Axalta Coating Systems Q4 2023 Earnings Call Transcript

Quartr
Provided by Quartr
February 8, 2024

Key Takeaways

  • X posted a record Q4 and full-year: Q4 net sales rose 5% to $1.3 billion and adjusted EBITDA jumped 21% to $251 million (19.3% margin), while FY net sales climbed 6% to $5.2 billion with adjusted EBITDA up 17% to $951 million (18.4% margin) and EPS of $1.57.
  • Mobility Coatings volumes grew 9% in Q4 (10.6% for FY), marking the 7th consecutive quarter of gains driven by portfolio shifts toward fast‐growing OEMs and new business wins in China supported by investments like the Jilin plant.
  • Margins expanded on 12% variable cost deflation and productivity initiatives, delivering 250 bps of Q4 margin improvement and reflecting disciplined price realization across all end markets.
  • Free cash flow surged 174% to $447 million and net leverage fell below 3x to 2.9x year‐end, with $1.2 billion of liquidity enabling further deleveraging, targeted share buybacks and accretive M&A such as the Andre Co acquisition.
  • 2024 guidance calls for flat Q1 net sales with $240 million adjusted EBITDA and $0.40 EPS, and FY net sales growth of low single digits, $1.01 billion–$1.05 billion adjusted EBITDA, $1.80–$1.95 EPS and $400 million–$450 million free cash flow.
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Earnings Conference Call
Axalta Coating Systems Q4 2023
00:00 / 00:00

There are 15 speakers on the call.

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Axalta's Q4 Full Year 2023 Earnings Call. All participants will be in a listen only mode. A question and answer session will follow the presentation by management. Today's call is being recorded and a replay will be available through February 15.

Operator

Those listening after today's call should please note that the information provided in the recording will not be updated and therefore may no longer be current. I will now turn the call over to Chris Evans. Please go ahead, sir.

Speaker 1

Thank you and good morning. This is Chris Evans, VP of Investor Relations. We appreciate your continued interest in Axalta and welcome you to our Q4 and full year 2023 Financial Results Conference Call. Joining me today are Chris Villavarian, CEO and President and Carl Anderson, CFO. We released our quarterly financial results this morning and posted a slide presentation to the Investor Relations section

Speaker 2

of our website at axalta.com,

Speaker 1

These statements involve uncertainties and risks, and actual results may differ materially from those forward looking statements. Please note that the company is under no obligation to provide updates to these forward looking statements. Our remarks and this slide presentation also contain various non GAAP financial measures. In the appendix of the slide presentation, we've included reconciliations of these non GAAP financial measures to the most directly comparable GAAP financial measures. For additional information regarding forward looking statements and non GAAP financial measures, Please refer to our filings with the SEC.

Speaker 1

I will now turn the call over to Chris.

Speaker 3

Thank you, Chris, and good morning, everyone. This was another great quarter for Axalta. I'm pleased that we met or exceeded all targets for our full year guidance and I want to thank the entire global team for their dedication and strong execution. Q4 net sales increased 5% year over year to $1,300,000,000 With positive contributions from both segments, volumes improved 2% year over year led by a 9% growth in Mobility Coatings. This represents our 7th consecutive quarter of mobility volumes growth as auto productions have normalized from historic lows And we have successfully repositioned our portfolio with some of the fastest growing automotive OEMs.

Speaker 3

Price mix was a 1% year over year improvement with pure pricing approximately 3% better year over year When excluding mix effects and one time pricing realization, all end markets contributed to better year over year pricing gains. This was a great achievement for our commercial teams and a demonstration on our ongoing emphasis on pricing realization. Going forward, we will remain disciplined as we face pressure from higher labor costs and strive to restore margins to historical levels. Adjusted EBITDA increased 21% year over year to $251,000,000 and adjusted EBITDA margins improved by 2 50 basis points to 19.3%. I would like to now review some of our key accomplishments from the past here on Slides 45.

Speaker 3

2023 was a tremendous year for Axalta in which we achieved record net sales and adjusted EBITDA. 2023 net sales were $5,200,000,000 6 percent better versus 2022 with all end markets reporting positive price mix growth. Mobility Coatings volumes growth of 10.6% was supported by normalization of global auto production and further supplemented by new business wins, particularly in China. We have made substantial investments to support growth with local Chinese OEMs over the past several years as they exemplified with the opening of our new manufacturing site in Jilin. We continue to see this region as an attractive long term opportunity for the business.

Speaker 3

However, strong growth in Mobility Coatings was balanced by volume weakness in performance coating that was centered around soft construction activity within our industrial end market. Yet Refinish remains a very attractive and resilient market. The team delivered another excellent year with over 2,500 net body shop wins, expanding on our leading position. Altogether, we remain focused on what we can control and are committed to profitable growth initiatives that reinforce the foundation of Axalta. To that end, I'm excited that during 2023, The technology team was honored with several awards for the incredible new innovations we produced for our customers.

Speaker 3

New offerings such as Axalta Iris and NextJet are critical to support our long term growth ambitions. And lastly, we completed the acquisition of Andre Co, a Swiss Refinish distributor. This strategic acquisition positions us well in the attractive Swiss auto aftermarket and gets us closer to our Body Shop customers. Early results have been promising. We're on track with the integration plan and see lots of opportunity for growth, including in non paint accessories.

Speaker 3

My main focus since joining Axalta has been to drive improved efficiency and performance across the enterprise. We have made progress on both these fronts this year. I'm excited to report record annual adjusted EBITDA of $951,000,000 an improvement of 17% year over year. This was an incredible achievement for the team and an early reflection of the transformational journey underway. All 4 end markets delivered improved earnings and profitability versus 2022.

Speaker 3

Refinish had another solid performance with the 3rd consecutive year achieving record sales and earnings. In both light and commercial vehicle, we have made incredible progress after several years of market challenges. Mobility Coatings second half adjusted EBITDA is now consistent with 2019 run rates setting us up well for 2024. And lastly, industrial earnings improved versus 2022 despite volumes being almost 20% below 2021 levels. The entire enterprise is delivering on our stated goal to drive profitable growth and we're making progress towards a return to historic margins.

Speaker 3

Full year adjusted EBITDA margins improved by 180 basis points to 18.4%. During the year, we drove urgency and speed with our productivity and purchasing initiatives, which we believe accelerated the capture of incremental benefits in addition to deflationary gains. We're driving growth in areas with attractive returns while selectively shedding others that don't meet our margin threshold. Free cash flow was another bright spot. We ended the year at near record levels and drove inventory reduction and benefited from increased operating earnings.

Speaker 3

2023 adjusted diluted EPS of 1.57 improved by 6% year over year. For the first time in the history of Axalta, we ended the fiscal year with net leverage below 3 times and plan to continue to strengthen the balance sheet going forward. We demonstrated significant improvements in our operating performance and ended the year significantly more profitable than we started. While Axalta's transformation is just beginning, I'm encouraged by the pace of progress. Our teams are focused on the right objectives and we're winning together as 1 Axalta.

Speaker 3

As we exit 2023, I'm encouraged by the trajectory of our core markets and excited about the investments being made across the business. I believe we're well set up as we head into 2024 after a solid Q4 and a transformational 2023. I will now hand the call off to Carl to review our financial results.

Speaker 2

Thank you, Chris, and good morning, everyone. Before reviewing our financial results in more detail, I would like to highlight that we have changed our primary reporting metric from adjusted EBIT to adjusted EBITDA. The change was made to reflect the way we measure the financial performance of our 2 segments and allocate resources as well as more closely aligned to the design of our long term incentive plans. We have provided historical reconciliations in the appendix of the press release. Let's turn to Slide 6.

Speaker 2

4th quarter net sales increased 5% year over year to $1,300,000,000 with positive sales contributions from both segments. Consolidated volumes were up 2% year over year as strong mobility coatings growth more than offset declines in Performance Coatings. Price mix improved by 90 basis points compared to the prior year period. The pure pricing benefit was approximately 300 basis points higher compared to last year, but was partially offset by negative in comparison from the Q4 of 2022. Adjusted EBITDA in the quarter was $251,000,000 a 21% increase from $208,000,000 in the prior year period.

Speaker 2

Adjusted EBITDA margin improved by 2 50 basis points to 19.3%. Unit rate variable costs were approximately 12% lower year over year with improvements across nearly all categories, marking the 3rd consecutive quarter of realized deflation. Supply demand imbalances in isocyanates, monomers and epoxy resins helped drive a large portion of the benefit. We are also pleased with the additional savings driven by the productivity initiatives we launched last year, which enabled us to improve negotiating flexibility in contract terms. We believe that the favorable raw material environment will into 2024 with comparison strongly benefiting the first half of the year.

Speaker 2

Yet as Chris highlighted earlier, we will remain disciplined in managing our cost structure as we go forward. And finally, adjusted diluted earnings per share increased 13% year over year to $0.43 despite significantly higher interest expense. Moving to Slide 7. Performance Coatings 4th quarter net sales improved by 4% year over year to 849,000,000 Refinish organic net sales improved by a mid single digit percent compared to the prior year period with positive price mix and volume. This was the 12th consecutive quarter of positive year over year net sales growth and we ended the year with record annual refinish earnings.

Speaker 2

Industrial organic net sales were mid single digit percent lower year over year as positive price mix was more than offset by lower volumes principally due to weaker activity in the North America construction market and from the strategic decision to exit certain customers. We see early signs of stabilization. However, demand appears at this time to be relatively muted in the early parts of 2024. Despite lower reported volumes amid a soft macroeconomic backdrop, the industrial team improved margins considerably year over year through cost management pricing discipline. Performance Coatings 4th quarter adjusted EBITDA was $192,000,000 versus $169,000,000 in the prior year period with solid contributions from both end markets.

Speaker 2

Segment adjusted EBITDA margins improved by 200 basis points led by favorable price cost dynamics, which more than offset lower volumes in industrial and higher variable labor costs. Turning to Mobility Coatings results on Slide 8. 4th quarter Mobility Coatings net sale increased 7% to $449,000,000 year over year. Light Vehicle organic net sales increased by a mid single digit percent compared to the prior year period. Volumes were once again very strong, led primarily by above market growth in China.

Speaker 2

The UAW strike in North America ultimately had limited impact in the quarter. Our expectation for global light vehicle production in 2024 is relatively stable following the strong recovery in builds over the past 2 years. Over this time, the team has done a great job in diversifying our sales mix and positioning us favorably with the fastest growing OEMs. Pricemix declined year over year driven by negative mix impacts and the absence of a one time price benefit we realized in the Q4 of 2022. However, pure pricing was up low single digits versus the prior year.

Speaker 2

Commercial vehicle organic net sales improved by a single digit percentage compared to the Q4 of 2022. The year over year improvement was led by low teens volume growth in Latin America with sustained strong demand in North America. We expect North America Class 8 truck demand will decline modestly in 2024 as we are encouraged by elevated backlogs and positive comments from our large customers who see less downside than 3rd party industry forecasters. Mobility Coatings adjusted EBITDA improved to $59,000,000 from $39,000,000 a 50% increase year over year. Adjusted EBITDA margin improved by 3 80 basis points to 13.2%, driven by lower variable input costs and robust volume growth.

Speaker 2

Turning to slide 9 for a review of our full year results. Net sales grew 6% year over year to 5,200,000,000 a new company record. Net sales improvement was driven primarily by positive price mix contributions across every end market. Volumes were down modestly on a full year basis as growth in Mobility Coatings was offset by a slight decline in Performance Coatings. Adjusted EBITDA was $951,000,000 a $141,000,000 improvement and a new company record as favorable price and raw material trends offset headwinds from increased productivity investments and higher variable labor expenses.

Speaker 2

The contribution from Mobility Coatings to adjusted EBITDA growth was substantial, improving by nearly $100,000,000 versus the year period. Adjusted EBITDA margin improved by 180 basis points to 18.4% with a notable step up in the second half of the year to 19.6% versus 17% in the first half. Adjusted diluted earnings per share increased by 6% to $1.57 despite a $74,000,000 interest expense headwind, a modestly higher tax expense and $23,000,000 in exchange losses stemming from revaluation of assets denominated principally in the Argentinean peso and Turkish lira. We have recently taken action that is intended to help mitigate foreign exchange risk in Argentina going forward. Free cash flow of $447,000,000 increased by 174% compared to the prior year, led by higher operating profit and targeted working capital reductions stemming from mid year productivity initiatives.

Speaker 2

As a result of the stronger operating results, we ended the year with a substantially improved balance sheet. Turning to Slide 10, we ended the year with $1,200,000,000 in total liquidity, including a cash balance of approximately $700,000,000 Our total net leverage ratio ended the year at 2.9 times, nearly a full turn below last year and our best ever year end leverage ratio. Capital outlays in 2023 amounted to over $500,000,000 balanced between $214,000,000 of gross debt reduction, $138,000,000 in capital expenditures, dollars 106,000,000 in M and A, and $50,000,000 in share repurchases. Going forward, we expect to modestly increase internal investments in CapEx, net of a significant decline in ERP related spending in 2024 with an emphasis on improving return on invested capital. We see many value creation avenues for capital allocation, including further gross debt reduction, opportunistic share buybacks and accretive M and A and strategic opportunities.

Speaker 2

During the Q4, we refinanced our 2025 senior note set to mature in January of 'twenty five with approximately $500,000,000 of new notes with a maturity date of February 2031. As a result of this refinancing, we do not have another bond maturity until 2027. Our plan is to keep interest expense flat in 24, despite the net increase in interest associated with the bond refinancing. Available offsets include gross debt reduction, interest rate derivatives and the option to reprice our term loan at potentially favorable rates. We intend to continue to strengthen our balance leverage of 2.5 times should be achievable in 2024 through natural deleveraging and disciplined capital allocation.

Speaker 2

I will now turn the call back to Chris for our 2024 financial guidance and closing remarks.

Speaker 3

Thanks, Carl. Let's turn to Slide 11. I'm proud of the team for executing well and driving record 2023 financial performance. I see considerable opportunity to build from here and fully expect us to achieve another record year of earnings in 2024. Net sales in the Q1 are expected to be approximately flat year over year.

Speaker 3

We project volumes and price mix growth to be modest and roughly balanced for the period. 1st quarter adjusted EBITDA is projected to be roughly 13% year over year $240,000,000 with the majority of the improvements supported by margin growth. 1st quarter adjusted diluted EPS is expected to be roughly $0.40 Full year net sales are expected to grow by a low single digit percent year over year with positive contributions from both segments. As for the end markets, we assume A stable refinish environment with upside opportunity for Axalta as we continue to drive body shop wins and further penetrate non paint accessories. In industrial, we expect volumes to remain at current run rates through the year as we do not yet see signs of an upturn.

Speaker 3

For light vehicle, we assume flat global bills rates following a strong production recovery in 2023 and expect Axalta to slightly over perform driven by the business wins and mix. Price mix is expected to be positive net of any RMI impacts. And lastly, in commercial vehicle, we assume North American Class 8 builds will begin to slow midyear before demand ramps back up in 2025 and 2026 ahead of new emission standards being implemented in 2027. Full year adjusted EBITDA is expected to be between $1,010,000,000 $1,050,000,000 equating to adjusted diluted EPS between $1.80 $1.95 We foresee a typical quarterly earnings cadence with seasonal strength in the middle of the year. Guidance includes a mid single digit variable cost deflation Tailwind that is first half weighted.

Speaker 3

Full year free cash flow is expected to be between $400,000,000 $450,000,000 In 2024, the midpoint of our range assumes increased capital expenditures and less of an improvement from working capital after a significant one time benefit of reductions we saw in 2023. I believe that we are well positioned to deliver on these commitments As we continue to drive Axalta to new record levels of sales and earnings, I'd like to invite everyone to an event on May 15, where we intend to introduce our 3 year strategy. For more detail and registration information, please refer to our IR website and the save the date included in our Q4 presentation materials. Thank you for joining us today. This concludes our prepared remarks.

Speaker 3

Operator, please open the lines for Q and A.

Operator

Thank you. We will now be conducting a question and answer session. Thank you. Our first question is from David Begleiter with Deutsche Bank. Please proceed with your question.

Speaker 4

Thank you. Good morning. Chris, can you discuss and refinish your expectations for pricing in 2024?

Speaker 3

Yes. Good morning, David. We're still planning to head, let's call it, mid single digits, low to mid single digits pricing as we think about

Speaker 4

anywhere in the portfolio you're seeing pricing pressure that might impact 2024?

Speaker 3

That's a great question. So far as I see the portfolio, I think we're seeing that the industry is being quite disciplined. I think we are all facing the same pressures, whether it's labor and also uncertainties going forward. And I think a lot of the recovery we have seen In pricing and making sure that we're all pricing for value, we can see that benefit. That said, I would say on the industrial side, we are seeing some pressure in Europe.

Speaker 3

But as I think about our portfolio, we're going to stay focused on driving for the value we provide for our customers.

Speaker 5

Thank you.

Operator

Our next question is from John McNulty with BMO Capital Markets.

Speaker 6

Yes, good morning. Thanks for taking my question. It seems like in addition to the price raws mix, you've made some decent headway early on in kind of efficiency improvements and that type of thing. I guess, can you call out some of the bigger items there and how we should be thinking about how that may continue as we look through 2024?

Speaker 3

That's a great question, John. I think coming on board A year ago, we talked about some of the purchasing initiatives that we had in play. And that's certainly paid dividend, especially if you look Q4 and our performance of 12% on material performance. And if you take a look at, let's call it half of it being What the industry is calling as deflation, we certainly did better than that. And especially when I compare with our peers that I would call Being 3 to 4 times our size, it's great to see the performance coming through.

Speaker 3

And what's really worth the purchasing teams sitting down with our suppliers and driving some of that those actions to really price ourselves back to where we saw. As you know, we took about $650,000,000 of incremental cost through the last two years and it was really resetting a bit of that and driving that cost benefit through. Now this started, I would call it midyear. And so we as we talked about in previous calls, it It's really how are we structuring agreements so that we could be more resilient as we see, let's call it, fluctuations in the market. And that's certainly how we're playing it.

Speaker 3

But I would call it as we as you can see in our guide, what we're seeing is we're driving, I would call mid low to mid single digits expectations for deflation going through 2024.

Speaker 6

Got it. Fair enough. And then just maybe like a small one on the industrial side. It sounds like you walked away from some business. I guess, How should we think about what that sales impact would be as we look at 2024?

Speaker 6

Is that something of note where it's a few percent? Or is it kind of a rounding error? How should we think about it?

Speaker 3

I would call it low to flat to low mid single digits. You would As you can look at our guide and in terms of volume, we're essentially calling it overall the business growing by flat to mid single digits up, mostly mid single digits up. And the difference there is, we believe we'll continue to grow on refinish, We'll certainly grow on auto even though the market is flat. We believe that on the auto side, will gain in China as we continue to win there. But in industrial, we expect that to be low single digits down as well as the CV impact at the back end of the year.

Operator

Got it. Thanks very much for the color.

Speaker 3

You're welcome.

Operator

Our next question is from Kevin McCarthy with Vertical Research Partners.

Speaker 7

Chris, can you speak to the amount of variable cost deflation in the Q4 and what your outlook would be for raw materials and variable costs in 2024?

Speaker 3

So I'm going to start and then probably hand it over to Carl. I mean, we certainly saw, I would call it, low single digit double digit performance in variable cost performance, 12%, as I said in the prepared remarks. But I'll turn it over to Carl as to how what we see going forward.

Speaker 8

Yes. Good morning, Kevin. Yes, as we look for 2024, we're expecting probably about mid single digit deflation in most of our commodity spend. And I think that will be front weighted. So I think we'll probably do a little bit better in the front half of the year.

Speaker 8

And the comps will get tougher as we think about Q3 and Q4 going forward. But for the full year, we are expecting about a mid single

Speaker 7

Carl, you noted in your prepared remarks the progress that you've made on the balance sheet. What are your latest thoughts on capital allocation In terms of kind of reinvigorating some repurchase activity, what you're seeing in the private market, but also potential to establish a common dividend at some point?

Speaker 8

Well, I think, well, first, obviously, we're very pleased with having leverage sub-three at 2.9 times. I think if you just do look at the guidance we provided, we'll be right in line at the top end of our target range by the end of this year. So it does provide us a little bit more flexibility and optionality in how we deploy capital. So We will yes, I think share repurchases will definitely be part of the overall strategy and as well as M and A. As Chris pointed out, we had The acquisition we did in the Q4 in Switzerland, and I think where we can see those type of very accretive deal, especially more in refinish.

Speaker 8

We would look to deploy capital there as well. But we're overall just Please, because I think the balance sheet now will provide us a lot of flexibility going forward.

Speaker 7

Thank you.

Speaker 3

Thank you.

Operator

Our next question is from Steve Byrne with Bank of America. Please proceed with your question.

Speaker 7

Yes, thank you. Is the 9% EBIT margin in Mobility or you're now presenting it as more of a 13% EBITDA margin. It seems like it's back to where it was historically. Is this the new normal? Is this Does this have some meaningful upside in your view from something other than just Projecting auto build rates and commercial vehicle builds.

Speaker 7

If there's anything that you're doing in mobility that could drive a real change, whether it's technology or some kind of a structural change that you're doing internally. Anything that you would highlight is giving you more optimism than just the 9% EBIT margin.

Speaker 3

It's a great question, Steve. It's certainly I wouldn't call it The new normal. Just looking back at Axalta over the last 4, 5 years, I would say we've grown by $1,000,000,000 of revenue, just under $1,000,000,000 of revenue. But the challenge has been to convert on it back to historical margins. So if I look at that business, I do believe there's more upside in what we can do both structurally, both in growth in other regions as well as As you put the investment, we've talked about a $35,000,000 increase in capital investment.

Speaker 3

And what we can do to drive productivity initiatives in this business. And so this is part of what we plan to discuss or show you in our May STRAT meeting is what more we can do with this business.

Speaker 7

And then one question for The industrial exposure in construction, do you have visibility Into distributor inventory levels of products that your coatings were a part of, do you have a view as to whether Those inventory levels in the channel are normal now or is there A share loss or gain, anything that you can comment on that?

Speaker 3

Consistently, with the exception of the businesses we have decided to exit, I would say we are our share has been pretty much in line with what we had previously. That said, inventories that are Our customers or distributors are low from where we have seen historically. There's only as I look at it, if this market picks up, in North America, there's only upside here. And the good news here is that especially when we think about our wood coatings business, you can see all our Major customers investing heavily on capacity. I mean, if I look over the last 6 months to 9 months, we have seen announcements of about $1,000,000,000 being put into investments to build plants.

Speaker 3

So as this market recovers, there is just all I see here, especially on our Wood Siding business, you just believe there's got to be upside with all the investments that is being put in place. And that's certainly what we're doing as well is to prepare for this upturn at some point.

Speaker 9

Thank you.

Operator

You're welcome. Our next question is from Ghansham Panjabi with Baird. Please proceed with your question.

Speaker 10

Thank you. Good morning, everyone. Hey, Chris, can you just give us a As to the market conditions for auto refinish across your major regions, I know you commented about expecting a little bit of volume growth in 2024. What's that being driven by? Is it just better uptake, easier comparisons, technology?

Speaker 10

What's going on across your major markets

Speaker 3

Well, I would say it's flat to up about 2% to 3% is what we're predicting going forward into 2024 and I'll just walk you through the markets to your question. North America is incredibly strong, but limited in the sense Just as you've always heard, the ability for body shops to get labor. So there's inventory sitting at The body shops for work to be done, it's just getting the labor to be able to drive that. And that's a great case for Axalta because our story has consistently been the efficiency that we provide to our body shops. If I think about Europe, Europe is what I would call stable to flat.

Speaker 3

Here, if you look at our guide and what we are showing is a slight increase, It's really the new wins, whether it's the wins with BMW that we announced last quarter or with the Andre Koe acquisition, there's here to grow. And China or Asia has been weak or flat to down is what we've seen. So but the only part of that is China is also a small part of our business. But overall, I would call it flat to slightly up, Got you. Okay, great.

Speaker 3

Thank you. You're welcome.

Speaker 10

And then in terms of the consumer uptake for EVs, I mean, the narrative seems to have shifted in the market just based on the trade etcetera, after all the outsized growth over the last few years. Can you just touch base on what you're seeing in terms of developments, etcetera, on EVs and if that dynamic shift will impact you in any meaningful way?

Speaker 3

Yes, absolutely. I think first of all, there's the overall element for Axalta is We're EV agnostic. I mean, I think most of our coatings are on the outside of cars. So we don't really care if it's EV or ICE. In that sense, it's overall been not so much of an issue.

Speaker 3

The good news though for us is if we look at our growth, especially if you look at last quarter, overall Exalta growing by mid single digits, but mobility growing by 9%. A lot of that is our growth also in China. And in China, We're growing at 2 to 3 times the rate of the overall market and it's primarily because of our growth in EV. We're with a lot of local players that are in the EV space that are growing. And the great news there is, as you know, With China investing $70,000,000,000 of incentives through over the next 4 years, that's driving the local market.

Speaker 3

But it's also creating like a great platform to use that to move into, let's call it, Southeast Asia. So We see that as a growth platform. And the other element that's helping us there is the fact that we've made over the last few years, we put investment in there for manufacturing, whether it's waterborne capability at Jiaoding or our new plant that we just launched Last quarter with Jilin, we've just the capacity and the ramp up is just in line. So it's really driving the growth that we saw in Q4.

Speaker 10

Perfect. Thank you so much.

Speaker 3

You're welcome.

Operator

Our next question is from Michael Sison with Wells Fargo. Please proceed with your question.

Speaker 11

Nice outlook for the year for 2024. In terms of pricing, you'd mentioned that be positive for both segments and a little bit of color, 4th quarter was down from mobility, you talked about a lot of So do you think turns the corn in the Q1 for pricing? And then actually

Speaker 2

do you

Speaker 11

need to announce price increases or are those already?

Speaker 8

Yes. Thanks, Michael. Good morning. Yes, I think as we look at mobility in the 4th quarter, I think as we referenced in A little bit more than half of that really related to a comparison we had from the Q4 of 2022 with the rest of that being mix as an impact. So as we fast forward for the Q1 and for the full year, we do see pricing being positive in both of our segments.

Speaker 8

And specifically, as we think about our Refinish business, the team has already a couple of weeks ago actually launched and executed new pricing. So We're already beginning to see the benefits of that.

Speaker 11

Follow-up in the Q1, flat sales growth. Sales growth sort of moved throughout the year, is it in quarter better, 3rd quarter, 4th quarter better? Trying to get a feel of how we ramp up the low single digits?

Speaker 8

Yes. Our expectations, as you start getting into the Q2, you should definitely see an increase kind of in that low single digit kind of percentage increases, which would really kind of roughly carry in the next several quarters thereafter. So it's really just the Q1 where at least the initial guide is we're holding it flat, but you should start seeing that step up in the second quarter.

Speaker 11

Thank you.

Speaker 2

Thank you.

Operator

Our next question is from Aleksey Yefremov with KeyBanc Capital Markets. Please proceed with your question. Varun Ma with KeyBanc Capital Markets. Please proceed with your question.

Speaker 12

Good morning, everyone. Could you give us some Thoughts on your bridge for Q1 from Q4. More often than not, EBITDA is about flat sequentially from Q1 to Q4 from Q4 to Q1 and you're guiding to flat sales. So what are some of the other factors here?

Speaker 8

Yes. As we look at the bridge, we're going to be down about $11,000,000 of EBITDA Q4 to Q1. We referenced what we saw as it relates to just revenue being down slightly. Obviously, you have the conversion impact as it relates to that. And it's also really it's just the seasonality that we have within our business, specifically in refinish.

Speaker 8

So that tends Q1 for us tends to be the low point for refinish, just based off of especially what we see here in North America and a little bit more in Europe. So those are really it's more of a mix story as well that impacts us on a sequential basis. And then we also have in China, with the New Year that also has an implication too for the Q1 specifically for our light vehicle business there.

Speaker 12

Thanks. And turning to industrial, you're talking about softer North American construction volumes. Could you maybe discuss residential, non residential exposure, any potential benefit from infrastructure spending and any other factors?

Speaker 3

So yes, absolutely. So I would call it a split between residential and non residential, whether you look at it as our wood business or our building products business or our GI business. In terms of as we forecast forward, again, we're showing residential being muted or down with where interest rates and where we see building comps coming out. But that said on the industrial side, on the GI side, the question is how infrastructure spend, especially This year with elections would play out in the back end. So at this point, we're forecasting this to be flat to down slightly, and it's primarily just continue to drive the focus on building the foundation on the business and making sure that we have the right cost structure for when we pick up again.

Speaker 12

Thanks a lot.

Operator

Our next question is from Mike Lipsky with Barclays. Please proceed with your question. Great. Thanks. Good morning, guys.

Speaker 3

Good morning. Good morning. Good morning.

Operator

First question for Chris. I think you made a Comment in the prepared remarks around potentially pruning some areas that don't meet your margin threshold. I guess, can you talk a little bit more, you've been there for about a year now, your observations about where your portfolio currently stands? And is it just pruning? Or are there any bigger portfolio actions worth exploring?

Speaker 3

No, it's just I think the starting point is just pruning. And a perfect example of that is if you think about our light vehicle business, Last year, we announced getting out of our plastics interiors business, a small portion of that where obviously we didn't have scale. That said, as I look forward into 24, there are segments of the business within, let's call it, across all three portfolios, whether it's our industrial, a bit of our mobility and then even in some sense in some of our regions in Refinish that we might be looking at. Again, the focus for me is as I think about it, We grew by $1,000,000,000 of revenue if you think through the last 4, 5 years. The first thing is just returning The base case to historical margins, that alone has about $100,000,000 to $150,000,000 of incremental opportunity.

Speaker 3

As you can see in what we have given as a guide for 2024 heading north of this $1,000,000,000 we're on path to get back there, But we are not there yet. So for me, I think the first set is looking at all 4 end markets and seeing what more we can do to drive this back. And then we'll start thinking about if there is any portfolio mix beyond that.

Operator

Great. That's super helpful. And then as a follow-up, I apologize, a bit of Technical question for Carl. I think earlier this year, Axalta took a fairly large charge from the Argentine peso that was included in your adjusted EBIT. I think you briefly mentioned an FX charge in the remarks, but I don't see it mentioned anywhere in the release.

Operator

So Did Exalta take a charge from Argentine peso deval this quarter? And was it included or excluded from your adjusted earnings results?

Speaker 8

Yes. So we did for the Q4, specifically for Argentina. So it's not included in EBITDA, But it is included in our adjusted EBIT number, so which is in the reconciliation.

Speaker 11

Great.

Operator

Thank you.

Speaker 2

Thank you.

Operator

Our next question is from Jeff Zekauskas with JPMorgan. Please proceed with your question.

Speaker 13

Thanks very much. I think your SG and A was up by about 11% on an adjusted basis, maybe it's 8% unadjusted And your R and D was up a little bit more than 11%. Those are relatively high numbers for 2024. Do you have expectations about your growth in overhead costs?

Speaker 8

Yes. Good morning, Jeff. If you look at SG and A about Half of that impact for at least for 2024 whether you look at even the Q4 or the full year for SG and A really related to variable compensation expense, with the remaining half of that being just kind of, I would call it, just more inflationary labor type of cost. And so As we look forward into 2024, that is an area of focus for us, where we would be looking to drive that rate of increase down considerably on a year over year basis.

Speaker 13

Great. Can you remind us What percentage of your light vehicle business roughly is China now and maybe where it was 2 or 3 years ago?

Speaker 8

Yes, it's about I'll maybe quote it in revenue basis. It's about $250,000,000 of revenue for China.

Speaker 3

Okay,

Speaker 13

great. Thank you so much.

Speaker 3

Thank you.

Operator

Our next question is from Mike Harrison with Seaport Research Please proceed with your question.

Speaker 9

Hi, good morning. Good morning. We saw the nice improvement that you guys delivered in inventory levels during 2023. Are those inventories where you want them to be at this point in the year? And I guess is there any way for you to quantify the impact presumably if you're working down inventory you were running your plant We're slowly.

Speaker 9

Can you quantify the impact of lower fixed cost absorption last year? And presumably, you'll make some of that up this year if you're running your plants a little bit harder?

Speaker 3

Sure. I'll take that. So in terms of as I think about quantifying the improvement, We certainly saw a significant one time improvement. If you take our improvement in free cash flow, I would call it just less than half That was driven by that performance. Looking forward into 2024, we're not Obviously, signaling that we would get too much better than that, though as there are pockets of the business that we can improve.

Speaker 3

Maybe I'll break it down by business. If you look at the 4 end markets, my perspective is especially with where we're forecasting volumes possibly lower, especially on our industrial business. That is certainly something that we are looking at further opportunities in inventory reduction as well. That's probably an area where we're also looking at fixed cost absorption. So that's something that the team, the industrial team is very focused on as we look forward on what extra opportunity there is in terms of utilization of the facilities we have with the understanding that this volume will obviously pick be needed at some point.

Speaker 3

So that's certainly something that we're focused Across the rest of the platform, I think we're at a good point in terms of efficiency. There is probably something more that we can do in terms of utilization, but that will be probably something that we would work through the year because we are showing 2 of the businesses going up slightly in volume.

Speaker 8

And Michael, and maybe just to add to that as well, as I just look at the top of the from our conversion on the incremental revenue. So in 2023, we had about $300,000,000 of higher revenue And our EBITDA was up $140,000,000 So it's about a 47% conversion on the incremental revenue. And as you look to 2024, We're expecting to have conversion on incremental revenue about 60% to 65%, if you just look at what we put out for a guide perspective. So I do think, as what Chris alluded to, we kind of like where we are. But there's always more productivity and there's more efficiencies we can get.

Speaker 8

I think you're seeing a pretty healthy conversion as we enter in this year.

Speaker 9

All right. Thanks very much. And then just curious in that Refinish business, I don't see that there's an acquisition contribution line in there. Can you comment on how much of the volume that you saw in the quarter or revenue in the quarter was from that Andre Koch

Speaker 8

We had about $14,000,000 of revenue in the Q4 that related to the recent acquisition of Andre Coals.

Speaker 9

Perfect. Thanks very much.

Speaker 2

Thank you.

Operator

Our next question is from Arun Viswanathan with RBC Capital Markets. Please proceed with your question.

Speaker 11

Great. Thanks for taking my question. Congrats on the 23 progress. I guess I just wanted to get your perspective on where you are in your evolution. So I think you've mentioned long term margin targets several times on this call, but that you're not necessarily there.

Speaker 11

So obviously, you had very good progress 23, up 180 basis points on a consolidated basis to the 18.4%. And Refinish now or at least Performance Coatings, I know it's being dragged down a little bit by industrial, but it appears that you're potentially closer to that normalized level within Refinish at least over 20%. So how much more do you think there is on the margin front? Do you expect to kind of approach 20% on a consolidated basis over the next Couple of years and is that $100,000,000 that you referenced kind of the main driver of that coming back to you?

Speaker 3

That's a great good question, Arun. If I give you the answer to that, you might not show up in May. So but I'll give it to you. I'll break it down a bit more. I think if you to your point, the progress in 2023, we jumped up 180 basis points.

Speaker 3

If you take Where we're heading for 2024, it's that, call it, 100 basis points. But I think there's been a lot of questions about Q1 to Q2, Q3 jump up. But if you look at how the guide would work through Q1 to Q2, Q3 and Q4, Q2 and Q3 have always been our stronger quarters as we have been somewhat cyclical. And you would argue Q2 and Q3 would need to get that 20% almost to be able to hit where we have guided to your point that essentially means we're coming back Very close. I still believe there's more opportunity here.

Speaker 3

If we look at the earnings of this company. Going back to just converting on the incremental sales as Carl answered to that last question, I do believe that there's more opportunity here and that's what you will see in May. We want to lay out a 3 year target with what we are going to accomplish year over year to see what more we can do to drive the earnings potential. And on top of that, Even if we look at, let's call it this low single digits or mid single digit growth, what more we can accomplish with that. And so across The growth and the earnings potential, I think there's a lot of value that we can drive to shareholders and that's certainly what we'll lay out for you in May.

Speaker 11

That's great. And then maybe I can just ask a similar question as a follow-up on free cash flow. So you're converting over 40% of your EBITDA and the free cash flow. And given what you've said so far, with your incremental margins going up, it looks like you're probably going to be headed higher on that conversion as well. So over the next couple of years, with your leverage down under 3 now And free cash flow may be approaching $500,000,000 plus in the next couple of years.

Speaker 11

Is that kind of normalized free cash slow? And if so, how do you expect to spend that once you reach that level?

Speaker 8

Yes. I think We would view that as normalized cash flow, especially being over $500,000,000 as we get into 2025 and beyond. I think we will be as I mentioned, leverage will be right where we want from a target perspective at the end of this year. And so we will have optionality in front of us. And so I think we will be looking to deploy some of that capital and looking at share repurchases, as well as we will be evaluating and continue to evaluate M and A related opportunities that we believe will accretive for the company.

Speaker 8

So those are kind of the 2 areas that we will be focused on. And I think we're definitely going to be looking to continue the momentum that we had in 2023 into 2024 and getting leverage where to the target range that we outlined.

Operator

Thanks.

Speaker 2

Thank you.

Operator

Our next question is from Vincent Andrews with Morgan Stanley. Please proceed with your question.

Speaker 5

Good morning. This is Steve Haynes on for Vincent. Maybe just wanted to come back to the guide for a sec. So I think historically your Q1 is maybe 22% or 23% of you do annually. So if we were to kind of use that to annualize your Q1 guide, it suggests something a bit above the midpoint of where you've guided the full year.

Speaker 5

So is there something different in the phasing this year or are you being a conservative in the back half that's I guess maybe causing some of this or maybe there's just something else in the math that we're missing there?

Speaker 8

No. I think You're looking at the right way. I mean, simplistically, if you take the $240,000,000 EBITDA divided by 0.23, you get about 1.43 which is kind of right in the guidance range that we provided, albeit a little bit at the higher end versus the midpoint. But no, I think the seasonality that we expect This quarter and for this full year is similar to what we've had in the past.

Speaker 5

Okay. And then So in the 2023 numbers, there's some elevated cost tied to ERP and other investment. What is the 2024 guide, I guess, assuming the bridge in terms of further costs related to either of those things?

Speaker 8

Yes. So we had about $40,000,000 of costs related to ERP as well as consulting costs for some of the productivity initiatives that we had this year. As we look into 2023, I would expect that to drop down by at least $30,000,000 So kind of that new run rate of costs in 2024 will be, call it, in that $10,000,000 maybe $5,000,000 to $10,000,000 type of range.

Speaker 3

Okay. Thank you. Appreciate it. Thank you.

Operator

Our next question is from Josh Spector with UBS. Please proceed with your question.

Speaker 14

Yes, hi, good morning. If I go back earlier in the year, I mean, when you guys had the Reduction issue that impacted Refinish, you talked about a couple of $100,000,000 backlog. Where is that now? Does that still exist? Does that really matter as we look into 2024?

Speaker 3

Yes, Josh, I'll take this one. So you certainly won't hear us talking about As for going forward, I think in terms of where we finished the year, I would say all our North American plants are back to pre implementation run rates and our facility in West Virginia has done a stellar job of bringing the backlog back to what we have normalized pre the implementation of S-four. And as we think about going forward, as you think about Q1, We don't show there is no upside or we don't see any benefit from, let's call it, a backlog improvement. We are back to where we are. We do believe there's more efficiency that we can get from our Sfour system.

Speaker 3

So that is something that the IT and the operational teams are working on. But certainly not something that should drive something meaningful through, let's call it, the front half of the year. The objective there is just to get the efficiency and the system working great before we roll that out into smaller chunks into over the next several years in the rest of the world.

Speaker 14

Thanks. And just a quick follow-up on the acquisition. So I mean you cited earlier, Maybe a 1% or so of performance. Did you report that in volumes? And I guess is that how you plan to report M and A forward?

Speaker 14

I guess why not separate it out to make the organic volume more clear or so?

Speaker 8

Yes. I mean, right, it is reported in volumes as well. And given the size that particular acquisition, it was relatively small. Obviously, depending on where we end up on the next We would have we would evaluate and most likely break that out for you.

Speaker 14

Okay. Thank you.

Operator

Thank you. Our next question is from John Roberts with Mizuho. Please proceed with your question.

Speaker 7

Thank you. Chris, I think the prior management switched From EBITDA to adjusted EBIT back in 2019 to get the organization focused on reinvestment and growth and to have some Capital allocation in the earnings numbers. Why the switch back to EBITDA right now?

Speaker 8

Yes, I'll start and this is Karl. I can turn Chris, as we look at just how we manage the business across our business units, it is on a it's more on an EBITDA basis. I think one of the key items that we are really going to be driving in the organization is return on invested capital performance. And we will be kind of using that as we approve new capital investments in the business, we're going to be attacking that if you would on the front end of the process as opposed to especially given that all of the team now is in place. We have operations running up and being run by each of the BU Presidents.

Speaker 8

So that's how we kind of run it. But I would tell you that we'll have a very keen interest and we will be highly focused on getting our return on invested capital to levels candidly the company has

Speaker 3

not achieved And maybe I think Carl's captured most of it, but maybe just stepping out and maybe Just a level up. And overall, the perspective I have is some of those choices that were made in the past of growth for the sake of growth is something that we have to change. And really that ROIC metric and driving it in to EBITDA became more significant as I thought as we re pivot the company. And I think that's where we really drove the decision to first drive the operational teams into the P and L and have the BU teams run it as one unit and be responsible for the choices that we make. As we can see with our first acquisition under the Refinish team, we certainly are seeing that performance come through.

Speaker 3

And that's how we'd like to manage going forward.

Speaker 7

And then were powder coatings volumes up in the quarter or were they down in line with the overall industrial coatings segment?

Speaker 8

That was roughly in line with the overall segment itself.

Speaker 3

Thank you. Thank you.

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