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Good morning, and afternoon, ladies and gentlemen. And thank -- and welcome to today's CNH Industrial 2019 Fourth Quarter and Full Year Results Conference Call. For your information, today's conference call is being recorded. [Operator Instructions]
At this time, I would like to turn the call over to Federico Donati, Head of Investor Relations. Please go ahead, sir.
Thank you, Maria. Good morning, and afternoon, everyone. We would like to welcome you to the webcast conference for CNH Industrial Fourth Quarter and Full Year 2019 Results for the period ending December 31. This call is being broadcast live on our website and is copyrighted by CNH Industrial. Any other use, recording or transmission of any portion of this broadcast without the expressed written consent of CNH Industrial is strictly forbidden.
We are pleased to have here with us today our CEO, Hubertus Mühlhäuser; and our CFO, Max Chiara, who will be hosting today's call. They will use the material available for download from the CNH Industrial website. After their presentation, we'll be holding a Q&A session.
As a final comment, please note that any forward-looking statements we might be making during today's call are subject to the risks and uncertainties mentioned in the safe harbor statement included in the presentation material. Additional information pertaining to factors that could cause actual results to differ materially is contained in the company's most recent report 20-F and EU Annual Report as well as other periodic reports and filings with the U.S. Securities and Exchange Commission and equivalent authorities in the Netherlands and Italy.
The company presentation may include certain non-GAAP financial measures. Additional information, including reconciliation to the most direct comparable GAAP financial measure, is included in the presentation material.
I will now turn the call over to Hubertus.
Thank you, Federico, and good morning, and good afternoon to everyone. 2019 was marked by several important milestones for CNH Industrial as we launched Transform 2 Win, our strategy focused on driving margin improvement, investing in long-term growth and transforming our portfolio to create 2 leading and separate companies focused on our on- and off-highway businesses.
The challenging macroeconomic conditions that we face and which are reflected in today's results, further support our decision to launch this strategic road map. This road map will enable us to further improve margins while making targeted investments in technologies that will help us to grow sales long term. Given the trading conditions that we faced in 2019, we will step up our efforts on margin improvement initiatives in 2020.
So how did we perform in 2019 versus our expectations? Net sales of Industrial Activities came in below guidance due to lower sales volumes from weak industry demand and dealer inventory actions in our AG and CE segments, offset somewhat by positive price realization. The adjusted EBIT margin from Industrial Activities was 5.3%, down 40 bps versus last year. This was mainly due to unfavorable volume and mix and raw material headwinds, which more than offset positive pricing and a very disciplined cost management.
Clearly, the construction equipment turnaround is behind expectations. We have taken decisive actions, made leadership changes and have the new management team fully focused on margin improvement, which we expect to show results in the second half of 2020.
On a more positive note, we have achieved EPS of $0.80 -- $0.84 a share, up $0.04 year-over-year of 5% despite this challenging environment. Net debt of Industrial Activities came in higher than our latest guide, as Max will explain later in the presentation. Important to note, our financial position remains robust with a strong balance sheet and excellent liquidity.
Alongside the Transform 2 Win strategy that I just mentioned, we moved on selected strategic partnerships and acquisitions that were implemented during the year and will drive long-term growth. Our profitability and margin improvement initiatives outlined back at our September Capital Markets Day are firmly on track and will help to counter market headwinds. The planned separation of our on-highway business is also on track, with a target to complete the spin-off in January 2021, supported by specialist financial and business advisers.
The Board of Directors of CNH Industrial N.V. intends to recommend to the company's shareholders an annual cash dividend of EUR 0.18 per common share, in line with our 2019 payout, and totaling approximately EUR 243 million or approximately $267 million. Subject to the approval of shareholders at the upcoming Annual General Meeting due to take place on April 16, the ex-dividend date would be set at April 20.
Moving on to Slide 4. Let me provide you a high level industry update for Q4 industry volumes. First, let's look at the largest AG segment. North America row crop markets were weaker largely due to a continued uncertainty around the resolution of trade disputes and how quickly any solution would translate to an increase in export demand or commodity prices. Although we have -- now have a China and U.S. Phase I deal that has a large portion earmarked for agricultural products and producers, the details and path to adoption has left producers with many questions and hesitation around new product placement.
Even if farmer sentiment has somewhat improved through January, soft commodity prices have been fairly muted so far with soybeans even down 7% since the signing of the China trade deal. We see an uptick in soft commodity prices as a precondition for increased AG machinery sales.
In the EU, AG machinery was generally soft with combines being at the lowest level that we have seen in recent history due to the continued previous seasons for harvest in certain key geographies and dairy markets remaining range bound.
In South America, we continue to see lackluster end customer demand due to uncertainties in the macro and global industry environment due to trade, African swine fever and lower demand for soybeans. This being said, we still feel this market will continue to expand on the back of historically strong harvests over the long run, and will continue to modernize its ag fleets and increase efficiency in a market where we command a very strong position.
In terms of construction end markets, they were flat to down in totality worldwide during the fourth quarter with pockets of growth in North and South America but weakness in Europe and rest of the world. Generally, dealers continue to destock in North America and Europe. And while infrastructure projects continue in both regions, they are not leading to incremental contract demand.
Within the subsegments, compact and service equipment improved in South America as this market continues to recover from low levels, but weak in Europe from Brexit uncertainties and pockets of residential and infrastructure projects.
For trucks, the European truck market was down 5% year-over-year in the fourth quarter with light-duty trucks up 2%. Medium and heavy trucks were down 16%. As anticipated, we have now started to see in Q4 the slowing of the EU heavy truck market, which has been running at peak volumes for some time. That being said, the LNG market segment doubled, reaching the predicted 2% TIV market share in 2019. This will provide a partial hedge to us as we have a large portion of the LNG market.
South America was flat overall for trucks with Brazil up 13%, but Argentina down by 28%. Buses continue to be a bright spot for our Commercial Vehicle business with the European market up 2% for the quarter and the South American market up 11%, led by Brazil, which was up 23%, partially offset by a down Argentinian market.
In summary, you can see that market headwinds and sectoral trends impacted our performance in 2019. We expect these trading conditions to persist in 2020, but we are prepared for this tougher environment in which we will both manage the long-term transformation of our company and simultaneously utilize every lever in our control to strengthen our near-term performance.
I will now hand it over to Max.
Thank you, Hubertus, and good morning or afternoon to everyone on the call. As we have seen end markets deteriorated rapidly in the fourth quarter with increased uncertainties affecting end-user sentiment, and we took decisive actions starting in the second half of 2019 and continuing through Q4 to reduce our production, primarily in our off-highway segments, AG and CE, to reduce our and our dealers' inventory.
While we were able to make good progress in our Agricultural segment, achieving a production performance for the full year, mostly in line with retail, in Construction, we finished the year with production outpacing retail by 5% globally with a more acute outcome in our high growth markets. This impacted our top line as well as our profitability as lower cost absorption persisted throughout the fourth quarter.
The combination of these factors, together with a year-end spike in the euro rate caused a net debt to come in above the upper end of our guidance. We are accelerating certain of our Transform 2 Win profitability improvement initiatives, and we are also focusing on disciplined cost management, while sustaining investments in our future growth.
Moving now to the key figures for the fourth quarter and full year. Net sales in our Industrial segments were down 6% reported and down 2% constant currency for the full year 2019. Adjusted EBIT of Industrial Activities was $1.4 billion for the same period with a margin of 5.3%. This was down 40 bps compared to 2018, mainly due to unfavorable volume and mix as well as raw material headwinds, which more than offset positive pricing and cost management actions.
Furthermore, continuous efforts have been taken to improve our below-the-line items with net interest expense reduced more than 20% year-over-year.
Our adjusted ETR also decreased to 22% due to a favorable geographic mix of pretax earnings as well as tax credits and incentives in multiple jurisdictions in which we operate. For 2020, the adjusted ETR is now expected to be modestly higher between 24% and 25%.
Net income was $1.5 billion for the full year 2019, and includes certain noncash items, which, for the purpose of our adjusted metrics, are excluded: a $539 million noncash tax benefit due to the release of valuation allowances on certain net deferred tax assets recognized in the third quarter; a pretax gain of $119 million from the 2018 U.S. health care plan modification; a $116 million pretax noncash settlement charge resulting from the purchase of a group annuity contract to settle a portion of the U.S. pension obligations that we recognized in the fourth quarter.
Net income was also negatively impacted by pretax restructuring and other asset optimization charges and write-offs of $291 million, of which $165 million related to asset optimization charges in our pre-owned truck business, and $109 million related to head count reduction and footprint actions performed during the year.
Finally, we also booked a pretax charge of $27 million related to the repurchase of EUR 380 million in aggregate of certain outstanding bond. Adjusted net income, excluding these items, was $1.2 billion compared to $1.1 billion in 2018. Adjusted diluted EPS was $0.084, up 5% compared to 2018.
For the fourth quarter, adjusted net income was $279 million, down $15 million. Adjusted diluted EPS of $0.20 was down 5%. We finished the year with net debt of Industrial Activities of $854 million, representing an improvement of $1.5 billion compared to September and 2019, as a result of a very strong cash flow generation in the quarter, primarily from the inventory realignment in our Agricultural and Construction Equipment segments. However, this was still not enough to achieve our year-end targets due to higher-than-expected inventory. Compared to 2018, net debt has increased by $250 million.
Turning to Slide 6. We focus now on Industrial Activities' net sales, excluding foreign exchange translation, which represented a total negative impact of 2.6% in Q4 and about 4% for the full year.
I will talk in detail about the full year performance by segment. Agricultural Equipment and Construction net sales decreased 3% and 6%, respectively, primarily driven by lower industry volumes in North America and rest of world markets, coupled with actions to reduce dealer inventories in the second half of the year, partially offset by a favorable price realization performance across all geographies and sustained aftermarket activity.
The fourth quarter change is negative 5% and 12%, respectively, for the segments, mostly reflecting the production adjustments we took to reduce inventories in the quarter. Commercial and Specialty Vehicles net sales were up 1%, driven by increased deliveries in bus and specialty vehicles, sustained aftermarket activity and positive pricing. These positive factors were offset by reduced wholesale volumes in medium and heavy trucks in both Europe, where we are transitioning to a new commercial policy and refreshed product offering, and South America, primarily due to low industry volume in Argentina.
Finally, powertrain sales were down 5% due to lower sales volume, with a more pronounced 13% reduction in Q4 due to a stronger customer engine stockpiling activity in 2018 in anticipation of the Stage V introduction.
Turning to Slide 7 now with an overview of our operating results by driver. Adjusted EBIT for the full year at consolidated level was $1.9 billion with a margin of 6.7%. Big picture, the unfavorable volume and mix in our Agricultural and Construction segment was worth about $250 million, including a negative industrial fixed cost absorption of about $60 million.
Secondly, the raw material headwinds and increased tariffs and duties, totaling about $200 million, together with certain additional costs in logistics and supply chain, new product launches, quality and labor economics were more than offset by strong net price realization and by our continued cost discipline.
Our results also include a reduction in our short-term incentive compensation accrual, as weak performance reduced variable pay. In the quarter, the production adjustment actions were more severe, while the raw material headwind was starting to fade as hard commodity prices softened from the middle of the year onwards.
Turning now to Slide 8. Worldwide unit deliveries in the fourth quarter were down 3% in tractors and 15% in combines. Worldwide production was down 16% with production in the row crop sector in North America down 30% year-over-year in the quarter, achieving an under production to reach at 25%-plus, and leading to a large year-over-year decrease in total inventory for this specific subsegment.
Tractors worldwide company unit inventories ended up 22% year-over-year, but down 21% versus Q3. Combines inventory was up 11% year-over-year, but down 25% versus Q3.
In terms of profitability for the full year 2019, adjusted EBIT was $900 million, a $140 million decrease compared to 2018. Net price realization of more than 2.5%, disciplined cost management initiatives, industrial efficiencies and a reduction in short-term incentive compensation expense were among the positive contributors. Lower wholesale volume and favorable market and product mix, including of negative industrial absorption from reduced production, mainly in Q4, with a 16% production decline year-over-year as well as higher product cost as a result of increased raw material costs and tariffs, more than offset the positive factors. Adjusted EBIT margin decreased 70 bps to 8.2%.
In the fourth quarter of 2019, adjusted EBIT was $236 million, down versus the fourth quarter of 2018, primarily due to unfavorable volume and mix, partially offset by positive price realization. In the fourth quarter of 2019, adjusted EBIT margin was 8.1%.
This was the picture for AG in terms of our financials.
Now continuing with the commentary. While uncertainty remains in the agricultural end markets related to trade tensions and to negative weather events, we have confidence in the positive longer-term industry fundamentals, which would be supported by the need for renewal of what is an aging fleet in major markets.
We are taking a very conservative stance to 2020, and expect to under-produce retail demand by about 10% across our geographies for the full year with the majority of the correction taking place in the first 2 quarters of the year.
In terms of the current order book, conditions are stable. North America is flat to slightly up. And in general, it's slightly better than what we have experienced each quarter from 1 year ago. South America is up strongly in tractors and down in combine. Europe is slightly down, with rest of world about flat in tractors and significantly up in combines, although from very small numbers.
Turning to the next slide. Construction worldwide unit deliveries in the fourth quarter were down 12% across the different product lines. Worldwide production was down 17% with a more pronounced decline in general construction as we address the reduction in dealer inventories, which will continue during the most part of 2020. Company inventory units were up 42% year-over-year, mainly in North America and the rest of world and down 15% versus Q3.
Full year adjusted EBIT was $51 million with an adjusted EBIT margin of 1.8%. Positive pricing was more than offset by unfavorable volume and mix in North America and rest of world markets, including negative industrial absorption and higher product costs, primarily related to increased raw material cost and tariffs as well as costs associated with our product quality excellence initiative.
In the fourth quarter of 2019, adjusted EBIT was breakeven. Fourth quarter results were primarily impacted by unfavorable volume and mix, due to weaker market conditions, a deteriorated pricing environment and higher product cost.
End-user demand in the construction industry in the U.S. has flattened out. While used equipment pricing continues to hold up well, dealers have been cautious and seeking to further destock inventory levels, and we would anticipate this to continue through a good part of 2020. As a result, our order book is down in North America. South America, on the other hand, continues to experience growth in Brazil. And on a sequential basis in Argentina as well. Generally speaking, the European market is fairly flat.
With this view in mind, we expect to under-produce retail in North America by double digits for the full year 2020 to curb inventories and better align with our dealers. Also here, the majority of the adjustment will be performed in the first part of the year where we expect the production decline with the corresponding periods in 2019 of about 10% in each of the first 2 quarters.
On Slide 10 now. Trucks worldwide production in the fourth quarter was down approximately 13%, with company inventory units down 6%. Light-duty truck deliveries were down 15%, while medium and heavy were down 8%.
Bus deliveries on the other hand, were up 6% in Europe, as demand for alternative propulsion buses continue to increase, both in the city bus and intercity product segments.
The Commercial and Specialty Vehicle segment full year adjusted EBIT was $224 million and includes a $50 million gain realized in the third quarter from granting Nikola access to certain IVECO technology. Adjusted EBIT was negatively impacted by higher product cost, primarily labor and other inflationary cost increases, launch costs related to new products and favorable foreign exchange transaction impact, and a $70 million onetime remeasurement of certain provisions, primarily in the maintenance and repair contract book completed in the fourth quarter.
Favorable volume and mix, primarily in the bus and Specialty Vehicle subsegments, positive price realization of approximately $40 million, primarily geared towards the recovery of the foreign exchange losses and the reduction in short-term incentive compensation expense were among the offset.
Adjusted EBIT margin was 2.1%. In the fourth quarter, adjusted EBIT was breakeven. The decrease was primarily driven by the onetime remeasurement of certain provisions discussed above and by unfavorable effects.
In terms of our alternative propulsion initiative, LNG/CNG demand grew almost 100% year-on-year, finishing the year with a total penetration of 2% to total TIV, and we were able to preserve a strong market share as planned.
We reiterate our positive stance in this segment as one of the best answers currently available in the transportation market to reduce emissions and have contribute to EU fleet economy standards. We believe local governments will continue to subsidize this subsegment going forward in effort to include -- to influence buying behavior of logistic operators to decarbonize their fleet of trucks.
Our market share for trucks in Europe in Q4 was 11.5%, up 50 bps with a 100 bps increase coming from the medium and heavy, which achieved a 7.6% market share in the fourth quarter. Trucks book-to-bill was at 0.95 in Europe, higher than in Q3 and 1 in South America, with order intake in Brazil up 51% from last year.
We are pleased to see the strong demand for our new S-Way heavy platform with orders in Europe for heavy-duty trucks up more than 20% compared to last year. Our strategic repositioning of the vehicle heavy-duty brand is starting to pay off, and we expect to gain market share at incremental profit margin for each truck sold as we go through the new year.
Bus market share in Europe was almost 20%, and book-to-bill remains strong at 0.82 in Europe and 0.91 in South America.
If we move to the next slide, Powertrain continues to demonstrate solid results in light of a challenging end-market environment. Net sales decreased 5% for full year on a constant currency basis, and sales to external customers accounted for 51%. The book of business is growing as a consequence of new third-party contract acquisition.
Full year adjusted EBIT was $363 million, a $43 million decrease compared to 2018 due to unfavorable volume and mix and higher product development investment geared towards the Transform 2 Win initiatives, partially offset by positive pricing and product cost efficiencies. Adjusted EBIT margin was 8.8%.
In the fourth quarter of 2019, adjusted EBIT was $84 million as a result of unfavorable volume and mix due to customers' engine stockpiling activity in 2018, offset by positive pricing. Adjusted EBIT margin was 8.3%. Moving on to Slide 12 and our Financial Services business. The segment has continued to perform well for full year, as you can see on the slide. Worthwhile to note, delinquencies continued to improve and reached another historic all-time low for CNH Industrial [Technical Difficulty] Starting back again, and I apologize for the line cut from -- I'll repeat Slide 12. Moving on to Slide 12 and our Financial Services business. This segment has continued to perform well for the full year and as you can see on the table.
Worthwhile to note delinquencies continue to improve and reached another historic all-time low for CNH Industrial at 2.5% in the fourth quarter as positive stats in South America and EU continues to improve.
Moving on to Slide 13. I'd like to discuss the net debt and free cash flow performance of our Industrial Activities and provide an update on the balance sheet.
Net debt of Industrial Activities at December end was at $850 million, thanks to a strong cash performance in Q4. The cash generation of $1.5 billion, mainly coming from working capital conversion, was the second highest achieved in the quarter in our 7 years of history.
At the end of 2019, our available liquidity was at $11.2 billion, of which $5.8 billion in cash and $5.5 billion in undrawn committed facility.
This strong liquidity allows us to maintain a solid balance sheet, consistent with our investment-grade credit rating. This supports our investment plan linked to the growth initiatives in our Transform 2 Win strategy and enables us to return cash to shareholders, in line with our dividend policy and through opportunistic buybacks. Maintaining a strong liquidity position bodes well with implementation of the spin-off of our on-highway business.
Turning to Slide 14. We look at the operating cash flow for the full year and how capital was allocated. While our ability to generate cash from EBITDA, net of interest and taxes, remained strong, our operating cash flow was impacted in the year by a net investment in working capital of about $750 million, of which $450 million was in finished goods inventory and $200 million in payables due to the production cuts performed in 2019, mostly in Q4, obviously, lower payables.
With the budget that we have prepared for 2020, we expect to be able to liquidate the majority of the inventory build during 2019, with year-over-year lower production front-loaded into Q1 and Q2.
Shifting to the capital allocation discussion. Organic CapEx represent now 2.4% of net sales and makes up the majority of the spend with 60% of the allocation. Important to note, our efforts in sustainable investments under which with a group of investment in digitalization, alternative propulsion and autonomy are continuing to expand, and they now represent a share of 32% of CapEx in new products and initiatives.
In addition, we invested a cash total of about $85 million in several M&A transactions during the year in our Agriculture, Commercial Vehicles and Powertrain segment, net of certain minor divestitures.
Finally, let me remind you that in April, we funded our annual dividend payment. And during the year, we repurchased more than 6 million shares under our buyback program for a total consideration of almost $60 million. This underlines our commitment to supporting shareholder value.
I will turn it back over to you Hubertus.
Thanks, Max. Moving to Slide 16. I would like to give you an update on the implementation programs of selected initiatives of our Transform 2 Win strategy that we announced at our Capital Markets Day back in September.
As you recall, our strategy has 3 essential pillars. First, top line growth through organic and inorganic investments into product services around the themes of digital, alternate propulsion and automation. Second, profitability and margin improvements, driven by a set of strategic initiatives that simplify products and processes as well as optimize our footprint and asset base. And thirdly, the separation of our on- and off-highway businesses to create 2 global leaders in their respective fields.
Moving to Slide 17. The focus of our inorganic growth in on-highway as well as all centered around alternative propulsion technologies. Most prominent was the partnership with Nikola. With the presentation of our first joint truck, the Nikola TRE in December as well as the announcement of our European joint venture structure in Germany just yesterday, we will be amongst the first OEMs globally to deliver a battery heavy truck into
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This partnership is a significant step for IVECO and FPT, since it not only allows us to gain market share as a first mover in the electrification of heavy trucks in Europe and the U.S., but it also increases utilization of our commercial vehicles facility in Ulm, Germany.
Important to note is that this specific region in Germany has been known to become the leading fuel cell cluster of Germany, heavily supported by the regional and German government with substantial investments already committed.
Along the same theme of electrification, FPT signed a memorandum of understanding with Microbus, the U.S. Chinese market leader in battery power systems, to enable FPT Industrial to design and assemble battery packs in-house at our own facilities. Those battery systems will increase FPT's offering and the solutions will be sold to captive and noncaptive customers alike.
Next to those inorganic growth initiatives, which will drive market share gains, we also have made progress on the organic growth initiatives. The launch of our IVECO S-WAY heavy-duty trucks is the cornerstone of the IVECO heavy-duty turnaround, a subsegment that has been the soft spot in our Commercial Vehicle segment for many years.
As Max has stated, order books at the end of January were up 20% versus prior year in weaker end markets, and will allow us to regain market share in 2020, specifically with large fleet customers that we target to win back.
Needless to say that the S-WAY is also available in LNG configurations, allowing IVECO to defend its leadership position in the rapidly growing LNG segment. And finally, it's the same S-WAY platform that will be the base of the aforementioned Nikola TRE electric trucks, too.
Switching to FPT. Our organic growth focus is to grow the noncaptive business, which has led to an increase of contracts awarded in 2019 with an annual revenue potential of $150 million, starting to benefit our FPT segment from 2021.
In summary, our on-highway segment has excelled in 2019 to prepare for superior growth in the years to come. And these initiatives have a common goal to drive incremental revenues and securing solid market share gains.
Let's switch gears now and look at the progress on growth initiatives of our on -- off-highway business. Moving now to Slide 18. You may recall the key growth initiatives in our off-highway segments are focused on: first, investments into our digital and precision technologies, driving new services, while also increasing our aftermarket share; secondly, being an industry frontrunner on alternative propulsion in AG and CE; thirdly, be a consolidator in off-highway with initial focus on agriculture.
With the acquisition of AgDNA, we now have a state-of-the-art farm management system that our customers have waited for and that will help us increase services, revenue and share. Along the lines of digital and precision technologies, we have further added technology start-ups to our AGXTEND incubator.
The technology portfolio now covers a wide spectrum, always with the objective to reduce input costs and improve productivity for our end customers. And as the AGXTEND products and service will help grow our aftermarket business short term, we will also integrate technology that we see fit into our core machinery offering to drive precision to farming and automation solutions and ultimately share.
Switching to the progress on our key organic growth initiatives in 2019. The focus was on introducing alternative propulsion machines into the off-highway segment. The New Holland methane tractor is creating a new market segment for buying the same powered machines. There is a strong end-customer demand to also reduce CO2 in farming practices. And this machine will be able to use the biomethane produced in biojets that's on the farm, helping the farmer to become energy independent and CO2 neutral.
Obviously, this is a prime example of the so-called circular economy, and demand for this type of machine is substantial. This tractor is not -- it not only won Tractor of the Year last year at Agritechnica, but it is also available for purchase at dealers later this year.
Furthermore, on alternative propulsion also in Q4, Steyr has created an electric hybrid concept, which shows our vision for our future Steyr machine offering. As communicated at the Capital Markets Day, we are repositioning Steyr as a premium tractor short liner in our overall brand strategy with a clear objective to gain market share in the European premium tractor segment.
Similar to our agricultural alternative propulsion strategy, we are moving construction as well. I encourage everyone going out to CONEXPO next month to stop by our booth and take a look in person on further innovations that we present in Las Vegas.
Moving now to Slide 19, you'll find an update of selected strategic initiatives of our Transform 2 Win strategy to improve margins in our business segments. Our simplification initiative around the principles of 80/20s are well underway. And they are now covering all our industrial segments and by midyear 2020, all regions.
We continue to reduce product complexity and SKU count in our North American Construction business, and have successfully achieved the target of 60%, with further reductions anticipated this year. During the fourth quarter, we expanded the program to Europe and expect both of these markets to contribute positively during 2020.
We are also progressing well in the North American AG business with a reduction of SKUs of 60% achieved, and we are now expanding it to get an additional reduction of 50% from this lower base level. As we move into 2020 and beyond, we will start to see cost improvement from 80/20 in our product cost as well as at reduced inventory levels.
Next, let's review our organization simplification initiative. The focus in 2019 was to widen the span of control and to reduce organizational layers to become more agile and customer focused. The project has led to a reduction in head count to date of approximately 900 white collar employees, above our initial target. The footprint rationalization is also well underway and we've finalized circa 1/3 of the target reduction with several public announcements in Q4.
Also, the asset optimization we announced in September and updated you on last quarter remains on track as planned. You will start to see benefits from both of these initiatives in 2020 as well.
In summary, our profitability projects are the levers that we can control best in more uncertain market environments, and we are firmly committed to continuing to deliver on them.
Turning to Slide 20. As stated earlier, over the past 4 months, we made very good progress in our spin preparations in line with our original schedule. We remain fully on track to separate our off-highway and our on-highway businesses by January 2021. The work has been organized in detail along core work streams with a dedicated governance structure to secure minimum business disruption, while ensuring an effective spin-off execution and smooth start-up of the 2 new companies less than a year from now.
On Slide 22, I will now turn to our 2020 industry outlook. In Agricultural, we expect farmer sentiment to gradually stabilize during 2020 despite a muted industry environment in the major end markets in which we compete, where soft commodity prices remain under pressure. We expect North American high horsepower tractors and combines to be down 5% and the remainder of the world generally flat.
In Construction, in light of the fact that most of the markets look down to flat and inventories remain elevated, particularly in North America as we will continue to under-produce retail 15% for the full year and 10% globally overall.
In our Trucks business, we anticipate softening market and demand, particularly in the medium and heavy industries in Europe, where we see these markets down 10% to 15%. We believe, however, that the penetration of LNG vehicles in Europe will continue to grow by 50% during 2020 and will account for approximately 3% of the total market by the end of the year.
We generally see flat to muted end markets for 2020 across our various segments industries, but expect to somewhat offset this by growing market share in the segments and subsegments where we have launched new products and where we are implementing our growth initiatives.
Let's turn to Slide 23, where we highlight our guidance for the full year 2020. In light of the aforementioned industry headwinds and the company's initiatives planned for 2020, CNH Industrial is issuing the following 2020 guidance.
Net sales of Industrial Activities, flat to slightly down versus prior year at constant currency. Adjusted diluted EPS between $0.78 and $0.86 per share. Free cash flow of Industrial Activities expected between $400 million and $600 million.
We have decided to provide guidance on free cash flow instead of on industrial net debt in order to focus on our ability to generate cash and which, to be honest, is also more aligned with best practice in our industry.
As we explained at the Capital Markets Day, the investments in both R&D spending and CapEx are based on market projections of our current pipeline of product launches and in committed capital included in the plan. Depending on how end markets will develop, especially in the earlier part of the year, these investments will flex up or down across the portfolio and by segment. The CapEx and R&D for 2020 are expected to be slightly up year-over-year with investments in sustainability programs now accounting for approximately 40% of total.
With the fourth quarter results and the expected market environment for 2020 laid out in front of us, I would now like to take you through the key inputs of our adjusted 2020 EPS guidance of $0.78 to $0.86 per share and how this bridge with the initial adjusted EPS target of $0.95 to $1 given at our Capital Markets Day back on September 3, and you can see that on Slide 24.
In summary, the difference is due to 3 main areas: first, market deterioration in Agricultural; second, unsatisfactory execution in Construction; however, countered thirdly by better execution of our profitability initiatives.
First, the largest impact comes from the more challenging end-user demand expectation in 2 of our most important agricultural markets versus our own expectations back in September. The differences are substantial.
The North American row crop sector, where we now see a 5% decline in Q4 and a further 5% decline in 2020, so some 10% below our previous expectations, primarily as a result of the prolongated uncertainties related to the trade disputes and associated market dislocations. And the South American markets, where we see Q4 2019 and 2020 outlook cumulatively 20% lower than originally anticipated.
We have not yet seen a conversion into increased equipment purchases of the higher Brazilian grain export sales, and it's still too early to predict any significant improvements in the environment in 2020. It is worth mentioning that our current 2020 industry outlook sees the ag industry in these 2 markets significantly below mid cycle.
The impact that we are showing here for 2020 also includes the channel inventory adjustments, the negative fixed cost absorption from the lower production and the lower engine sourcing associated with the reduced ag industry assumption.
Secondly, the impact from the unsatisfactory and delayed execution of the Construction Equipment turnaround, coupled with a challenging industry environment lately. This requires more profound inventory correction actions in the channel, particularly in North America, which is reflected in our 2020 guidance. Against this backdrop, we have been able to accelerate profitability initiatives, which are helping to partially mitigate some of the negative impact.
To provide more granularity on our 2020 segment performance contribution to our guidance, we expect margin accretion in our AG segment for the full year, primarily driven by the accelerated road map on our self-help initiatives, after a first quarter that will be significantly affected by the production adjustment that we discussed earlier today.
In Commercial Vehicles, we also expect margin improvement as we realize the full benefits of the new product launch cadence in heavy and light-duty trucks and with bus maintaining a positive trajectory. In FPT, we see margins slightly down, mainly on the back of lower volume due to the tail end of the customer engine stockpiling activity.
And finally, for Construction, 2020 will present a transition year with a new management team and a first-part focus on cost actions and production curtailments; and the second part with improved results ending in a flat margin performance for the full year.
In light of the underproduction in Q1, our budget in 2020 is second half loaded. Therefore, we expect the adjusted EPS decline in the first quarter in the range of 40% to 50% year-over-year.
In summary, we remain very confident in our Transform 2 Win strategy. In the past year, we have stepped up our profitability initiatives that are already helping us to counter more difficult end markets. At the same time, we remain fully on track in preparing for the planned business separation, which will unlock the potential value of our on-highway and off-highway assets.
As a result, we remain firmly committed to our long-term financial targets generating results to our shareholders and securing a successful future for all our valued stakeholders.
This concludes now my prepared remarks. I'm sorry for the technological hiccups, I hope you could hear us throughout. And I will now hand it back to Federico for the question and answer.
Thank you very much, Hubertus. This concludes our prepared remarks for the fourth quarter and full year 2019 results. And we can now open up for questions. Operator, over to you.
[Operator Instructions] We will take our first question from Steven Fisher from USB (sic) [UBS].
Just on the guidance. The bridge you gave there from an Investor Day to 2020 is very helpful. I'm just curious about a bridge from 2019 to 2020, $0.84 to $0.82 at the midpoint. With industrial sales that are really just kind of flattish or only down slightly, given that you have all those initiatives on cost savings, I'm surprised that the EPS would be down and not up. So I'm just wondering what are some of the other bridge items that might push the EPS lower in a flat industrial sales environment? And is it a particular headwind in the FinCo? Or are you just sort of baking in a measure of conservatism?
So this is Max speaking, Steve. So obviously, the revenue were disappointing in the fourth quarter; they came in below guidance that we adjusted down the quarter before by about $400 million. But definitely, also, when you look into the granularity of the results segment-by-segment, you see that we took this onetime measurement in the Commercial Vehicle segment, which also had a toll on our EBIT.
And I think to also answer your question, the bridge from 2019 to 2020 and the guidance range, you see that we have widened the range. We widened it to the lower end, and we feel comfortable right now, given market uncertainties that we are kind of covering the potential outcomes that we see right now for 2020.
So in other words, in the event that you do come in with Industrial Activities flat, that you could still be -- with your cost savings initiatives, still be up for EPS. Is that what you're kind of messaging?
That is what the upper end of the guidance for 2020 would say.
Yes. Correct.
Okay. So there's no particular FinCo additional headwinds that would be outside of that industrial?
No.
No. Not that we see right now.
We will take now the next question from Larry De Maria from William Blair.
Hubertus, you mentioned the AgDNA, FMIS and the ability to generate service revenue. Can you just a, parse that out a little bit more how you're going to generate the service revenue? And secondly, just discuss your AI and machine learning strategy, which is obviously a hot topic in the industry right now.
On the AgDNA integration, what we do is we have acquired this software company, which we are now fully integrating with our AFS and PLM platforms for Case and New Holland, respectively. And that will provide telematics service and a full connectivity of our products around a complete software service. So we see already that we have launched on the back of AgDNA purchase that we have launched 20 new service packages alone in 2020, which will come to the market, which will drive aftermarket revenue. And you've seen some of the aftermarket revenue uptick already in 2019. Relative to wholesales, we have improved that by 1%.
So we are very confident that with that platform, now that's far easier to use, far more intuitive for the end customer, that we will be able to drive telematics services for our equipment.
And the second question on artificial intelligence, I didn't want to go too much into detail on that extent. But I think it is very noteworthy that we have several artificial intelligence algorithm companies in that portfolio. So we are driving artificial intelligence. We take that data with these start-up companies, and we are integrating those algorithms as we basically implement our new strategy for precision farming of our ag machinery.
So we have already introduced sensor technologies, obviously, on our cash crop tractors, but also on the vineyard side. And we've also integrated artificial intelligence on our vineyard tractors and our sensor tractors for cash crops. So I do believe that we are moving firmly ahead on this one. We have somehow a different approach to John Deere that we work with partners in an open innovation platform rather than acquiring just one company. So rather than having one company which we acquired, we have several companies that contribute positively to our overall R&D development in the ag machinery space. I hope that answers the question.
We will take now our next question from the line of Ann Duignan from JP Morgan.
Hubertus, can you talk about your outlook for flat to down slightly revenue for 2020? Given that coming into Q4, we had expected flat revenue, and we were down 6%. So flat, given all of the underproduction and the lack of visibility in each of your end markets looks aggressive or optimistic. Why didn't you guide more conservatively on the revenue side?
Well, I think we mentioned that in the script. I think we have changed our view on North America that where we now call the market down 5%, and we are also preparing our production for that by underproduction versus retail over 10%. We feel that we are appropriately conservative in South America right now. Everybody, as you know, was expecting this market already up last year. We're projecting it flat. We're currently seeing a good order intake, at least from the tractor side. And I think it's also noteworthy that we have significantly increased our share in South America on the weakness of one of our competitors on the tractor side specifically.
And Europe flat is, you can say, flat to slightly down, but it has also -- Europe is perhaps the most promising and optimistic right now where we basically see perhaps more downward risk, but it's honestly too early in the year to really say that.
But overall, with that guidance that we have there for AG flat to slightly down, we feel, given that we are really in many markets at the bottom of the cycle, we feel that this is appropriately conservative. And again, we do not want to repeat what we have done in 2019 where we have not cut enough of the production and where we basically based our production plan too much on hope. I think we're far more conservative going into 2020. And of course, you have the pricing, which holds very nicely in AG, which is a positive. I hope that answers your questions, Ann.
It does. And then just a quick follow-up or clarification on your guide for further residual value reductions on the truck side. How much have you baked in for 2020 in the guidance you've given?
Max?
So right now, as you know, IVECO -- where IVECO sits on the food chain is not a price maker, is a price taker. So we have seen that deterioration in the last part of the year, in the last quarter. So we had to adjust our book for what we see as a price deterioration going into 2020.
But how much have you baked in for 2020?
Right now, the book should be in line with the deteriorated pricing conditions. But again, we need to see quarter-after-quarter where the deals have traded on the used market.
But we've taken the best shot given the information that we had available to us in Q4. So we would assume that we're appropriately reserved for 2020.
We take now our next question from the line of Rob Wertheimer from Melius Research.
Hubertus, can you talk a bit about the pace of savings in 80/20? You've obviously got a lot underway with 60% of the SKUs, I think you said you identified in North American AG, for example. Should we expect full savings to come through on that in 2021?
And just as a quick clarification. You've identified 60% and you'll get 50% or almost all of that in 2020? Or is there more on the table? I'm not sure I understood your script versus the slide.
No. I mean, as you know, we're not basically detailing the individual savings per initiative. And if you look at 80/20, the first impact that you have from the decomplexing of your product and putting it into A and B product is a pricing effect. And you see that positively in both Construction and in AG.
And the second effect that you have and this is what I referred to in 2020, we're now, of course, seeing the less complex or basically winded out or wooded out product lineup to basically have impacts, positive impacts on the supply chain. So less inventories, better purchasing prices, less SKUs in the line. So now we're going to see -- on the back of the pricing, now we're going to see the supply chain impacts.
But again, we are not detailing how much in percent that is because in the end, it's not good if we basically give you one number of saving. It has to fall down the bottom line. And what we're saying is we're going to see that positive impact already reflected in our AG margins for 2020, where we basically are anticipating a slight increase in the margin.
Max?
I just wanted to clarify that. The supply chain savings will have a longer time to realize as we need to, obviously, make modifications through the elimination of individual part numbers. And that's why the second part of the savings is more geared towards the longer -- the midterm, which means end of '20, early '21.
Yes. And as you know, we have not started to do it, to roll it out everywhere. We first started with CE. We then went over to AG. Then by the end of 2019, we went over to CV and Powertrain. And by 2020, by -- so mid by this year, we're going to have all segments and all regions covered. And the first savings that you see is on the pricing side that contribute positively. And then you have the supply chain impact, okay?
We've now the next question from the line of Ross Gilardi from Bank of America.
I just wanted to clarify the comments on the inventory for ag equipment around the world from your opening remarks. So in the slides, you say worldwide inventory is up 22% in tractors and up 11% in combines, but your North American row crop inventory is down 16% year-on-year. Does that mean all of your excess inventory is concentrated predominantly in Europe and South America and North America small AG? If so, why are the production cuts concentrated in North America row crop, if your inventories were already down 16%? So I just got confused with all the moving pieces.
Okay, good question. So first of all, as you know, we have a spread out business in the various geographies. So from a numerical standpoint, the higher inventory sits in areas outside of the U.S. What we are doing in the U.S., we are taking a very conservative stance, and we are changing the seasonality of our production with more pronounced cuts in Q1 and Q2 in AG row crop to kind of front-load that inventory development during the year and avoid to find ourselves in case of the market ends up down 5% in a similar situation as 2019. So that's why we are front-loading the year with cuts in our production. And we under-produce retail in row crop in North America as we discussed.
So just a quick follow-up on that.
Does that answer your question?
Yes, I think so, Max. So just a follow-up outside of the U.S. is that it sounded like Hubertus thought the European market was fairly stable and the most promising. Is the excess inventory, therefore, concentrated in Brazil? And any sense as to what's really going on?
No, no. Brazil -- in Brazil, we have a little bit of excess inventory in combines, but I think that's the result of the unexpected market dynamics. So as the market, let me say, flatten out, we should be able to correct this issue in the first part of 2020.
In terms of tractors, it's primarily rest of world. So it's at 3,000 units. But again, it's in a market that is more than 1 million. So...
Yes. And just to be very clear, Ross, I said completely opposite. Europe -- we think that North America, South America, rest of the world, we are appropriately conservative in our market outlook. Europe is a bit of a question mark. We had an internal debate whether we should do it flat or to minus 5%. We settled now with flat. But I think going into 2020, there might be a bit more risk. So if you think about conservatism, we are conservative in the other markets. Europe, we might be a bit too overoptimistic. But again, we wait how the markets will develop, and we are very conservative on our production.
We will take now our next question from Chad Dillard from Deutsche Bank.
So I just wanted to spend some time on price/cost. It still remained pretty positive in the fourth quarter. Just want to understand how you guys are thinking about that dynamic as we go into 2020?
And then separately, just wanted to clarify whether -- if there was anything related to Nikola or any benefit embedded in the 2020 guide?
So first question, I'll take the first one. Price to cost, yes, I mean, the price to cost performance in 2019 was affected by the raw material headwinds on the cost side, which we were able to more than recover in pricing.
As you know, we put pricing out at a specific point in time during the year, primarily when we launch new model years. So there is an embedded carryover pricing into 2020 already. Plus we expect to take individual actions as we launch new products during the year, or we reassess the situation of the economics region-by-region during the course of 2020.
On the positive side, we expect now raw material to flatten out, especially in the first part of the year. So that should be a positive contributor in the early part of the year.
And then in terms of Nikola, yes, we have reflected the cost in the 2020 budget for Commercial Vehicles. As you know, we have a part of in kind contribution and the step-up that we're going to do in engineering is going to be covered for there. So there will be a cross charging with Nikola for these additional costs.
The revenue for the truck, the Nikola TRE, you're going to see them popping up in 2021. And obviously, we're going to give more color on the roadshow then for our on-highway business, because I think the market does still not understand the potential of this joint venture and that partnership with Nikola, which is really substantial.
That's helpful. And then just really quickly on the LNG market. Can you just talk about your views in terms of market share -- end-market growth? And how are you thinking about that in 2020?
Yes. Well, the market has developed as predicted. It went basically double to 2% TIV. We have a conservative view, 50% up this year, and we have said that we want to defend our 50% market share. We ended the year with 53%. Obviously, you have now 2 new players competing with us, that is Volvo coming in late and Scania. However, our product, given that we have been, by far, the first introducing LNG trucks, is still far more competitive, has a far longer-range, which is on the long-haul business, of course, a key competitive advantage. So we assume that we're going to maintain our 50%-plus market share in the market that I would say conservatively, will grow 50%.
And if you basically follow the Ukraine deal and you basically see legislation that is happening right now in all countries in Europe, they are actually all reconfirming the subsidies for LNG, some countries even extending. We heard from Germany that they would like to extend the period of the subsidy even further. So I think that market is really continued to poised to grow.
And as said in the script, I mean, that is, for us, a nice hedge in an overall more muted and down medium and heavy-duty truck market. So this will help us to basically stay competitive in 2020 and also get the nice volumes. And we are predicting right now that we're around 4,500, 5,000 trucks for 2020 on the LNG side.
We will take now our next question from the line of David Raso from Evercore.
To keep the question fairly straightforward and simple, using Slide 24 as a guide of what's changed since the Capital Markets Day, how much revenue did you reduce from the Capital Markets Day to today for the AG segment? And ideally, if you can tell me how much was that industry versus incremental inventory reduction?
Dave, I don't have the split between the 2 pieces with me here, but it's a substantial amount.
Yes. And if you look at that bridge, it's really very clear to say that the difference between the Capital Markets Day, $0.95 to $1, to where we are right now with our guidance, is really 100% based on significantly lower AG end markets where we've all predicted an upswing in the market well into 2020. And the disappointment on the Construction side, I think is kind of offset by the better news on the profitability and margin improvement initiatives. That, as I've said, we have stepped up significantly in Q4 and going into 2020.
So Construction and the better performance on the initiatives is awash, but the market, we cannot compensate with initiatives. So that's just the reality.
The percentage change, David, is about mid-single digit, probably on the AG revenue.
What I'm doing here, if I'm looking at the cut by 10% to North America and 20% to South America from the prior expectations, but I'm backing out parts. So I'm not applying to the entire geographic revenues, I'm appropriately pulling out parts. If you drop North America by 10% and South America by 20%, that's almost $600 million right there. So I'm just trying to weave this into how much did you take out from an industry perspective? And then are you taking more inventory out in '20 than the prior expectation at the Capital Markets Day?
First of all, though, I mean, as I said, it's about a mid-single-digit percentage change versus what we had in the Capital Markets Day at constant currency, which is around about the number that you calculated. I would say that just as a bit of caution, in the Capital Markets Day number for 2020, we already had some dealer inventory reduction. So it is not a significant delta on that one; it's primarily industry.
Well, that's on target. So that basically -- there is no incremental inventory being taken out in your mind for '20, it just the industry sales got weaker. But you still are under-producing retail materially. So what you're saying is you always plan to under-produce retail in '20, it's just that retail went down. Is that fair?
A little bit, yes. A little bit, yes. Yes.
We are taking our next question from the line of Joe O'Dea from Vertical Research.
Related to months of inventory at the dealers, could you just talk about in North America, specifically, for AG row crop, where you see months of inventory at the end of 2019? Where you expect that to be at the end of 2020? And same thing on the Construction Equipment side, all specific to North America?
Yes, I don't want to give you specific numbers. But in terms of trends, we are not far off from the industry average in row crop. We are probably higher in small tractors. And there is where we have also to do some actions and which is what was already embedded in the 2020 Capital Markets Day number.
In terms of Construction Equipment, we are definitely higher, I would say, on average a month higher. So we need to continue to obviously look at the capital over there to bring the number back in line.
And then, Max, on the AG side of things, talking about kind of small versus large then, you had already anticipated at the Capital Markets Day under-production on the small side. And then kind of related to David's question, on the large side, what's happening there is more just about kind of end market is going to be softer than what you expected, maybe there's a little bit of incremental destock?
Yes.
Our final question comes from Courtney Yakavonis from Morgan Stanley.
I just wanted to ask a little bit more about the Construction Equipment turnaround delay? I think originally when you rolled out -- or I mean, I guess, first off, did the rollout of the programs happen, and it's just that the end markets were softer? Or did you actually not start some of the programs? I just was a little confused because -- about why we didn't reach some of the margin acceleration that you guys had originally forecasted when you first started talking about what happens there?
No, to be brutally honest, I think all the initiatives that we laid out are holding and it's exactly what we do. What we have underestimated were the issues that we have in the underlying manufacturing machine, mainly in North America. We had some significant gaps there when it came to product cost specifically in our Wichita facility, coupled with some also system cutovers that happened in Q3.And so basically, that led to a miscalling of the market overproduction with too high costs, coupled with some quality issues, and that's the reason why we basically, in Q3, changed management, put in new leadership, which is basically now taking control. And that means in the short term, addressing those quality issues that we had, getting the industrial machine smoothly running again but also cutting back production.
And this is basically what you have to see and what you have to expect in the first half of 2020. The rest of the strategy is completely in line. The team knows exactly where to go. I'm very upbeat by our strong dealers and our sales team. I think they're doing a very, very good job in that environment. And as I said, I encourage you to come and -- come by at CONEXPO and to basically see what the team is doing there.
So the turnaround strategy is exactly what we have said. It's just disappointing that it's going to happen a year later. So 2020 is a transition year. And what we also said at the end of my prepared comments is that the targets that we laid out there, the margin targets for our individual segments, they're firmly holding. I mean, this short-term market disappointment, and market disappointment doesn't change our long-term outlook, where these business segments have to be in terms of profitability.
And does that refer to the 2022 guidance at this point? So you are basically assuming '21...
No, the 2024. We basically gave a 2024 guidance where we basically want to bring those businesses. And I think those targets -- and I referred that those targets are still valid and they hold. And we're working to achieving them.
Okay. But the targets you'd mentioned in 2022 might -- feels a lot to miss then?
I said the long-term targets that have communicated in the Capital Markets Day, a 2024 target and strategy where we want to bring those individual segments in terms of margin performance and those targets still hold.
That will conclude the question-and-answer session. I would now like to turn the call back over to Federico Donati for any additional or closing remarks.
Thank you all, and have a nice day. Thank you.
Thank you, and goodbye.
That will conclude today's conference call, thank you for participating. Ladies and gentlemen, you may disconnect.