechanization across the Middle East. So there is a priority right now for ground forces to use vehicles, and that's gonna work well for us. I didn't hear any hesitancy in moving forward with the contract that we have that's currently in play. So it was a good—we had some good meetings while we were there. More importantly, we had some good meetings with new customers.
The outlook for us in the Middle East is good. It's positive. We feel good about this next contract. Obviously, we're gonna stay tuned and watch it because-
There are issues, and as Dave mentioned, you know, payment is different coming from a customer like this. But our strategy is to stay very close and monitor that basically on a daily basis through our offices in the Middle East.
Charles L. Szews (Outside Director)
The other thing I'd like to add to that is that, you know, these contracts develop over a period of 9-12 months. And so, you know, well, since more and as we've trials are earlier, et cetera. But, you know, we've come to know the countries and how they operate. We see the steps in the process. We can see things continuing to progress through different chains of, you know, contract administration, you know, Finance, Department of Defense, and, you know, all those steps that have to happen, letters of credit. So we're watching it step by step by step. And so, that's why we feel, you know, confident in saying that we expect a contract here in Q1, because we've been watching it progress the normal process.
You know, yes, things might move a couple of weeks here or there in their process, but we continue to see it move forward just like it historically has, and that's why we would expect, you know, this contract here in Q1, Q1. We also, you know, are watching other contracts behind it, right? So overall, we feel, you know, very good about where our Defense business is heading internationally, you know, for the next couple of years.
Timothy Thein (Analyst)
Okay. And then, just Dave, on the share count, can you just, where did the share count finish at year-end? I'm trying to reconcile the guidance for roughly 75 million shares, and then your comment about buying back, I think you said roughly $150 million is baked into the guidance for this year.
David Sagehorn (Board Member)
Yeah, Tim, so we ended up at, call it, right around $75.5 million at the end of September. And then in terms of the guidance, what we said is, let's call it half of the anticipated free cash flow would be returned to shareholders in the form of repurchases and dividends. That would probably get you closer to an implied $125 million of share repurchases in 2015 or 2016, excuse me. Now, some of that on a full year impact will depend on the cadence throughout the year, and then we're also be a little bit offset by your typical share creep as it relates to options and other items.
Timothy Thein (Analyst)
Okay. Thank you.
David Sagehorn (Board Member)
Thanks.
Operator (participant)
Thank you. Our next question comes from the line of Stephen Volkmann with Jefferies. Please go ahead with your question.
Stephen Volkmann (Managing Director)
Can you guys hear me?
Charles L. Szews (Outside Director)
Yeah, we can.
Stephen Volkmann (Managing Director)
All right, great. My congratulations as well, Charlie.
Charles L. Szews (Outside Director)
Thank you.
Stephen Volkmann (Managing Director)
I wanted to, maybe most of my question has been answered, just a couple of big picture questions. Are you willing to sort of ballpark how many M-ATVs we expect to deliver in fiscal 2016?
Wilson Jones (Director)
Well, I guess we'll do it this way. We got the order that we announced in August for 273, so those we expect we'll deliver all in the year here. With the expected order that we believe is forthcoming here shortly, we've said more than half of that, more than 1,000, would also be for sale in fiscal 2016.
Stephen Volkmann (Managing Director)
Okay. And the remainder in 2017, I suppose?
Wilson Jones (Director)
Yes.
Stephen Volkmann (Managing Director)
Okay. And then what else? I think you just alluded to this, Charlie, but you've talked in the past about some other potential orders. I think they were even bigger than what we've talked about here so far. Where do we stand with numbers on that? You know, how many more could potentially come across the transom in 2016, or is it in 2016, or is it beyond? Just, you know, how do you think about that?
Charles L. Szews (Outside Director)
So we continue to pursue actively, you know, a few thousand additional M-ATVs beyond this contract that we expect in Q1. No, we will not get them all in 2016. They will be parceled out over 2016, 2017, perhaps even 2018. But in fact, this past quarter, you know, new opportunities, you know, came forward. So it's really kind of a robust environment right now for the M-ATV. It's performed extremely well for multiple governments, particularly, you know, the U.S. government, for a long period of time. It's highly survivable, highly mobile, highly reliable, you know, all the things that you want, and it's getting quite a reputation.
Stephen Volkmann (Managing Director)
Okay, that's helpful. And then just finally, on JLTV, let's just assume you win the protest, or they lose it more accurately, I suppose. What, if any, revenue might come in 2016? And then how do we think about sort of the ramp through the end of the decade?
David Sagehorn (Board Member)
Steve, it's a fairly small amount of revenue for fiscal 2016, and then you're going to start seeing delivery vehicle deliveries late in 2016, but it's going to be a several year ramp here, as we get into before we, or I should say, before we hit full rate volume. The government's plan is for three years of low rate initial production, so you're probably talking upwards of 2020 before we really start to ramp up.
Operator (participant)
Thank you. Our next question comes from the line of Jerry Revich with Goldman Sachs. Please go ahead with your question.
Jerry Revich (Managing Director, Head of Machinery, Industrial and Environmental Services Research)
Good morning, and Charlie, Wilson, congratulations.
Charles L. Szews (Outside Director)
Thank you.
Wilson Jones (Director)
Thank you.
Jerry Revich (Managing Director, Head of Machinery, Industrial and Environmental Services Research)
I'm wondering if you could talk about the outlook in the Fire & Emergency business. Your orders, your book-to-bill has been really strong year-to-date, and I think your incremental margin guidance, I guess, looks to leave some upside considering what you delivered this quarter. Can you just flesh out for us how the production rates are running and, I guess, why not a more aggressive top line and margin target, given the bookings and the incremental margins that you folks posted, especially in the back half?
Wilson Jones (Director)
Well, first of all, Jerry, thanks for asking about our fire business. We don't, we don't get to talk a lot about our Fire business, and we're very, very pleased with the progress they're making. You know, we expected them to have a good quarter. The fourth quarter is normally, one of their better quarters. They benefited from some good cost absorption with the higher volume. You know, when I look at the business today, they really are, getting organized around this, complexity management initiative. I, I think what, what I- the way I would answer your question is, they have a great backlog, they're gaining share.
We're gonna take the rates up as we continue to get better, but the commitment we've made is we're gonna take it up at a rate that will bring sustainable change and improvement to the business. We don't want to get ahead of ourselves. As you know, that's a very complex mass customization type business, and so we're really pleased with the way we've reorganized our operations. It fits better with the industry now, and so we will take that up faster if we can, but I want to make sure you understand, we want everything, all the changes we're doing now, we want to make sure they're sustainable. So you'll see us continue to do that.
I'll put a plug in there, too, with their innovation strategy around the V of MOVE. They continue to introduce new products into the market that's helping them gain this share. This new 107-foot Ascendant aerial, you know, it's one of a kind, and it's having really good success early on, more so than what we're used to in a new product introduction. So, we're really pleased with the progress that our Fire & Emergency team's making. What we're trying to do is make sure as we take the rates up accordingly, so we can sustain all this positive work there.
Jerry Revich (Managing Director, Head of Machinery, Industrial and Environmental Services Research)
Okay. And then in aerials, can you just bridge for us the margin expectations for 16 versus 15, you know, for 150 basis points of margin contraction on pretty big production declines? How much do you expect any move savings to contribute? What kind of pricing pressure are you expecting from weaker used values on trade-ins? Can you just flesh out the pieces for us, please?
David Sagehorn (Board Member)
Yeah, Jerry, what we said on an earlier question was, the big driver really is the impact of under absorption as we're looking at the lower volumes, and then on top of that, as we are cutting production even more to lower our inventory levels in that segment. So if you think about, call it a typical incremental margin, that's gonna be weighed on heavily due to the under absorption, and then we'll claw back on that to get it more into the typical range through targeted cost reduction actions. You've heard us talk about our reduction in workforce levels there. We have other initiatives there, but those are kind of the big components to it.
We talked about a flattish pricing environment is kind of how we're looking at things for 2016.
Jerry Revich (Managing Director, Head of Machinery, Industrial and Environmental Services Research)
Even though used values are under pressure and some of your Canadian and European competitors are being more aggressive on price?
David Sagehorn (Board Member)
There certainly is more pressure from the foreign OEMs. I think we've seen that, and we're probably not the only ones that are talking about that. But there are pockets where there are opportunities, and we're gonna do what we can.
Charles L. Szews (Outside Director)
We've already negotiated some agreement with some customers in Europe where we've gotten price increases, so you know, that all balances things out.
Jerry Revich (Managing Director, Head of Machinery, Industrial and Environmental Services Research)
Okay. Thank you.
Charles L. Szews (Outside Director)
Thank you.
Operator (participant)
Thank you. Our next question comes from the line of Eli Lustgarten with Longbow. Please go ahead with your question.
Eli Lustgarten (Senior Vice President and Senior Research Analyst for Industrial Manufacturing and Technology)
Good morning, and, Charlie, it's been a pleasure, and, I'm sure Wilson will be able to handle it.
Charles L. Szews (Outside Director)
We're confident in him, even though he's from Texas.
Eli Lustgarten (Senior Vice President and Senior Research Analyst for Industrial Manufacturing and Technology)
Well, you can't have, you can't have everything, right? One question on the Defense, or it's, two-part. Current budget hassle, the fight and the, with the Defense bill and what have you, with, you know, always normal politics, has a lot of funding for some of your military projects hung up in that, too. Is there any effect, you know, that we have to worry about in Defense if, you know, Defense budget of all the craziness goes on? And then as part of the JLTV coming on, is there gonna be some cost issues that you have to absorb without some revenue and whenever, when you start production? Because, we're assuming you'll win the protest pretty quickly.
Charles L. Szews (Outside Director)
We don't expect any issues for FY 2016 based upon any of the budget issues that are going on today. You know, we basically have funding that's secure. Anything that could be an issue would be 2017 or later, but right now, the way things are moving forward, you know, our funding of our programs really isn't in dispute between the House and the Senate and the present budget and all that sort of stuff. Everything seems to be aligned for us. You know, your question on JLTV costs, you know, we don't-
... we don't see any issues there. We fully expect that our competitor will lose the protest, and we don't expect any kind of JLTV charges, if that's what you're getting at.
Eli Lustgarten (Senior Vice President and Senior Research Analyst for Industrial Manufacturing and Technology)
No, I'm just wondering whether, you know, as you start to go into production and ramp up, there's costs associated with it without a revenue offset. So whether, you know, that's part in the analysis, or do you get reimbursed for those costs as you begin to develop production?
David Sagehorn (Board Member)
Yeah, we, Eli, we do get, we'll be reimbursed for a fair amount of that. There'll be a, probably a little bit of a drag here in the, in the year, but that's baked into our, our guidance for the year, but it's not significant.
Charles L. Szews (Outside Director)
Right. I mean, there are, there are contract line items that, that impact some of the startup, you know, activities that we have that we can, charge against.
Eli Lustgarten (Senior Vice President and Senior Research Analyst for Industrial Manufacturing and Technology)
Just on AWP, to give another question, the 25% production cut in the first half or, or sales cut in the first half, is that equal between the two quarters, or are we down, like, 30%, 35% in the first quarter and somewhat less in the second?
Charles L. Szews (Outside Director)
It's a little bit more in the first quarter than the second.
Eli Lustgarten (Senior Vice President and Senior Research Analyst for Industrial Manufacturing and Technology)
Okay. All right. Thank you. Good luck, Charlie.
Charles L. Szews (Outside Director)
Thanks.
Operator (participant)
Thank you. Our next question comes from the line of Ross Gilardi with Bank of America. Please go ahead with your question.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Good morning. Thank you.
Wilson Jones (Director)
Good morning.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Just some more questions on access. You guys made it pretty clear that the first quarter will be particularly soft, in line with some of the comments from the rental companies. But, you know, the biggest one is still technically forecasting flat capital spending in 2016 versus 2015, and I'm just wondering if we were to see capital spending cuts from them over the next 3-6 months, I mean, do you think you're actually baking that into your outlook for 2016, or would that represent incremental downside?
Charles L. Szews (Outside Director)
Well, now you're asking us to be specific about a certain customer, okay? And we just can't do that, all right? But, you know, I think, our assumption of 10%-15% down, I mean, when you follow that on, where this year was down a little bit, I mean, that is over half of what you would expect in a recession. This is a pretty severe downturn that we've seen. And, you know, for it to be much worse than this, I, we just don't see it.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Got it. Thanks, Charlie. And then maybe we could just move back over to concrete. You mentioned some differentiation between the front discharge versus the rear, but just wondering more broadly, what do you think is behind the weakness that you are seeing there? Is it an oil and gas issue or just a broader industrial issue? Is our municipal spending softening up, or is just the fleet, you know, the fleet just less old than it was two years ago?
Charles L. Szews (Outside Director)
Yeah, I think a lot of it is that, you know, in terms of the softness that's been in the last couple of months, for, like, rear discharge, is that, you know, they're just cautious. They read the news, they read what you guys write, and so they're gonna be cautious and spend, you know, when they really, really need to. They all have the demand. Their fleets are old. They've cannibalized their fleets. They certainly see the opportunity.
What they also know, though, with, for example, rear discharge, is that they can wait because they know we have the capacity, they know the industry has the capacity, and the lead times aren't as long, and they can wait to put in their orders, and they, they just want to see a little bit of the strength. Now, we can, I can tell you we're continuing to get, you know, decent orders in rear discharge and front discharge today. And we do expect that when the construction season, you know, develops, that we're gonna have a good year in concrete mixers.
Wilson Jones (Director)
I just add there, Ross, Charlie's describing the customer, the ready-mix customer has changed. The order patterns, they are more month to month based on what they're performing from a revenue and profit standpoint. But if you look at the fleet, to your question there, the mixer fleet in the U.S. is 3.5 years older than it was in 2007, you know, right before the Great Recession. So that is an old fleet out there, and it's going to need to be replaced. So that again adds to some of our confidence as construction gets better in the spring, we believe, and our customers are saying the same thing in the ready-mix world, is they're gonna need fleet.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Okay, thanks. And then just lastly, on Defense, in terms of your guidance for 2016, I mean, it basically implies like a $130 million step-up in EBIT in the segment. And just wondering, how far of the way do you get there with just the 275 or so M-ATVs plus the 1,000+ that you referenced? Do you still end up with a pretty sizable gap and needed additional orders to get to that number? Or, any help there would be great.
David Sagehorn (Board Member)
No, Ross. So again, with the backlog we had at September thirtieth, about $1 billion of that would go towards or fill the, call it the $1.5 billion range that we're putting out for the next year or for fiscal 2016. When you look at what's gonna fill the gap between what's in backlog now and what we're estimating for full year sales, a significant portion of that is the incremental M-ATV orders that we've been talking about.
Charles L. Szews (Outside Director)
And aftermarket.
David Sagehorn (Board Member)
Aftermarket, yeah.
Charles L. Szews (Outside Director)
So the other increase, you know, for the business as a whole, from 2015 to 2016, let's not forget, is the FHTV contract restart. And so that, you know, that's in backlog. But that's also the incremental step up for the segment.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Got it.
Charles L. Szews (Outside Director)
Thanks, Ross. We appreciate it.
Ross Gilardi (Senior VP of Finance and Investor Relations)
Thank you.
Operator (participant)
Thank you. Our next question comes from the line of Jamie Cook with Credit Suisse. Please go ahead with your question.
Jamie Cook (Managing Director of Equity Research)
Hi, good morning. Two quick questions. One, first of all, sorry, congratulations both Charlie and Wilson. But my second, two other quick questions, clarifications. One, the free cash flow that you're talking about, Dave, for this year, the $350 million, obviously, it's, it's, it's fantastic. Can you just tell me what your inventory assumptions are to get to that $350 million for the year? And then just my second question, again, sorry to get back to the Defense. If I look at your, you know, revenue, if I look at your, you know, revenue to backlog conversion for Defense, as we look at the fourth quarter, and then, you know, what the revenue is for the next year, it's generally 100% or better.
If I look at your backlog conversion this year, it's only, like, 71%. I'm just wondering why the backlog conversion is lower this year, you know, relative to history. I know you said, I know you said $1 billion of, of the backlog is for 2016. What's that other $400 million that's not converting and why?
David Sagehorn (Board Member)
Oh, yeah, let's answer that one. That's an easy one. That's our domestic programs, the orders that we have received for FHTV, FMTV, et cetera, that you've heard us talk about recently, most recently in the June quarter. So we've got those orders coming in again now that we've got the FHTV program or contract in place, and so it's just volume that the government is seeing need out into fiscal 2017.
Jamie Cook (Managing Director of Equity Research)
Okay. All right, thank you.
David Sagehorn (Board Member)
Okay, and then on the free cash flow, so if you, if you think about it, what we said on the prepared remarks is a significant reduction in working capital, and specifically inventory at the Access Equipment segment. And that's going to be largely offset by the increase in working capital in Defense, as we support the international M-ATV contracts. So if you think about 2015, the usage of cash, it was obviously an elevation or use of, or increase, I should say, of working capital, but in 2016, we will generate cash from working capital. But I kind of look at it as a big funding of the Defense working capital need, largely coming from reducing working capital at the Access Equipment segment.
Jamie Cook (Managing Director of Equity Research)
All righty. Thanks. I'll go back in queue.
Operator (participant)
Thank you. Our next question comes from the line of Mike Shlisky with Seaport Global Securities. Please go ahead with your question.
Michael Shlisky (Managing Director and Senior Equity Research Analyst)
Good morning, guys, and Charlie, best of luck to you.
Charles L. Szews (Outside Director)
Thank you.
Michael Shlisky (Managing Director and Senior Equity Research Analyst)
I had a quick one on the Defense business. I think the margins here, 8.75%, your guidance, awfully strong here based on what we saw last year. I guess I was curious, based on what you know today, what you sign, what you're about to sign, is it a stretch to say that 2017 margins in that segment could be in the double-digits?
Charles L. Szews (Outside Director)
Well, we're not ready to give estimates for next year, so 2000 and-
Michael Shlisky (Managing Director and Senior Equity Research Analyst)
I know.
Charles L. Szews (Outside Director)
Okay, that'd be a year early for us. But, you know, we do expect this segment to perform well for some time.
Michael Shlisky (Managing Director and Senior Equity Research Analyst)
Okay, great. That was my only question. Thank you so much.
Charles L. Szews (Outside Director)
Thank you.
Operator (participant)
Thank you. Our next question comes from the line of Seth Weber with RBC Capital Markets. Please go ahead with your question.
Speaker 17
Hi, guys. This is Tim on for Seth. Just a question about clarity on the increase in inventory. Can you explain how much of that is, you know, due to Access and how much is due to Defense?
David Sagehorn (Board Member)
Yeah, if you look year-over-year, it's about 50% Access related and 50% Defense.
Speaker 17
Got it.
David Sagehorn (Board Member)
And the defense component, what that is, is largely building up with the international M-ATV order that we received late in the year, as well as the ramp up, ramp back up, excuse me, of the FHTV program.
Speaker 17
Okay, great. And just as a follow-up, it seems like you guys are a lot more confident in European access. So does that mean that the U.S. access will actually be down more than 10%-15% that was guided?
Charles L. Szews (Outside Director)
I think you're accurate there, right.
Speaker 17
Okay.
Charles L. Szews (Outside Director)
We are more confident in Europe.
Speaker 17
Okay, excellent. Thank you so much.
Charles L. Szews (Outside Director)
Thank you.
Operator (participant)
Thank you. Ladies and gentlemen, there are no further questions in queue at this time. I would now like to turn the floor back over to Charlie Szews for closing remarks.
Charles L. Szews (Outside Director)
Okay, thank you for listening in today. It's been an honor to work for Oshkosh and our shareholders, and I've appreciated your support. Oshkosh is a great company with leading brands and the opportunity to deliver outstanding results over the long term. I'll be cheering on the strong team that will lead Oshkosh going forward. Have a great day, everyone.
Operator (participant)
Thank you, ladies and gentlemen. This does conclude our teleconference for today. You may now disconnect your lines at this time. Thank you for your participation, and have a wonderful day.