Meritor, China weighs on Cummins earnings

Cummins Inc. took a hit to third-quarter earnings from its $3.7 billion acquisition of Meritor Inc., but the purchase will help at least two divisions of the engine maker and power distribution business in the years to come, the company said on Thursday.

“The integration of Meritor’s people, products and capabilities in axle and braking technology will position Cummins as a leading provider of integrated powertrain solutions for internal combustion engines and electric propulsion,” said Jennifer Rumsey, CEO of Cummins, on a conference call with analysts.

It may take a while. Cummins forecasts $130 million in pre-tax synergies from the merger of the companies after three years.

“In percentage terms, it will clearly be dilutive in the early stages of ownership and the goal is to continue improving that over time,” said CFO Mark Smith.

Expensive integration of Meritor

Net income for the third quarter was $400 million, or $2.82 per diluted share. Excluding the cost of acquiring and integrating Meritor, net income was $456 million, or $3.21. Net income was $534 million a year ago, or $3.69.

Cummins cut its full-year guidance for earnings before interest, taxes, depreciation and amortization to 15% from 15.5%, not counting Meritor. Acquisition costs will decrease in the fourth quarter, Smith said. Cummins will release its results including Meritor starting in 2023.

Russia, China also problematic

Other issues affecting the 19% quarter-over-quarter to $884 million:

  • Costs from the indefinite suspension of Russia operations. That withdrawal resulted in a charge of $158 million in the second quarter.
  • A fee of $16 million, or 9 cents per share, to prepare for the anticipated separation of the filtration business.
  • A softer than expected Chinese market where COVID-19 lockdowns prevented engine production.
  • Pay a one-time employee bonus to keep employees.

Cummins charged about 4% more for its products in the quarter, nearly double the 2.3% it paid in higher costs. As a result, revenue rose 22% year over year to $7.3 billion, beating estimates by $170 million. Excluding Meritor, revenue was $6.6 billion, up 11%.

North America sales rose 19% to $4 billion despite better pricing, higher volumes and higher aftermarket demand, maintaining the forecast 15% to 20% improvement. Cummins is forecasting heavy truck industry production of 64,000 units for the third quarter, up 23% year over year. Based in Columbus, Indiana, the company anticipates full-year heavy-duty production in North America of 260,000 units.

Supply chain improvement but not fixed

“We continue to see some supply chain disruptions,” Rumsey said. “From my perspective, it’s been improving quarter over quarter and we’ve been increasing build rates and driving some operational improvements.”

However, she said ongoing supply chain issues, led by electronic components, are making her prospects for a better fourth quarter and next year bleak, although Cummins forecasts a recovery in EBITDA to 15.5%.

China remains a problem. The country, which led the global recovery from COVID at the end of 2020, is restricting the business of companies with a large presence there like Cummins.

“It’s certainly not part of the improvement from Q3 to Q4,” said Smith.

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