Terex - Earnings Call - Q3 2016
November 1, 2016
Transcript
Speaker 0
Ladies and gentlemen, thank you for standing by, and welcome to the Terex Corporation Third Quarter Financial Results Conference 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. Thank you. I will now turn the call over to Brian Henry, Senior Vice President, Business Development, Investor Relations.
Please go ahead, sir.
Speaker 1
Good morning, everyone, and thank you for joining us for today's third quarter twenty sixteen financial results conference call. Participating on today's call are John Garrison, President and Chief Executive Officer and Kevin Bradley, Senior Vice President and Chief Financial Officer. Following the prepared remarks, we will conduct a question and answer session. Last evening, we released our third quarter twenty sixteen results, a copy of which is available on our website at terex.com. Today's call is being webcast and is accompanied by a slide presentation, which includes a reconciliation of GAAP to non GAAP financial measures that we will use during this call and is also available on our website.
All per share amounts in the presentation are on a fully diluted basis. We will post a replay of this call on the Terex website under Audio Archives in the Investor Relations section. Let me direct you to slide your attention to slide two which is our forward looking statement and description of non GAAP financial measures. We encourage you to read this as well as other items in our disclosures because the information we will be discussing today does include forward looking material. With that, please turn to Slide three and I'll turn it over
Speaker 2
to John. Thanks Brian and good morning everyone. Thank you for joining us today. I will begin by providing an update to our strategy and our recent divestiture activities. Kevin will cover our financial results and I will follow with our segment updates before we open the line to your questions.
Focus, simplify and execute to win. These are the key elements of our strategy. While we continue to operate in challenging markets, it's important that we aggressively address our current reality while taking the steps to position the business for the longer term. We are transitioning to a focused portfolio of businesses that compete in the aerial work platforms, mobile lifting and mobile materials processing and handling industries. Each of these businesses is at a different point in their respective market cycles and each faces different near term challenges and opportunities.
We are addressing complexity across the company. We are simplifying our organizational structure and reducing our functional costs for the sale of the MHPS. We're also reducing our footprint across the company. Central to Execute to Win is commercial and operational excellence, which extends from the factory floor to all aspects of our business including sales execution, pricing, as well as product and service innovation. We are taking action to ensure we consistently meet our commitments to our customers, shareholders, and team members.
We are developing a winning culture centered on execution excellence. Turning to Slide four, we continue to make progress on refocusing our portfolio. We completed the sale of our German compact construction business to Yanmar for $60,000,000 in cash. Included in the sale was the manufacturing facility located in Carlsheim, Germany and the parts distribution center located in Rothenburg, Germany. The team executed well and closed the transaction on time in accordance with our plan.
We're also on track to close the sale of MHPS to Kona Cranes in early twenty seventeen. Turning to slide five. Tariff's history as an acquisition company has created complexity throughout our organization. This complexity impacts our ability to leverage our scale. We are taking action to address this and simplify the company.
An important step was streamlining our operating structure from five segments to three. It simplifies reporting and increases accountability and it's critical to reducing our overhead structure. We announced several footprint reduction actions. We successfully executed on schedule the complex move of our mobile crane production from Waverly, Iowa to our facility in Oklahoma City. The material and equipment have been moved, and we're ramping up production in OKC.
The soft market conditions enable us to make this move that will benefit us for years to come without disrupting deliveries to customers. Our AWP segment is consolidating the scissor lift manufacturing from three locations to two and reducing its overall manufacturing footprint including its main campus in Redmond, Washington. AWP also closed a facility in Stockton, California and recently announced plans to close its Waco, Texas facility consolidating into Oklahoma City. We're also on track with the closure of our Austrian MP plant, moving its products to our facilities in Northern Ireland. The Austrian plant will close in the fourth quarter.
Turning to Slide six, we continue to deploy the Execute to Win business system. The third quarter focus was on our talent review process. We conducted detailed on-site reviews around the world. We will continue to work to ensure that we have the talent and leadership necessary to execute our strategies. Let's turn to page seven for an update on the MHPS sale.
During the quarter, the European Union approved the transaction subject to Kona Crane's divesting of Stall Crane Systems. They also received approval in The United States from both the antitrust insipious authorities. In addition, the Kona Crane shareholders voted in favor of the transaction. Both teams are working through the close process. The transaction remains on schedule to be completed in early twenty seventeen.
As we indicated last quarter, MHPS is in discontinued operations. We are not reflecting any of the benefits of the transaction. The 25% equity interest, the Konecranes dividend and the proceeds from the sale that will strengthen Terex's balance sheet. These benefits will be realized after we complete the sale. With that, let me turn it over to Kevin.
Speaker 3
Thanks, John. Good morning, everyone. Please turn to Slide eight and I'll review our financial performance. We reported earnings per share in the third quarter of $0.31 and earnings per share as adjusted of $0.19 We achieved a net benefit from non recurring items in the quarter driven by favorable tax treatment associated with the recognition of tax benefits for certain net operating losses. We generated net cash from operating activities in the quarter of $106,000,000 and free cash flow of $47,000,000 We repurchased $80,000,000 worth of Terex shares in the quarter consistent with our capital allocation strategy.
Backlog at the September was down 9% on a year over year basis. Declines in cranes and AWP were partially offset by growth in backlog in our MP segment. Slide nine summarizes the comparative quarterly income statement on an as reported and as adjusted basis. Net sales for the quarter decreased 16% compared to the prior year, down approximately 14% on a currency neutral basis. Crane sales declined by approximately 25%, which was more than we had anticipated.
AWP sales were down 17% and MP was down four percent or about flat on a current FX basis. Our operating margin was 3.7% compared to 7.3% last year. Excluding non recurring charges, our operating margin was 4.6% down from 8.5% last year. Lower volume, unfavorable mix, pricing pressure and operational factors partially offset by cost reduction activities were the primary drivers of margin compression. Return on invested capital was 25.6% compared to 9.7% in 2015 driven by tax benefits.
Let's turn to Slide 10 and I'll review our guidance. We were disappointed with the overall performance in the quarter and the impact it is having on full year expectations. We executed well in certain areas, but that was more than offset by the shortfall in our Crane segment. Our previous estimate for full year AWP sales was a decline of approximately 15% with operating margins of between 8.59.5%. We are improving that slightly to sales down approximately 13% with an operating margin of approximately 9.5%.
In our Crane segment, we had forecasted higher volumes in the third quarter. However, the global crane market continued to weaken. We had anticipated an improvement in product mix, but our more profitable products were disproportionately impacted by the market decline. In Germany, changes in subsidies in the wind energy sector led to a reduction in crawler crane sales as customers digest the impact of these changes. Lower volumes also impacted our ability to improve absorption rates in our factories.
In addition, quality issues resulted in increased warranty expense. We expect many of these trends to continue into the fourth quarter. As a result, we are lowering our full year outlook for cranes. Sales are now expected to be down approximately 20% with an operating loss of approximately 2.5%. We are maintaining our previous outlook for MP and lowering the estimated operating loss from corporate and other to approximately $40,000,000 We are addressing all elements of our cost structure and will continue to reduce our cost base in the fourth quarter, but it will not be enough to offset the impact of the challenges in our crane segment.
As a result, we are revising our full year continuing operations sales outlook to between 4,200,000,000 and $4,400,000,000 with earnings per share of $0.70 to $0.80 and free cash flow of 150,000,000 to $200,000,000 With that, let me turn it back to John.
Speaker 2
Thanks, Kevin. Starting with AWP, I'll provide an overview of our segment performance. Fifty years ago, an innovator named Bud Buchnell saw a need in the marketplace and developed an innovative solution in his garage in Seattle. That simple pneumatic lip was the seed that grew into the global leader that Genie is today. That same innovation was on display at the Genie fiftieth anniversary celebration in Seattle in September, where we launched the innovative Genie extra capacity or XC product line.
This family of boom lifts responds to a widespread need to enable people to work at height safely with heavier loads using a single machine. These products demonstrate our commitment to invest in new products throughout the cycle. Over 200 customers from 47 countries joined us at the fiftieth anniversary to celebrate and focus on building a future together. Looking at the third quarter, sales were in line with our expectations, down about 17% from last year, driven by the replacement cycle decline in the North American rental market. Our European volume is up year to date, but sales slowed in the quarter as the market began to level off.
Latin America remained very weak. Asia on the other hand was up sharply in the quarter driven by growth in China and South Korea. Lower volume, foreign exchange and pricing pressure were the primary drivers of the margin compression, offset in part by the ongoing SG and A reduction actions. AWP team is taking action. It lowered its SG and A by over $4,000,000 in the quarter compared to last year and continues to rationalize its manufacturing footprint.
We also reduced inventory by about $75,000,000 year over year. Pricing discipline starts with aligning supply with demand and we intend to manage our inventory appropriately. We expect to close out 2016 with full year sales slightly better than our original guidance. Global pricing dynamics, geographical mix and lower production volumes offset in part by cost reduction actions will continue to pressure our margins in the fourth quarter. Looking ahead to 2017, the most influential market dynamic will continue to be the North American replacement cycle.
We are in the midst of the reduction in replacement demand as a result of the 02/2010 market decline, which is impacting our sales and backlog. We expect this dynamic to continue through 2017. We'll work with our customers through the fourth quarter to develop a clearer picture of their demand. Moving to cranes, the third quarter did not unfold the way we had anticipated for our crane segment. I'm disappointed with our results.
With few exceptions, all major crane markets were down. In North America, we continue to see reduced demand due to the overhang of the oil and gas boom and then bus cycle. There are significant number of relatively low hour used cranes that are available in the market, which continues to reduce the demand for new cranes. No other sector or region has offered a counterbalancing stimulus to offset this headwind. In Europe, the crawler crane market was disrupted by recent changes to Germany's wind power subsidies.
Although the long view is for growth in this sector, customers are cautious and postponed and in some cases canceled their orders as they try to understand the implication of the recent changes. The Latin American market reached a new low in the quarter. There were pockets of growth in Southeast Asia, but not nearly enough to offset the broad based global declines. We are taking action to address our performance. As we announced last week, Steve Filipov is the President of Terex Cranes and will lead the turnaround process.
Steve started his career at Terex in the crane business and previously served as President of Terex Cranes. Steve's intimate knowledge of the crane industry and its customers makes him the best person to improve and grow this segment. We completed the relocation of our North American manufacturing from Waverly, Iowa to Oklahoma City. In addition, our French facility, which is a combined MHPS cranes operation will be going to Kona Cranes with the sale. Our new Demag line of all terrain cranes is selling well in a tough market.
We also launched a 40 ton pick and carry crane in Australia. This is another example of investing in our products throughout the cycle. Our current pick and carry sales in Australia are about a quarter of our historical average, driven by low commodity prices. This market will return and we will be well positioned when it does. Finally, the demand for utility products in North America was lower than last year.
The lower volume led to factory under absorption and compressed margins. However, our backlog and bookings are up compared to last year, indicative, we believe, of an improving market for utility equipment. Turning to materials processing. Another example of the rich history of our company, PowerScreen, also celebrated a fiftieth anniversary this summer. I joined many of our PowerScreen dealers from around the world in Belfast to celebrate fifty years of power.
For half a century, MP has been at the forefront of innovation in the mobile crushing and screening market and that remains the case today. The MP team results were consistent with our expectations and the team continues to execute well, driving improved operating margins on stable overall revenue for the year. For the third quarter, our mobile crushing and screening sales were similar to last year. Aggregate markets are steady, but the mining market remained weak. A headwind for the MP segment is the soft market for Fuchs machines driven by low scrap metal prices.
The team is working to expand distribution and diversifying into other material handling applications. Concrete sales and profits were up sharply again in the quarter. The 46% growth in backlog and the 24% increase in bookings reflect continued strength in the mobile crushing and screening and North American concrete markets. In summary, our end markets remain challenging. We will continue to focus on our core businesses, simplify the company, and improve our fundamental processes.
We will further reduce our cost structure consistent with our market reality while investing in products and services. We will make the changes needed to consistently deliver on our commitments. On another note, I hope you will join us at our upcoming analyst meeting in New York City on December 13. I'll be joined by our segment presidents and other members of the leadership team to provide further insight into our financial and operational strategies as we transform Terex into a simpler, focused company. With that, let me turn it back over to Brian.
Speaker 1
Thanks, John. As a reminder, during the question and answer session, we ask that you limit your questions to one and a follow-up to ensure we have time to get to everyone. With that, I'd like to open it up for questions. Laurie?
Speaker 0
Your first question comes from the line of Ross Gilardi of Bank of America Merrill Lynch.
Speaker 4
Yes. Good morning, gentlemen.
Speaker 2
Good morning, Ross.
Speaker 4
Yes, my first question is just on cranes. I mean, how comfortable are you that you can get back to cranes breakeven in 2017 if end market conditions don't improve?
Speaker 2
Thanks, Ross. So I'm going to answer that in a broader context around restructuring and restructuring activities. Kevin will take us through the timing and impact. But as focus the company and we simplify the company, on the simplified side, we're really focused on two aspects, G and A reduction and then our footprint rationalization. As you look at our performance and return on invested capital through the cycle, one of the challenges is, and especially in our crane segment, is that we have too much fixed cost for the market.
And so we have been addressing that with the things that we've announced this year in terms of reducing our overall fixed cost in our crane segment, specifically the Waverly plant reduction. So we're going to continue to look at our fixed cost across the company, obviously in cranes as we move forward. There will be more to come as we begin to further implement and execute the plans. And there's two other things that I'll talk about here. As we talk about restructuring as a broader organization, there is a bit of a limiting factor on how fast we can move and the pace that we can implement complex movements.
Waverly to Oklahoma City, I'm sorry, was a difficult and challenging move. The team did a good job. You need the talent to execute that complex move. We also, as we go around the globe, have regulatory challenges that we we need to to deal with as we implement our restructuring activities. So those those two aspects will pace.
We need to move quickly. We need to move aggressively. As it pertains to cranes, and Kevin will walk through the details of restructuring, the actions that will be implemented will get us a long way towards. Clearly, our focus for 2017 is to drive a plan that gets us to breakeven on crane margins with similar type of revenue volume. We're not gonna assume the market's gonna rebound and recover.
We're gonna attack this issue through our product offering. We'll continue to invest in engineering, but we've gotta get after our underlying cost structure. So that will be the focus of Steve and the team is to get to put in place a plan that we can get the breakeven, no worse than breakeven on similar volumes in our crane segment in 02/2017. Kevin, you wanna take it through a little bit
Speaker 3
of the details? Sure, John. So there's been a lot of restructuring. We've got another $5,800,000 in Q3. Aggregate restructuring that we've called out from a cost perspective and the March cumulative is about $45,000,000 That's got an annualized benefit of about $49,000,000 We said, you know, from the first quarter restructuring charges, we get about 75% of that in 2016 and we're still holding to that.
That's about $22,000,000 of benefit that's in our guide for 2016. In addition to that, the three quarters worth of named restructuring would generate an incremental $26,000,000 in 2017. That does not include what we talked about from an MHPS. You remember we've got about, $34,000,000 full year expense in corporate and other, from the unallocated, overhang from MHPS going into disc ops. We're now saying we we we can get about 10,000,000 of that at least in year in 2017 of that $34,000,000 reduced, which would be an aggregate, full year reduction year over year in cost of about $36,000,000 To your question, Ross, we think there's about $15,000,000 in the already named restructuring, dollars that impact cranes directly in a positive way for 'seventeen.
Speaker 4
Okay. Thanks, guys. And then can you talk about the 25% stake in Kona cranes that you'll take on in early 'seventeen? How are you thinking about holding that versus monetizing it? I mean, does a 25% non controlling stake in a Finnish company really fit with your goals of simplifying Terex?
Speaker 2
Thanks, Ross. The proceeds of sale from MASPS, the first is the cash component, approximately $770,000,000, on an after tax basis. And as we look at that, that clearly will go towards, reducing our debt. As we look at an optimal, debt structure, capital structure of about two and a half times net debt to EBITDA through the cycle. So the first element of the cash proceeds will definitely go towards repayment of debt.
As you say, we have a 25% ownership interest, and that is a liquid stock. So it does provide us tremendous flexibility and liquidity in terms of what we can do with the asset. We do firmly believe in the fundamental business logic of the combination. And I think you see the markets responded to that as a result of the Konecranes share appreciation. It does create a lift a global leader in the lifting and port solutions business.
But to your point, we also understand that we're not portfolio managers. And so as we look at that asset over time, we will determine what's in the best interest of our shareholders to maximize the return for our shareholders, realizing that our shareholders are not paying us to be portfolio managers. So that's how we'd look at that asset over time, realizing, again, we're not portfolio managers. We get paid to operate companies, that's what we'll do. But we do have this flexible liquid asset called the Konecranes shares.
And over time, we'll look to see what's the best use of that asset going forward.
Speaker 4
Thanks very much.
Speaker 0
Your next question comes from the line of Nicole DeBlase of Deutsche Bank.
Speaker 5
Yes. Good morning, guys.
Speaker 2
Good morning, Nicole.
Speaker 5
So I also have a question on Crane. I guess what does current capacity utilization look like? And given that we're theoretically getting pretty close to trough levels of volumes or at least let's hope so, what's the ideal level of capacity utilization that you would want to operate at this point in the cycle?
Speaker 2
So in terms of, you know, we're doing an in-depth review and analysis of our capacity and capacity utilization. In basically no area around the world are we operating on multi shift environments. So all of our plants are at single shift environments. The floor plays, excuse me, the footprint capacity utilization is low. It's especially low in our overall crane segment.
So one of the things that we're looking at, Nicole, is now and then going forward is what's our revenue per square foot of manufacturing space, and then what do we need to drive that revenue to square foot going forward. And so as as we develop those plans, that's a metric that we're gonna be looking at. You know, right now, it's in the low 4 hundreds. It needs to be considerably higher than that going forward. So that that's that's how we're looking at manufacturing capacity utilization.
Speaker 5
Okay, got it. That's helpful. And then just with respect to the color that Kevin provided around the restructuring payback, is that the payback that you highlighted, the incremental payback for 'seventeen, is that predominantly backend loaded or will you start to see the benefit in the 2017?
Speaker 3
Nicole, that's an in year impact, right? So that's during the full year. Obviously it gets greater towards the end of the year. But like for example, a chunk of that would be the Waverly, moved OKC. So we think that's a benefit that we're going be seeing in Q1.
But some of the footprint related impacts in Europe would be more towards the back half.
Speaker 5
Okay, got it. Thanks. I'll pass it on.
Speaker 0
Your next question comes from the line of Ann Duignan of JPMorgan.
Speaker 6
Hi, good morning.
Speaker 2
Good morning, Ann.
Speaker 6
Good morning. I think in your opening remarks you noted that each of your businesses are in different points of their cycle. Could you just walk us through where you think each of the businesses are relative to the cycle?
Speaker 2
Yes. Thank you, Anne. As as we look at AWP, in terms of the the replacement demand, especially the North American rental replacement demand cycle from the 2008 to 2010 time frame, That is clearly driving, our a AWP and where we are in the cycle because North America is still the, you know, the lion's share of of of of our revenue. Europe, as we said, we saw a strong first half on the AWP side. We're seeing some moderation of the growth, but Europe remains solid.
Continue to see growth in the Asia Pacific region with our AWP segment. And then in Latin America, South America, and this is for for all three segments, that part of the world is is virtually getting close to zero, in terms of of of sales. So Latin America across all three segments, it is it's getting close to zero. We're not seeing a lot of activity there. So that's how I'd describe where we think we are on the AWP side.
On the crane side, we're clearly seeing continued disruption in the North American market associated with the oil and gas boom bust as I as I talked about. I recently had, you know, a business meeting with one of our larger customers, and he was talking about how he had had moved here recently a 100 cranes that were basically sitting idle in the Tar Sands area of Canada and moving those to other applications in The US. So in the cycle for cranes in in North America, we are at at or below trough levels for rough terrain cranes, our boom trucks and the products basically that we're making now in our OKC facility. All terrain cranes and crawler cranes are okay when you talk to customers in terms of the utilization. So their utilization is better on those products.
So in North America, we're at, we'd like to believe at or bumping along the bottom the trough. Europe has been solid, if you will, and not contracted quite nearly as strong as North America. And we think that we did have a blip with this German subsidy issue that impacted us both from a mix and a volume standpoint. So Europe, we think is in that middle ground. Our new products are clearly helping us to offset some market tension.
But again, when we talk about The Middle East, again, Middle East is hard to gauge, but it's off. And I don't know if we can say that the Middle East area is is hit more of a trough bottom yet, but it is it is it is clearly off. And so that's how I describe the world on the on the crane side. We don't sell a lot of cranes into to Asia Pacific, but the ones we do sell are the larger ones that are important to us, and that is project specific. On the MP side, we're seeing some strength there as our backlog indicated, especially on our concrete business.
So we've seen an uptick on the concrete side. We've seen an uptick in North America on our mobile crushing and screening side. So that market in the North American market appears to be recovering and we're seeing growth similar steady. We don't see big swings in Europe right now. We don't have much of a presence, if any, in our MP business in China.
So that's something that we're going after. But I will counter that we saw a very nice order that we'll receive in the fourth quarter here in our MP business in India. So they're starting to see some growth in there. The headwind for that segment is really our FUCs business, material handling based on scrap metal prices. We're at or near that trough bottom, we believe.
And so our job there is to expand our product portfolio into other applications and expand distribution. So as I go around our three segments in the world, that's kinda how, you know, we're seeing it, and we're not seeing any dramatic shifts going into to 2017. That help, Anne?
Speaker 6
Yes. It sure does. Thank you. And just a point of clarification then, know we'll probably get more of a long term view in December. But given the eight year replacement cycle in North America AWPs, I mean, should we expect 2018 to be weak also?
And then I'd ask the same question on oil and gas. I mean we really have to soak up all this excess equipment in 2017 and probably into 2018. So is it possible that we bump along the bottom in those two segments for beyond 2017, do you think?
Speaker 2
Thanks, Ann. And again, we'll provide more color at the Analyst Day. Right now, I'd focus on 2017 and our crystal ball gets a little bit fuzzier as we go further out. Clearly, the North American replacement cycle, we're projecting and will determine how much down it is in 'seventeen. But then probably starting, we believe based on our models on the AWP side, a recovery in that 'eighteen time period and '17 most likely being the bottom.
I mean, that's eighteen months out. But right now, that's how we're modeling it and that's what our information indicates. On the crane side, Ann, think we've all been wrong there. So I'm not willing to hazard a guess right yet in terms of as we look at it. We're continuing to work with our customers and and model that and see.
Again, the thing that is helping, and we don't talk about it a lot because there were so much capacity associated with the oil and gas, is the underlying construction market in North America, both nonres and residential construction, is not bad. That will help to absorb some of the products that were in the oil and gas segment. When does it recover? We're you know, I I we don't have clear guidance on that yet, Anne.
Speaker 6
Okay. I appreciate it. And I look forward to the December 13 event. So I'll get back in queue. Thanks.
Speaker 0
Your next question comes from the line of Mig Dobre of Baird.
Speaker 7
Good morning. Thank you for taking my question. Going back to Crane, I'm trying to understand how you're thinking about the fourth quarter guide here really in terms of the book to bill and the way you're thinking backlog is going to be positioned coming out of this year?
Speaker 2
Yes. In terms of the backlog that we have, what we have in backlog is all out for delivery obviously, in 2016 and some of it will go into 2017 going forward. The overall backlog being down 21% is consistent with our sales view and our sales outlook. And as we look at the business across the three segments, we see the most pressure on our mobile products. Towers are holding in there.
And as I said, utilities, we expect to see based on our backlog a modest recovery.
Speaker 3
Yes. I just would add to that Nick. Q3, we did have a few cancellations and pushbacks. So we're assuming as I said in my comments that some of those trends continue into the fourth quarter. So some of the backlog that might be deliverable from a scheduling perspective in Q4, we're assuming like in Q3 that some of that slips into next year and that's reflected in the guide.
Speaker 7
Okay. Well, so here's what I'm really trying to get at here. When I'm looking at your backlog, you're let's say you're going have backlog down something like 30% year over year coming out of the fourth quarter. Orders are also down double digits. I mean mathematically in my mind there's really no way we're not going to have a call it double digit decline on a top line in cranes for next year.
You're talking about having a goal internally to be able to get the business to breakeven if volumes are flat, but volumes are clearly not going to be flat next year. My question is, are you doing enough in this segment? Are we going to hear about more restructuring at the Analyst Day? How should we think about this?
Speaker 2
Thanks, Mig. Clearly, you're to hear more about the restructuring activities in the crane side as we attack the underlying footprint. So yes, more work come there. And in terms of again, we'll be providing more guidance as we get into 'seventeen. But as we look at the markets, in some cases, markets are at trough or near low levels that we haven't seen before.
And so we anticipate and the teams, you know, and our focus will be to try to drive to a consistent level of of of revenue on a year over year basis. There is more downward pressure unequivocally than there is upward pressure. And that, as factor into our plans and what we're doing going forward, we're going to have to consider that in our restructuring activities.
Speaker 7
Okay. Thanks.
Speaker 0
Your next question comes from the line of Steven Fisher of UBS.
Speaker 8
Thanks. Good morning. You talked about the $10,000,000 of expected MHPS overhead cost savings in 2017. Should we then assume that the remaining 24,000,000 would all be realized in 2018 or might that have a longer tail?
Speaker 3
Right now we're looking at about an additional $15,000,000 so cumulative of 25,000,000 between the two years. Obviously, we'd like to do better than that, but right now, that's what we've got line of sight to. So we wouldn't get the full 34 out until, until eight till nineteen. Obviously, we're working aggressively at that. We're hoping there's upside in the 10 for '17, but that's our math as we stand today, Steven.
Okay. That's coming from, you know, functional, costs, finance, IT, HR, legal. We're sized, as you know, as a company for a much for a much bigger, level of activity. Now that we're going from five to three segments, it's time for us to do some repair work on the corporate functional structure, and that's where we're we do we do need to wait a little bit until after we close the deal, obviously, but we've got good plans in place. So we're thinking about $15,000,000 incremental in 2018.
Speaker 8
Okay. And can you talk a little bit about the competitive dynamics? I mean, you seeing signs of stabilization in pricing anywhere in your business? Or you're anticipating or are you anticipating that the year over year pricing headwind will extend for much of 2017?
Speaker 2
As far as what we're seeing this year is clearly across the segments, especially in AWP and our Crane segment, we are seeing competitive pricing headwinds. As we think about pricing in my opening comments, I think one of the most important things that we can do as a manufacturer is to balance supply and demand so we don't exasperate a competitive pricing dynamic. So we'll focusing on ensuring to to their that our production schedules, you know, meet the the market demand so that we can help to influence a competitive pricing dynamic. So right now pricing headwinds are a headwind and we would anticipate them remaining a headwind as we look forward in the 2017.
Speaker 8
Okay. Thank you.
Speaker 0
Your next question comes from the line of Andy Casey of Wells Fargo.
Speaker 9
Thank you very much. Good morning.
Speaker 2
Good morning, Andy.
Speaker 9
I mean, we've touched on volumes and competitive pricing as a headwind. You've addressed a lot of that. Are you facing any additional incremental cost headwinds that might become bigger in Q4 than persist into next year?
Speaker 2
In terms of Q4, I know as we look at our material and our material spend, we have seen a modest blip a little bit on steel and steel pricing in the quarters. But again, that pricing reversed out. We've got about a ninety day lag. We are going to be pushing our strategic sourcing teams to help offset some of this competitive pricing dynamics and volume impact. And then but those are the two things as we look going forward.
So we don't anticipate anything further beyond that. Kevin, you want to comment?
Speaker 3
No. Not really in the cost category, obviously keeping a close eye on the impacts of, Brexit on a translational impact. We should have kind of continued, 2 to $3,000,000 drag on the translational impact from the currency drop. But other than that John I think it's really the steel side that we're looking at.
Speaker 2
Okay.
Speaker 9
Great. And then one follow-up on the corporate and other. You have some small group of assets in there. Are you looking at any additional dispositions?
Speaker 2
We did move some of the smaller companies into corporate and other. The reason, you know, as we look again, the the screen that we look at is the business has scale and the opportunity to out earn its cost of capital, you know, through the cycle in a relative competitive marketing position. And so the businesses that we'll put into corporate and other are smaller businesses. They don't necessarily meet that that characterization. So over time, we'd be looking to potentially dispose of those of those companies assuming that we can get a reasonable value for the companies.
But strategically, they don't match our screen and so we would be looking for potential sales of those companies going forward. Again, we can get reasonable value for our shareholders.
Speaker 3
Let me just give a little bit more color on corporate and other because I know we've been moving things in there. Our latest guide is for a full year loss of about $40,000,000 Now that includes the $34,000,000 of drag from the MHPS unallocated costs, leaving you with about 6,000,000 negative impact. That includes about 11,000,000 of loss for the construction related businesses that are in there for the full year. And then the rest which would be things like Terex Financial Services, government programs, a little bit of the unallocated administrative costs from corporate would be kind of a positive net positive in corporate and other just to give you a little bit of the anatomy.
Speaker 9
Okay. Thank you very much.
Speaker 0
Next question comes from the line of Jerry Revich of Goldman Sachs.
Speaker 10
Hi, good morning.
Speaker 2
Good morning.
Speaker 10
John, in the past you've spoken about return hurdles across the portfolio of at least beating cost of capital through the cycle. And obviously, that's a challenge in cranes. You've done some restructuring, but I'm wondering, are you looking at more drastic actions beyond just incremental facility restructuring that we've spoken about to get to the type of margin performance you would need to hit that hurdle rate? Does that goal still apply?
Speaker 2
Thanks, Sherri. No, the goal still applies and we do believe that we can get the cranes business. Historically, it has a performer where it's earned significantly greater than its cost of capital. So we believe that the goal is achievable. Clearly, we have to get after the underlying cost structure, and that's what restructuring activities are about.
Both, I might add, in terms of physical assets, property, plant, and equipment, but also we've gotta get after our underlying, cost structure within the organization. I will say that as we do this across all the segments, we're gonna aggressively attack our g and a cost, but we're gonna protect the engineering and product development. And and that's especially important in cranes because if we have updated products, we've seen that our customers will buy that and we can expand our scope with and bring new customers, in. And so we will continue despite the downturn to invest in our products, and services going forward. And then we just have to look at our global footprint and reduce the fixed cost and associated cost within the business to get us to a reasonable medium term EBIT margin, operating margin that yields our 10% cost of capital hurdle.
So that's what Steve and the team is going to be focused on. And obviously, I'll be focused on this significantly as well going forward.
Speaker 10
Okay. And then this year, you mentioned that the margin performance has disappointed you in cranes and obviously you've got the management transition. Can you just talk about what part of the turnaround didn't get as much traction as you had hoped for this year? And how we should be thinking about these action plans over the next, call it, six to twelve months?
Speaker 2
Yeah. I think it really folds into two broad categories. The cranes industry is a relatively And so customer intimacy and customer knowledge is incredibly important. And I think as Steve will help drive and to help mitigate some of the headwind pressures that we have on the top side on the revenue side.
So I think Steve, he brings a unique capability there. Also, on the restructuring side, we have to move aggressively and and and and as quickly as we can, again, paced by the talent to implement the complex moves and regulatory hurdles. Steve's had to deal with a lot of that in his in his last assignment. So I think he's perfectly suited for the for the knowledge of the customer base plus his past experience of how we have to move aggressively and decisively on restructuring activities to position the business for for future success. So those are just two areas.
And, again, Ken did a, you know, a great job. I just think when you were we're shrinking the organization from five segments to three segments, and you've gotta make the choice on on who you think the best the best person is for the job going forward. And I think Steve's that person.
Speaker 10
Okay. Thank you.
Speaker 0
Your next question comes from the line of Seth Weber of RBC Capital Markets.
Speaker 11
Hey, good morning, everybody.
Speaker 2
Good morning, Seth. Just
Speaker 11
given your comments on the pricing environment, I'm wondering, you think that you guys can hold a 30% decremental margin in the AWP business next year?
Speaker 3
Yes. No, I think Seth, the focus Matt and the team have on cost is no different than the other segments. They fully appreciate the realities of the replacement cycle math. They're preparing for it and we do have fair amount of flexibility being largely North American based. Our ability to augment our cost structure is a little bit easier actually than MP and Crane.
So I do believe we can maintain reasonable decrementals going into 2017.
Speaker 11
Okay. So 30% is a good number to think about then?
Speaker 3
30% or better.
Speaker 11
Or better. Okay. Thanks. And then I'm wondering, can you give us any color on the warranty expense that you guys called out in the crane business? Can you quantify it?
And I guess is that it sounds like that's going to continue here in the fourth quarter, but have you kind of ring fenced that and you'd not expect that to continue into 2017?
Speaker 3
Yes. We've had a number of items that we've called out over the three quarter period. Roughly aggregate drag on year to date earnings for cranes is about $15,000,000 from total quality warranty, product campaigns, etcetera. Certainly an anomaly for that segment but it's been a meaningful part of the miss that we're experiencing this year. Not going to get into specifics by product but it's been fairly broad based.
Speaker 11
Okay. But do you expect that to be
Speaker 7
done by
Speaker 11
the 2016 or do you think that that will bleed into 2017 as well?
Speaker 3
No. We believe it will be complete in this year.
Speaker 2
And go to more historical product warranty reserve levels, going forward. That's one of the things that we have to drive improvement on. And then also one of the other, you know, talent moves we made there is we've got, one of our senior executives who've been helpful on the construction side and then and been engaged in a lot of the restructuring activities. We've moved George over, to be the head of operations on the crane side, again, to bring the executive horsepower we need to to drive improvements in that segment. And I think that will also help on some of the product related issues we've had as an organization.
Speaker 11
Okay. Sounds good. Thanks very much, guys.
Speaker 0
Your next question comes from the line of Steven Volkmann of Jefferies.
Speaker 12
Hi, good morning. Just a quick follow-up You to that had also talked about some operational issues, I think, in Crane. Do those also go away as we get into 2017?
Speaker 2
Yes. I think we had some disruption in our facilities. And again, the other key challenge here is we had is sizing the organization for the volume that you're going to have. And so we had some unabsorbed cost that we could have, you know, frankly handled a little better in the course of the year. So as we lay out the plans for next year, driving the the headcount, it's not just physical assets, but it's also people, the headcount for the volume, and so that we can absorb that and and going forward is is another aspect.
So that'll be something that we work on as well on the restructuring side. It's not just physical assets, but it's also on the people side, unfortunately.
Speaker 12
Okay. Got it. And then you had mentioned also, I think, some inventory destocking. I don't even remember which business that was in. But maybe more broadly, how do you feel about inventories, either yours or in the distribution channels for AWP and cranes?
And do we have to continue that process or where are we in that?
Speaker 2
In terms of we spoke in the opening comments of about a $75,000,000 year over year reduction in inventory. So the distribution channel there is really a rental distribution channel. So we don't that that is the the the channel. And again, there, it's again about matching supply and demand so that we don't oversupply in the marketplace to put further downward pressure on competitive dynamics. On the crane side, it's more of a mixed model between direct distribution, direct to customers and then through the distribution channel.
We do not have a significant amount of inventory in the distribution channel. We did produce some carryover industry at Waverly prior to the closing to cover us through the ramp up period. We think we believe that level of inventory, you know, was appropriate. So we don't, in in in general, unlike some other industries, have a large distribution channel with significant inventory that we have to to move through, going forward. On the net working capital side, you know, we're we're down about 370,000,000 as a percentage of sales from about 29.7% to 26.5%, which is decent improvement in a challenging environment, but not near what we were driving for internally as we go forward as our internal plan.
But we'll continue to manage the SIOP process aggressively so that our supply and demand is in balance so that we don't build up excess inventory and in my view, an inappropriate use of cash.
Speaker 12
Great. Thank you. See you in December.
Speaker 2
Thanks.
Speaker 0
Your next question comes from the line of Robert Wertheimer of Barclays.
Speaker 13
Hey, good morning. If I could just follow-up on the last one, I mean the comments on inventory are great and it's doing better in our view anyway than some of the other verticals we see. We have though seen pricing go outright negative in a few different machinery end markets. Do you guys have any negative pricing or is it just softening?
Speaker 2
We have had year over year pricing erosion. So in some models, in some segments, we start with an annual price increase for the year. And so we have seen some pricing erosion by model. One of the other things that we're working on as a team to drive in our commercial excellence is around pricing and the leakages that you get based from your list on down. So we've got a lot of work going on to stem the tide in in leakages because we are, in many of the segments, you know, at or close to being a market leader.
So how we set price does impact the overall market. And so but we have seen in some products, in some regions, year over year price declines.
Speaker 13
Okay, perfect. Let me ask you a different question, I may. You gave a nice walk through where you are in the cycles. I wanted to ask a little bit more detail on aerials in Europe. I mean, least to us, it seems as though you never really the industry rather never really fulfilled a replacement cycle there.
I mean, we have one in The U. S. I'm not sure we did in Europe. Is that your view? And is there a chance that there's underlying strength in Europe despite the recent softening?
I'm not sure why it's soft. In other words, if replacement should be relatively okay.
Speaker 2
We clearly have not seen the same pronounced replacement cycle in Europe that was seen in North America. So the underlying demand has been more stable with less volatility. We are seeing a bit of a pause associated with Brexit in The UK. There has been some pause there. But the underlying market does not appear based on what we've currently modeled to have this relatively significant decline associated with the replacement demand cycle.
Speaker 13
Great. Thank you.
Speaker 0
Your next question comes from the line of Joel Tiss of BMO.
Speaker 14
Hey, guys. How's it going?
Speaker 2
Going well, Joel.
Speaker 14
I just there's been a lot of questions about the businesses. And I just wondered if we could spend a minute to talk about the internal restructuring. And when do you think we're going to feel kind of the full benefits? When is the new tariffs going to come together? It sounds like it's more of a 2018 or is that going to bleed into 2019 you think?
Speaker 2
I'll turn it over to Kevin, but I'll just start. As I said, have more work to do with our restructuring activities. Obviously, we'd like to get it done sooner rather than later. We'll we'll implement more actions here and probably most likely in the fourth quarter and some more actions in '17. We'll realize the benefits of those in '18 and and beyond.
But that's kind of the timeline that, you know, that that that I'm looking at. We'll we'll move as aggressively as we can, with some of the limitations, going forward to to get the to right size the organization for for the markets that we're in. Kevin, you wanna talk about
Speaker 15
Yeah.
Speaker 3
No. I think clearly not a wait till eighteen activity. You know, John's mentioned still not complete in our portfolio evaluation, so that work continues. There are some things we're doing right now on costs. There are also a large chunk of cost related activities, reduction activities that trigger on the sale of MHPS, so late Q1.
And as we said earlier, we see the footprint rationalization beginning in earnest and but also accelerating through 2017 into 2018. So there's a lot of activity. It's not a wait and see by any stretch, Joel.
Speaker 14
And then just a follow-up, are these as you it's probably too early to tell, but are these the three right segments to be riding for the next five to ten years? Or there's still more work to be done to get to the answer there?
Speaker 2
No, I think Joel, right now the reduction from five down to three segments and competing in the aero work platforms industry through our AWP segment, the mobile crane side through our tower cranes, mobile cranes and our utility products and then material processing. I think if you look that these are businesses where we have a scale on a global basis. We have, in many businesses, consistently out earned our cost of capital in the case of AWP and MP. And then on the crane side, it is fundamentally a good business in terms of the competitive dynamics in the marketplace. It is clearly a cyclical business and we have to get our cost structure in line with that reality.
So I think as we go forward, these three industry segments or three industry segments that we can compete and win in and and return capital and returns to our shareholders that reward with them for being in in these three segments. So that's that's clearly how we're looking at the business for the next five year time horizon plus is that these are the three industries we're in. We're going to compete aggressively and win in these three industries.
Speaker 14
That's great. Thank you very much.
Speaker 0
Your next question comes from the line of Steve Barger of KeyBanc Capital Markets.
Speaker 16
Hey guys, thanks. Got on the call I'm trying to think about the consolidated SG and A ex MHPS for next year. Did you guys give what that run rate could look like?
Speaker 3
Yes. We didn't share twenty seventeen numbers at this point, Steve. But we did kind of walk through, a lot of the cost restructuring actions and what impact they would have on 2017.
Speaker 16
Okay. I'll go back and check the transcript. And then just to the comment that you just made about Crane being fundamentally a good business, but at the bottom of the cycle. Do you mean that in the context that globally it's not oversupplied or it's rational? Guess why is it fundamentally a good business on a go forward basis if we stay at a relatively constrained level of end markets for a while?
Speaker 2
Right. I think if you look at the global marketplace and the number of global competitors, there are barriers to entry in terms of these are complex, highly engineered products. And so it does create that level of barrier to entry within the industry segment. There has been us and other competitors in the industry are rationalizing footprint and taking cost out capacity out of the system. I think that overall will help the industry going forward.
And so when I say fundamentally, those are kind of the underlying fundamentals that you can look at and say the business should, through the cycle, always cover its cost of capital. That's what we're setting ourselves up to do. So that's the fundamentals that I look at.
Speaker 16
Understood. Thanks.
Speaker 0
Your next question comes from the line of Antti Sutterlin of Donske Bank.
Speaker 15
Yes. Hi. Could you talk about the MHPS business? How much was sales and how much was EBIT in the quarter?
Speaker 2
In terms of the MHPS, and I'll comment and then turn it over to Kevin real quickly, sales overall were down in the quarter about 10%. That was really driven by our port business that was down. The material handling business was down low single digits in terms of revenue, but actually increased on the material handling side, increased our profitability by about 100 basis points. I don't have the specific EBIT in front of me. I'll ask Kevin to get that or we'll break that out follow-up on your call.
But overall, the business port has been tough with the container traffic. So we've had a decrease in port business order intake. We've got a fourth quarter that we've got the material harbor cranes that we've got to deliver here in the fourth quarter. On the MH side, greater stability, off a little bit, but good performance on margin expansion on lower volume in our MH side of the business.
Speaker 3
Yes. I'll just add to that, John. The GAAP EBIT for the quarter was $79,500,000 That included a good guide of about $55,000,000 You guys will recall that in Q2 we took an impairment based on the sale proceeds expected of $55,600,000 given the stock appreciation that we saw during the third quarter, were able to fully reverse that. So when you back that out and some other small restructuring adjustments, we've got an EBIT adjusted an EBIT as adjusted of about $26,000,000 for the period.
Speaker 15
All right. And is this before or after corporate allocations?
Speaker 3
That does not have any corporate allocation in it. It also reminds you that under discount accounting, freeze the depreciation and amortization. So that $26,000,000 doesn't have depreciation and amortization or a corporate charge.
Speaker 15
Thank you very much.
Speaker 0
Your next question comes from the line of Yuma Abibi of JPMorgan.
Speaker 17
Thank you. Good morning. My first question is you mentioned that you expect to reduce debt with expected proceeds from the Kona Cranes transaction. Has your view changed today versus prior quarter in terms of how much of that proceed you expect to reduce debt by?
Speaker 2
No. Again, we're trying to drive towards an optimal capital structure as we've looked at this, somewhere in that in the range of 2.5 times net debt to EBITDA through the cycle. So that implies somewhere around, in the range $700,000,000 of debt repayment in the year next year post closing.
Speaker 3
Okay. Other piece I would add to that is I think most of you probably saw that we went out and were able to get amendments on our credit facility, which allows us now with that debt repayment to go after our higher cost debt, our senior notes at 6.56%. So we're looking at twenty seventeen once we accomplish that roughly a $40,000,000 reduction in interest expense.
Speaker 17
Okay. So just to be clear, you expect to reduce debt at closing by about $700,000,000 and it looks like you're looking at the senior notes for debt reduction here.
Speaker 2
That's correct.
Speaker 17
Great. Thank you very much.
Speaker 0
At this time, there are no further questions. I'll now return the call to management for any additional or closing remarks.
Speaker 2
Thank you again all for your interest in Terex. If you have any additional questions, please follow-up with Brian. He'd be more than happy to answer those questions. And I really do look forward to seeing you at our analyst meeting in New York City on December 13. Again, you for your participation.
Speaker 0
Thank you. That does conclude the Terex Corporation third quarter financial results conference call. You may now disconnect.
