Categories Consumer, Earnings Call Transcripts

Goodyear Tire & Rubber Co (NASDAQ: GT) Q1 2020 Earnings Call Transcript

GT Earnings Call - Final Transcript

Goodyear Tire & Rubber Co (GT) Q1 2020 earnings call April 30, 2020

Corporate Participants:

Nicholas Edward Mitchell — Senior Director of Investor Relations

Richard J. Kramer — chairman, chief executive officer and president

Darren R. Wells — Executive Vice President and Chief Financial Officer

Analysts:

Rod Lache — Wolfe Research — Analyst

Ryan Brinkman — JPMorgan — Analyst

Armintas Sinkevicius — Morgan Stanley — Analyst

James Picariello — KeyBanc — Analyst

Itay Michaeli — Citi — Analyst

Presentation:

Operator

Good morning. My name is Keith, and I’ll be your conference operator today. At this time, I’d like to welcome everyone to Goodyear’s First Quarter 2020 Earnings Call. [Operator Instructions] I will now hand the program over to Nick Mitchell, Senior Director of Investor Relations. Please go ahead.

Nicholas Edward Mitchell — Senior Director of Investor Relations

Thank you, Keith, and thank you everyone, for joining us for Goodyear’s First Quarter 2020 Earnings Call. I’m joined here today by Rich Kramer, Chairman and Chief Executive Officer; and Darren Wells, Executive Vice President and Chief Financial Officer. The supporting slide presentation for today’s call can be found on our website at investor.goodyear.com, and a replay of this call will be available later today. Replay instructions were included in our earnings release issued earlier this morning. If I could now draw your attention to the safe harbor statement on slide two, I would like to remind participants on today’s call that our presentation includes some forward-looking statements about Goodyear’s future performance. Actual results could differ materially from those suggested by our comments today. The most significant factors that could affect future results are outlined in Goodyear’s filings with the SEC and in our earnings release. The company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. Our financial results are presented on a GAAP basis and in some cases, a non-GAAP basis. The non-GAAP financial measures discussed on the call are reconciled to the U.S. GAAP equivalent as part of the appendix to the slide presentation. And with that, I’ll now turn the call over to Rich.

Richard J. Kramer — chairman, chief executive officer and president

Great. Thank you, Nick, and good morning, everyone. I hope our call here today finds all of you as safe and healthy as you can be and for your families as well, and I hope you’re all working through this pandemic as best you can. Now during my time at Goodyear, we’ve managed through the effects of the Great Recession, the European debt crisis, the early 2000s recession and 9/11, and it’s not an exaggeration to say that we’re in the midst of a crisis of historic proportions. Our business was first affected by COVID-19 in China, but over the course of the first quarter, the impact became widespread. As a result, our first quarter volumes fell 18%, and segment operating income fell into negative territory given the effects of lower volume and unabsorbed overhead. The impact of this crisis spans well beyond the economic outcomes presenting both personal and societal challenges that are simply unprecedented. And I’m truly amazed at the way our associates rose to the challenges. In a matter of weeks, we fundamentally changed the way we work to ensure the health and well-being of our associates.

We closed our corporate and regional offices and instituted work from home protocols around the globe ensuring that our associates remain engaged and connected with digital tools. These same tools have helped us stay in constant contact with our customers and suppliers, allowing us to quickly adapt to the changing market conditions and maintain the continuity of our business. Our goal is first-class service and support for our customers and consumers during these trying times. We’ve also modified operations at our company-owned retail stores to safeguard our associates and align our staffing to meet market demand without sacrificing our commitment to keep healthcare professionals, first responders, grocers and our fleet customers road-ready. In the U.S., our Goodyear Auto Service and commercial tire service center locations responded to the COVID-19 challenges by creating a 0 contact service offering. This allows us to limit personal contact and do our part to keep critical workers and supplies moving. And to further advance this effort, we are offering free department of transportation inspections to U.S. commercial fleets and free tire services to essential workers. Members of our fleet services team have also been working hard to keep our fleet customers up and running. And the impact can be seen in our results as shipments of commercial replacement tires were up more than 10% in the U.S. during March.

Goodyear and its associates have also stepped up to support our communities through donations of personal protective equipment to the medical community and also through supporting our local health systems and food banks. As just one example, our engineers in Luxembourg harnessed the capabilities of our 3D printers to produce parts for protective face shields and helping to supply for those on the front line. While we are focused on continuing to serve our customers and communities, we’ve also taken a number of operational and financial actions in response to the crisis to safeguard our business. Through our 122-year existence, Goodyear has always faced adversity head on and emerged stronger than ever. I’m confident that we will overcome the impacts associated with this crisis as we are taking the necessary steps to protect our company. The most significant of these actions was idling production across the majority of our global manufacturing facilities and chemical plants. This ensures that we can protect our associates and help mitigate the effects from the steep drop in industry demand.

I would like to extend my gratitude to our plant teams for their hard work to idle these facilities quickly and safely. We’ve also taken several other actions to further reduce our costs and to preserve cash in the current environment, which we shared with you in our pre-release and which Darren will cover in more detail today. I can assure you that we will continue to manage our business prudently as we move ahead. While our Americas and European businesses are just now experiencing the most severe contraction, our business in China has entered into what we believe is a recovery phase. Goodyear Pulandian is operational and fully capable of producing to demand. The plant is not yet running at full capacity, but is able to meet the needs of our customers. Our plant leaders have implemented several procedures to help our associates stay safe, and our commitment and approach to protecting our team has been recognized by the Dalian government as a benchmark for virus prevention measures. As we survey the landscape, we see several encouraging signs in China. In the OE channel today, essentially all of the major OE plants in China are up and running. While we’re expecting the OEMs to ramp up slowly due to existing dealer inventory, new car sales are gradually increasing off the lows seen in February. And we’re also seeing the nomination process for OE fitment starting to return to pre-COVID-19 levels. Fundamentals are also improving in the replacement channel. Essentially, all our distributors were open for business just three to four weeks after the curve flattened in China.

Our dealers opened on a more gradual trajectory, but they are now mostly all open and serving customers. These favorable developments leave us cautiously optimistic that the volume recovery phase has begun in China, and we’re positioning our business there and around the world for the recovery. As we think about bringing the majority of our workforce outside of China back to the workplace, our top priority remains safeguarding the health and well-being of our associates. Our leaders are working to implement measures recommended by the Centers for Disease Control and Prevention and other leading authorities, including attention to personal hygiene, enhanced disinfection, visitor protocols and physical distancing. We are implementing a phased approach to restart production based upon regular assessments of local market conditions and inventory levels across each product segment. Our supply chain and procurement teams are working nonstop to ensure we have adequate breadth and depth of the required raw materials so that we can move quickly once we see the relevant market signals. At this point, our key suppliers remain online or have adequate inventory to meet our needs as our plants reopen. Earlier this month, we reopened some of our chemical plants and had begun a limited ramp-up of our commercial truck tire manufacturing facilities in the U.S. and Europe. And earlier this week, we began to reopen tire production in most of our consumer factories in Europe as well as in Ismet, Turkey.

While market visibility remains somewhat limited, our assessment of sellout trends and customer signals suggest that demand in our western markets will begin to recover over the next couple of months. In light of this view, we expect to have the vast majority of our manufacturing facilities up and operating by the end of May. Still, consumer sentiment remains low globally. Our fleet customers are deferring capital investments. And we anticipate truck ton miles will decline in the second half of the year. So we know we need to be realistic with our expectations for the remainder of the year. While the majority of our attention over the last several weeks has been directed to the situation at hand, we’re also continuing to focus on our strategic priorities. And to this point, I’m pleased by the early progress we’ve made with our efforts to align our distribution in Europe. We’ve secured agreements with nearly all of our targeted first full-service distributors, which ensures market coverage across the region. And even amid the COVID-19 disruption, we are already beginning to see evidence of improvement in the value of our brand in the marketplace. We’ve proven this strategy is highly effective in the U.S. and I’m confident we can repeat that success in Europe.

The challenges brought on by difficult market conditions like those we’re experiencing today reinforce the importance of having a strong distribution network that ensures our route-to-market. In the U.S., TireHub, combined with our retail and commercial service centers, is doing just that. And it doesn’t stop there. If you’re like me, I suspect much of what you’re buying today is purchased online and delivered. Similarly, we’re seeing a significant increase in online sales at goodyear.com in the U.S. There are two points to think about here: First, is the value of a business built upon digital connections and through the infusion of data-enabled services. COVID-19 has solidified this growing trend, including for tires as we’ve seen our online direct-to-consumer business grow in this down market. And second, and integral to my first point, is the increasingly important role of supply chain to our industry. Think of supply chain in terms of the role that the last mile plays with respect to enabling the e-commerce delivery process and also the related need for services and fit-for-purpose tires for those last mile fleets and vehicles. Also, think in terms of the need for dealers and distributors to operate with lower inventory levels during this crisis, thus, putting a premium on tire manufacturers on time supply.

It’s about having the right tire in the right place at the right time now more than ever. And the investments that we’ve made in our e-commerce platforms, mobile installation capabilities and our aligned distribution initiatives like TireHub are allowing us to stay connected and relevant with our customers even when they’re sheltered at home. As the importance of e-commerce grows, we should benefit from the head start these investments have provided over the competition. Now in addition to these market-facing initiatives, we’ve continued to make progress against our objective to increase the competitiveness of our manufacturing footprint. Last year, we announced a significant modernization and restructuring of two of our manufacturing facilities in Germany. I’m pleased to say that we remain on track to generate at least $60 million of conversion cost savings from these projects by 2022. And as you know, we also set a goal of obtaining a similar amount of savings from restructuring plans we were evaluating in the Americas. The tentative bargaining agreement, we reached to close our manufacturing facility in Gadsden, Alabama, would position us to deliver on these targeted improvements. This action will further align our manufacturing capabilities with the segments of the market that are growing. Now there’s no question that in the near term, trends in our business will be shaped by the COVID-19 pandemic.

However, we know mobility will resume and tires will be in demand. Our team is experienced in dealing with market volatility, and I’m very confident that we will continue to take the necessary actions protect to protect the company during this crisis while also positioning our business for long-term success. And I want to reemphasize my appreciation to the members of the Goodyear team who are working hard to support essential businesses, our customers and our communities. On behalf of the 63,000 associates around the world who make up the Goodyear family, we’re committed to doing our part as we make our way through the crisis and begin the recovery.

Now I’ll turn the call over to Darren.

Darren R. Wells — Executive Vice President and Chief Financial Officer

Thanks, Rich. As you should be able to tell from our press release on April 16 and from our release earlier today, we’ve taken dramatic steps over the last six weeks to respond to the disruption caused by COVID-19 and to reduce as much as possible the financial impact it has on the company. We quickly shut down production in the U.S. and Europe, and work with suppliers to stop the flow of raw materials and other supplies to reduce expenses and to avoid tying up capital in inventory unnecessarily. We then evaluated all other categories of expense, including marketing, research and development and salary payroll. While we have plenty of experience as a team with cost-cutting and general belt tightening, we had to add some plays to our playbook to deal with this level of decline in business activity. This includes reviewing the roles of 9,000 salaried associates and furloughing approximately 2,000 of them for the entire second quarter.

Furloughing another 6,000 for part of the quarter and reducing and deferring pay by 10% to 30% for those who are working. With only a week’s worth of planning, we reduced our payroll spend by nearly $65 million for the second quarter, taking advantage of the government income replacement programs to ensure our associates are supported. In addition, we cut marketing and other administrative and general expenses by $75 million for the second quarter. Simultaneously, we were working on ensuring our cash and liquidity position was protected to the greatest degree possible. This resulted in a number of actions to preserve cash, including reducing our capital expenditures by over $100 million, deferring investments in distribution, suspending our dividend, preserving over $110 million between now and year-end and leveraging government relief efforts to defer payroll and other tax payments, an improvement of $60 million for this year in the U.S. alone. In addition, we continue to work with our core bank group to complete the refinancing of our $2 billion asset-based revolving credit facility, which we closed on April 9. Proceeding with the refinancing of this facility at all in the midst of the COVID-19 disruption was a testament to the resilience of our team and the support of our lenders. I’d like to express my sincerest appreciation to both.

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The renewed credit agreement extended the maturity to 2025. We also obtained favorable adjustments to the calculation of the facility’s borrowing base, enhancing our ability to utilize these facilities during times of lower inventory and receivables. This adjustment amounted to approximately $350 million at the end of the first quarter. The other key non-price terms and conditions remained effectively unchanged. In addition to these near term actions, there are a couple of other key developments I want to highlight that are going to be important as we start to plan for the post-shutdown recovery. First, as Rich mentioned, we’re continuing to make progress on restructuring initiatives that will improve our manufacturing footprint. In our previous calls, we outlined a series of steps we’ve taken in our Gadsden, Alabama manufacturing facility over the past 12 to 15 months in response to declining demand for small rim diameter tires. Last week, we reached a tentative bargaining agreement with the United Steelworkers to close this facility while providing appropriate support for the displaced associates. On a combined basis, the actions taken in Gadsden over the last year are anticipated to generate approximately $130 million of manufacturing cost improvements for our Americas business unit in 2021 when compared to 2019, improving our competitive position significantly.

This tentative bargaining agreement remains subject to approval by the membership of the local union. Second, we’re also seeing some favorable developments in the commodity markets that should help mitigate the impact of lower volume later in the year. While this situation is different than we experienced during the Great Recession, historically, our raw material prices dropped significantly during difficult demand environments, with any corresponding decline in pricing occurring more gradually and on a lag. This can offset some of the impact of lower volume and economic downturns. slide 10 illustrates the benefit we saw during the Great Recession. Between the first quarter of 2009 and the second quarter of 2010, we experienced a benefit of more than $700 million from lower raw material costs after taking into account the impact of price changes. At spot prices, our modeling suggests our commodity costs would be $50 million to $100 million lower in the second half compared to 2019, with most of that benefit coming in the fourth quarter. Turning to a review of the first quarter. While our results were significantly affected by the severe decline in global tire demand and our decision to suspend production to protect our associates and avoid building unneeded inventory, our results reflect a few strengths of our business model. First, our business is deemed essential in the U.S. and most other parts of the world.

That means that even while our factories were closed, our retail locations, warehouses, commercial truck service centers and other customer-facing assets continue to operate, ensuring that we can support our customers even during the stay at home orders. Second, and related to this, our replacement business continued to generate revenue during late March and April lockdowns. While replacement volume was low, it never stopped. And it has started to recover over the last two weeks, even though auto production has not. Third, our commercial truck tire business remained particularly critical with replacement volumes through March only slightly below last year’s levels as large fleets work to keep essential goods on store shelves. Together, these attributes mitigated the volume decline that we experienced during the first quarter and leave us better positioned to navigate the current environment. Turning to slide 11. Our first quarter sales were $3.1 billion, down 15% from last year, primarily driven by lower volume, but also impacted by unfavorable foreign currency translation. These effects were partially offset by improvements in price/mix. Unit volume decreased 18%. Replacement tire shipments declined 16% and OE unit volume decreased 21%.

Our commercial replacement business was the strongest performer, with volumes declining just 3%. Our segment operating loss for the quarter was $47 million, down $237 million from a year ago. This decline can be largely explained by lower volume, lower factory utilization and costs related to temporarily shutting down our manufacturing facilities. Segment operating income includes an impact of approximately $65 million for lower factory utilization and period costs directly related to shutting down our manufacturing facilities in March. Our results were also impacted by discrete charges of $472 million, primarily related to two items. The first was the establishment of a valuation allowance on deferred tax assets for foreign tax credits, driven by the expectation of lower near-term income in the U.S. The second was $182 million noncash goodwill impairment charge, reflecting the expectation of lower income in our EMEA business. After adjusting for these items, our loss per share totaled $0.60. The step chart on slide 12 summarizes the change in segment operating income versus last year. The impact from lower volumes was $120 million, reflecting a decline in shipments of approximately seven million units. In addition, production cuts resulted in a $70 million decrease in overhead absorption.

This included both the impact of production cuts taken toward the end of 2019 and the effects of suspending production at the majority of our manufacturing facilities in March. $50 million out of the $70 million of conversion costs are related to our first quarter operations. Price/mix was flat, reflecting continued benefits from our pricing actions, particularly in the Americas, which offset which were offset by unfavorable mix. Raw material costs decreased $13 million, driven by lower synthetic rubber and carbon black prices. The benefits of lower feedstock costs were partially offset by the impact of unfavorable transactional foreign currency and higher feedstock costs. Inflation of $38 million offset equal amount of cost savings. Cost savings opportunities were adversely affected by the decline in volume. The $57 million decline in the other category includes several unique items. First, suspending production on our manufacturing facilities resulted in a $15 million write-off of work in process inventory. Second, we experienced lower factory utilization at our Gadsden manufacturing facility even before the shutdown due to the ongoing work to transition SKUs to our other plants in the U.S.

This dynamic resulted in us expensing about $10 million of production costs incurred in the first quarter. Third, earnings declined by $8 million in our other tire-related business. The decline was driven by weaker results in our chemical and retail operations. Turning to the balance sheet on slide 13. Despite the disruption, our balance sheet at the end of the first quarter was stronger than a year ago, with net debt down approximately $100 million. As of March 31, 2020, and pro forma for the refinancing, we have total liquidity of approximately $3.6 billion, including $971 million of cash and cash equivalents, also above our year ago levels. slide 16 summarizes our cash flows. We used $561 million of cash during the quarter for operating activities, primarily reflecting seasonal working capital. Turning to our segment results beginning on slide 17. Americas volume decreased 13% to $14.5 million. The U.S. and Canada began to see significant volume declines during the month of March, while Brazil remained steady. Shipments of commercial tires were relatively stable with units down less than 3%. In the U.S., we increased our share of the commercial truck tire market, increasing our replacement volume by 5%. This performance includes a double-digit increase in March as we benefited from our efforts to keep our warehouse operations and commercial truck service centers open to help keep our fleet customers up and running.

Americas’ operating results for the first quarter were breakeven, after being ahead of last year through February. The decline was driven by lower volume and lower factory utilization, including approximately $30 million of period charges associated with shutting down our manufacturing facilities in March. These factors were partially offset by improvements in price/mix and favorable raw material costs. Turning to slide 18. Europe, Middle East and Africa’s unit sales were down approximately 20%. Both consumer OE and replacement shipments fell around 20%, primarily reflecting the approximately 30% decline in industry shipments in March. Our replacement sales were also impacted by expected declines related to actions we are taking to restructure our distribution across Europe. Similar to the Americas, demand for commercial replacement tires was relatively stable with industry shipments declining only 1%. Against this backdrop, we were able to deliver modest growth with our commercial replacement volume increasing about 1%. EMEA segment operating loss of $53 million was down $107 million from the prior year’s quarter, driven by reduced volume and higher conversion costs, including the impact of lower factory utilization. Period costs and other charges totaled approximately $20 million. Turning to slide 19. Asia Pacific Tire units totaled $5.2 million, down approximately 24% from the prior year.

Original equipment unit volume declined more than 30%, driven by lower industry demand in China and India. Replacement tire shipments decreased 17%, also reflecting lower industry demand in China. Segment operating income was $6 million, $41 million lower than last year. This decline primarily reflects lower volume and reduced price/mix, including the impact of competitive conditions in our consumer OE business. These factors were partially offset by favorable raw material costs. Turning to slide 20, I wanted to provide you some thoughts on topics that should be helpful to you when creating your forecast. And given the limited visibility we have into vehicle production and replacement demand, it’s difficult for us to provide you with an accurate projection of the industry volumes for the year. However, we assume the largest volume declines will occur in the second quarter and that they will be approximately 50%, with April down close to 70% from a year ago. Overhead absorption will continue to be adversely affected by reduced plant production. We’re currently planning production down almost 25 million units versus the second quarter of 2019 or about 2/3 to reflect expected second quarter demand and to reduce inventory. Reducing production during the current plant closures is more efficient than running factories at reduced levels later in the year, which should provide some benefit as business levels recover. The guidance we provide on our modeling assumptions page for calculating the impact of production changes is still a good approximation.

However, the impact for the second quarter will be essentially immediate rather than our normal lag of approximately three months to account for the accounting treatment of low utilization. In addition, our other tire-related businesses are also significantly affected by the weakening economic environment. Traffic and volume at our retail locations is low, and the sharp drop in business and leisure travel is adversely impacting our aviation business. In addition, our chemical business is feeling the effects of decline in tire production. In total, the year-over-year earnings decline in our other tire-related businesses is expected to be about $150 million during the second quarter. When thinking about our cash flow for the second quarter, some unusual dynamics related to the sharp slowdown in industry demand will impact our working capital flows. As a result of lower sales and lower production in the second quarter, we expect to experience declines in our accounts receivable and inventory balances, which will act as a source of funds in the period rather than the traditional use of funds. This is normal in a recession. However, we expect these benefits in the near-term will be more than offset by the reduced accounts payable, given that we have not been purchasing any raw materials. Therefore, we anticipate working capital to be a use of funds for the second quarter.

When combined with losses expected in the quarter, we could use something like $1 billion of cash in Q2. Ramping back up after Q2 by itself should not be a big cash drain, and we continue to expect working capital to be a significant source of cash in the second half of the year. Also, we now expect working capital to be a source of cash for the full year, although the amount will depend on how much inventory we need to have at year-end. Turning to slide 21. You will see we have updated several of our other financial assumptions. As previously disclosed, our capex guidance has been updated to reflect the actions we’ve taken to align our capital spending plans with current market demand and to preserve cash. Depreciation and amortization is expected to total approximately $775 million, down slightly from our previous forecast. This revision reflects the adjustments we’ve made in our capital spending plans and the impact of foreign currency translation. We’ve increased our estimate of restructuring payments by $50 million to reflect the impact of the planned closure of our Gadsden, Alabama manufacturing facility. Lastly, we expect our cash taxes to total approximately $60 million, which includes the $30 million we paid in the first quarter related to income earned in earlier periods. Operator, we’ll now open up the line for questions.

Questions and Answers:

Operator

[Operator Instructions] We’ll go first today to Rod Lache with Wolfe Research. Please go ahead.

Darren R. Wells — Executive Vice President and Chief Financial Officer

Morning.

Rod Lache — Wolfe Research — Analyst

Good morning. A lot of information and I appreciate the detail. I was hoping you can just give us some help with some of the bridging items that you talked about for Q2, which obviously is going to be the toughest quarter of the year. So if I think about volume. Last year, you did 37.5 million units in the second quarter. I’m assuming that cutting that in half, you’ve got like 18.7 million units. And typically, it’s like a $17 per tire. Volume impact, so that would be $300 million. And then separately from that, just so I understand the period accounting, it sounds like you’ve got a $25 million reduction in output from the plants with, I think, on average weighted average, like $12 a tire. So that’s another $300 million on top of that. Am I thinking about that correctly from those two items?

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Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. You’re I mean, Rod, that’s the modeling assumptions still work. And I mean you’re and obviously, there are yes, the volume itself will be spread across different geographies, and every geography is a bit different. But directionally, you’re doing the math that I’d suggest you to do.

Rod Lache — Wolfe Research — Analyst

Okay. Yes. And then separately, you’ve got the $150 million from the other businesses, that wouldn’t be an add-in, and it sounds like $140 million of savings. I mean, it sounds like those are the major verging items, if I understood them correctly. On the working capital, your comment about the $1 billion use I mean, was that just working capital? Or were you was that $1 billion use overall?

Darren R. Wells — Executive Vice President and Chief Financial Officer

So Rod, the income modeling that you were just talking your way through, effectively, what we’ve done is we’ve taken the losses along with the working capital and said, if you take the operating losses and the working capital together, that could result in a use of around $1 billion of cash in the second quarter, right? So it’s only a small part of that is working capital.

Rod Lache — Wolfe Research — Analyst

Okay. Good. Yes, that makes a lot more sense. Okay. And then can you just give us a sense of obviously, we’re seeing just massive volatility in the commodity complex and oil and presumably all oil derivatives are down huge. So the numbers that you give on a dollar basis are affected by the volume numbers that you’re assuming and what you’re purchasing. But can you just give us a sense maybe of the percentage declines that you’re seeing kind of on a spot basis and what the strategy is vis-a-vis just taking advantage of that? And when would we see this?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. No. I mean, Rod, I think the comment is fair. And if we look at, particularly the oil derivatives, so we look at carbon black and look at butadiene, those are commodities that have dropped dramatically over the course of the last couple of months. And so I think we were buying carbon black for $40 in the fourth quarter. And the spot price right now is $17 for the same barrel. So that’s a 50% drop. Butadiene, it was closer to $0.40 a pound and now it’s more like $0.25 a pound. So we’ve seen those dramatic reductions. I think and we have incorporated where spot prices are and are thinking about what benefit we might get in the second half. However, it is mitigated by the fact that we’re not really buying materials right now.

So we had materials when the shutdowns occurred. As we ramp back up, we’ll start to buy materials again, but we won’t buy a significant amount until the third quarter so we would start to get some benefit in Q4. So I guess the active question is going to be what’s the price of these materials in Q3 because that’s when we’re actually going to be buying them. Now we’ve assumed that it will take a while for those material prices to go back up. And so we’ve assumed some benefit. And that is what we have given in terms of that $50 million to $100 million, if we exclude the effect of the transactional effect of currency.

Rod Lache — Wolfe Research — Analyst

Okay. I think I understand. But basically, I guess, I’m just thinking about just the magnitude of raw materials as a percentage of COGS, typically. And I mean, are we looking at kind of a weighted average decline at this point of almost 50% that would if it were to be sustained, it would actually benefit pretty massively in 2021?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. If I could just start with carbon black and butadiene, relative to the fourth quarter, you’d be getting into that 50% range. But obviously, it just it takes some time to work its way into our cost of goods sold. There are other commodities that have not been as affected. So if I do the same math for natural rubber, we were buying it at $0.60, it’s $0.50 today. So not down nearly as much. So I wouldn’t go as far as the 50%, even if things were to stay at these prices. I think our expectation is by the time we get to 2021, when we would be getting sort of the ongoing benefit of the decline that increased tire production is going to bring those material costs back up. Hard to tell how fast that happens. Okay, All right. Thank you.

Operator

Our next question is from Ryan Brinkman with JPMorgan. please go ahead.

Ryan Brinkman — JPMorgan — Analyst

Hi, thanks for taking my question. And thanks for the update on the raw materials tailwind just now. How are you thinking, though, about your ability to capture those raw material savings net of price/mix? I think earlier, the industry and Goodyear had complained of an inability to fully recoup the effect of sharp raw material cost inflation, thinking specifically of the 2017 time frame. Going forward, how do you expect this dynamic to work in a period of sharp raw material deflation? Do you think it is easier, as one might imagine, to not cut price to the full extent of input cost deflation than it is to raise price to the full extent of inflation? Or will capturing the benefit be, maybe, unusually challenged by the magnitude of expected industry volume headwinds and related unabsorbed fixed costs?

Richard J. Kramer — chairman, chief executive officer and president

No. Ryan, I think it’s a very relevant question, and certainly one we’re thinking through. And I think if you go back, I don’t recall the pages, but Darren actually touched on this a bit. And I think if you look to previous downturns, and what we’ve seen is the benefits of lower feedstock really more than offset sort of the pricing pressure that comes on the lower feedstock prices as well as the soft demand. So net-net, what we’ve seen is a benefit during these periods. And yes, the impact on price ultimately happens, but it occurs gradually and sort of on a lag basis. So that’s how we’ve worked through this in the past. And I think there’s a basis to think that, that situation would again present itself.

And I think if you even if you look at how we’re seeing pricing in the market today, I mean, if we go around the the world in the U.S. look, through Jan and Feb, we really saw positive really a positive pricing environment with several of our competitors, as you know, announced planned price increases, and we announced a price increase of up to 5% in early March. In Europe, if we look around, again, mostly a summer market at the points that we’ve seen. But we saw a stable to slightly positive pricing environment, again, really focused on summer. Winter will present itself as we work ahead. And then so I think as we see that, it’s as I said, it’s a reasonable environment right now. We’ll see what happens. I think Darren’s explanation was very clear in that we do see those lower raws right now. It’s not simply a straight-line as we got to start buying again, and we’ll see where those prices end up as demand comes back, which we think it will. But we do believe that, that situation of being able to capture the benefits of the lower feedstock in this downturn is something that we can do.

Ryan Brinkman — JPMorgan — Analyst

Okay, that’s helpful. Thank you.

Operator

And our next question’s from Armintas Sinkevicius with Morgan Stanley. please go ahead.

Armintas Sinkevicius — Morgan Stanley — Analyst

Great, thank you for taking the question. Sure. I was hoping you could maybe walk us through the working capital dynamics here and how that flows from the first quarter into the second quarter? And then the second question is the decremental margins here in the quarter were quite high. How should we think about that into 2Q?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. So I think the two things are going on. And let me take the working capital question first, and I’ll come back to the margin question. Yes. So working capital in the first quarter, I would say, largely behaved as we might expect in a softening environment, and that we had some decline in receivables. And as sales softened, our inventory didn’t change a whole lot, but our payables were relatively stable as well. So we had a what I would characterize as a fairly normal first quarter working capital build based on seasonality. And so that I would look at and say, first quarter didn’t look much different than first quarter normally looks. When we get into the second quarter, what we’re seeing is that our obviously, our inventory with the production cuts we’re taking, we’re expecting to reduce our inventory. So it will come down, as it should, given demand. Receivables, obviously, with lower sales are going to come down as well. But what we’re also seeing is that when normally we’ve got 90 days or so of payment terms from our suppliers, which provides financing for our inventory. Because we are not really buying materials for production right now, by the end of the second quarter, most of our suppliers will have been paid and our payables will be much lower.

And that’s a temporary effect. As we start buying materials again, payables will normalize. And that’s part of why we’re saying that we expect working capital to be a significant source of cash in the second half. And by the time we get to the full year, we’re expecting working capital to be at least a modest source of cash for us in this environment. So a little bit of a unique effect here from having a very quick and extended shutdown like this. So the question on margin. I think the most significant difference in the way margins behave in Q1 and Q2 is the way that we’re accounting for our unabsorbed overhead. Where normally, when we cut production, there is a lag through inventory before production cuts show up in our margins. In this case, we not only were impacted in the first quarter by the production cuts that we took in Q4, and we did reduce production in Q4 relative to the prior year. And that flowed through inventory into the sales in Q1. But the production cuts we took in because we were seeing cuts that were 15% or more of a factory’s output. We recognize those immediately. So we’re getting hit with the production cuts from Q4 and Q1 at the same time. Q2, our production cuts are going to be even more than the volume decline. And I mean, that has some benefits to us in the second half, but in the second quarter, we’ll be getting hit by the loss of sales of 18 million units or so, but lost production of 25 million units. So you’ve got an extra seven million units worth of unabsorbed overhead that’s going to hit the second quarter. Now that’s unabsorbed overhead that won’t be hitting in the second half, which is a good thing.

Armintas Sinkevicius — Morgan Stanley — Analyst

And my other one, just real quick. The actions you took here, in some sense, proactive with the dividend and the capex. But as we went through these numbers, it looks like they were actions that you had to take. How should we contextualize you being proactive with regards to these actions versus these are actions that you had to take?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. No, I think the we listen, we’ve spent a lot of time on cash flow modeling, all of which has confirmed that we’ve got the resources to manage through this year. But it also helped us focus on finding actions to keep improving the situation, given the uncertainty we’ve got in how the recovery is going to look. So I think these are all prudent measures for us to take given the fact that there is going to be we’re going to suffer operating losses during the significant operating losses in the second quarter. And, yes, some uncertainty regarding volume recovery that ultimately will become clearer. But we started the quarter with cash and available credit of $3.6 billion. We’re talking about a use of cash of around $1 billion in the second quarter. And then in the second half of the year, whatever happens from a volume and earnings perspective, we’ll have a significant source of cash from working capital. So I think we look at that and say, we want to be conservative. We know this is a time to manage the business for cash and to make sure that the balance sheet and our cash and liquidity position is solid. But I think that you can view those actions as being sort of appropriate and proactive to make sure the situation is one that we’re able to comfortably manage our

Way through.

Richard J. Kramer — chairman, chief executive officer and president

Yes. And I would just add to Darren, to your comments, I completely agree with them. And I think it really goes into a bucket of prudency. Even if we go back to Darren’s comments answering the question on the high fixed costs that we see in the second quarter, we saw a very similar situation when we went through the Great Recession where we saw deep production cuts, not as deep as they are now, but deep demand falling off in production cuts. And what we see are those what were sort of product cost that flow through cost of sales with the sales of our product becoming period costs. That lasts for a quarter or two and then we get back to a normalized sort of production. We believe that will happen again. And secondly, having gone through the Great Recession, I think, Darren, you should agree with me. As we look at that, part of the issue here is we don’t know exactly the timing of how these things come back. So in that environment, I think we look at it in the context of certainly managing for cash, focusing on liquidity, that’s number one. But we also look at it as a way to prudently manage through a situation that is similar but somewhat dissimilar to what we did before. But the similar side is not really knowing exactly how it plays out at the moment. And that situation begs a degree of prudency, and I think that’s how we thought through that question.

Also Read:  Huami Corporation (HMI) Q3 2020 Earnings Call Transcript

Armintas Sinkevicius — Morgan Stanley — Analyst

Right, much appreciated.

Operator

[Operator Instructions] We’ll go next to James Picariello with KeyBanc. please go ahead.

Armintas Sinkevicius — Morgan Stanley — Analyst

Just wondering if you could talk about Goodyear’s performance with respect to consumer replacement volumes in the U.S. and Europe, just given the company’s is that and what would you bucket in terms of the major impacts there relative to the market?

Richard J. Kramer — chairman, chief executive officer and president

So you broke up for a minute, James. So if I don’t answer something, certainly, please come back in. But I think look as I think if we sort of dissect the two, in the U.S., you have to remember, our fourth quarter was one of the highest fourth quarters that we had in the consumer business, including our share position there. And remember, that came off essentially gaining back all the share back to some of the share losses we had as we tried to recover raw material prices a few years back. So we were very, very pleased with the performance in the fourth quarter last year. So you have to start there. When you look at what happened in Q1, I would say, our business was off to a very good start through Jan and Feb, to be clear. But you also have to look at our relative size and weighting in the U.S. And I think a couple of things come to mind here. One is, as you look at where our higher shares are in the U.S. It’s on the coast, on the East Coast, in particular, and in the Midwest.

And what, again, you saw was a little bit weaker winter. So we saw a little bit weaker share volume, excuse me, because of that. And then pair that with two impacts coming out of COVID. One is, again, the high COVID impact to the East Coast, also the West Coast and the Midwest in terms of a place like Detroit. Because we over-index there, we are hit a bit harder in those markets. And secondly, as you know, we have a very big business, a business we love with Walmart, but Walmart closed down all its auto centers and took those resources and put them back in the stores. So that impacted us as well. So when I look at that, I view these as really temporal. I really look back at the business model we have, I look at the new product lineup we have, the products we introduced at our dealer conference this year. So I think you’re looking at really sort of a unique moment versus a trend. So I really don’t have concerns in the U.S. And in Europe, as we explained, and I think Darren took you through some pretty good charts in our year-end call, we went full forward with our line distribution initiative in Europe, and we signaled that we were going to have some volume losses in there as we really focused on the value of our brand in the market. And signed contracts with certain distributors to give us coverage across the region. That program is working very, very good.

We have the contracts in place, and we’re actually seeing the benefits of that. And because we’re into a weaker environment with COVID, we have not at all lost our focus or our initiative, our commitment to our initiative to drive aligned distribution in Europe. We said we were going to have transitional volume issues. We’re having those transitional volume issues. But those are going to benefit us over the long-term in terms of a better value proposition, price stability and a more profitable business as we look forward. So that would be how I would have you think about these at this moment.

James Picariello — KeyBanc — Analyst

Got it. No, that’s really helpful. And then just on the Gadsden closure, can you talk about maybe the timing of the $130 million savings over this year and next? And how should we think about the volume inefficiencies related to that closure over the next 12-plus months or Q2 just 2Q and 3Q. How should we think about that?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. So James, I think what we’ve chosen to do here, just to try to keep things as simple as we can, is just to focus on the savings we’re going to get in 2021 from that improvement in our footprint. The way that is going to play out this year has some real uncertainty around it because of the uncertainty around how our production is going to ramp-up in the other factories. So I mean the savings we’re going to get there will have will be affected by the timing that we’re working through right now in terms of getting the obviously, the approval of the local union, starting to take the actions to move the final products out of that factory to other U.S. facilities, and that’s going to take some time. And all of that timing is affected by how quickly those other facilities are ramping up. So I would say there’s some uncertainty as to how much benefit we’re going to get this year. I think there will be some in the second half, but most of the savings here is really going to get to us and benefit us in 2021.

James Picariello — KeyBanc — Analyst

Got it. Thank you.

Operator

Our next question is from Itay Michaeli with Citi. please go ahead.

Itay Michaeli — Citi — Analyst

Hi. Good morning. Thank you. So maybe just two questions looking beyond Q2, maybe one for Rich, one for Darren. Rich, what do you make of the potential, kind of, longer-term implications of the crisis, particularly around the risks of lower vehicle miles traveled, more work from home? And then maybe Darren, can you just talk about a little bit directionally perhaps where you expect kind of gross or net debt to end the year, and how you’re thinking about leverage for the company kind of beyond the immediate crisis?

Richard J. Kramer — chairman, chief executive officer and president

Yes. Itay, I think it’s a good question. And obviously, it’s a bit of an unknown. But I will tell you, I do see some of the things that we have is somewhat transitory on our way back to some semblance of normality. And I think about that from the perspective of, clearly, the trends that we’re seeing. People are going to be more conscious of their personal health, and they are. People’s comfort with things like e-commerce certainly was happening, but it’s really been growing even more as people are realizing what they can actually get delivered to their house, including tires. And also we see the value of a supply chain being even more important. And I think that all puts a premium on being closer to the customers. And again, I’d have you think about all the things that we’ve been working for working toward with the goodyear.com, with Roll, with Mobile Vans, all those things, I think, really play nicely into that environment that we see. And I don’t really I think the opportunity to work from home is going to be much more on the table for companies or organizations than it was. But look, I kind of go back to a question that I got back when I was the CFO during the Great Recession, and we saw new car sales drop dramatically.

We saw the world sort of on end. And the question was, “Were we going to drive around in small cars with small tires and kind of go backwards?” my view is we never go backwards. I said at that time, we’re never going to go backwards. Society doesn’t move backwards, it moves forward. And we would get back to selling HVA. We weren’t going to go back and drive small economy old cars and not replace them and have small tires on them. And sure enough, what did we see? We saw the SAAR go back to $17 million. We saw cars go away and selling SUVs and trucks. And we saw the trend of HVA and more complex tires continue to grow. I don’t believe those trends are going to change. I personally don’t believe the trends around shared mobility will actually change or the trends around EV and AV. I think we’re going to have a bit of a pause as we work through this, not unlike what we did through the Great Recession. But I think we come back, and I think this disruption actually adds more focus as to how we come back and what that mobility world looks like. I don’t think it’s necessarily exactly the same. But I think the trends are actually continue to be will continue to be in that favorable direction that we saw. And I think that actually favors Goodyear very well. And I would also take the opportunity to say we know how to work through an environment like this, and we’re going to take the time to make sure that we’re ready when that new environment comes forward to take advantage of those trends.

Darren R. Wells — Executive Vice President and Chief Financial Officer

So Itay, I was going to take the question on the balance sheet effectively and what the impact of this year might be on the net debt we have at the end of 2020. And I think the I’ll say this. I think there’s a lot of variables here. And obviously, we expect to generate some cash from working capital, which is going to be helpful for us. I think the thing that will have the biggest impact on where our net debt ends up at year-end is going to be the losses that are generated in this, sort of, March through the second quarter period. Because those are periods of time where, obviously, we’ve cut a lot of costs but there’s still a lot more costs than we are earning money to pay for. So I mean, the losses we incurred during this period of time. I mean that money is going to get borrowed. And that, I think, we have to be realistic about. So as we look at the cash that we’re using here during this few months of the peak of the COVID-19 impact, we recognize that we’re going to have to start working to develop the cash flow to pay that back. As our balance sheet, our leverage were already above the levels we were targeting. So when we get into 2021, we’re going to be working to address the impact that we feel this year.

Itay Michaeli — Citi — Analyst

Wait, I appreciate all that detail. Thank you.

Richard J. Kramer — chairman, chief executive officer and president

Thanks.

Darren R. Wells — Executive Vice President and Chief Financial Officer

Thanks.

Operator

And we do have a follow-up from Rod Lache with Wolfe Research. please go ahead.

Rod Lache — Wolfe Research — Analyst

Yeah, thanks for taking my follow up, sI was just I’m trying to just get my head around what needs to happen to get to breakeven free cash flow, excluding working capital. And I was just hoping maybe we can just talk through that a little bit because there’s a lot of different moving parts. And I’m not sure if you have a framework that you could share, but I was just looking at the cash flow statement from this quarter, you did like a $290 million burn, excluding working capital. It sounds like your capex is going to come down by like $25 million a quarter. And your savings starting in Q2, it would be like $140 million a quarter. So maybe that can get whittled down to like $120 million a quarter of burn, which looks like it would correspond with having to sell four million more tires to kind of at $30 a tire of contribution to kind of offset that. Am I thinking about that the right way? And do you have any sort of high-level thoughts about do you think that operationally, ex-working capital, you can get to close to a breakeven number in the back half?

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. So Rod, I think the questions are you’re getting to the right point, which is that the volume recovery is going to be the that’s going to be an important consideration for what it takes to work our way to breakeven, as you say, excluding working capital. I will say, the slower the volume comes back, the more working capital benefit we get. So those two do work in concert a bit. I think that as we’ve looked at the volume trends, I think we’ve looked at 2020 for and recognize that there’s going to be some cash usage in 2020. But if I move to an environment where we get back, I guess, what we’ll think of is some meaningful, but not complete, part to the volume that we’ve lost. I think that we feel comfortable we can run the business without using cash. Where exactly that falls, I think the modeling assumptions that we’ve got, that we published with our presentation today, should help get you there. And I think I like to use 12-month modeling periods because the seasonal working capital tends to step in and confuse them otherwise. But I think we’re talking about a if we were to see a decline in volume this year, even in the second half, even at ranges of, I don’t know, 10% or so. I think you’re still in a range where we wouldn’t be using cash. So I think if I step back and think about where the full year could be, I think we’re going to be below where we would need to be breakeven on volume for this year. But with any modest recovery, I’m less concerned about 2021.

Rod Lache — Wolfe Research — Analyst

Right. It sounds like it’s primarily in your mind, it’s primarily the first half? And when you think about…

Darren R. Wells — Executive Vice President and Chief Financial Officer

Yes. I mean, it’s really this March sort of March through June period. That’s really that’s the place where we’re using cash, and that cash effectively has to be borrowed.

Operator

Speakers, it appears that we have no further questions at this time.

Richard J. Kramer — chairman, chief executive officer and president

Great. Thank you. Thanks for your attention today. And as we open up the economy, I hope everybody stays safe. Thank you.

Operator

[Operator Closing Remarks].

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