Good morning, ladies and gentlemen. And welcome to Modine Manufacturing Company’s Third Quarter Fiscal 2020 Earnings Conference Call. At this point, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Ms. Kathy Powers, Vice President, Treasurer, Investor Relations and Tax. Please go ahead.

Good morning. And thank you for joining our conference call to discuss Modine’s third quarter fiscal 2020 results. I am here with Modine’s President and CEO, Tom Burke; and Mick Lucareli, our Vice President, Finance and Chief Financial Officer. We will be using slides for today’s presentation, which can be accessed either through the webcast link or by accessing the PDF file posted on the Investor Relations section of our website modine.com. This morning, Tom and Mick will present our third quarter results for fiscal ’20, and will provide an update for our outlook for the rest of the year. At the end of the call, there will be a question-and-answer session. On Slide 2 is our notice regarding forward-looking statements. This call may contain forward-looking statements as outlined in our earnings release as well in our company’s filings with the Securities and Exchange Commission. With that, it’s my pleasure to turn the call over to Tom Burke.

Thank you, Kathy, and good morning, everyone. Overall, third quarters sales were down $67.6 million or 12% from the prior year. These results were in line with our previous guidance. Third quarter adjusted operating income was $24 million, down $10.8 million or 31% from the prior year, primarily due to lower sales volume in our VTS and CIS segments. As reported last quarter, several of our end markets slowed significantly in the past few months, but conditions appeared to be stabilizing. As per other highlights during the quarter, I’m pleased report that our free cash flow improved to $11.6 million this quarter, including auto separation and restructuring costs. We’ve also strengthened our balance sheet by turning out a portion of our short-term debt. Mick will cover this in more detail during his section. Under CIS leadership team it’s keenly focused on identifying opportunities to enhance our margins, and improve operational efficiencies. As mentioned last quarter, margins in this segment have fallen below our targets. We have plans in place to strengthen our coils business and grow our coolers business. In addition, we're making organizational and structural changes to how we manage our data center business. The volatility of our data center sales has created short-term challenges due to significant concentration with one customer, but the team is making good progress in diversifying our data center portfolio. I will cover more on this and another strategic priorities during the segment review. Before diving into our quarterly segment results, I would like to provide an update on our automotive exit strategy. We spent considerable time and investment separating the automotive business from the VTS segment, and plan to start managing reporting the separate auto segment in the first quarter of fiscal ‘21. While this has been time consuming and costly, I believe…

Good morning, everyone. Please turn to Slide 7. As we anticipated and detailed by Tom, market softness continued well through the quarter, VTS and CIS segments were the primary drivers of our revenue decline, which resulted in difficult year-over-year comparisons. As reported, third quarter sales declined $68 million or 12%. Of this $68 million decline, over $50 million was the result of declines in truck and off-highway sales along with the drop to our largest data center customer. Gross profit of $74 million, declined 20%, resulting in the gross margin of 15.5%. The 27% downside conversion was in line with our expectations and based on standard fixed and variable cost structures. Besides the lower sales volume, CIS was negatively impacted by sales mix, resulting from the decline in data center sales. Also impacting gross profit was approximately $2 million of costs relating to the product and equipment transfers in support of our automotive exit strategy, materials and metals had no impact on the corridor and strength in Building HVAC continued with a gross margin improvement of 120 basis points. SG&A for the quarter was $64 million. There were two main drivers behind the SG&A numbers. First, we had lower compensation expenses this quarter, and began seeing the benefits of our cost reduction plan. Second, we have the temporary costs related to our automotive exit strategy. Preparing to exit the automotive business is a complicated and expensive process, including all the separation and program management work. To facilitate this process, we created a program management office to support all the work streams necessary to support the business and transfer products to fully separate our plans. As discussed previously, the auto business needed to be separated and stood up as a standalone fully functioning business. This required that we carve out a…

Thanks, Mick. There's a great deal of work ahead of us, but we are on the right path. Although the process of phasing the automotive business is taking longer than originally anticipated, we have a plan in place to achieve the best possible solution that’ll be in the best interest of our shareholders. Rolling off the automotive business as a separate business segment will allow us to run it differently, selling those businesses and assets to logical buyers and transitioning into orderly fashion to ensure there are no customer interruptions. The timing of the downturn in our end markets hasn't helped our process, but we now up here to have greater visibility to the state of our markets. We have clearly spent a significant time and money on exiting our auto business, but our core markets have softened and we also experienced a large decline in sales to our largest data center customer. All of these items had a significant impact on our results and cash flows this year. However, I am very encouraged about the opportunities in front of us. Modine will be a different company after the auto divestiture with a clear focus on improving our truck and off-highway business. The new CIS leadership team has a clear plan in place to improve the margin profile and our new global data center approach is leading to new business opportunities. We are developing an operating plan to reflect these actions and others to achieve the savings targets we set last quarter. We will share expectations for our next fiscal year when we report our fourth quarter earnings in May. And with that, we'll take your questions.

[Operator Instructions] Our first question comes from Mike Shlisky with Dougherty & Company.

Maybe want to dive in first in CIS and kind of what's behind some of the downstream there in that business. I guess -- can you give us maybe buckets some of that’s more thematically, I know there is one customer that’s given you some challenges. But maybe is it -- do you know if the customer still straight up investment, is it a pricing problem? Are there other companies out there that are undercutting you on pricing? Are there any issues with logistics? Just kind of other -- some thoughts of what's going on there?

Great question. And let me just kind of give some colour starting with covering those points. First off there is absolutely a great relationship with this customer, okay. Our teams have done of super job in supporting and servicing them. We're in constant communication. We have a dedicated program team that supports them on a weekly basis. We've always said from the beginning, this is a lumpy business and it comes in build out of capacity for that customer. They had -- we had, if you think back, we had a kind of a peak year in fiscal ‘19 that blurred some in this fiscal year. What's happened is we’re going to low the capacity build-outs, which they've been clear with us on what that looks like. As I mentioned, we think that's going to have an impact in the next fiscal year for a while, and it's going to really come back strong following that. As far as relationship, commercially, no, no problems on pricing, service or support or new entrants coming in and undercutting us. It's not -- we have our established share with them, okay, and we made that clear. So right now, we just anticipate the low-end capacity build-out on their half that they're waiting for their capacity utilized further before they started adding more orders and more build-outs for capacity. Saying that, I'm very pleased with this new single-year focus to the market with the organization structure, which is taking, we've brought the best of resources from CIS and Building HVAC, putting them together to services -- this customer and other customer brought in with the intent of not only growing, but diversifying more. And we did land in order this year. We launch the next fiscal year with another cloud provider. The search generating, improving that strategy is going to work from a diversification standpoint. So, yeah, there's nothing I'm concerned about other than the fact that we're just have to live with the lumpiness, but as we build and grow and diversify the customer base more we're going to see less susceptibility to them.

Okay. Thanks for that. I wanted to also ask about the various cost reductions you mentioned last quarter and have suddenly come into action this past quarter. I'm not sure a few months into it. Can you give us some sense as to the timing of when those might be incurred and when the debt might hit? And whether you can maybe give us some sense as to what might be in COGS, what might be in SG&A?

Well, let me -- I'll start and let Mick take it from here. We've been very aggressive as we’ve stated last quarter than focusing on making sure that we adjust our cost basis to -- adapt to what we see going forward in some of the pressures that we've seen in these markets. So we've had significant reduction in force across businesses to anticipating that and plus other things in procurement that I mentioned in logistics that were driving cost-focused to meet our target of $25 million to $30 million. I'll let Mick kind of give a little more colour on that in detail and how we see that rolling out.

Yeah, the total savings that Tom referenced, Mike, we were targeting about $15 million in people cost savings, and we began our reductions in January. And so far run rate savings are right around $13 million, so well on our way on that savings run rate. We've talked about a $2 million to $3 million cost severance costs to do that. And in the quarter here we had about $2 million of severance charges, and then the run rate of $13 million. It's fairly evenly split between cost of goods and SG&A.

Okay. Great. I wanted to get a couple of more clarifications also on the auto separation real quick, and a few things that you had mentioned in your prepared remarks. First, did you say that you were -- you're currently pursuing two separate sales in the auto -- of two new parts in the auto business? Or are you going to sell one and then wind down the other? I also want to ask, secondly, if you precede most of the process of separating the business, can you have some sense as to the EBITDA results or some earnings number of that business? And maybe third, it sounds like as you’re going to be putting this into your fiscal 2021 numbers, I kind of wanted to clarify -- curious how close you are to actually starting this business? It sounds like there might be a few more quarters that you'll be in your portfolio at the very least if not more than that. It's going to be officially in your SEC financials targeting in fiscal 2021?

Okay. So there are three questions here. I'll take one and three, and turn to over to Mick as far as EBITDA run rate. But, yes, so just backing up, the process we announced a year ago in January was to sell the complete auto business. And that is everything - globally, everything is automotive, roughly $600 million. Through the process and the challenges that we've found only some of that because market concerns and some because of concerns that there are different elements in that business that some value more than others. We decided when we got to the end was to pull the plug, and we're going to be looking at how to come back out because our strategy is still the same. Our focus - we know strategic long term we want to sell the automotive business and leave that segment. So we've been looking at the perimeter and we'd brought it back. And there are really two natural kinds of groups inside of auto. And I didn't go into technical detail, but there's - what we call liquid cool or engine related products business, and there's an air cool business, which is typically the power train cooling module in the front of the car. Our potential buyers have interest in either way. So we decided to splitting that and selling --and they're looking at divesting those in separate processes. So we have a process in place to one of those right now, okay, I call it the higher value portion of that -- we split that business, that process is underway. And we feel positive with engagement as I mentioned of potential buyers that we're dealing with. And then the other segment, we're looking at a separate process approach of divesting their business and that is with a separate set of potential buyers that we're engaged with as well. Timeline, we wanted timeline to focus on the liquid pool, the first part that I mentioned that we expect that to be actively go into the process in the next couple of months to see that where we come it, but we're not putting a timeline out there and finish line. We want to make sure that this is a quality approach. We engage all the buyers in a high quality fashion and have an opportunity to maximize proceeds from there. But that will take the next couple, several months to complete that. On the other side, we're working with buyers potentially to engage with, and we'll be communicating on how that moves forward from there. So, again, that's the general picture of what we are. And I’ll let Mick to kind of handle the EBITDA question.

Yes, from a margin standpoint, Mike, we haven't disclosed specific numbers. But what we can share, and I think it's helpful, we look, probably to use this as use last fiscal year, VTS EBITDA was around 9%, and we've said the auto business in totality is significantly below the VTS average. Auto in total is more of a mid single digit EBITDA business and within there, as Tom broke down, there's a pretty broad spectrum of margins, and there, I'll leave it. But there are margins significantly higher within auto, and then there are more challenged margins. But auto as a total within the VTS segment is well below the VTS segment’s total margin, and has been our largest user of capital and the largest require, I guess, I would say of restructuring costs over the last five years. So not only we see a margin improvement post the auto divestiture, but less capital intensity and needs for that business going forward. Tom, I don't know if you want to add anything.

Yeah, I think it's important, and I mentioned that -- and I used the term it walled off as far as the segment reporting starting next year. It's important. And we have that enhanced transparency that we can demonstrate during the exit period and allow us to show what we’re doing will look like post divestiture. I think that's really important element of our strategy. We want to be very transparent to shareholders to say this is walled off; this is what we're looking at divesting. We'll keep our shareholders informed on that process. When you can kind of show -- I'll call it a semi pro forma basis what the companies are going to look like when we're done with that divestiture process.

Okay. I will pass it along for now. I've got some more. I'll hop back in the queue. Thank you.

Next question comes from Matt Summerville with D.A. Davidson.

Thanks. Just a follow-up on the CIS business. You sort of talk through the data center piece. I'm more curious to see how you feel the business is performing on the commercial HVAC R side relative to underlying markets. And I guess the genesis of the question is you've had some operational executional challenges. Do you feel your market share in that business is stabilized or is that still yet to come?

And I feel it's definitely stabilized. It's a good question. We have a whole new focus on that business with bringing key leadership in both growing the overall business and the key positions inside of the operating and customer-facing side. So what we're finding is that besides the operational efficiencies that we focused on delivering timing and which is very important to those customers. And our team has met with all key customers both large and small and with our distributors we are represented -- excuse me, on how we're going to attack this both on the performance side -- on cost, performance and delivery, but also on the market-facing side on executing on timing, delivery and pricing. So I feel that we definitely at our -- share position is holding and expect the margins to improve while implementing all of these actions. Our focus again, as we mentioned, is we're targeting 200 to 300-basis-point improvement in the next two years to kind of quantify and give you a target what we're shooting for. And of course, we’ll have that included the bounce back in the fiscal '22 timeframe with a stronger customer orders from the large data center customer plus. We anticipate growing sales with the other customers in that business.

The other thing that has really impacted us Matt is the last couple quarters in that broader category has been sales, specifically, in the transportation refrigeration side and also on the RV side. So the broad category and, I know, a lot of people look at broad HPAC industry statistics. But we got two key customers in particular that we don't see that as a share loss. And then on top of that very specifically, we have community business and transportation, refrigeration and RV.

And that's just purely driven by market demand right now is some similar to truck capacity goes right along with in hand with as refrigerated capacity needs for transportation of refrigerated goods.

And then just to get back to the pricing part, and you made a comment just a moment ago and then in your prepared remarks. Historically speaking, what has -- and this is just on the commercial HVAC R side, what has been the historical price practice, the historical -- maybe lack of discipline in that business? And what should the expectation be going forward? How important is price in order to get that 200 bps to 300 bps of margin improvement you're looking for?

Yes, I mean it's a portion of it. I think our discipline needs to improve. Right now, we sell a good portion of that business through representatives that represent us on an exclusive basis, and we've had discussions with those and are the discipline that we're going to follow and the kind of the rules based approach towards bidding new business. So I think you’re going to see some improvement directly. It's a portion of that 200, 300, I don't want to say how much, but clearly all together with the other factors I talked about is what we're gunning for. But there is a portion of that that we want to hold pricing discipline. And to that point, a key part of coiling pricing is making sure we deliver on time, on quality, okay, so the two will go hand in hand, which I think. So we’ll -- as we fix one will help improve the other one as well besides the discipline on pricing over setting.

And then as a follow-up to the cost out question, I think, Mick, you mentioned $15 million of people-related savings embedded in the $25 million to $30 million. Can you maybe talk about what the other major buckets are that sort of get you there? And then out of the $25 million to $30 million, how much is being realized in your fiscal ‘20 versus how much should be realized in fiscal ‘21? Thank you.

Yeah, great question. So out of the balance, call it $10 million plus, we've got two major buckets, and I would catch all of other. The largest would be procurement and there's a number of new initiatives on our procurement team, specifically focused on some VAV activities and indirect spend. There is some -- the targeted manufacturing process improvements, Tom mentioned a little bit, in pricing, and then there's just a catchall. The biggest basket of the balance would be on the procurement side heavily in the next year. And then to your question about this year, we should -- out of the $25 million to $30 million we're targeting to have about four to five in this fiscal year, and then, obviously, the balance --majority of the balance flowing into next fiscal year.

Next question comes from David Leiker with Baird.

Good morning. This is Erin Welcenbach on for David.

Hi, Erin.

So my first question is related to kind of the continued downward revisions we've seen in the commercial vehicle markets in terms of build schedules. I know it seems like your guidance have been changed. So that was perhaps communicated well via your customer schedules last quarter. But just wondering, kind of what you're seeing in that market there and if the continued downward revisions in that build process maybe causes a need for any additional restructuring actions?

Well, we've studied this backwards and forwards as far as where it's going both from market data, our customer feedback analytics that the team is going through. We feel that we've got underneath this thing what we've projected on last call. We feel that going forward we think we're pretty stable to those projections. But the market outlook for '20, we see, overall, as far as conditions what we're expecting is North American mediums being down about 8%, at least down 23% in Europe, down truck being about 15% down. So we think it's going to stay depressed as I mentioned in my opening comments, maybe the back half of the calendar '20. We'll start seeing some improvements, but we think we've got ourselves position at the right run rate that we're sitting at now that we prepared for.

Okay. That's helpful. And then I guess just switching to kind of this combination of leadership between the Building HVAC and CIS segments. I guess why is now the right time to kind of make this leadership transition? Any colour you can share on that?

Yeah, it's a great question. The one we've been contemplating since we acquired the asset of CIS, a couple years ago. The concentration on CIS has been really focused directly around one major cloud provider that they did great job with winning that business, and our teams have brought that business forward and established a great relationship. But the CIS team really wasn't set up to provide other sales and support in the region or globally besides supporting that one customer. And Building HVAC team on the other hand has a dedicated data center business centred out in the UK, but a very deep technical competency that's their winning business both in cloud, which I announced in the previous comments, and then, of course, with the collocation customers with what we announced with CyrusOne earlier. So bringing those two teams together under one leader provides us an opportunity to service both the UK, Europe base, and now the North American team that we want to grow geographically with the competency that sits in the UK to augment and support the resources and capability that we had in North America, which again is a great team, but single is focused on customer. So we're looking -- switching resources and bringing key to UK talent from UK to North America to provide that capability. And we're going to have it under one leader, which is our Vice President of the Building HVAC business that has majority of that technical competency under his control today. But again, we'll be servicing the customers of CIS the same way. So there's not any loss of a transition or inconsistency in making that transition. So -- and we review that with the customer and it's received very well. So I'm very excited about the growth opportunity this is going to generate.

Okay, thanks. And then my last question, can you just frame what the typical pursuit or kind of sales conversion cycle looks like when you are trying to win an additional cloud customer?

The pursuit -- could you just clarify a little more?

Yeah. So I guess really the question is in terms of identifying or kind of going after additional customer opportunities, what is the timeline in terms of initial conversation to actually converting that into revenue?

That's a great question. So I think that from my experience with this new approach we're looking at building a new customer base in the U.S. that can happen fairly quickly. I mean they project kind of couple of years out where they want to go bringing people in. And the quote to job one is probably within 12 months to 18 months cycle, I would say. So it's nothing like let's say the automotive or commercial vehicles sides. There is a quicker cycle of order to production. And the pursuit in front of that is clearly message we've received lot in clear is you had the capability both to support the sales and engineering front and the manufacturing front and you’ve proven that. We will consider you. So we’ve -- leveraging that CIS capability in North America with the broader global teams that Building HVAC support is bringing new opportunities quickly. So I answered your question. Erin, make sure that I did, so I think.

Yeah, that was exactly what I was looking for. Thank you.

Okay.

[Operator Instructions] We have a question from Mike Shlisky with Dougherty & Company.

Thanks guys for these follow-ups. Just a couple quick ones here. First it was announced last week that one of your major customers has made an offer to buy the other in the on-highway world. So I was wondering if you could tell us a little bit about your view combining Volkswagen's truck business and Navistar's truck business an opportunity for you or do you already feel pretty well entrenched with both of them and it might be kind of business as usual once it's been when they combined?

Yes, no, that's a great question and one that we feel very good about because you answered your point was exactly the answer. We have good relationships and significant business with both groups now engage very deeply and they announced the procurement initiative first, which is some time ago, which we've been engaged with that pursuing the business with both groups. So I feel that we’re in a great position established in their supplier panel. We've -- last year we were announced a diamond award winner in Navistar and that’s leading to other engagements that I'm very pleased to hear about from our team. So we think this is an opportunity to help demonstrate there’s a global company that supplies and established with both groups that we can expect positive impact from that.

Okay. And then, it wasn't mentioned -- it's kind of one of the topics of the month. Can you maybe comment on your operation in China and in Asia, which describes that the Corona virus, has there been any changes or discussions or issues that you've seen so far?

We have not seen any disruption thus far that's one -- that's important. And I think what I'll mention is what we're doing as risk mitigation to that anticipation of some disruption is our procurement and supply chain leadership is going through all potential materials that could be impacted by supplier, by partner we’re looking at where we sit both in inventory today with kind of the timeline out that we think if we can -- we have continuity to get through most of our fiscal year. And so we're assessing that looking what options can we have if we do see disruption, so looking at second source opportunities, we’re working with customers. We've sent letters to both our customers and suppliers with this information that we're -- our process approach risk mitigation. So I think we're well set up demand is what may come our way. On the ground, okay, what is happening physically in our plants as you know pretty much things are shut down till February 10th by the Chinese government, and we're waiting for the post Chinese New Year holiday for people to return to work. So it's going to be a big portion to see how many people get to work on Monday, okay. And so we're anticipating that we'll be up and running to what degree, and then, of course, how much of our customer base is up and running as well. So I think next week they will start demonstrating just how much of an impact there is. But right now, I think that we've got people working from home, and our, let's say, our ops leadership team in China set up to make sure that if they can't get to work right now because of restrictions that they're -- they have our laptops on and we're operating seamlessly that way. But the question is how much our workforce shows up on Monday and to our customers on Monday, as we look forward. So I feel we've done all the work to prepare for that and therefore -- let's be prepared for whatever may come at as it develops.

Okay. Let me throw in one last one here on data centers. I guess, as you're pursuing new customers in that world, are you trying to kind of leverage on the current large customer and that product design? Or are those designs protected by IPE? And you can't really sell them to other folks. And I guess the broader question is that you have to bring out a lot of extra engineering costs to get these new data centre customers or potentially have to visit quite low against that business lease at the outset there?

Well, first I'll say we're pleased with the margin. So let's start with the last and work forward. So it's a large market. We're targeting about $2 billion market and we look at it. We’re kind of broken into three categories, cloud, collocation and an enterprise, enterprise being the smallest. And so we're focusing on cloud and collocation, specifically. As far as the earlier question from the Baird representative is that that upfront proven capability demonstrates you have right resources and capacity in place is important. So I think that we're well positioned as I just pointed out by one example, we weren't in business in UK with the new cloud provider. So that demonstrates the kind of the capacity capability we have to do that. As far as technology and what's swelled up and what's not depends by customer. Of course, some customers we may be engaged in a very direct development work with them and that's their IP, and we'll support that. In other cases, we'll leverage the IP we have to support this. So engineering capacity, we have a deep technical competency base in the UK supported by teams in the US both in CIS, in Building HVAC in North America. So we think we can leverage the leadership. We are transferring [Indiscernible] over that self build that establish cloud computing -- collocation computing capability in the UK to the U.S. and to help build the relationships via strong -- The key here is strong relationships both its specifying engineers that support these customers that just depend on specifying firms that develop that firm. We have very good capabilities at that level. And that's a key kind of what I would say, market advantage that we have to leverage this. There are global companies that we can leverage that relationship around the world.

I am showing no further questions at this time. I would now like to turn the conference back to Kathy Powers.

Thank you. Thanks for joining us this morning. A replay of this call will be available through our website in a couple of hours. I hope everybody have a great day.

Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.