Commercial Vehicle Group, Inc. Q2 FY2022 Earnings Call

Good morning, ladies and gentlemen, and welcome to the Commercial Vehicle Group, Inc. Second Quarter 2022 Earnings Call Conference Call. This call is being recorded on Friday, August 1, 2022. I would now like to turn the conference over to Mr. Christopher Bohnert. Please go ahead.

Thank you, operator, and welcome to our conference call. Joining me on the call today is Harold Bevis, President and CEO of CVG. This morning, we will provide a brief company update as well as commentary regarding our second quarter 2022 results, after which we will open the call for questions. As a reminder, this conference call is being webcast and a supplemental earnings presentation is available on our website. Both may contain forward-looking statements, including, but not limited to, expectations for future periods regarding market trends, cost-saving initiatives, new product initiatives, among others. Actual results may differ from anticipated results because of certain risks and uncertainties. These risks and uncertainties may include, but are not limited to, economic conditions in the markets in which CVG operates, fluctuations in production volumes of vehicles for which CVG is a supplier, financial covenant compliance and liquidity, risks associated with conducting business in foreign countries and currencies and other risks as detailed in our SEC filings. I'll now turn the call over to Harold to provide a company update. Harold?

Thank you, Chris, and good morning, everyone. I will be referring to our earnings presentation on our website. If you could locate that for a minute. And on today's call, I'll provide an overview of our second quarter 2022 results and the strides that our team has made positioning CVG as a leading electrical system supplier across the globe. We expect this transformation to drive improved growth and profitability while reducing our cyclicality, which we believe will greatly enhance shareholder value. Importantly, our accomplishments through the second quarter have removed many of the headwinds that have been impacting our financial performance, thus clearing a path for improved results in the second half of this year. Following my remarks, Chris will then discuss our financial results in a little more detail, and we will conclude by opening the call and answering any questions that you may have. Please turn to Slide 3 of the earnings presentation. You will see that our second quarter results continue to be impacted by a fixed pricing environment from our customers, a challenging global supply chain, continued cost inflation, COVID lockdown in China and the Russia-Ukraine conflict, and a near-term disruption in the warehouse automation sector. We had quite a few events unfolding in our business through the first half of this year, and we're going to give you an update on how we've attacked them. That said, as we've discussed on this call, we substantially worked through these challenges, and we believe we're firmly set for an improved second half. For the second quarter of 2022, we delivered sales of $250.8 million compared to $257.9 million in the year ago second quarter. The decline was primarily driven by a temporary industry slowdown in warehouse automation building and the COVID lockdowns in China. Our operating income was impacted and was $6.2 million compared to $16.3 million in the year ago second quarter. This decline was primarily a result of a contractual lag in price cost, lower volumes during the quarter and startup costs associated with new business wins. Excluding the impact of our restructuring costs, adjusted operating income for the second quarter was $8.1 million. Importantly, we expect the lag in price cost offsets and the peak in the investment and start-up costs that we incur to ramp up new business are now behind us as we have begun the third quarter. Of note, we have repriced the majority of our customer contracts, which we will expect will add more than $15 million to our profits in the second half of this year and more than $30 million on a full-year basis, depending on subsequent inflationary or other pressures. Additionally, we have been experiencing high one-time start-up costs associated with a few of our new business wins, and we believe this has peaked and is behind us. Looking forward, our new business has ramped up to a level whereby we expect to absorb and offset our investments in new business start-up costs. These are two significant hurdles that we have cleared and we believe are now behind us. Adjusted EBITDA was $12.4 million in the second quarter compared to $21.6 million in the second quarter of 2021. We delivered $0.13 per adjusted share - adjusted diluted share in the second quarter as compared to $0.33 per diluted share in the year ago second quarter. Of note, our new business development continued to gain momentum as we've now secured an additional $104 million of annualized new business this year when fully ramped up. Our new business wins are primarily in electrification across electric vehicles, industrial equipment, and recreational vehicles. Additionally, we are winning larger mandates that include our intellectual property and custom design work, which are higher value, higher margin, and stickier business. In fact, we have recently been awarded four new full-system development awards for electric vehicles, where we are supplying the entire design and procurement for the electrical wiring systems. These are truly exciting wins for CVG and demonstrate our position as a leading supplier of electrification systems. We also continue to invest in technologies to expand our position and our product offerings, and we're excited to open a new engineering center in Phoenix, Arizona for Electrical Systems R&D. The center will focus on the continuing development of high-voltage distribution systems and distribution boxes for the electric vehicle market as well as providing fast prototyping services and testing for new electric vehicles. As we exited the second quarter, we remain firmly on track to meet or exceed last year's record of more than $200 million of new business awards. While our new business momentum is strong, we're also seeing improved cash flow generation, and we generated and delivered $11.9 million of free cash flow in the second quarter, which we used to pay down debt. We firmly remain focused on improving our cash flow and paying down debt, which we believe will also translate to improve shareholder value over time. For the full year, we're reconfirming our target of $25 million to $40 million of debt paydown over the full year. Turning to Page 4 in the earnings presentation, we've made significant progress so far this year on many transformational fronts, and we wanted to highlight just a few. We've significantly improved our pricing across our customer base to ensure that we are earning an appropriate margin on our products given the severe cost inflation that we've experienced over the past year or so. We also continued the execution of our cost restructuring plan, including vertical integration of certain production, regionalization of certain supply, and targeted headcount reductions to manage our cost structure. The China lockdown is now behind us, and we have seen our operations in the crane markedly improved during the ongoing war. Class 8 truck production appears to be on firm footing as the OEMs are reporting being fully booked out for the remainder of 2022. The extra margin on the new business is now offsetting our one-time start-up costs. We believe we've cleared the bar now and will benefit net from our new business endeavors. Lastly, our cash flow improved in the second quarter, and we expect that trend to continue through the end of the year. While we have more to do and as we continue to fight inflation and battle supply chain challenges and ramp up over 100 new programs that we've recently won, we expect the second half to show improved performance in our business. Turning to Page 5, I wanted to give a few comments about our three main end markets. Our largest end market remains the North America Class 8 truck business where production has been constrained due to supply chain challenges and the resulting product shortages. That said, second quarter Class 8 truck builds were up sequentially from the first quarter of '22, while the outlook for builds continues to improve. In fact, many of our major OEM customers are taking their production rates higher, which has led us to increase our forecast for full-year 2022 Class 8 builds to be a range of 290,000 to 305,000 Class A tractors as compared to our prior full-year forecast of 275,000 to 290,000 that we discussed in the first quarter. Our forecast compares to ACT's current forecast of 305,000 trucks. While a recession would impact build rates and the production outlook, the industry has been producing below replacement levels for several years, which has resulted in a further aging of the North American fleet, which will add strength to our aftermarket business. Additionally, as discussed, we have negotiated pricing with our two largest customers and many others. These two customers alone represent 30% of our company's total annual revenues and had previously carried negative margins. This bodes well for both our profitability and revenues as volumes pick up, combined with cost inflation, which has peaked and is starting to come back down. As a reminder, every 10,000 trucks equates to about $13 million of sales for CBG, while our contribution market should trend above historical levels given our recently enacted price increases. The next big market for us is the electric vehicle market, and it's set to become our largest end market in the coming years as the transition from internal combustion engines takes place. In fact, the U.S. electric truck market is expected to grow at a 54% CAGR over the next 10 years per PNS intelligence. Additionally, the global conversion to electric vehicles and fuel cells is expected to disrupt the legacy market dynamics, and we are well positioned to benefit from the coming change. We are currently on over 300 electric vehicle platforms globally as we position CVG as a leading supplier of electrical systems around the world. We have achieved this outcome in just two short years, and our platform count and pro forma business size continues to grow. Warehouse automation is our third major end market and the long-term outlook shows the market reaching $41 billion by 2027, which represents a 15% compound annual growth rate. At the moment, this market is currently below the growth trend line. As I touched on earlier, our largest indirect customer is evaluating their warehouse capacity globally and has temporarily paused their new warehouse investments, and this is impacting our results and will continue to do so over the coming quarters. Importantly, we remain well positioned in this sector and recognize the need to diversify both our customer base and our product set to ensure we deliver more consistent and higher growth. To that end, we recruited and hired an experienced executive from the industrial automation management sector to lead our Warehouse Automation segment, and he began in June. We believe his leadership will be instrumental in expanding both our customer and product set while returning the segment back to growth over the next year or so as our largest customer resumes building new warehouses. Turning to Page 6. Just a few more comments about our Electrical business. We believe that we are an emerging leader in electrification systems across Class 8 trucks, electric vehicles, and industrial equipment, both here in North America and in Europe, while we are making strong progress entering new markets like aerospace and defense. We have in-house capabilities for custom design low- and high-voltage systems and have invested to automate these processes in both North America and Europe. We also partner with battery providers to supply full solutions for our OEM customers. Importantly, we serve these end markets with a full array of products, which provides a competitive advantage as we can supply a full solution, including cap structures, interior trim, exterior trim, doors, mirrors, sensors, wipers, and seating solutions. We are one of the few one-stop shops in this industry. Over the last two years, we have won business with over 50 OEMs. As mentioned, we are on over 300 vehicle platforms and are currently ramping up right now on over 100 platforms across the globe. While there is uncertainty over who will be the winners and losers in this market, it will be coming through a transition to electric vehicles. We believe we have a balanced customer portfolio consisting of well-established incumbents and well-capitalized new entrants, which provides confidence in our ability to drive revenue growth and margin expansion in the years ahead. This is an exciting part of our company, and we are fully invested in this market segment. Turning to Page 7, just to give you a little bit bigger picture on our organic new business win program. We expect our new business wins to contribute $154 million in revenues this year and ramp up to more than $300 million in 2025. Electrification is the largest contributor to new business revenue growth, which we expect will ramp from $35 million this year to more than $200 million in 2025. Warehouse automation also remains a significant contributor to our new business momentum, though we have reached a positive segment, as just discussed, and are confident that we can return the segment to growth given the strong secular tailwinds that exist in this industry with e-commerce. We have lost no net new positions. This is a situation in our particular business performance. It's due to a temporary pause by one of the big market players. While we have one new business worth more than $2 billion in lifetime revenues, we're not standing still. We have a robust new business pipeline that we have been carefully cultivating and are working hard to convert to new business wins. Ending the second quarter, our pipeline on new business opportunities stands at approximately $5 billion, and it spans electric vehicles, warehouse automation, heavy- and medium-duty trucks, as well as new emerging opportunities in commercial aerospace and in defense. This provides visibility to future new business wins and continued momentum. When you do the math here on the new business one in our pipeline, you can see that we're running around a 10% hit rate, and that's our expectation going forward. Turning to Page 8. We have three focus initiatives that are designed to expand our business in the fast-growing end markets and improve our profitability. As we expand our business, we're working aggressively to reduce our dependence on complex supply chains while driving improved pricing terms with our legacy customers as we strive to unlock profits that have been latent within our business. As we have discussed this morning, our business is at a profit inflection point, and our new business wins are also translating to revenue and are now fully absorbing our investment in start-up costs, while our renegotiated pricing with the majority of our customers is expected to add approximately $15 million to second half profits. Additionally, we generated almost $12 million of free cash flow in the second quarter, as we mentioned, and we expect our free cash generation to further improve in the third and fourth quarters, which we will prioritize for debt paydown as we work to lower our leverage ratio. Turning to Page 9. We're very proud of the work that we are doing regarding ESG and CVG. This ESG work will continue to outline our commitment to the environment as we work to minimize our impact to the reduction in our global carbon emissions. This is very consistent with our focus on the electric vehicle markets, and we're embracing our own initiatives and targeted reductions in these areas. We also continue to be focused on our employees and remain committed to a diverse workforce with a continued focus on safety as well as career advancement as we strive to be an employer of choice around the world. Lastly, we have a solid governance program and a committed Board of Directors who remain very engaged and provide excellent oversight to our ESG committee, and this clearly demonstrates the importance of this initiative from our Board of Directors to our factory floor. Turning to Page 10. I would like to conclude my remarks by restating that we are at a clear inflection point. I'm very proud of the work our team has done to get through this record spike in inflation and get in front of it with corrected pricing algorithms and price levels. We expect this performance to turn up in results in the second half of this year and beyond. We've cleared significant hurdles to our results and are positioned to increase our profits in the third quarter as we benefit from improved pricing, moderated cost inflation, and improved truck build outlook. In our case, the reopening of our China plant, a corrective Ukraine manufacturing operation, and full absorption of our new business start-up costs. We also continue to win new business as we go, including this month, and we are firmly committed to organically growing and diversifying our company and establishing ourselves as a critical supplier of electrification systems in the world. Taken together, we are firmly on track to reduce the cyclicality of our business as we expand into new secular growth industries with improved profitability as we work towards our goal of delivering $1.9 billion in sales and approximately 8.5% adjusted income margins over the next three to five years. Additionally, as we work towards our goal, we will see our cash flow improve, and we will use that cash to continue to invest in our business while also strengthening our balance sheet and paying down debt. Now I would like to turn the call back over to Chris for a more detailed review of our financial results. Chris?

Thank you, Harold. If you're following along in the presentation, please turn to Slide 12. Second quarter revenues of 2022 were $250.8 million as compared to $257.9 million from the prior year period. The 2.8% decline was primarily attributable to reduced volume in our Warehouse Automation segment, as Harold touched on, and the impacts of the COVID lockdown in China. These impacts were partially offset by increased revenue resulting from renegotiated pricing to offset material cost increases across our other operating segments. Foreign currency translation unfavorably impacted our second quarter revenues by $4.8 million or 1.9% compared to the prior year. Our gross margin decreased a little bit to 8.7% compared to 13.3% in the second quarter of 2021, primarily due to a lag in price increases to offset cost inflation and $2.9 million of new business start-up costs, which we expect to have peaked this quarter. We expect to markedly improve our gross margins beginning in the third quarter given the renegotiated pricing Harold discussed. The company reported consolidated operating income of $6.2 million for the second quarter of 2022 compared to $16.3 million in the prior year period, primarily due to the previously mentioned lag in price increases combined with $2.9 million of business start-up costs and $1.8 million of restructuring expenses due to our continued execution of our core business optimization. On an adjusted basis, operating income was $8.1 million, excluding special charges. Adjusted EBITDA was $12.4 million for the second quarter as compared to $21.6 million for the prior year. Adjusted EBITDA margins were 4.9% as compared to the adjusted EBITDA margin of 8.5% in the second quarter of 2021. This margin contraction was due to the previously discussed factors. Our interest expense was $2.1 million as compared to $2.8 million in the second quarter of 2021; the interest expense declined compared to the prior year due to the company's new debt agreement, which was completed in the second quarter of 2021. Net income for the quarter was $2.5 million or $0.08 per diluted share as compared to net income of $5.1 million or $0.16 per diluted share in the prior year period. Now turning to our segment results. Our Vehicle Solutions segment delivered second quarter revenues of $142.8 million compared to $130.2 million in the year-ago quarter, primarily due to material cost pass-through. Operating income for the second quarter was $1.5 million, a decrease compared to operating income of $8.2 million compared to the prior year, primarily resulting from the expected lag in our increased pricing to offset costs and increases in new business start-up costs. The second quarter of 2022 adjusted operating income was in line with GAAP operating income of $1.5 million. Our Warehouse Automation segment produced second quarter revenues of $28.5 million, a decrease as compared to $54.3 million in the second quarter of '21 due to lower demand levels. Operating income was $1.3 million, a decrease from $8.5 million compared to a year ago, and adjusted operating income was $1.7 million. As Harold noted, we have seen a slowdown in volumes as our largest customer reevaluates their demands. Turning to Electrical Systems, the segment achieved revenues of $47.3 million, an increase as compared to $44.2 million in the year-ago second quarter due to the realization of material cost pass-throughs. Operating income was up to $5.9 million, an increase up to - I'm sorry, and operating income was $6.5 million, an increase of $2.8 million as compared to the second quarter due to higher volumes and material cost pass-throughs. Adjusted operating income was $6.5 million, an increase of $3.1 million from the year-ago second quarter. Turning now to our aftermarket segment. It delivered revenues of $32.2 million and increase as compared to $29.2 million in the year-ago quarter, primarily resulting in material cost pass-throughs. Operating income was $1.1 million compared to operating income of $3.7 million in the prior year period. The decrease was primarily attributable to the expected lag in price cost offsets. Our adjusted operating income in this segment was $1.7 million, a decline of $3.7 million in the year-ago quarter. To conclude, we are pleased with the significant operational progress we've achieved in the second quarter. Of particular significance was our ability to continue to renegotiate pricing to offset the significant cost inflation we have experienced. Additionally, we continue to focus on reducing expenses through our restructuring program to ensure we are maintaining expense discipline and improving operational efficiency. We expect profits and free cash flow to improve sequentially in the second half of 2022. This concludes our prepared remarks. I'll now turn the call over to the operator to open up the line for questions. Thank you.

Your first question is from John Franzreb, Sidoti. Please go ahead.

Good morning. Thanks for taking the questions. I want to start with your change in sentiment in the Class 8 trucks. Certainly, it's a positive. But what kind of confidence do you have beyond the second half of 2022 and the sustainability of it? You've always been a little bit more cautious about the recovery there. Maybe a little bit of an update on your near-term and a little bit longer-term thoughts?

Yes. You're correct that we're cautiously moving up our outlook here. We obviously do have visibility from all of our major OEMs and they're all public reporters. So you can also corroborate our comments with them, and we pass along the ACT information. There's an allocation program going on in North America where the dealers and fleet owners want more trucks than can be made. The main OEMs have stopped taking orders for this year because they're sold out and they're allocating slots for '23. They are really putting pressure on us, John, to get our output up so that they can get more trucks out. We are a big supplier to this industry, so we're one of the holdups, if you will. We're not the only one; there's axles and brakes and other components. But there's a lot of pressure to get output up, and we have plans to increase our output. We are careful not to increase expectations on us yet. What we can see is that there's firmly a need for us to increase our output, and we're trying to do that by adding capacity. Our OEMs are effectively sold out. If we could make the parts for another 10,000 trucks, they would make those trucks and sell them. The industry is capacity constrained right now, John, and that extends for four quarters.

Okay. In contrast to that, you talked about the contraction you're seeing in the warehouse automation market due to a key industry player reevaluating their spending plans. Can you give us a little bit more color on how long that's been going on? And how long it will take? Do you have any insight when those decisions will be made and how that will impact you in the near term?

Yes. There’s a big e-commerce player that accounts for about 48% of the spending in North America on warehouse automation investment. I think you know who that is, but we're not allowed to say their name. They're public, and they've been vocal about overbuilding a little bit in the Northeast part of the U.S., and they're reevaluating their spending plans. The reevaluation is really balanced between how many new warehouses do they need versus how much investment should they make into existing warehouses to increase their labor productivity and throughput. We're a participant in either of those, but this particular player, who we're tied into a lot indirectly through an integrator, has not committed to what exactly they're going to do. They're taking a wait-and-see approach. They were in the paper this week talking about big plans in the State of New York and elsewhere that are bigger than ever before. There’s a little bit of uncertainty right now in that business. We decided to be conservative and right-size our cost structure. We declared a WARN act at our Baltimore plant, which you have to do if you lay off more than 50 people, and right-sized our cost structure. We had dinner with them this week. We're trying to get clarity. The way that industry operates for us and others is the quoting on the new builds is done towards the end of the year and the beginning of the year, and then production starts at mid-year. So we're on pause right now for the second half, John. That's our true visibility in that business.

Okay. You talked a little bit about targeted M&A maybe to help some new vertical integration. Can you talk a little bit more about what kind of M&A targets you’re considering here?

Yes. Several. M&A can accelerate any of these areas for us. So on winning new business, we have successfully penetrated the aerospace business, which we mentioned. There are some harness specialists in that area that could accelerate our know-how and derisk our business programs and keep our start-up costs under control. So we have some M&A we're looking at to help us on revenue portfolio diversification and then also on the core business optimization. In essence, we're very exposed to global inflation because we source a lot. At least nine months ago, maybe four quarters ago, we started to vertically integrate in metal fabrication in our seating business and in our cap structures business and started making parts that we have been buying for over 10 years. There are some suppliers in this industry that have the equipment we need to further vertically integrate. The looks we've been having here, John, suggest that when we vertically integrate, when we make versus buy, we capture about a 15% margin back to ourselves. The areas where we're looking to vertically integrate are areas that are permanently in our products that we intend to keep. These are kind of forever bets, which would make us more profitable and would reduce our working capital. We have a couple we're looking at right now on both fronts, both on revenue diversification as well as vertical integration. All these things have risks associated with them, as you know. We feel firm about our guidance that we're going to generate cash and pay down debt. That's our base plan. But if we get a chance to accelerate and quote a good deal, we’ll take it. We have nothing sitting in our lab right now, John.

One last question, and it ties into something you just said. You announced an award late June in the aerospace industry. Could you give us a little - I guess you can't name the client, but maybe the kind of platform that you're selling into? Any additional color would be helpful.

Yes. It's one of the top air commercial aircraft makers in the world, headquartered in North America, and it involves harnessing for the cockpit.

Good morning, Harold. Good morning, Chris. I wanted to start off, as it has been a common theme across my companies, which is currency. Can you just talk about the global exposure on revenue? I know you don't give full-year guidance on revenue, but perhaps you could give an idea of the magnitude of the headwind that currency could present for the business here moving forward?

Yes, Chris, great question. You saw we were impacted already this quarter a little bit as the dollar continues to strengthen. There's a two-pronged impact to our company. While revenues get impacted more negatively if the dollar strengthens, if our overseas businesses grow as we pay cash to fund businesses outside the U.S., obviously, our expenses go down. We're primarily North American-based, over 70%. Overall, the exposures will be less than if we were, say, obviously, 50% or greater. But the exposures will go up as our overseas businesses do better, such as in China or Europe, Ukraine, and so forth. We saw that a little bit this quarter. It's hard to predict based on how the dollar is going to move. But generally, I think from a cash flow standpoint, it helps us overall as we fund our operations globally in dollars and convert. But then it hurts obviously, as we translate those sales in non-U.S. currencies.

I'll give you a specific example, too, Chris. We buy fabricated metal parts from China, and the RMB has depreciated about 7% to the dollar, and we immediately went back and got a 7% price decrease from those suppliers. To Chris’ point, we're sourcing in these foreign currencies while mainly selling in U.S. dollars. So it's a net help through all of that. We're monitoring it, and it's very specific on the flows of the currencies. But it's not a huge topic for us, but it should help us a little.

Okay. Shifting to your long-term outlook, if I'm correct here. Before it was 2025, and now I think the timeline is 2025 to 2027. Do I have that right?

Yes. We gave a range and we also flattened out our new business win outlook. What's been happening, you can see these reporters, Rivian, everyone is flattening out their production plans. It's very EV dependent. Our wins are very EV oriented. This is tied into the whole shortage of chips and everything. As our customers have flattened out their revenue guidance, we're a tagalong. We’re mimicking it and mimicking the revenue profiles of our new business wins. Chris, anything else on that?

No, that's exactly right, Harold. As these wins come in and the EV players kind of modify their supply and demand, we'll adjust as Harold said accordingly.

Okay. If I extrapolate the long-term outlook and focus on the aftermarket segments, do you still affirm that CAGR that you mentioned previously? I think it was a 10% CAGR on the aftermarket business longer term?

Yes. We left it out of the deck just because there are so many things happening in the business. But we are building a new plant in Piedmont, Alabama for the North American aftermarket business. It's on track with robotic welding and robotic painting, and it’s focused on our main A items. We finished our e-commerce platform working with Shopify. We have a build plan to put all our A items in stock so that people can order and we can ship from stock. We're currently a make-to-order aftermarket business, and it's going to be a business model shift. To do that, you have to get into the software and the search engine optimization and all the Internet search stuff. We have a program underway and hired an executive last fall that understands this business very well. Our internal expectations are a lot higher than that because we've been, I don’t know, I’d say a substantial player, and now we're going very aggressively after the aftermarket.

As Harold mentioned in his prepared remarks, the aging of the Class 8 truck fleet may help us in the future spare demand, which could benefit that CAGR as well.

Perfect. One follow-up question on that and then hop back in the queue. You have a new plant in Piedmont, Alabama, with high expectations for the aftermarket. Can this CapEx cycle support growth over the next three to five years? Or will you have to look at other options?

No, it’s not going to be capacity limited for three to five years as we're just manning it at one shift right now.

Good morning. Thanks for taking my questions. There's a decent amount of moving parts in 2Q, and you mentioned that Russia, Ukraine, and China's lockdowns were a headwind. Is there any way to quantify how much it impacted the quarter? I assume these headwinds are going away as we move into Q3.

Correct. The China operation was a significant issue for us because it's our most profitable business unit, and it has fully restarted now. We are committed to having our full year plan implemented. Chris, any?

Yes, just to get a little more specific, Matt, I think the demand there has gone up and down. We supply products in Asia, and similar to the U.S., there's some pent-up demand there. It's just hard for us to tell the timing of that based on supply chain issues. The demand should hold as we’ve started to ramp back up.

It's a seating plant in China that exports seats to Korea and Japan, and they are very good revenue streams. We have very high-end suspension seating products that are bought out of there, which is significant. That's why we mentioned it impacting our profits. It really hurt us in the Vehicle Solutions business. The Ukraine situation is in our Electrical Systems business, and it was mainly an output thing. We were able to negotiate a margin recovery with our largest customer there, Volkswagen. You can see that the business unit, that segment is fine and it will continue to do fine. That one is mainly going to be output recovery. We should mainly get more revenue now that we have built two new plants on the fly in the Czech Republic as alternate supply to the Ukraine operation for the main items for Volkswagen. I can say their names because they connected themselves to us on the Internet. We worked with them to move a lot of passenger car electrical systems to the Czech Republic. So we have our output where we need it. It's still a terrible situation in Ukraine.

Okay. That's very helpful. You have done a great job in terms of garnering incremental price increases, and you've laid out how you think this will impact the second half of this year, which is definitely helpful. But talk to us about what percentage of the business hasn't repriced at this point and your expectations for if you think you're able to get price increases on that business?

Yes, it's a good question. We still have about 20% of our revenue tracked. We have some contracts that expire in the third quarter of '23, and they're with big companies. They've been unwilling to negotiate, and we don't have an out, so we're living with a couple of old contracts that are bad, if you will. With regards to pricing, we have a lot of pricing still out. We've broken our contracts or let them expire as we incur inflation; we're going out with new pricing. So we expect to continue pricing aggressively through the second half to maintain our profit margins. We're now in a position where we can price to the market and maintain our profit rates.

So we have a whole — we talk about pricing as a sort of informal topic here. We have a dedicated team monitoring our pricing. We monitor our pricing by customer, by plant, and by product. We're doing surcharges for everything: fuel, freight, steel, foam, plastic, leather, the industry term is RMSs, Raw Material Surcharges. We weren't sure how to talk about it in this call but wanted to clarify the significance of the increases we tied to July 1. Our top customer repriced as of July 1, and that's more than half of the price increase, which is already tracked into EDI, so those prices are happening right now. We also have new payment terms with that customer, which is going to really help us on working capital with a lot shorter payment terms. It's a vibrant topic for us, but we have 20% trapped until the third quarter next year.

Thanks so much for taking the question. I have a couple. First one is referring to the long-term slide. You had the 22 to 25 revenues and margins. My question is about the margin side. What's the right way to think about the margin progression as we go through that period, given that there are start-up costs, and some of the cost issues you were just talking about? Is the margin target more back-end loaded? Or is it ratable across the period? I would love any insight on that?

Yes. On margins, the margin rate will make significant progress in the second half of this year. We intend to step that up evenly; it’s not back-end loaded. We haven't given year-by-year guidance on that yet, Barry. We're not against it, but we've had so many moving parts. This has been a weird year, but we stayed in front of it net, and we've seen some peers lose money in the first and second quarters. We stayed in front of that, and we've been compressed. We’ll make great strides in the second half of this year.

Some of it will be helped through restructuring plans and cost-saving initiatives, some through revenue diversification depending on which markets move for us. The big item that we've been fighting, as Harold mentioned, is just pricing against RMS, and so forth. It's a three-pronged attack.

Got it. Second question was related to the aftermarket. You talked about some of the changes there and the price cost lag in terms of the down margin in the quarter. Normally, I think of aftermarket as something you can change prices relatively quickly. I would love any color on what the lag is and why in that?

Yes. It's annoying, I agree. There are two parts. We have a backlog, so we have about a 3-month backlog. The backlog is already priced. We have been carrying a backlog that in a rising inflation environment has compressed profits. We increased our prices and had inflation again. We've been accused of lagging by our aftermarket customers. The test for us is whether we're losing any business to competitors; we haven’t. In all the repricing we've done globally throughout our business, we’ve only lost a couple of customers we didn’t really even care about. We still have pricing power, and our whole team is committed to it. We haven’t lost major business. We are pricing into that as well.

Got it. That's very helpful. Two other quick ones. One, in the warehouse business, you talked about the percent of market that the large customer is. In terms of the percent of your business, is it sort of in line with that or much more or much less? And if you took the big customer out, would that business still be growing? Is it mostly one customer, or is it a more general slowdown?

The 50% customer accounts for 70% of our business, so we're more dependent upon them than just the market. When they take a pause, it has a bigger impact on us. We're growing with other customers, however. With the new gentleman we hired, Minja Zahirovic, he’s an industry expert on industrial automation, and he's redoing our pipeline and our product offering, so our forward pipeline of business opportunities is much more attractive now. My hope is to lessen our dependence on that big customer.

Got it. My last question is just on the free cash flow in the second quarter, which was terrific. However, it was a strong number versus a negative number last year in spite of the fact that sales and profits were down. Could you talk through what generated that free cash flow?

Chris doesn't get a lot of glory. Chris made that happen. Chris, do you want to take it?

Thanks, Harold. Good question. It was heavy lifting by the team. We managed our working capital much more effectively — our inventories, our accounts receivable, as well as accounts payable. The business generated more profitability, so that all benefited us as sequentially it was a big change. We hope to see these benefits continue in the second half, and we've put efforts in place to drive down working capital.

On a big picture view, when COVID hit, we sourced a lot from Asia, and the supply chains lengthened. Look at the ports in North America in June; they were clogged again. We invested into our inventory profile to not cause damage to our customers or us; we have consequences if we shut down customers. We invested in safety stock and at the same time put verticalization programs in place to make more parts than source them. We made our profile safer. That had a peak to it. We're not overpromising how they will come down, but we do intend to manage our inventory down. Thank you, Michelle, and thank you to everyone who joined and listened today. I appreciate all the thoughtful questions. It's been a hard year for the management team, and I'm glad that we're staying in front of it. We wish our profits were higher than they've been, but we've been trapped by fixed prices with escalating costs. I'm thankful we've turned the corner on that with revised agreements and increased price levels so that we can get our profits back on track here in the second quarter. We are continuing to win business and grow the company's profits and revenue profile. Thank you for your time today, and I look forward to speaking with you soon. With that, we'll conclude the call.

Ladies and gentlemen, this concludes our conference call for today. We thank you for participating and ask that you please disconnect your lines.