Document


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION 
Washington, D.C. 20549 
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended October 2, 2016
Commission file number 1-15983
______________________________
MERITOR, INC.
(Exact name of registrant as specified in its charter)
Indiana
 
38-3354643
(State or other jurisdiction of incorporation
or organization)
 
(I.R.S. Employer
identification no)
 
 
 
2135 West Maple Road
Troy, Michigan
 
48084-7186
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (248) 435-1000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
Title of each class
 
Name of each exchange on which registered
Common Stock, $1 Par Value
 
New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None
Indicate by check mark whether the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes [ X ]       No [  ]
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes [    ]       No [ X ]
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
     Yes [ X ]      No [    ]
     Indicate by check mark whether the registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding twelve months (or for such shorter period that the registrant was required to submit and post such files).
     Yes [ X ]       No [    ]
     Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ]
     Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
ý
 
Accelerated filer
¨
 
 
 
 
 
Non-accelerated filer
¨
(Do not check if a smaller reporting company)
Smaller reporting company
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes [    ]       No [ X ]
     The aggregate market value of the registrant’s voting and non-voting common equity held by non-affiliates of the registrant on April 1, 2016 (the last business day of the most recently completed second fiscal quarter) was approximately $731,839,701
86,767,764 shares of the registrant’s Common Stock, par value $1 per share, were outstanding on November 30, 2016.
DOCUMENTS INCORPORATED BY REFERENCE
     Certain information contained in the definitive Proxy Statement for the Annual Meeting of Shareholders of the registrant to be held on January 26, 2017 is incorporated by reference into Part III.




 
 
 
Page
 
 
 
No.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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PART I

Item 1. Business.
 
Overview
 
Meritor, Inc. ("we", "us" or "our"), headquartered in Troy, Michigan, is a premier global supplier of a broad range of integrated systems, modules and components to original equipment manufacturers ("OEMs") and the aftermarket for the commercial vehicle, transportation and industrial sectors. We serve commercial truck, trailer, military, bus and coach, construction, and other industrial OEMs and certain aftermarkets. Our principal products are axles, undercarriages, drivelines, brakes and braking systems.
 
Meritor was incorporated in Indiana in 2000 in connection with the merger of Meritor Automotive, Inc. and Arvin Industries, Inc. As used in this Annual Report on Form 10-K, the terms "company," "Meritor," "we," "us" and "our" include Meritor, its consolidated subsidiaries and its predecessors unless the context indicates otherwise.
 
Meritor serves a broad range of customers worldwide, including medium- and heavy-duty truck OEMs, specialty vehicle manufacturers, certain aftermarkets, and trailer producers. Our total sales from continuing operations in fiscal year 2016 were approximately $3.2 billion. Our ten largest customers accounted for approximately 73 percent of fiscal year 2016 sales from continuing operations. Sales from operations outside the United States (U.S.) accounted for approximately 49 percent of total sales from continuing operations in fiscal year 2016. Our continuing operations also participated in 5 unconsolidated joint ventures, which we accounted for under the equity method of accounting and that generated revenues of approximately $1.1 billion in fiscal year 2016.
 
Our fiscal year ends on the Sunday nearest to September 30. Fiscal year 2016 ended on October 2, 2016, fiscal year 2015 ended on September 27, 2015, and fiscal year 2014 ended on September 28, 2014. All year and quarter references relate to our fiscal year and fiscal quarters unless otherwise stated. For ease of presentation, September 30 is utilized consistently throughout this report to represent the fiscal year end.
 
Whenever an item in this Annual Report on Form 10-K refers to information under specific captions in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations or Item 8. Financial Statements and Supplementary Data, the information is incorporated in that item by reference.
 
References in this Annual Report on Form 10-K to our belief that we are a leading supplier or the world's leading supplier, and other similar statements as to our relative market position are based principally on calculations we have made. These calculations are based on information we have collected, including company and industry sales data obtained from internal and available external sources as well as our estimates. In addition to such quantitative data, our statements are based on other competitive factors such as our technological capabilities, our engineering, research and development efforts, and our innovative solutions as well as the quality of our products and services, in each case relative to that of our competitors in the markets we address.

Our Business
 
Our reporting segments are as follows:
The Commercial Truck & Industrial segment supplies drivetrain systems and components, including axles, drivelines and braking and suspension systems, for medium- and heavy-duty trucks, off-highway, military, construction, bus and coach, fire and emergency and other applications in North America, South America, Europe and Asia Pacific. This segment also includes the company's aftermarket businesses in Asia Pacific and South America; and
The Aftermarket & Trailer segment supplies axles, brakes, drivelines, suspension parts and other replacement and remanufactured parts to commercial vehicle aftermarket customers in North America and Europe. This segment also supplies a wide variety of undercarriage products and systems for trailer applications in North America.
See Note 24 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data for financial information by segment for continuing operations for each of the last three fiscal years, including information on sales and assets by geographic area. The heading "Products" below includes information on certain product sales for each of the last three fiscal years.
 
Business Strategies
 

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We are currently a premier global supplier of a broad range of integrated systems, modules and components to OEMs and the aftermarket for the commercial vehicle, transportation and industrial sectors, and we believe we have market-leading positions in many of the markets we serve. We are working to enhance our leadership positions and capitalize on our existing customer, product and geographic strengths.    For additional market related discussion, see the Trends and Uncertainties section in Item 7.
Our business continues to address a number of other challenging industry-wide issues including the following:
Uncertainty around the global market outlook;
Volatility in price and availability of steel, components and other commodities;
Disruptions in the financial markets and their impact on the availability and cost of credit;
Volatile energy and transportation costs;
Impact of currency exchange rate volatility;
Consolidation and globalization of OEMs and their suppliers; and
Significant pension and retiree medical health care costs.

Other
 
Other significant factors that could affect our results and liquidity include:
Significant contract awards or losses of existing contracts or failure to negotiate acceptable terms in contract renewals;
Ability to successfully launch a significant number of new products, including potential product quality issues, and obtain new business;
Ability to manage possible adverse effects on our European operations, or financing arrangements related thereto, following the United Kingdom's decision to exit the European Union, or in the event one or more other countries exit the European monetary union;
Ability to further implement planned productivity, cost reduction, and other margin improvement initiatives;
Ability to successfully execute strategic initiatives;
Ability to work with our customers to manage rapidly changing production volumes;
Ability to recover, and timing of recovery of, steel price and other cost increases from our customers;
Any unplanned extended shutdowns or production interruptions by us, our customers or our suppliers;
A significant deterioration or slowdown in economic activity in the key markets in which we operate;
Competitively driven price reductions to our customers;
Potential price increases from our suppliers;
Additional restructuring actions and the timing and recognition of restructuring charges, including any actions associated with the prolonged softness in markets in which we operate;
Higher-than-planned warranty expenses, including the outcome of known or potential recall campaigns;
Uncertainties of asbestos claim and other litigation, including the outcome of litigation with insurance companies regarding scope of asbestos coverage, and the long-term solvency of our insurance carriers; and
Restrictive government actions (such as restrictions on transfer of funds and trade protection measures, including export duties, quotas and customs duties and tariffs).

Our specific business strategies are influenced by these industry factors and global trends and are focused on leveraging our resources to continue to develop and produce competitive product offerings. We believe the following strategies will allow us to

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maintain a balanced portfolio of commercial truck, industrial and aftermarket businesses covering key global markets. See Item 1A. Risk Factors below for information on certain risks that could have an impact on our business, financial condition or results of operations in the future.

Successful Achievement of M2016; Foundation for M2019

The success we had in executing our three-year M2016 strategic plan fundamentally transformed our business for long-term sustainability. The plan, intended to drive value for our shareholders, customers and employees, clearly defined specific financial measures of success, including improved EBITDA margin, reduced debt (including retirement liabilities) and new business wins driven by organic growth, all of which were substantially achieved by the end of fiscal year 2016.

That plan focused on four major priorities, many of which will carry over into our M2019 strategic plan:

Drive operational excellence
Focus on customer value
Reduce product cost
Invest in a high-performing team

Drive Operational Excellence

The Operational Excellence priority emphasized our focus on executing the Meritor Production System, a lean manufacturing initiative designed to improve systems, processes, behaviors and capabilities primarily associated with five core metrics:
Safety - Total case rate is a measure of recordable workplace injuries normalized per 100 employees per year. We have initiated safety programs throughout our global operations to protect our employees. Our target for M2016 was to achieve a rate of less than 0.8. Our total case rate in fiscal 2016 was 0.76.
Quality - Through a focus on products, suppliers, lean operations, systems, people and technology, we are driving toward improving our quality as measured in parts per million (PPM). Our M2016 target was to achieve customer parts per million of less than 75. In fiscal year 2016, we achieved 50 PPM. This improvement was driven by a focus on prevention through robust problem solving, training and development.
Delivery - In fiscal year 2016, we achieved our OEM delivery performance goal of a 99 percent on-time delivery rate in our commercial truck business. Our intent is to maintain this high delivery rate for our customers.
Cost - Throughout M2016, we targeted - and achieved - net improvements of 2.6 percent each year for labor and burden cost reduction. Major areas of attention included better equipment utilization, reduced changeover time, elimination of waste, improved shift and asset utilization, investing in equipment to improve cycle time and flexibility, and employee involvement. Our work in this area had a significant impact on our financial results during the three-year period.
People - We encourage employees in our manufacturing facilities to submit at least three suggestions annually. In North America, we implemented approximately $1.5 million in improvements in fiscal year 2016 based on employee input. We also saw a significant improvement in employee engagement scores year over year from our salaried employees globally.
Throughout the company, teams are focused on improving workplace safety and quality, implementing cost savings ideas, increasing productivity and efficiency, and streamlining operations. In 2016, our trailer business earned the Platinum Supplier Award from Wabash National Corp. for excellence in supply chain performance.


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Focus on Customer Value

We established three main goals for improving customer value as part of our M2016 plan. Our first goal was to introduce new products and win new business to drive profitable growth. Second, we worked closely with our customers to achieve the Meritor Value Proposition through pricing for value. Third, we committed to exceed our customer's goals with respect to quality, delivery, innovation, and customer service. During the last three years, the evidence of our success in achieving these goals was demonstrated through our continued ability to renew existing customer relationships and establish new customer relationships.

In fiscal year 2016, we significantly increased our penetration with PACCAR for rear axles in North America, Australia and Brazil, and we now have standard position on front steer axles with PACCAR. We also renewed our long-term partnership with Navistar upon signing a new five-year agreement. Under the terms of the agreement, Meritor retained standard position for brakes and rear axles with Navistar, as well as standard position for front axles in severe service, medium-duty and bus applications. We now have long-term pricing and positioning agreements with the four largest commercial truck OEMs in North America and our partnerships with each of them have never been stronger.

For more than 100 years, our products have evolved to meet the changing needs of our customers in all major regions of the world. As technology has advanced, we have designed products that are more fuel efficient, lighter weight, safer, more durable and more reliable. The Meritor brand is well established globally and represents a wide portfolio of high-quality products for many different applications.

Building upon the strength of our core technologies, we intend to expand our presence globally and continue our growth in complementary product lines. Our strategy involves continuing to capitalize on our geographic diversity and product line capability through our many core competencies, global customer relationships and substantial aftermarket presence.

In the future, we believe there is significant revenue potential with an expanded product portfolio. Our current launch cycle is one of the most aggressive in our company’s history. We have worked with our customers to design axles, brakes, drivelines and suspensions that will enhance the value of their vehicles. There were several examples of this in fiscal 2016:
We introduced a lighter weight, more efficient axle carrier platform called the 13X, which is designed for Class 6 and 7 applications. Production is scheduled to begin in 2017. The 13X axle meets our OEM customers' requests for an axle that is lighter, more efficient and tailored to meet the needs of medium-duty applications.
We launched the MFS+, a lighter-weight, front-steer axle with the recognized performance of the company's MFS™ series while being easier to maintain. This axle, which has integrated components and an optimized design to reduce weight, represents the next step in the evolution of our front-steer axle offering.
We announced the expanded availability of the MFS™ Series of front non-drive axles to include a deep-drop axle option that offers end-users greater flexibility in packaging their vehicles. The new option, which includes deep axle drops of 4.76 and 5 inches, is ideal for auto hauling and refuse applications where lower vehicle ride heights are needed.
We launched Meritor’s DUALite Series of integrated systems for the bus and coach market in China which offers on-highway customers in the region fully-dressed axle options that are manufactured locally.
As industry trends continue to drive the need for equipment that complies with environmental and safety-related regulatory provisions, OEMs select suppliers based not only on the cost and quality of their products but also on their ability to meet stringent environmental and safety requirements and to service and support the customer after the sale. We use our technological and market expertise to develop and engineer products that address mobility, safety, regulatory and environmental concerns.

One way in which we have worked to address safety is that we have implemented a strategy of focusing on products and technologies that enhance overall vehicle braking performance. Our commitment to designing and manufacturing braking solutions for the commercial vehicle market has resulted in more commercial vehicles in North America having Meritor brakes than any other brake manufacturer. We believe Meritor’s EX+ air disc brakes are among the highest performing brakes in the marketplace. In Europe, a region where air disc brakes are much more widely adopted, we have sold more than 5 million ELSA air disc brakes - a testament to the quality, reliability and performance of this brake platform.


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We are recognized globally for our capabilities in designing, testing and manufacturing high quality drivetrain and braking products that optimize overall performance. Our manufacturing facility in Lindesberg, Sweden received the Swedish Assembly Award 2016 for advancing assembly technology. Specifically, we consolidated production for all families of bolted carriers into a single universal assembly line that utilizes smart sequencing and material flow enhancements, thus creating a flexible line that supports a wide variety of customer needs. The facility’s transformation led to best-in-class delivery and productivity and significantly improved quality enabling the plant to produce thousands of different axle configurations on a just-in-time basis for our customers.

We effectively manage complexity for low volumes and support our customers’ needs during periods of peak volumes. The quality, durability and on-time delivery of our products has earned us strong positions in the markets we support. As we seek to extend and expand our business with existing customers and establish relationships with new ones, our objective is to ensure we are getting a fair value for the recognized benefits of our products and services and the strong brand equity we hold in the marketplace.

We believe the quality of our core product lines, our ability to service our products through our aftermarket capabilities, and our sales and service support teams give us a competitive advantage. An important element of being a preferred supplier is the ability to deliver service through the entire life cycle of the product. Also, as our industry becomes more global, our manufacturing footprint around the world and our ability to supply customers with regionally-tailored product solutions are competencies of increasing importance.

Reduce Product Cost

We instituted a broad collaborative effort among our Purchasing, Engineering, Supply Chain, Quality and Operations departments to manage product costs with a target of achieving annual net material reductions (measured against controllable spend) of 2.5 percent annually, which was achieved each year during M2016. We are driving such material performance using three different approaches: commercial negotiations, best-cost-country sourcing, and technical innovation.

Increasing inventory turns is an important element of improving our working capital performance. We believe we can improve our inventory turnover rate from our current levels. By reducing inventory, we expect to generate more cash to reinvest in our business, repay debt and/or return value to shareholders. We are employing various approaches including localization of our supply base where possible; warehousing close to our facilities for imported supply; improved demand planning; increased accuracy in production forecasting; and minimizing or eliminating inventory held to support certain low-volume products.

Invest in a High-Performing Team

Investing in a high-performing team is fundamental to having an engaged and aligned workforce. As part of our M2016 objectives, we set targets to strengthen the level of engagement from our employees, build a more diverse culture and make additional tools available for career development.

Our goal for M2016 was to achieve a top quartile score on twelve key engagement factors as measured by a third-party survey administered to a majority of our salaried employees annually. To achieve this, the leadership team made a dedicated effort to improve employee satisfaction in all regions. Some of those initiatives included:

Cross-functional assignments
Mentoring programs
Succession development program
Business resource groups
Training and skill assessment and development

As a result, we dramatically improved our employee engagement score moving to a top quartile score in eleven of the twelve engagement factors.

Transition to M2019 Growth-Focused Strategy

Our M2019 strategic plan reinforces the important elements of M2016 and goes further from a growth perspective. Looking at the strong foundation we have built over the past three years, we are committed to maintaining the operational improvements we have achieved, while simultaneously initiating actions focused on growth. The financial stability driven by M2016 allows for more investment in these strategies, which we anticipate will lead to a rate of return our investors expect over the next three fiscal years.

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The financial targets we set for this three year plan are the following:

Grow revenue at 20 percent above market levels
Increase adjusted diluted earnings per share from continuing operations by $1.25
Reduce the ratio of net debt to Adjusted EBITDA to less than 1.5

(see Non-GAAP Financial Measures below)

To achieve these targets, we have now focused the organization on three main priorities:

Exceeding customer expectations
Transforming to a growth-oriented organization
Continuing to invest in employees

Exceed Customer Expectations

Over the past three years, we have worked hard to become an innovation partner to our customers. From concept to launch, we work closely together to ensure we are designing reliable and high quality products that meet or exceed their expectations. In our M2019 plan, we have set a quality target of 25 PPM. We believe this will further differentiate us in the commercial vehicle industry.

We also want to continue the excellent delivery performance we have demonstrated at greater than 99 percent and we will continue our focus on driving down operating costs through material cost-reduction and labor and burden improvements. We are targeting achievement of 1.5 percent improvement per year.

Transform to a Growth Oriented Organization

We know that despite changes in global market conditions, we must generate top-line growth. We have designed the M2019 plan to enable us to achieve the growth we seek while operating in a cyclical industry that can be greatly impacted by economic and political factors by initiating actions focused on growth, including increasing rates of new product development, new market development, new business with existing strategic customers, and expansion into adjacent markets.

We have rapidly increased the pace of product introduction which is a key component to growing revenue. Prior to M2016, we launched approximately three programs annually. For M2019, we expect to introduce seven or more programs per year across our product portfolio and geographic regions. We are developing these jointly with our customers for their future product programs, and we have line of sight to revenue streams for each of these products.

We expect to continue to broaden our relationships with our global strategic customers, earn the business of new customers, increase aftermarket share in our core product areas, expand our components business by utilizing our time-proven core competencies of forging, machining and gearing, and enter near adjacent markets that we believe will be a good match with our core competencies. While we are planning for the majority of our growth to be organic, we anticipate allocating capital for targeted acquisitions that could be an accelerant in our growth trajectory.

Invest in Employees

We will also continue to drive the close alignment of our global Meritor team to the company's objectives, which was a key driver of the success we experienced in our M2016 strategic plan. We believe that our strength to compete in the global market is dependent upon the engagement of every Meritor employee and that a high-performing team is critical to the level of performance we want to achieve. We have a strong and experienced leadership group and a committed team, both of which are focused on sustaining the strong foundation we built in M2016 and delivering on our M2019 performance objectives. We will also continue to diversify our workforce because we recognize the value of different opinions and backgrounds in a company as global as Meritor.

We have established a variety of development and training programs to help our employees grow as we grow, and we will continue to measure the engagement of our employees to ensure we are building on the competencies that are important to our future.

Products

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Meritor designs, develops, manufactures, markets, distributes, sells, services and supports a broad range of products for use in the transportation and industrial sectors. In addition to sales of original equipment systems and components, we provide our original equipment, aftermarket and remanufactured products to vehicle OEMs, their dealers (who in turn sell to motor carriers and commercial vehicle users of all sizes), independent distributors, and other end-users in certain aftermarkets.

The following chart sets forth, for each of the fiscal years 2016, 2015 and 2014, information about product sales comprising more than 10% of consolidated revenue in any of those years. A narrative description of our principal products follows the chart.
 
Product Sales:
 
 
Fiscal Year Ended
September 30,
 
2016
 
2015
 
2014
Axles, Undercarriage and Drivelines
73
%
 
74
%
 
78
%
Brakes and Braking Systems
25
%
 
25
%
 
21
%
Other
2
%
 
1
%
 
1
%
Total
100
%
 
100
%
 
100
%
 

Axles, Undercarriage & Drivelines
 
We believe we are one of the world's leading independent suppliers of axles for medium- and heavy-duty commercial vehicles, with the leading market position in axle manufacturing in North America, South America and Europe, and are one of the major axle manufacturers in the Asia-Pacific region. Our extensive truck axle product line includes a wide range of front steer axles and rear drive axles. Our front steer and rear drive axles can be equipped with our cam, wedge or air disc brakes, automatic slack adjusters, complete wheel-end equipment such as hubs, rotors and drums, and (through our MeritorWABCO joint venture) anti-lock braking systems (“ABS”) and vehicle stability control systems.
 
We supply heavy-duty axles in certain global regions for use in numerous off-highway vehicle applications, including construction, material handling, and mining. We also supply axles for use in military tactical wheeled vehicles, principally in North America. These products are designed to tolerate high tonnage and operate under extreme geographical and climate conditions. In addition, we have other off-highway vehicle products that are currently in development for certain other regions. We also supply axles for use in buses, coaches and recreational vehicles, fire trucks and other specialty vehicles in North America, Asia Pacific and Europe, and we believe we are a leading supplier of bus and coach axles in North America.
 
We are one of the major manufacturers of heavy-duty trailer axles in North America. Our trailer axles are available in more than 40 models in capacities from 20,000 to 30,000 pounds for virtually all heavy trailer applications and are available with our broad range of suspension modules, brake products, including drum brakes, disc brakes, anti-lock and trailer stability control systems, and ABS (through our MeritorWABCO joint venture).
 
We supply universal joints and driveline components, including our Permalube™ universal joint and RPL Permalube™ driveline, which are maintenance free, permanently lubricated designs used often in the high mileage on-highway market. We supply drivelines in a variety of global regions, for use in numerous on-highway vehicle applications, including construction, material handling and mining. We supply transfer cases and drivelines for use in military tactical wheeled vehicles, principally in North America. We also supply transfer cases for use in specialty vehicles in North America. Anti-lock brakes and stability control systems (which we supply through our MeritorWABCO joint venture) are also used in military vehicles and specialty vehicles. In addition, we supply trailer air suspension systems and products with an increasing market presence in North America. We also supply advanced suspension modules for use in light-, medium- and heavy-duty military tactical wheeled vehicles, principally in North America.
 
Brakes and Braking Systems
 
We believe we are one of the leading independent suppliers of air brakes to medium- and heavy-duty commercial vehicle manufacturers in North America and Europe. In Brazil, one of the largest truck and trailer markets in the world, we believe that Master Sistemas Automotivos Limitada, our 49%-owned joint venture with Randon S. A. Implementos e Participações, is a leading supplier of brakes and brake-related products.

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Through manufacturing facilities located in North America, Asia Pacific and Europe, we manufacture a broad range of foundation air brakes, as well as automatic slack adjusters for brake systems. Our foundation air brake products include cam drum brakes, which offer improved lining life and tractor/trailer interchangeability; wedge drum brakes, which are lightweight and provide automatic internal wear adjustment; air disc brakes, which provide enhanced stopping distance and improved fade resistance for demanding applications; and wheel-end components such as hubs, drums and rotors.
 
Our brakes and brake system components also are used in military tactical wheeled vehicles, principally in North America. We also supply brakes for use in buses, coaches and recreational vehicles, fire trucks and other specialty vehicles in North America and Europe, and we believe we are the leading supplier of bus and coach brakes in North America. We also supply brakes for commercial vehicles, buses and coaches in Asia Pacific.
 
U.S. Federal regulations require that new medium- and heavy-duty vehicles sold in the United States be equipped with ABS. We believe that Meritor WABCO Vehicle Control Systems, our 50%-owned joint venture with WABCO, is a leading supplier of ABS and a supplier of other electronic and pneumatic control systems (such as stability control and collision avoidance systems) for North American heavy-duty commercial vehicles. The joint venture also supplies hydraulic ABS to the North American medium-duty truck market and produces stability control and collision mitigation systems for tractors and trailers, which are designed to help maintain vehicle stability and aid in reducing tractor-trailer rollovers and other incidents.

Other Products
 
In addition to the products discussed above, we sell other complementary products, including third party and private label items, through our aftermarket distribution channels. These products are generally sold under master distribution or similar agreements with outside vendors and include brake shoes and friction materials; automatic slack adjusters; yokes and shafts; wheel-end hubs and drums; ABS and stability control systems; shock absorbers and air springs; air brakes, air systems, air dryers and compressors.

Customers; Sales and Marketing
 
Meritor has numerous customers worldwide and has developed long-standing business relationships with many of these customers. Our ten largest customers accounted for approximately 73 percent of our total sales in fiscal year 2016. Sales to our largest three customers, AB Volvo, Daimler AG and Navistar International Corporation represented approximately 23 percent, 18 percent and 9 percent, respectively, of our sales in fiscal year 2016. No other customer accounted for 10% or more of our total sales in fiscal year 2016.

Original Equipment Manufacturers (OEMs)
 
In North America, we design, engineer, market and sell products principally to OEMs, dealers and distributors. While our North American sales are typically direct to the OEMs, our ultimate commercial truck customers include trucking and transportation fleets. Fleet customers may specify our components and integrated systems for installation in the vehicles they purchase from OEMs. We employ what we refer to as a “push-pull” marketing strategy. We “push” for being the standard product at the OEM. At the same time, our district field managers then call on fleets and OEM dealers to “pull-through” our components on specific truck purchases. For all other markets, we specifically design, engineer, market and sell products principally to OEMs for their market-specific needs or product specifications.
 
For certain large OEM customers, our supply arrangements are generally negotiated on a long-term contract basis for a multi-year period that may require us to provide annual cost reductions through price reductions or other cost benefits for the OEMs. If we are unable to generate sufficient cost savings in the future to offset such price reductions, our gross margins will be adversely affected. Sales to other OEMs are typically made through open order releases or purchase orders at market-based prices that do not require the purchase of a minimum number of products. The customer typically has the right to cancel or delay these orders on reasonable notice. We typically compete to either retain business or try to win new business from OEMs when long-term contracts expire.
 
We have established leading positions in many of the markets we serve as a global supplier of a broad range of drivetrain systems, brakes and components. Based on available industry data and internal company estimates, our market-leading positions include independent truck drive axles (i.e., those manufactured by an independent, non-captive supplier) in North America, Europe, South America and India through a joint venture; truck drivelines in North America; truck air brakes in North America and South America (through a joint venture); and military wheeled vehicle drivetrains, suspensions and brakes in North America.

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Our global customer portfolio includes companies such as AB Volvo, Daimler AG, Navistar International Corporation, Oshkosh, MAN, Iveco, PACCAR, Ashok Leyland, Scania, XCMG, Wabash National and Ford.
 
Aftermarket
 
We market and sell truck, trailer, off-highway and other products principally to, and service such products principally for, OEMs, their parts marketing operations, their dealers and other independent distributors and service garages within the aftermarket industry. Our product sales are generated through long-term agreements with certain of our OEM customers and distribution agreements and sales to independent dealers and distributors. Sales to other OEMs are typically made through open order releases or purchase orders at market based prices which do not require the purchase of a minimum number of products. The customer typically has the right to cancel or delay these orders on reasonable notice.
 
Our product offerings allow us to service all stages of our customers’ vehicle ownership lifecycle. In North America, we stock and distribute hundreds of parts from top national brands to our customers or what we refer to as our “all makes” strategy. Our district field managers call on our OEM and independent customers to market our full product line capabilities on a regular basis to seek to ensure that we satisfy our customers’ needs. Our aftermarket business sells products under the following brand names: Meritor; Meritor Wabco; Euclid; Trucktechnic; Meritor Green; and Meritor AllFit.
 
Based on available industry data and internal company estimates, we believe our North America aftermarket business has the overall market leadership position for the portfolio of products that we offer.
  
Competition
 
We compete worldwide with a number of North American and international providers of components and systems, some of which are owned by or associated with some of our customers. The principal competitive factors are price, quality, service, product performance, design and engineering capabilities, new product innovation and timely delivery. Certain OEMs manufacture their own components that compete with the types of products we supply.
 
Our major competitors for axles are Dana Holding Corp. and, in certain markets, OEMs that manufacture axles for use in their own products. Emerging competitors for axles include Daimler Truck North America’s Detroit Axle and American Axle Corporation, ZF Friedrichshafen in Europe, and from China, Hande, Fuwa and Ankai. Our major competitors for brakes are WABCO, Bendix/Knorr Bremse and, in certain markets, OEMs that manufacture brakes for use in their own products. Our major competitors for industrial applications are MAN, AxleTech International, Oshkosh, AM General, Marmon-Herrington, Dana Holding Corp., Knorr, Kessler & Co., Carraro, NAF, Sisu and, in certain markets, OEMs that manufacture industrial products for use in their own vehicles. Our major competitors for trailer applications are Hendrickson, BPW and SAF-Holland.
 
See Item 1A. Risk Factors for information on certain risks associated with our competitive environment.
 
Raw Materials and Suppliers
 
Our purchases of raw materials and parts are concentrated over a limited number of suppliers. We are dependent upon our suppliers' ability to meet cost performance, quality specifications and delivery schedules. The inability of a supplier to meet these requirements, the loss of a significant supplier, or work stoppages, could have an adverse effect on our ability to meet our customers' delivery requirements.

The cost of our core products is susceptible to changes in overall steel commodity prices, including ingredients used for various grades of steel. We have generally structured our major steel supplier and customer contracts to absorb and pass on normal index-related market fluctuations in steel prices. While we have had steel pricing adjustment programs in place with most major OEMs, the price adjustment programs tend to lag behind the movement in steel costs and have generally not contemplated non-steel index related increases.

Significant future volatility in the commodity markets or a deterioration in product demand may require us to pursue customer increases through surcharges or other pricing arrangements. In addition, if suppliers are inadequate for our needs, or if prices remain at current levels or increase and we are unable to either pass these prices to our customer base or otherwise mitigate the costs, our operating results could be further adversely affected.


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We continuously work to address these competitive challenges by reducing costs and, as needed, restructuring operations. We manage supplier risk by conducting periodic assessments for all major suppliers and more frequent rigorous assessments of high-risk suppliers. On an ongoing basis, we monitor third party financial statements, conduct surveys through supplier questionnaires, and conduct site visits. We have developed a chronic supplier improvement process where we identify and develop actions to address ongoing financial, quality and delivery issues to further mitigate potential risk. We are proactive in managing our supplier relationships to avoid supply disruption. Our process employs dual sourcing and resourcing trigger points that cause us to take aggressive actions and then monitor the progress closely.

Acquisitions, Divestitures and Restructuring
 
As described above, our business strategies are focused on enhancing our market position by continuously evaluating the competitive differentiation of our product portfolio, focusing on our strengths and core competencies, and growing the businesses that offer the most attractive returns. Implementing these strategies involves various types of strategic initiatives.
 
As part of our M2019 strategy, we are evaluating acquisition opportunities that fit strategically with our core competencies and growth initiatives and continuously reviewing the prospects of our existing businesses to determine whether any of them should be modified, restructured, sold or otherwise discontinued. In the fourth quarter of fiscal year 2015, we completed the acquisition of the majority of the assets of Sypris Solutions, Inc.’s Morganton, North Carolina trailer axle beam and carrier manufacturing facility (see Note 6 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below). In the fourth quarter of fiscal year 2014, we completed the disposition of our Mascot all-makes remanufacturing business, which was part of the Aftermarket & Trailer segment (see Note 3 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below).

Restructuring Actions

Fourth Quarter 2016 Market Related Actions: In response to the decline in revenue in North America and South America, during the fourth quarter of fiscal year 2016, we approved various headcount reduction plans targeting different areas of the business. We expect to incur an aggregate of $10 million in restructuring costs associated with these plans, primarily related to a total reduction of approximately 100 salaried and hourly positions. During the fourth quarter of fiscal year 2016, we incurred a total of $5 million in restructuring costs in the Commercial Truck & Industrial segment, $1 million in Aftermarket & Trailer segments and $2 million in their corporate locations. Restructuring actions with these plans are expected to be substantially complete by the first half of fiscal year 2017. 
Aftermarket Actions: During the third quarter of fiscal year 2016, we approved various restructuring plans in the North American and European aftermarket businesses.  We expect to incur an aggregate of approximately $8 million in restructuring costs associated with these plans in the Aftermarket & Trailer segment primarily for severance. We recorded $5 million of restructuring costs during the third quarter of fiscal year 2016. Restructuring actions associated with these plans are expected to be completed by the end of fiscal year 2017.  
Other Fiscal 2016 Actions: During the first half of fiscal year 2016, we recorded restructuring costs of $3 million primarily associated with a labor reduction program in China in the Commercial Truck & Industrial segment and a labor reduction program in the Aftermarket and Trailer segment. Restructuring actions with these plans were substantially complete as of September 30, 2016.
M2016 Footprint Actions: As part of the our M2016 Strategy, during fiscal year 2013 we announced a North American footprint realignment action and a European shared services reorganization. Restructuring actions associated with these programs were substantially complete as of September 30, 2015. In total, we eliminated approximately 140 hourly and salaried positions and incurred approximately $7 million of associated restructuring costs, primarily in the Commercial Truck & Industrial segment in connection with the consolidation of certain gearing and machining operations in North America and the closure of a North America manufacturing facility.
South America Labor Reduction: During the fiscal years 2014 and 2015, we completed a South America headcount reduction plan intended to reduce labor costs in response to softening economic conditions in the region. In response to decreasing production volumes in South America, we eliminated approximately 420 hourly and 40 salaried positions and incurred $13 million of restructuring costs, primarily severance benefits, in the Commercial Truck & Industrial segment. This plan was substantially complete as of September 30, 2015.

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Closure of a Corporate Engineering Facility: During the second quarter of fiscal year 2015, we notified approximately 30 salaried and contract employees that their positions were being eliminated due to the planned closure of a corporate engineering facility. We recorded severance expenses of $2 million associated with this plan. Restructuring actions associated with this program were substantially complete as of September 30, 2015.
European Labor Reduction: During the second quarter of fiscal year 2015, we initiated a European headcount reduction plan intended to reduce labor costs in response to continued soft markets in the region. We eliminated approximately 20 hourly and 20 salaried positions and recorded $2 million of expected severance expenses in the Commercial Truck & Industrial segment in fiscal year 2015. Restructuring actions associated with this program were substantially complete as of June 30, 2015.
See Item 1A. Risk Factors for information on certain risks associated with strategic initiatives.
 
Joint Ventures
 
As the industries in which we operate have become more globalized, joint ventures and other cooperative arrangements have become an important element of our business strategies. These strategic alliances provide for sales, product design, development and manufacturing in certain product and geographic areas. As of September 30, 2016, our continuing operations participated in the following non-consolidated joint ventures:
 
 
Key Products
 
Country
Meritor WABCO Vehicle Control Systems
Antilock braking and air systems and various safety systems
 
U.S.
Master Sistemas Automotivos Limitada
Braking systems
 
Brazil
Sistemas Automotrices de Mexico S.A. de C.V.
Axles, drivelines and brakes
 
Mexico
Ege Fren Sanayii ve Ticaret A.S.
Braking systems
 
Turkey
Automotive Axles Limited
Rear drive axle assemblies and braking systems
 
India

Aggregate sales of our non-consolidated joint ventures were $1,101 million, $1,288 million and $1,268 million in fiscal years 2016, 2015 and 2014, respectively.
 
In accordance with accounting principles generally accepted in the United States, our consolidated financial statements include the financial position and operating results of those joint ventures in which we have control. For additional information on our unconsolidated joint ventures and percentage ownership thereof see Note 13 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below.
 
Research and Development
 
We have significant research, development, engineering and product design capabilities. We spent $68 million in fiscal year 2016, $69 million in fiscal year 2015 and $71 million in fiscal year 2014 on company-sponsored research, development and engineering. We employ professional engineers and scientists globally and have additional engineering capabilities through contract arrangements in low-cost countries. We also have advanced technical centers in North America, South America, Europe and Asia Pacific (primarily in India and China).

Patents and Trademarks
 
We own or license many United States and foreign patents and patent applications in our engineering and manufacturing operations and other activities. While in the aggregate these patents and licenses are considered important to the operation of our businesses, management does not consider them of such importance that the loss or termination of any one of them would materially affect a business segment or Meritor as a whole.
 
Our registered trademarks for Meritor® and the Bull design are important to our business. Other significant trademarks owned by us include Euclid® and Trucktechnic® for aftermarket products.
 

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Substantially all of our U.S.-held intellectual property rights are subject to a first-priority perfected security interest securing our obligations to the lenders under our credit facility. See Note 16 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below.
 
Employees
 
At September 30, 2016, we had approximately 8,000 full-time employees (which includes consolidated joint ventures). At that date, no employees in the United States and Canada were covered by collective bargaining agreements. Most of our facilities outside of the United States and Canada are unionized. We believe our relationship with unionized employees is satisfactory.
 
Environmental Matters
 
Federal, state and local requirements relating to the discharge of substances into the environment, the disposal of hazardous wastes and other activities affecting the environment have, and will continue to have, an impact on our operations. We record liabilities for environmental issues in the accounting period in which they are considered to be probable and the cost can be reasonably estimated. At environmental sites in which more than one potentially responsible party has been identified, we record a liability for our allocable share of costs related to our involvement with the site, as well as an allocable share of costs related to insolvent parties or unidentified shares. At environmental sites in which we are the only potentially responsible party, we record a liability for the total estimated costs of remediation before consideration of recovery from insurers or other third parties.
 
We have been designated as a potentially responsible party at nine Superfund sites, excluding sites as to which our records disclose no involvement or as to which our liability has been finally determined. In addition to Superfund sites, various other lawsuits, claims and proceedings have been asserted against us, alleging violations of federal, state and local environmental protection requirements or seeking remediation of alleged environmental impairments, principally at previously disposed-of properties. We have established reserves for these liabilities when they are considered to be probable and reasonably estimable. See Note 23 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below for information as to our estimates of the total reasonably possible costs we could incur and the amounts recorded as a liability as of September 30, 2016, and as to changes in environmental accruals during fiscal year 2016.
 
The process of estimating environmental liabilities is complex and dependent on physical and scientific data at the site, uncertainties as to remedies and technologies to be used, and the outcome of discussions with regulatory agencies. The actual amount of costs or damages for which we may be held responsible could materially exceed our current estimates because of uncertainties, including the financial condition of other potentially responsible parties, the success of the remediation and other factors that make it difficult to predict actual costs accurately. However, based on management's assessment, after consulting with Meritor's General Counsel and with outside advisors who specialize in environmental matters, and subject to the difficulties inherent in estimating these future costs, we believe that our expenditures for environmental capital investment and remediation necessary to comply with present regulations governing environmental protection and other expenditures for the resolution of environmental claims will not have a material adverse effect on our business, financial condition or results of operations. In addition, in future periods, new laws and regulations, changes in remediation plans, advances in technology and additional information about the ultimate clean-up remedy could significantly change our estimates. Management cannot assess the possible effect of compliance with future requirements.

International Operations
 
We believe our international operations provide us with geographical diversity and help us to weather the cyclical nature of our business. Approximately 46 percent of our total assets as of September 30, 2016 and 49 percent of fiscal year 2016 sales from continuing operations were outside the U.S. See Note 24 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below for financial information by geographic area for the three fiscal years ended September 30, 2016.
 
Our international operations are subject to a number of risks inherent in operating abroad (see Item 1A. Risk Factors below). There can be no assurance that these risks will not have a material adverse impact on our ability to increase or maintain our foreign sales or on our financial condition or results of operations.
 

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Our operations are also exposed to global market risks, including foreign currency exchange rate risk related to our transactions denominated in currencies other than the U.S. dollar. We have a foreign currency cash flow hedging program in place to help reduce the company’s exposure to changes in exchange rates. We use foreign currency forward contracts to manage the company’s exposures arising from foreign currency exchange risk. Gains and losses on the underlying foreign currency exposures are partially offset with gains and losses on the foreign currency forward contracts. It is our policy not to enter into derivative financial instruments for speculative purposes and, therefore, we hold no derivative instruments for trading purposes. See Item 7A. Quantitative and Qualitative Disclosures About Market Risk and Note 17 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data below.
 
Seasonality; Cyclicality
 
We may experience seasonal variations in the demand for our products, to the extent OEM vehicle production fluctuates. Historically, for most of our operations, demand has been somewhat lower in the quarters ended September 30 and December 31, when OEM plants may close for summer shutdowns and holiday periods or when there are fewer selling days during the quarter. Our aftermarket business and our operations in India and China generally experience seasonally higher demand in the quarters ending March 31 and June 30.
 
In addition, the industries in which we operate have been characterized historically by periodic fluctuations in overall demand for trucks, trailers and other specialty vehicles for which we supply products, resulting in corresponding fluctuations in demand for our products. Production and sales of the vehicles for which we supply products generally depend on economic conditions and a variety of other factors that are outside of our control, including freight tonnage, customer spending and preferences, vehicle age, labor relations and regulatory requirements. See Item 1A. Risk Factors below. Cycles in the major vehicle industry markets of North America and Europe are not necessarily concurrent or related. It is part of our strategy to continue to seek to expand our operations globally to help mitigate the effect of periodic fluctuations in demand of the vehicle industry in one or more particular countries.

See section Trends and Uncertainties in Item 7. Management's Discussion and Analysis for estimated commercial truck production volumes for selected original equipment ("OE") markets based on available sources and management's estimates.
 
Available Information
 
We make available free of charge through our web site (www.Meritor.com) our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, all amendments to those reports, and other filings we make with the Securities and Exchange Commission (“SEC”), as soon as reasonably practicable after they are filed. The information contained on the company’s website is not included in, or incorporated by reference into, this annual report on Form 10-K.
 

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Cautionary Statement
 
This Annual Report on Form 10-K contains statements relating to future results of the company (including certain projections and business trends) that are “forward-looking statements” as defined in the Private Securities Litigation Reform Act of 1995. Forward-looking statements are typically identified by words or phrases such as “believe,” “expect,” “anticipate,” “estimate,” “should,” “are likely to be,” “will” and similar expressions. Actual results may differ materially from those projected as a result of certain risks and uncertainties, including but not limited to reliance on major OEM customers and possible negative outcomes from contract negotiations with our major customers, including failure to negotiate acceptable terms in contract renewal negotiations and our ability to obtain new customers; the outcome of actual and potential product liability, warranty and recall claims; our ability to successfully manage rapidly changing volumes in the commercial truck markets and work with our customers to manage demand expectations in view of rapid changes in production levels; global economic and market cycles and conditions; availability and sharply rising costs of raw materials, including steel, and our ability to manage or recover such costs; our ability to manage possible adverse effects on our European operations, or financing arrangements related thereto following the United Kingdom's decision to exit the European Union or, in the event one or more other countries exit the European monetary union; risks inherent in operating abroad (including foreign currency exchange rates, restrictive government actions regarding trade, implications of foreign regulations relating to pensions and potential disruption of production and supply due to terrorist attacks or acts of aggression); risks related to our joint ventures; rising costs of pension and other postemployment benefits; the ability to achieve the expected benefits of strategic initiatives and restructuring actions; the demand for commercial and specialty vehicles for which we supply products; whether our liquidity will be affected by declining vehicle productions in the future; OEM program delays; demand for and market acceptance of new and existing products; successful development and launch of new products; labor relations of our company, our suppliers and customers, including potential disruptions in supply of parts to our facilities or demand for our products due to work stoppages; the financial condition of our suppliers and customers, including potential bankruptcies; possible adverse effects of any future suspension of normal trade credit terms by our suppliers; potential difficulties competing with companies that have avoided their existing contracts in bankruptcy and reorganization proceedings; potential impairment of long-lived assets, including goodwill; potential adjustment of the value of deferred tax assets; competitive product and pricing pressures; the amount of our debt; our ability to continue to comply with covenants in our financing agreements; our ability to access capital markets; credit ratings of our debt; the outcome of existing and any future legal proceedings, including any litigation with respect to environmental, asbestos-related or other matters; possible changes in accounting rules; ineffective internal controls; and other substantial costs, risks and uncertainties, including but not limited to those detailed herein and from time to time in other filings of the company with the SEC. See also the following portions of this Annual Report on Form 10-K: Item 1. Business , “Customers; Sales and Marketing”; “Competition”; “Raw Materials and Supplies”; “Employees”; “Environmental Matters”; “International Operations”; and “Seasonality; Cyclicality”; Item 1A. Risk Factors; Item 3. Legal Proceedings; and Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. These forward-looking statements are made only as of the date hereof, and the company undertakes no obligation to update or revise the forward-looking statements, whether as a result of new information, future events or otherwise, except as otherwise required by law.

Item 1A. Risk Factors
 
Our business, financial condition and results of operations can be impacted by a number of risks, including those described below and elsewhere in this Annual Report on Form 10-K, any one of which could cause our actual results to vary materially from recent results or from anticipated future results. Any of these individual risks could materially and adversely affect our business, financial condition and results of operations. This effect could be compounded if multiple risks were to occur.
 
We may not be able to execute our M2019 Strategy.

At the beginning of fiscal 2016, we announced our M2019 Strategy, a three-year plan to drive growth and increase shareholder value. In connection with the plan, we established certain financial goals relating to revenue growth, profit improvement and capital allocation. The M2019 Strategy is based on our current planning assumptions, and achievement of the plan is subject to a number of risks. Our assumptions include that we are able to successfully launch new products, secure new business wins, expand our current customer relationships, reduce debt, reduce costs and increase pricing, and that any increases in raw materials prices are substantially offset by customer recovery mechanisms. If our assumptions are incorrect, if management is not able to execute the plan or if our business suffers from any number of additional risks set forth herein, we may not be able to achieve the financial goals we have announced for M2019.


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We depend on large OEM customers, and loss of sales to these customers or failure to negotiate acceptable terms in contract renewal negotiations, or to obtain new customers, could have an adverse impact on our business.
     
We are dependent upon large OEM customers with substantial bargaining power with respect to price and other commercial terms. In addition, we have long-term contracts with certain of these customers that are subject to renegotiation and renewal from time to time. Loss of all or a substantial portion of sales to any of our large volume customers for whatever reason (including, but not limited to, loss of contracts or failure to negotiate acceptable terms in contract renewal negotiations, loss of market share by these customers, insolvency of such customers, reduced or delayed customer requirements, plant shutdowns, strikes or other work stoppages affecting production by such customers), continued reduction of prices to these customers, or a failure to obtain new customers, could have a significant adverse effect on our financial results. There can be no assurance that we will not lose all or a portion of sales to our large volume customers, or that we will be able to offset any reduction of prices to these customers with reductions in our costs or by obtaining new customers.
 
During fiscal year 2016, sales to our three largest customers, AB Volvo, Daimler AG and Navistar International Corporation represented approximately 23 percent, 18 percent and 9 percent, respectively. No other customer accounted for 10% or more of our total sales in fiscal year 2016.
 
The level of our sales to large OEM customers, including the realization of future sales from awarded business or obtaining new business or customers, is inherently subject to a number of risks and uncertainties, including the number of vehicles that these OEM customers actually produce and sell. Several of our significant customers have major union contracts that expire periodically and are subject to renegotiation. Any strikes or other actions that affect our customers' production during this process would also affect our sales. Further, to the extent that the financial condition, including bankruptcy or market share of any of our largest customers, deteriorates or their sales otherwise continue to decline, our financial position and results of operations could be adversely affected. In addition, our customers generally have the right to replace us with another supplier under certain circumstances. Accordingly, we may not in fact realize all of the future sales represented by our awarded business. Any failure to realize these sales could have a material adverse effect on our financial condition and results of operations.
 
Our ability to manage rapidly changing production and sales volume in the commercial vehicle market may adversely affect our results of operations.
 
Production and sales in the commercial vehicle market have been volatile in recent years. Our business may experience difficulty in adapting to rapidly changing production and sales volumes. In an upturn of the cycle, when demand increases for production, we may have difficulty in meeting such extreme or rapidly increasing demand. This difficulty may include not having sufficient manpower or working capital to meet the needs of our customers or relying on other suppliers who may not be able to respond quickly to a changed environment when demand increases rapidly. In contrast, in the downturn of the cycle, we may have difficulty sustaining profitability given fixed costs (as further discussed below).

 A downturn in the global economy could materially adversely affect our results of operations, financial condition and cash flows.

Although the global economy has improved since the global economic recession that began in late 2008 and continued through 2009, the recession had a significant adverse impact on our business, customers and suppliers. Our cash and liquidity needs were impacted by the level, variability and timing of our customers' worldwide vehicle production and other factors outside of our control. If the global economy were to take another significant downturn, depending upon the length, duration and severity of another recession, our results of operations, financial condition and cash flow would be materially adversely affected again.
 
Our levels of fixed costs can make it difficult to adjust our cost base to the extent necessary, or to make such adjustments on a timely basis, and continued volume declines can result in non-cash impairment charges as the value of certain long-lived assets is reduced. As a result, our financial condition and results of operations have been and would be expected to continue to be adversely affected during periods of prolonged declining production and sales volumes in the commercial vehicle markets.
 
The negative impact on our financial condition and results of operations from continued volume declines could also have negative effects on our liquidity. If cash flows are not available from our operations, we may be required to rely on the banking and credit markets to meet our financial commitments and short-term liquidity needs; however, we cannot predict whether that funding will be available at all or on commercially reasonable terms. In addition, in the event of reduced sales, levels of receivables would decline, which would lead to a decline in funding available under our U.S. receivables facilities or under our European factoring arrangements.
 

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Our working capital requirements may negatively affect our liquidity and capital resources.
 
Our working capital requirements can vary significantly, depending in part on the level, variability and timing of our customers' worldwide vehicle production and the payment terms with our customers and suppliers. As production volumes increase, our working capital requirements to support the higher volumes generally increase. If our working capital needs exceed our other cash flows from operations, we would look to our cash balances and availability for borrowings under our borrowing arrangements to satisfy those needs, as well as potential sources of additional capital, which may not be available on satisfactory terms or in adequate amounts.

In addition, since many of our accounts receivable factoring programs support our working capital requirements in Europe, any dissolution of the European monetary union, if it were to occur, or any other termination of our European factoring agreements could have a material adverse effect on our liquidity if we were unable to renegotiate such agreements or find alternative sources of liquidity.

One of our consolidated joint ventures in China participates in bills of exchange programs to settle accounts receivable from its customers and obligations to its trade suppliers. These programs are common in China and generally require the participation of local banks. Any disruption in these programs, if it were to occur, could have an adverse effect on our liquidity if we were unable to find alternative sources of liquidity.

Our liquidity, including our access to capital markets and financing, could be constrained by limitations in the overall credit market, our credit ratings, our ability to comply with financial covenants in our debt instruments, and our suppliers suspending normal trade credit terms on our purchases, or by other factors beyond our control.
 
Our current senior secured revolving credit facility matures in February 2019. Upon expiration of this facility, we will require a new or renegotiated facility (which may be smaller and have less favorable terms than our current facility) or other financing arrangements. Our ability to access additional capital in the long term will depend on availability of capital markets and pricing on commercially reasonable terms as well as our credit profile at the time we are seeking funds, and there is no guarantee that we will be able to access additional capital.
 
On November 30, 2016, our Standard & Poor’s corporate credit rating, senior secured credit rating, and senior unsecured credit rating were B+, BB and B, respectively. Our Moody’s Investors Service corporate credit rating, senior secured credit rating, and senior unsecured credit rating are B1, Ba1 and B2, respectively. Any lowering of our credit ratings could increase our cost of future borrowings and could reduce our access to capital markets and result in lower trading prices for our securities.

Our liquidity could also be adversely impacted if our suppliers were to suspend normal trade credit terms and require more accelerated payment terms, including payment in advance or payment on delivery of purchases. If this were to occur, we would be dependent on other sources of financing to bridge the additional period between payment of our suppliers and receipt of payments from our customers.

We operate in an industry that is cyclical and that has periodically experienced significant year-to-year fluctuations in demand for vehicles; we also experience seasonal variations in demand for our products.
 
The industries in which we operate have been characterized historically by significant periodic fluctuations in overall demand for medium- and heavy-duty trucks and other vehicles for which we supply products, resulting in corresponding fluctuations in demand for our products. The length and timing of any cycle in the vehicle industry cannot be predicted with certainty.
 
Production and sales of the vehicles for which we supply products generally depend on economic conditions and a variety of other factors that are outside our control, including freight tonnage, customer spending and preferences, vehicle age, labor relations and regulatory requirements. In particular, demand for our Commercial Truck & Industrial segment products can be affected by a pre-buy before the effective date of new regulatory requirements, such as changes in emissions standards. Historically, implementation of new, more stringent, emissions standards, has increased heavy-duty truck demand prior to the effective date of the new regulations, and correspondingly decreased this demand after the new standards are implemented. In addition, any expected increase in the heavy-duty truck demand prior to the effective date of new emissions standards may be offset by instability in the financial markets and resulting economic contraction in the U.S. and worldwide markets.
 
Sales from the aftermarket portion of our Aftermarket & Trailers segment depend on overall levels of truck ton miles and gross domestic product (GDP), among other things, and may be influenced by times of slower economic growth or economic contraction based on the average age of commercial truck fleets.
 

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We may also experience seasonal variations in the demand for our products to the extent that vehicle production fluctuates. Historically, for most of our business, demand has been somewhat lower in the quarters ended September 30 and December 31, when OEM plants may close during model changeovers and vacation and holiday periods or when there are fewer selling days during the quarter. In addition, our aftermarket business and our operations in India and China generally experience seasonally higher demand in the quarters ending March 31 and June 30.
 
Disruptions in the financial markets could impact the availability and cost of credit which could negatively affect our business.

Disruptions in the financial markets, including the bankruptcy, insolvency or restructuring of certain financial institutions, and the lack of liquidity generally could impact the availability and cost of incremental credit for many companies and may adversely affect the availability of credit already arranged. Such disruptions could adversely affect the U.S. and world economy, further negatively impacting consumer spending patterns in the transportation and industrial sectors. In addition, as our customers and suppliers respond to rapidly changing consumer preferences, they may require access to additional capital. If that capital is not available or its cost is prohibitively high, their business would be negatively impacted which could result in further restructuring or even reorganization under bankruptcy laws. Any such negative impact, in turn, could negatively affect our business either through loss of sales to any of our customers so affected or through inability to meet our commitments (or inability to meet them without excess expense) because of loss of supplies from any of our suppliers so affected. There are no assurances that government responses to these disruptions would restore consumer confidence or improve the liquidity of the financial markets.
 
In addition, disruptions in the capital and credit markets, as were experienced in the recent past, could adversely affect our ability to draw on our senior secured revolving credit facility. Our access to funds under that credit facility is dependent on the ability of the banks that are parties to the facility to meet their funding commitments. Those banks may not be able to meet their funding commitments to us if they experience shortages of capital and liquidity or if they experience excessive volumes of borrowing requests from Meritor and other borrowers within a short period of time. Longer-term disruptions in the capital and credit markets as a result of uncertainty, changing or increased regulation, reduced alternatives, or failures of significant financial institutions could adversely affect our access to liquidity needed for our business. Any disruption could require us to take measures to conserve cash until the markets stabilize or until alternative credit arrangements or other funding for our business needs can be arranged.
 
Continued fluctuation in the prices of raw materials and transportation costs has adversely affected our business and, together with other factors, will continue to pose challenges to our financial results.
 
Prices of raw materials, primarily steel, for our manufacturing needs and costs of transportation have fluctuated sharply in past years, including rapid increases which had a negative impact on our operating income for certain periods. These steel price increases, along with increasing transportation costs, created pressure on profit margins, and if they recur in the future, they could unfavorably impact our financial results going forward. While we have had steel pricing adjustment programs in place with most major OEMs, the price adjustment programs have tended to lag the increase in steel costs and have generally not contemplated all non-index-related increases in steel costs. Raw material price fluctuation, together with the volatility of the commodity markets will continue to pose risks to our financial results. If we are unable to pass price increases on to our customer base or otherwise mitigate the costs, our operating income could be adversely affected.

Escalating price pressures from customers may adversely affect our business.
 
Pricing pressure by OEMs is a characteristic, to a certain extent, of the commercial vehicle industry. Virtually all OEMs have aggressive price reduction initiatives and objectives each year with their suppliers, and such actions are expected to continue in the future. Accordingly, we must be able to reduce our operating costs in order to maintain our current margins. Price reductions have impacted our margins and may do so in the future. There can be no assurance that we will be able to avoid future customer price reductions or offset future customer price reductions through improved operating efficiencies, new manufacturing processes, sourcing alternatives or other cost reduction initiatives.
 
We operate in a highly competitive industry.
 
Each of Meritor's businesses operates in a highly competitive environment. We compete worldwide with a number of North American and international providers of components and systems, some of which are owned by or associated with some of our customers. Certain OEMs manufacture products for their own use that compete with the types of products we supply, and any future increase in this activity could displace Meritor's sales.


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Exchange rate fluctuations could adversely affect our financial condition and results of operations.
 
As a result of our substantial international operations, we are exposed to foreign currency risks that arise from our normal business operations, including risks in connection with our transactions that are denominated in foreign currencies. While we employ financial instruments to hedge certain of our foreign currency exchange risks relating to these transactions, our efforts to manage these risks may not be successful. In addition, we translate sales and other results denominated in foreign currencies into U.S. dollars for purposes of our consolidated financial statements. As a result, appreciation of the U.S. dollar against these foreign currencies generally will have a negative impact on our reported revenues and operating income, while depreciation of the U.S. dollar against these foreign currencies will generally have a positive effect on reported revenues and operating income. For fiscal years 2014, 2015 and 2016, our reported financial results were adversely affected by appreciation of the U.S. dollar against foreign currencies.
 
A disruption in supply of raw materials or parts could impact our production and increase our costs.
 
Some of our significant suppliers have experienced weak financial condition in recent years . In addition, some of our significant suppliers are located in developing countries. We are dependent upon the ability of our suppliers to meet performance and quality specifications and delivery schedules. The inability of a supplier to meet these requirements, the loss of a significant supplier, or any labor issues or work stoppages at a significant supplier could disrupt the supply of raw materials and parts to our facilities and could have an adverse effect on us.
 
Work stoppages or similar difficulties could significantly disrupt our operations.
 
A work stoppage at one or more of our manufacturing facilities could have a material adverse effect on our business. In addition, if a significant customer were to experience a work stoppage, that customer could halt or limit purchases of our products, which could result in shutting down the related manufacturing facilities. Also, a significant disruption in the supply of a key component due to a work stoppage at one of our suppliers could result in shutting down manufacturing facilities, which could have a material adverse effect on our business.
 
Our international operations are subject to a number of risks.
 
We have a significant number of facilities and operations outside the United States, including investments and joint ventures in developing countries. During fiscal year 2016, approximately 49 percent of our sales from continuing operations were generated outside of the United States. Our strategy to grow in emerging markets may put us at risk due to the risks inherent in operating in such markets. Our international operations are subject to a number of risks inherent in operating abroad, including, but not limited to:

risks with respect to currency exchange rate fluctuations (as more fully discussed above);

risks to our liquidity if the European monetary union were to dissolve and we were unable to renegotiate European factoring agreements;

risks arising from the United Kingdom's decision to exit the European Union, or in the event one or more other countries exit the European monetary union;

local economic and political conditions;

disruptions of capital and trading markets;

possible terrorist attacks or acts of aggression that could affect vehicle production or the availability of raw materials or supplies;

restrictive governmental actions (such as restrictions on transfer of funds and trade protection measures, including export duties, quotas and customs duties and tariffs);

changes in legal or regulatory requirements;

import or export licensing requirements;

limitations on the repatriation of funds;

18




difficulty in obtaining distribution and support;

nationalization;

the laws and policies of the United States affecting trade, foreign investment and loans;

the ability to attract and retain qualified personnel;

tax laws; and

labor disruptions.

There can be no assurance that these risks will not have a material adverse impact on our ability to increase or maintain our foreign sales or on our financial condition or results of operations.

Certain of our operations are conducted through joint ventures which have unique risks.

We conduct certain of our operations through joint ventures, many of which act as our suppliers, pursuant to the terms of the agreements that we entered into with our partners. We may share management responsibilities and information with one or more partners that may not share our goals and objectives. Additionally, one or more partners may fail to satisfy contractual obligations, conflicts may arise between us and any of our partners, the ownership of one of our partners may change or our ability to control decision making or compliance with applicable rules and regulations may be limited. Additionally, our ability to sell our interest in a joint venture may be subject to contractual and other limitations. Accordingly, any of the foregoing could adversely affect our results of operations, financial condition and cash flow.
 
A violation of the financial covenants in our senior secured revolving credit facility could result in a default thereunder and could lead to an acceleration of our obligations under this facility and, potentially, other indebtedness.
 
Our ability to borrow under our existing financing arrangements depends on our compliance with covenants in the related agreements and on our performance against covenants in our bank credit facility that require compliance with certain financial ratios as of the end of each fiscal quarter. To the extent that we are unable to maintain compliance with these requirements or to perform against the financial ratio covenants due to one or more of the various risk factors discussed herein or otherwise, our ability to borrow, and our liquidity, would be adversely impacted.
Availability under the senior secured revolving credit facility is subject to a collateral test, performed quarterly, pursuant to which borrowings on the senior secured revolving credit facility cannot exceed 1.0x the collateral test value. Availability under the senior secured revolving credit facility is also subject to certain financial covenants based on (i) the ratio of our priority debt (consisting principally of amounts outstanding under the senior secured revolving credit facility, U.S. accounts receivable securitization and factoring programs, and third-party non-working capital foreign debt) to EBITDA and (ii) the amount of annual capital expenditures. We are required to maintain a total priority-debt-to-EBITDA ratio, as defined in the agreement, of not more than 2.25 to 1.00 as of the last day of each fiscal quarter through maturity.
 If an amendment or waiver is needed (in the event we do not meet one of these covenants) and not obtained, we would be in violation of that covenant, and the lenders would have the right to accelerate the obligations upon the vote of the lenders holding more than 50% of outstanding loans thereunder. A default under the senior secured revolving credit facility could also constitute a default under our outstanding convertible notes as well as our U.S. receivables facility and could result in the acceleration of these obligations. In addition, a default under our senior secured revolving credit facility could result in a cross-default or the acceleration of our payment obligations under other financing agreements. If our obligations under our senior secured revolving credit facility and other financing arrangements are accelerated as described above, our assets and cash flow may be insufficient to fully repay these obligations, and the lenders under our senior secured revolving credit facility could institute foreclosure proceedings against our assets.
 
Our strategic initiatives may be unsuccessful, may take longer than anticipated, or may result in unanticipated costs.
 
The success and timing of any future divestitures and acquisitions will depend on a variety of factors, many of which are not within our control. If we engage in acquisitions, we may finance these transactions by issuing additional debt or equity securities. The additional debt from any such acquisitions, if consummated, could increase our debt to capitalization ratio. In addition, the ultimate benefit of any acquisition would depend on our ability to successfully integrate the acquired entity or assets into our

19



existing business and to achieve any projected synergies. There is no assurance that the total costs and total cash costs associated with any current and future restructuring will not exceed our estimates, or that we will be able to achieve the intended benefits of these restructurings.

We are exposed to environmental, health and safety and product liabilities.
 
Our business is subject to liabilities with respect to environmental and health and safety matters. In addition, we are required to comply with federal, state, local and foreign laws and regulations governing the protection of the environment and health and safety, and we could be held liable for damages arising out of human exposure to hazardous substances or other environmental or natural resource damages. Environmental health and safety laws and regulations are complex, change frequently and tend to be increasingly stringent. As a result, our future costs to comply with such laws may increase significantly. There is also an inherent risk of exposure to warranty and product liability claims, as well as product recalls, in the commercial vehicle industry if our products fail to perform to specifications or are alleged to cause property damage, injury or death.
 
With respect to environmental liabilities, we have been designated as a potentially responsible party at nine Superfund sites (excluding sites as to which our records disclose no involvement or as to which our liability has been finally determined). In addition to the Superfund sites, various other lawsuits, claims and proceedings have been asserted against us alleging violations of federal, state and local and foreign environmental protection requirements or seeking remediation of alleged environmental impairments. We have established reserves for these liabilities when we determine that the company has a probable obligation and we can reasonably estimate it, but the process of estimating environmental liabilities is complex and dependent on evolving physical and scientific data at the site, uncertainties as to remedies and technologies to be used, and the outcome of discussions with regulatory agencies. The actual amount of costs or damages for which we may be held responsible could materially exceed our current estimates because of these and other uncertainties which make it difficult to predict actual costs accurately. In future periods, new laws and regulations, changes in remediation plans, advances in technology and additional information about the ultimate clean-up remedy could significantly change our estimates and have a material impact on our financial position and results of operations. Management cannot assess the possible effect of compliance with future requirements.
 
We are exposed to asbestos litigation liability.
 
One of our subsidiaries, Maremont Corporation, manufactured friction products containing asbestos from 1953 through 1977, when it sold its friction product business. We acquired Maremont in 1986. Maremont and many other companies are defendants in suits brought by individuals claiming personal injuries as a result of exposure to asbestos-containing products. We, along with many other companies, have also been named as a defendant in lawsuits alleging personal injury as a result of exposure to asbestos used in certain components of products of Rockwell International Corporation ("Rockwell"). Liability for these claims was transferred to us at the time of the spin-off of Rockwell's automotive business to Meritor in 1997.
 
The uncertainties of asbestos claim and other litigation including the outcome of litigation with insurance companies regarding the scope of asbestos coverage, and the long-term solvency of our insurance carriers, make it difficult to predict accurately the ultimate resolution of asbestos claims. The possibility of adverse rulings or new legislation affecting asbestos claim litigation or the settlement process increases that uncertainty. Although we have established reserves to address asbestos liability and corresponding receivables for recoveries from our insurance carriers, if our assumptions with respect to the nature of pending and future claims, the cost to resolve claims and the amount of available insurance prove to be incorrect, the actual amount of liability for asbestos-related claims, and the effect on us, could differ materially from our current estimates and, therefore, could have a material impact on our financial position and results of operations.
 
We are exposed to the rising cost of pension and other postemployment benefits.
 
The commercial vehicle industry, like other industries, continues to be impacted by the cost of pension and other postemployment benefits. In estimating our expected obligations under our pension and postemployment benefit plans, we make certain assumptions as to economic and demographic factors, such as discount rates, investment returns and health care cost trends. If actual experience of these factors is worse than our assumptions, our obligations could grow which could in turn increase the amount of mandatory contributions to these plans in the coming years. Our pension plans and other postemployment benefits are underfunded by $160 million and $447 million, respectively, as of September 30, 2016.

Impairment in the carrying value of long-lived assets and goodwill could negatively affect our operating results and financial condition.
 
We have a significant amount of long-lived assets and goodwill on our consolidated balance sheet. Under generally accepted accounting principles, long-lived assets, excluding goodwill, are required to be reviewed for impairment whenever adverse events

20



or changes in circumstances indicate a possible impairment. If business conditions or other factors cause our operating results and cash flows to decline, we may be required to record non-cash impairment charges. Goodwill must be evaluated for impairment at least annually. If the carrying value of our reporting units exceeds their current fair value, the goodwill is considered impaired and is reduced to fair value via a non-cash charge to earnings. Events and conditions that could result in impairment in the value of our long-lived assets and goodwill include changes impacting the industries in which we operate, particularly the impact of any downturn in the global economy, as well as competition and advances in technology, adverse changes in the regulatory environment, or other factors leading to reduction in expected long-term sales or operating results. If the value of long-lived assets or goodwill is impaired, our earnings and financial condition could be adversely affected.
 
The value of our deferred tax assets could become impaired, which could materially and adversely affect our results of operations and financial condition.
 
In accordance with the Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 740 “Income Taxes,” each quarter we determine the probability of the realization of deferred tax assets, using significant judgments and estimates with respect to, among other things, historical operating results, expectations of future earnings and tax planning strategies. If we determine in the future that there is not sufficient positive evidence to support the valuation of these assets, due to the risk factors described herein or other factors, we may be required to adjust the valuation allowance to reduce our deferred tax assets. Such a reduction could result in material non-cash expenses in the period in which the valuation allowance is adjusted and could have a material adverse effect on our results of operations and financial condition. In addition, future changes in laws or regulations could have a material impact on the company's overall tax position.
 
Our overall effective tax rate is equal to our total tax expense as a percentage of our total earnings before tax. However, tax expenses and benefits are determined separately for each tax paying component (an individual entity) or group of entities that is consolidated for tax purposes in each jurisdiction. Losses in certain jurisdictions which have valuation allowances against their deferred tax assets provide no current financial statement tax benefit unless required under the intra-period allocation requirements of ASC Topic 740. As a result, changes in the mix of projected earnings between jurisdictions, among other factors, could have a significant impact on our overall effective tax rate.
 
Our unrecognized tax benefits recorded in accordance with FASB ASC Topic 740 could significantly change.
 
FASB ASC Topic 740, “Income Taxes,” defines the confidence level that a tax position must meet in order to be recognized in the financial statements. This topic requires that the tax effects of a position be recognized only if it is "more-likely-than-not" to be sustained based solely on its technical merits as of the reporting date. The more-likely-than-not threshold represents a positive assertion by management that a company is entitled to the economic benefits of a tax position. If a tax position is not considered more-likely-than-not to be sustained based solely on its technical merits, no benefits of the position are to be recognized. Moreover, the more-likely-than-not threshold must continue to be met in each reporting period to support continued recognition of a benefit. In the event that the more-likely-than-not threshold is not met, we would be required to change the relevant tax position which could have an adverse effect on our results of operations and financial condition.
 
Restriction on use of tax attributes from tax law “ownership change”.
 
Section 382 of the U.S. Internal Revenue Code of 1986, as amended, limits the ability of a corporation that undergoes an “ownership change” to use its tax attributes, such as net operating losses and tax credits. In general, an “ownership change” occurs if shareholders owning five percent or more (applying certain look-through rules) of an issuer's outstanding common stock, collectively, increase their ownership percentage by more than fifty percentage points within any three year period over such shareholders' lowest percentage ownership during this period. If we were to issue new shares of stock, such new shares could contribute to such an “ownership change” under U.S. tax law. Moreover, not every event that could contribute to such an “ownership change” is within our control. If an “ownership change” under Section 382 were to occur, our ability to utilize tax attributes in the future may be limited.
 
Assertions against us or our customers relating to intellectual property rights could materially impact our business.
 
Our industry is characterized by companies that hold large numbers of patents and other intellectual property rights and that vigorously pursue, protect and enforce intellectual property rights. From time to time, third parties may assert against us and our customers and distributors their patent and other intellectual property rights to technologies that are important to our business.


21



Claims that our products or technology infringe third-party intellectual property rights, regardless of their merit or resolution, are frequently costly to defend or settle and divert the efforts and attention of our management and technical personnel. In addition, many of our supply agreements require us to indemnify our customers and distributors from third-party infringement claims, which have in the past and may in the future require that we defend those claims and might require that we pay damages in the case of adverse rulings. Claims of this sort also could harm our relationships with our customers and might deter future customers from doing business with us. We do not know whether we will prevail in these proceedings given the complex technical issues and inherent uncertainties in intellectual property litigation. If any pending or future proceedings result in an adverse outcome, we could be required to:

cease the manufacture, use or sale of the infringing products or technology;

pay substantial damages for infringement;

expend significant resources to develop non-infringing products or technology;

license technology from the third-party claiming infringement, which license may not be available on commercially reasonable terms, or at all;

enter into cross-licenses with our competitors, which could weaken our overall intellectual property portfolio;

lose the opportunity to license our technology to others or to collect royalty payments based upon successful protection and assertion of our intellectual property against others;

pay substantial damages to our customers or end users to discontinue use or replace infringing technology with non-infringing technology; or

relinquish rights associated with one or more of our patent claims, if our claims are held invalid or otherwise unenforceable.
    
Any of the foregoing results could have a material adverse effect on our business, financial condition and results of operations.
 
We utilize a significant amount of intellectual property in our business. If we are unable to protect our intellectual property, our business could be adversely affected.
 
Our success depends in part upon our ability to protect our intellectual property. To accomplish this, we rely on a combination of intellectual property rights, including patents, trademarks and trade secrets, as well as customary contractual protections with our customers, distributors, employees and consultants, and security measures to protect our trade secrets. We cannot guarantee that:

any of our present or future patents will not lapse or be invalidated, circumvented, challenged, abandoned or, in the case of third-party patents licensed or sub-licensed to us, be licensed to others;

any of our pending or future patent applications will be issued or have the coverage originally sought;

our intellectual property rights will be enforced in jurisdictions where competition may be intense or where legal protection may be weak; or

any of the trademarks, trade secrets or other intellectual property rights that we presently employ in our business will not lapse or be invalidated, circumvented, challenged, abandoned or licensed to others.

In addition, we may not receive competitive advantages from the rights granted under our patents and other intellectual property rights. Our competitors may develop technologies that are similar or superior to our proprietary technologies, duplicate our proprietary technologies, or design around the patents we own or license. Our existing and future patents may be circumvented, blocked, licensed to others, or challenged as to inventorship, ownership, scope, validity or enforceability. Effective intellectual property protection may be unavailable or more limited in one or more relevant jurisdictions relative to those protections available in the United States, or may not be applied for in one or more relevant jurisdictions. If we pursue litigation to assert our intellectual property rights, an adverse decision in any of these legal actions could limit our ability to assert our intellectual property rights, limit the value of our technology or otherwise negatively impact our business, financial condition and results of operations.

22




We are a party to a number of patent and intellectual property license agreements. Some of these license agreements require us to make one-time or periodic payments. We may need to obtain additional licenses or renew existing license agreements in the future. We are unable to predict whether these license agreements can be obtained or renewed on acceptable terms.

A breach or failure of our information technology infrastructure could adversely impact our business and operations.
 
We recognize the increasing volume of cyber-attacks and employ commercially practical efforts to provide reasonable assurance such attacks are appropriately mitigated. Each year, we evaluate the threat profile of our industry to stay abreast of trends and to provide reasonable assurance our existing countermeasures will address any new threats identified. Despite our implementation of security measures, our IT systems and those of our service providers are vulnerable to circumstances beyond our reasonable control including acts of malfeasance, acts of terror, acts of government, natural disasters, civil unrest, and denial of service attacks any of which may lead to the theft of our intellectual property and trade secrets, or business disruption. To the extent that any disruption or security breach results in a loss or damage to our data or an inappropriate disclosure of confidential information, it could cause significant damage to our reputation, affect our relationships with our customers, suppliers and employees, and lead to claims against the company and ultimately harm our business. Additionally, we may be required to incur significant costs to protect against damage caused by these disruptions or security breaches in the future.

Ineffective internal controls could impact our business and financial results.
 
Our internal control over financial reporting may not prevent or detect misstatements because of inherent limitations, including the possibility of human error, the circumvention or overriding of controls, or fraud. Even effective internal controls can provide only reasonable assurance with respect to the preparation and fair presentation of financial statements. If we fail to maintain the adequacy of our internal controls, including any failure to implement required new or improved controls, or if we experience difficulties in our implementation, our business and financial results could be harmed and we could fail to meet our financial reporting obligations. For example, in connection with management’s evaluation of the effectiveness of our internal control over financial reporting as of September 30, 2016, management determined that we did not maintain effective controls over the design and operating effectiveness of our controls over the assessment of uncertain tax positions and our deferred tax asset valuation allowance. Management determined that these ineffective controls over income tax accounting constituted material weaknesses. See Item 9A, Controls and Procedures, for a discussion of our internal control over financial reporting, including a discussion of the material weaknesses. If the new controls being implemented to address the material weaknesses and to strengthen the overall internal control over accounting for income taxes are not designed or do not operate effectively, if we are unsuccessful in implementing or following these new processes or are otherwise unable to remediate these material weaknesses, this may result in untimely or inaccurate reporting of our financial condition or results of operations.

Item 1B. Unresolved Staff Comments.
 
None.
 
Item 2. Properties.
 
At September 30, 2016, our operating segments, including all consolidated joint ventures, had the following facilities in the United States, Europe, South America, Canada, Mexico and the Asia-Pacific region. For purposes of these numbers, multiple facilities in one geographic location are counted as one facility.
 
 
Manufacturing and Distribution Facilities
 
Engineering Facilities, Sales
Offices, Warehouses and
Service Centers
Commercial Truck & Industrial
18
 
15
Aftermarket & Trailer
6
 
8
Other
 
5
Total
24
 
28
These facilities had an aggregate floor space of approximately 9.1 million square feet, substantially all of which is in use. We owned approximately 64 percent and leased approximately 36 percent of this floor space. Substantially all of our owned domestic plants and equipment are subject to liens securing our obligations under our revolving credit facility with a group of banks (see Note 16 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data). In the

23



opinion of management, our properties have been well maintained, are in sound operating condition and contain all equipment and facilities necessary to operate at present levels.
 
A summary of floor space (in square feet) of these facilities at September 30, 2016, (including new space under construction) is as follows:
 
 
 
Owned Facilities
 
Leased Facilities
 
 
Location
 
Commercial Truck & Industrial
 
Aftermarket
& Trailer
 
Other
 
Commercial Truck & Industrial
 
Aftermarket
& Trailer
 
Other
 
Total
United States
 
2,029,291

 
769,037

 
417,800

 
401,539

 
526,226

 

 
4,143,893

Canada
 

 

 

 

 
65,272

 

 
65,272

Europe
 
1,870,150

 
68,326

 

 
528,076

 
67,087

 
13,308

 
2,546,947

Asia-Pacific
 
173,155

 

 

 
998,641

 
87,335

 

 
1,259,131

Latin America
 
494,913

 

 

 
571,743

 

 

 
1,066,656

Total
 
4,567,509

 
837,363

 
417,800

 
2,499,999

 
745,920

 
13,308

 
9,081,899


Item 3. Legal Proceedings.
 
See Note 20 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data for information with respect to three class action lawsuits filed against the company as a result of modifications made to our retiree medical benefits.
See Note 23 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data for information with respect to asbestos-related and product liability litigation.
See Item 1. Business, “Environmental Matters” and Note 23 of the Notes to Consolidated Financial Statements under Item 8. Financial Statements and Supplementary Data for information relating to environmental proceedings.
On July 10, 2014, Sistemas Automotrices de Mexico, S.A. de C.V. (“Sisamex”), a Mexican joint venture between our subsidiary Meritor Heavy Vehicle Systems, LLC (“Meritor HVS”) and Quimmco, S.A. de C.V. ("Quimmco"), filed a lawsuit against Meritor HVS in the Northern District of Illinois, seeking, among other relief, a declaration of Sisamex’s exclusive right to manufacture certain products and the components thereof for sale in Mexico. On July 13, 2014, Meritor HVS filed a lawsuit against Sisamex and Quimmco in the Northern District of Illinois, seeking, among other relief, a declaration that Sisamex may not manufacture without Meritor HVS's consent the components at issue in Sisamex's lawsuit and that Sisamex must instead purchase those components from Meritor HVS. On July 23, 2014, the parties to the two actions filed a joint motion seeking an order that the two actions are related and that both actions be heard before the same judge. The motion was granted. Shortly after the cases were filed, both parties filed cross motions to dismiss the other party’s complaint. The Court heard oral arguments on the motions on November 24, 2014 and on January 28, 2015 denied both parties' motions. Discovery was completed in February 2016.  Sisamex then filed a motion for summary judgment on July 15, 2016, and the court heard the motion on October 14, 2016. We expect that the court will rule upon the motion within 90 days of the hearing date. If the motion for summary judgment is not granted by the Court, trial is currently expected to take place sometime during 2017.
In March 2016, we were served with a complaint filed against our company and other defendants in the United States District Court for the Eastern District of Michigan. The complaint is a proposed class action and alleges that we violated federal and state antitrust and other laws in connection with a former business of ours that manufactured and sold exhaust systems for automobiles. The alleged class is comprised of persons and entities that purchased or leased a passenger vehicle during a specified time period. In April 2016, we were served with a virtually identical suit also naming the company as a defendant on behalf of a purported class of automobile dealers. In September 2016, we filed a motion to dismiss. We intend to defend ourselves vigorously against these claims. We believe at this time that liabilities associated with this case, while possible, are not probable, and therefore we have not recorded any accrual for them as of September 30, 2016. Further, any possible range of loss cannot be reasonably estimated at this time.
In April 2016, we were served with several complaints filed against our company and other defendants in the United States District Court for the Northern District of Mississippi. The complaints were amended in July 2016. These complaints allege damages, including diminution of property value, concealment/fraud and emotional distress resulting from alleged environmental pollution in and around a neighborhood in Grenada, Mississippi. Rockwell owned and operated a facility near the neighborhood from 1965 to 1985. We filed answers to the complaints in July 2016 and intend to defend ourselves

24



vigorously against these claims. We believe at this time that liabilities associated with this case, while possible, are not probable, and therefore we have not recorded any accrual for them as of September 30, 2016. Further, any possible range of loss cannot be reasonably estimated at this time.
Various other lawsuits, claims and proceedings have been or may be instituted or asserted against Meritor or our subsidiaries relating to the conduct of our business, including those pertaining to product liability, tax, warranty or recall claims, intellectual property, safety and health, contract and employment matters. Although the outcome of litigation cannot be predicted with certainty and some lawsuits, claims or proceedings may be disposed of unfavorably to Meritor, management believes, after consulting with Meritor's General Counsel, that the disposition of matters that are pending will not have a material effect on our business, financial condition or results of operations.

Item 4. Mine Safety Disclosures.

Not applicable.

Item 4A. Executive Officers of the Registrant.
 
The name, age, positions and offices held with Meritor and principal occupations and employment during the past five years of each of our executive officers as of December 1, 2016, are as follows:
 
Jeffrey A. Craig, 56 - Chief Executive Officer and President since April 2015 and President and Chief Operating Officer from June 2014 until April 2015. Mr. Craig has served as a director of Meritor since April 2015. Senior Vice President and President, Commercial Truck and Industrial from February 2013 until May 2014. Senior Vice President and Chief Financial Officer from May 2008 until January 2013. Acting Controller from May 2008 to January 2009. Senior Vice President and Controller from May 2007 until May 2008. Vice President and Controller from May 2006 until April 2007. Prior to joining Meritor, he was President and Chief Executive Officer of GMAC Commercial Finance (commercial lending service) from 2001 to May 2006 and President and Chief Executive Officer of GMAC’s Business Credit division from 1999 to 2001. He joined GMAC as general auditor in 1997 from Deloitte & Touche, where he served as an audit partner.

Kevin Nowlan, 44 - Senior Vice President and Chief Financial Officer since May 2013. Vice President and Chief Financial Officer from February 2013 until April 2013. Vice President and Controller from December 2010 until February 2013 and Vice President and Treasurer from July 2009 until his appointment as Vice President and Controller. From July 2008 until July 2009, served as Vice President and Assistant Treasurer of Meritor and from March 2007 until July 2008 served as Vice President of Shared Services. Prior to joining Meritor, Mr. Nowlan worked in various roles at GMAC and General Motors Corporation from 1995 through March 2007.

April Miller Boise, 48 - Senior Vice President, General Counsel and Corporate Secretary since August 2016. Prior to joining Meritor, Ms. Boise was Senior Vice President, General Counsel, Head of Global Mergers and Acquisitions and Corporate Secretary at Avintiv, Inc. (formerly known as The Polymer Group). From 2011 until 2015, she was Vice President, General Counsel, Corporate Secretary and Chief Privacy Officer at Veyance Technologies, Inc. (formerly known as Goodyear Engineered Products). From 1999 to 2010, Ms. Boise was an attorney with Thompson Hine LLP, where she held positions of increasing responsibility, including Managing Partner, Cleveland Office, Executive Committee Member and Hiring Partner 2009-2010; Chair, Private Equity Group, 2007-2010; Co-Founder and Chair, Women’s Initiative, 2006-2009; and Partner, Corporate Transactions and Securities, 2002-2010.

Timothy Heffron, 52 - Vice President, Human Resources and Chief Information Officer since August 2013. Vice President, Chief Information Officer and Shared Services from July 2011 until August 2013. Vice President of Shared Services from June 2008 until July 2011. Prior to joining Meritor, Mr. Heffron was Executive Vice President and Chief Information Officer of GMAC Commercial Finance from January 2002 until June 2008, Director of Reengineering for GMAC from December 1999 until December 2001, Director of Global Information Technology Audit for General Motors Corporation from June 1999 until November 1999. Assistant General Auditor for GMAC from March 1998 until May 1999. Prior to that, Mr. Heffron spent nine years in public accounting, most recently as an audit senior manager with Ernst & Young.

Chris Villavarayan, 46 - President, Americas since February 2014. Vice President of Global Manufacturing and Supply Chain Management from June 2012 until February 2014. Managing Director of Meritor India and CEO of MHVSIL and Automotive Axles Ltd. (joint venture between Meritor and Kalyani Group of India) from December 2009 until June 2012. General Manager of European Operations and Worldwide Manufacturing Planning and Strategy from June 2007 until December 2009. Director of Manufacturing Performance Plus from November 2006 until June 2007. Regional Manager of Continuous Improvement from

25



July 2005 until November 2006. Industrialization Project Manager from September 2001 until July 2005. Site Manager of Meritor St. Thomas, Ontario facility from June 2000 until September 2001.

Joseph Plomin, 54 - President, International since January 2014. Vice President of International from July 2013 until January 2014. Vice President of Global Brakes from May 2012 until July 2013. Vice President of Truck North America and South America from July 2011 until May 2012. Vice President of Commercial Vehicle Systems Truck from September 2007 until July 2011. Prior to joining Meritor, Mr. Plomin held a variety of executive positions at Delco Remy International, including Senior Vice President of Sales/Marketing/Product Line Management from October 2006 until September 2007; President of Electrical Aftermarket from February 2006 until October 2006; General Manager/Senior Vice President of Heavy Duty/Industrial Division from June 2001 until February 2006; and Senior Vice President of Sales and Marketing, Electrical Division from September 1998 until December 2000.

Robert Speed, 45 - President, Aftermarket & Trailer and Chief Procurement Officer since April 2015. Vice President and Chief Procurement Officer from February 2014 until April 2015. Vice President of Procurement from March 2013 until February 2014. Vice President of Purchasing from January 2012 until March 2013. Managing Director of Meritor’s Australia operations from July 2010 until January 2012. Senior Director of Finance, Truck Americas, from February 2009 until July 2010. Senior Director of Finance, Truck Group, from July 2008 until February 2009. Director of Finance for Truck and Procurement from January 2008 until July 2008. Director of Financial Planning and Analysis from March 2006 until January 2008. Prior to joining Meritor, Mr. Speed was Manager of Capital Markets at NOP Automotive Worldwide from February 2005 until March 2006. Director of Finance & Administration at NOP Automotive Worldwide from September 2000 until June 2003. Manager of Finance at NOP Automotive Worldwide from February 2000 until August 2000. M&A Arbitrage Trader at Peter Securities, LLC from July 1998 until February 2000. Senior Equity Trader at First of America Bank from May 1997 until July 1998.

There are no family relationships, as defined in Item 401 of Regulation S-K, between any of the above executive officers and any director, executive officer or person nominated to become a director or executive officer. No officer of Meritor was selected pursuant to any arrangement or understanding between him or her and any person other than Meritor. All executive officers are elected annually.


26



PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
Meritor's common stock, par value $1 per share (“Common Stock”), is listed on the New York Stock Exchange (“NYSE”) and trades under the symbol "MTOR." On November 30, 2016, there were 15,041 shareholders of record of Meritor's Common Stock.
 
The high and low sale prices per share of Meritor Common Stock for each quarter of fiscal years 2016 and 2015 were as follows:
 
 
 
Fiscal Year 2016
 
Fiscal Year 2015
Quarter Ended
 
High
 
Low
 
High
 
Low
December 31
 
$
11.85

 
$
7.57

 
$
14.99

 
$
9.73

March 31
 
8.30

 
6.11

 
15.46

 
12.04

June 30
 
8.95

 
6.44

 
14.42

 
12.25

September 30
 
11.29

 
6.92

 
14.22

 
10.98


There were no dividends declared and paid in fiscal year 2016 or in fiscal year 2015. Our payment of cash dividends and the amount of the dividend are subject to review and change at the discretion of our Board of Directors.

Our revolving credit facility permits us to declare and pay up to $40 million of dividends in any fiscal year provided that no default or unmatured default, as defined in the agreement, has occurred and is continuing at the date of declaration or payment. 

Additionally, our indentures permit us to pay dividends under the following primary conditions:

if a default on the notes, as defined in the indentures, has not occurred and is not continuing or shall not occur as a consequence of the payment;
if the interest coverage ratio, as defined in the indentures, is greater than 2.00 to 1.00 after giving effect to the dividend;
if the cumulative amount of the dividends paid does not exceed certain cumulative cash and earnings measurements;

if the dividends are less than $60 million per fiscal year (with a carryover to the next fiscal year of up to $60 million if unused in the current fiscal year); and
if after giving effect to the dividend, the total leverage ratio, as defined in the indenture, would not exceed 4.00 to 1.00.

See Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters for information on securities authorized for issuance under equity compensation plans.
 
Issuer repurchases

 The table below sets forth information with respect to purchases made by or on behalf of us of shares of our common stock during the three months ended September 30, 2016:
Period
Total Number of Shares Purchased
Average Price Paid Per Share
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
Maximum Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (1)
July 1- 31, 2016
58,275

$
6.87

58,275

$

August 1- 31, 2016

 


 

September 1 30, 2016

 


 

Total
58,275

 
 
58,275

 
 

27




(1)
On June 23, 2014, we announced that our Board of Directors authorized the repurchase of up to $210 million of our equity and equity-linked securities (including convertible debt securities), subject to the achievement of our M2016 net debt reduction target and compliance with legal and regulatory requirements and our debt covenants. In September 2014, our Board authorized the repurchase of up to $40 million of our equity or equity-linked securities (including convertible debt securities) under the $210 million authorization that may be made annually without regard to achievement of the M2016 net debt reduction target. These authorizations had no stated expiration. During fiscal year 2016, we repurchased 8.7 million shares of common stock for $81 million (including commission costs) and all of our $55 million outstanding principal amount 4.625 percent convertible notes at 100 percent face value of the notes. In the aggregate under this authorization, we repurchased 12.8 million shares of our common stock for $136 million (including commission costs), $19 million principal amount of our 4.0 percent convertible notes due 2027, and all of our $55 million outstanding principal amount 4.625 percent convertible notes at 100 percent of the face value of the notes (see Note 18 of the Notes to Consolidated Financial Statements). The repurchase program under the $210 million authorization was complete as of September 30, 2016.

The independent trustee of our 401(k) plans purchases shares in the open market to fund investments by employees in our common stock, one of the investment options available under such plans, and any matching contributions in company stock we provide under certain of such plans. In addition, our stock incentive plans permit payment of an option exercise price by means of cashless exercise through a broker and permit the satisfaction of the minimum statutory tax obligations upon exercise of options and the vesting of restricted stock units through stock withholding. However, the company does not believe such purchases or transactions are issuer repurchases for the purposes of this Item 5 of this Report on Form 10-K. In addition, our stock incentive plans also permit the satisfaction of tax obligations upon the vesting of restricted stock through stock withholding. There were no shares withheld in fiscal year 2016.
 

28



Shareholder Return Performance Presentation
 
The line graph below compares the cumulative total shareholder return of the S&P 500, Meritor, Inc. and the peer group of companies for the period from September 30, 2011 to September 30, 2016, assuming a fixed investment of $100 at the respective closing prices on the last day of each fiscal year and reinvestment of cash dividends.

item5chart.jpg 
 
 
 
9/11
 
9/12
 
9/13
 
9/14
 
9/15
 
9/16
Meritor, Inc.
 
100.00

 
60.06

 
111.33

 
153.68

 
150.57

 
157.65

S&P 500
 
100.00

 
130.20

 
155.39

 
186.05

 
184.91

 
213.44

Peer Group(1)
 
100.00

 
117.27

 
176.68

 
178.67

 
159.10

 
187.07


(1) 
The peer group consists of representative commercial vehicle suppliers of approximately comparable products to Meritor. The peer group consists of Accuride Corporation, Commercial Vehicle Group, Inc., Cummins Inc., Dana Holding Corporation, Haldex AB, Modine Manufacturing Company, SAF-Holland SA, Stoneridge, Inc., and Wabco Holdings Inc.
 
The information included under the heading “Shareholder Return Performance Presentation” is not to be treated as “soliciting material” or as “filed” with the SEC, and is not incorporated by reference into any filing by the company under the Securities Act of 1933 or the Securities Exchange Act of 1934 that is made on, before or after the date of filing of this Annual Report on Form 10-K.


29



Item 6. Selected Financial Data.
 
The following sets forth selected consolidated financial data. The data should be read in conjunction with the information included under Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations and Item 8. Financial Statements and Supplementary Data below. Fiscal years 2013 and 2012 have been recast to reflect our Mascot business as discontinued operations.
 
 
Year Ended September 30,
 
2016
 
2015
 
2014
 
2013
 
2012
 
(in millions, except per share amounts)
SUMMARY OF OPERATIONS
 
 
 
 
 

 
 
 
 
Sales
 
 
 
 
 

 
 
 
 
Commercial Truck & Industrial
$
2,445

 
$
2,739

 
$
2,980

 
$
2,920

 
$
3,613

Aftermarket & Trailer
860

 
884

 
920

 
871

 
906

Intersegment Sales
(106
)
 
(118
)
 
(134
)
 
(119
)
 
(135
)
Total Sales
$
3,199

 
$
3,505

 
$
3,766

 
$
3,672

 
$
4,384

 
 
 
 
 
 
 
 
 
 
Operating Income
$
204

 
$
128

 
$
217

 
$
7

 
$
173

Income Before Income Taxes
155

 
67

 
315

 
51

 
137

Net Income Attributable to Noncontrolling Interests
(2
)
 
(1
)
 
(5
)
 
(2
)
 
(11
)
Net Income (Loss) Attributable to Meritor, Inc.:
 
 
 
 
 

 
 
 
 
Income (Loss) from Continuing Operations
$
577

 
$
65

 
$
279

 
$
(15
)
 
$
69

Loss from Discontinued Operations
(4
)
 
(1
)
 
(30
)
 
(7
)
 
(17
)
Net Income (Loss)
$
573

 
$
64

 
$
249

 
$
(22
)
 
$
52

 
 
 
 
 
 
 
 
 
 
BASIC EARNINGS (LOSS) PER SHARE
 
 
 
 
 

 
 
 
 
Continuing Operations
$
6.40

 
$
0.67

 
$
2.86

 
$
(0.15
)
 
$
0.72

Discontinued Operations
(0.04
)
 
(0.01
)
 
(0.31
)
 
(0.07
)
 
(0.18
)
Basic Earnings (Loss) per Share
$
6.36

 
$
0.66

 
$
2.55

 
$
(0.22
)
 
$
0.54

 
 
 
 
 
 
 
 
 
 
DILUTED EARNINGS (LOSS) PER SHARE
 
 
 
 
 

 
 
 
 
Continuing Operations
$
6.27

 
$
0.65

 
$
2.81

 
$
(0.15
)
 
$
0.71

Discontinued Operations
(0.04
)
 
(0.01
)
 
(0.30
)
 
(0.07
)
 
(0.17
)
Diluted Earnings (Loss) per Share
$
6.23

 
$
0.64

 
$
2.51

 
$
(0.22
)
 
$
0.54

 
 
 
 
 
 
 
 
 
 
FINANCIAL POSITION AT SEPTEMBER 30
 
 
 
 
 

 
 
 
 
Total Assets (1)
$
2,494

 
$
2,195

 
$
2,485

 
$
2,552

 
$
2,489

Short-term Debt
14

 
15

 
7

 
13

 
18

Long-term Debt (1)
982

 
1,036

 
948

 
1,107

 
1,030

(1) 
Fiscal years 2014, 2013 and 2012 have been recast to reflect the early adoption of ASU 2015-03, Interest — Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs.





30



Income (loss) from continuing operations attributable to Meritor, Inc. in the selected financial data information presented above includes the following items specific to the period of occurrence (in millions):
 
 
Year Ended September 30,
 
2016
 
2015
 
2014
 
2013
 
2012
Pretax items:
 
 
 
 
 
 
 
 
 
Restructuring costs
$
(16
)
 
$
(16
)
 
$
(10
)
 
$
(23
)
 
$
(39
)
Goodwill and asset impairment charges

 
(17
)
 

 

 

Impact of pension settlement losses and curtailment gain

 
(59
)
 
15

 
(109
)
 

Antitrust settlement with Eaton (including recovery of past legal fees)

 

 
209

 

 

Gain on sale of equity investment

 

 

 
125

 

Specific warranty contingency, net of supplier recovery

 

 
8

 
(7
)
 

Loss on debt extinguishment

 
(25
)
 
(31
)
 
(19
)
 

Gain on sale of property

 

 

 

 
16

Asbestos-related liability remeasurement
(4
)
 
(1
)
 
(20
)
 
(7
)
 
(18
)
Asbestos-related insurance settlements, net
30

 

 

 

 

Supplier litigation settlement
6

 

 

 

 

Non-operating gains, net

 
5

 

 
3

 
7

After tax items:
 
 
 
 
 
 
 
 
 
Tax valuation allowance reversal, net and other (1)
454

 
16

 

 

 

(1) 
The fiscal year ended September 30, 2016 includes non-cash income tax benefit (expense) of $438 million related to the partial reversal of the U.S. valuation allowance, ($9) million related to the establishment of a valuation allowance in Brazil and $25 million related to other correlated tax relief. The fiscal year ended September 30, 2015 includes non-cash income tax benefit of $16 million related to the reversal of valuation allowances in Germany, Italy, Mexico and Sweden.

Loss from discontinued operations attributable to Meritor, Inc. in the selected financial data information presented above includes the following items specific to the period of occurrence (in millions):
 
 
Year Ended September 30,
 
2016
 
2015
 
2014
 
2013
 
2012
Pretax items:
 
 
 
 
 
 
 
 
 
        Gain (loss) on divestitures of businesses, net
$

 
$

 
$
(23
)
 
$

 
$
(1
)
        Restructuring costs

 

 

 
(3
)
 
(1
)
        Litigation settlement
(3
)
 

 

 

 

Charge for contingency and indemnity obligation

 

 

 

 
(10
)


31



Item 7. Management’s Discussion and Analysis of Financial Conditions and Results of Operations.
 
Overview
 
Headquartered in Troy, Michigan, we are a premier global supplier of a broad range of integrated systems, modules and components to OEMs and the aftermarket for the commercial vehicle, transportation and industrial sectors. We serve commercial truck, trailer, military, bus and coach, construction, and other industrial OEMs and certain aftermarkets. Meritor common stock is traded on the New York Stock Exchange under the ticker symbol MTOR.

Our sales for fiscal year 2016 were $3,199 million, a decrease compared to $3,505 million in the prior year. The decrease was driven by lower production in the North America Class 8 truck market and South America and the effect of foreign exchange translation particularly in Brazil and Europe, partially offset by new business wins and increasing market volumes in India.
 
Net income attributable to Meritor for fiscal year 2016 and 2015 was $573 million and $64 million, respectively. The increase in net income attributable to Meritor was primarily driven by (i) a reversal of a portion of our valuation allowance in the U.S. resulting in a non-cash income tax benefit of $438 million in the current year; (ii) a $25 million income tax benefit related to other correlated tax relief; (iii) a $55 million pension settlement loss, net of tax in the prior year and (iv) a $24 million loss on debt extinguishment recognized in the prior year.

Adjusted EBITDA (see Non-GAAP Financial Measures below) for fiscal year 2016 was $327 million compared to $334 million in fiscal year 2015. Our Adjusted EBITDA margin (see Non-GAAP Financial Measures below) in fiscal year 2016 was 10.2 percent compared to 9.5 percent in the same period a year ago. Despite lower revenue, Adjusted EBITDA margin increased as a result of (i) strong material, labor and burden performance, which continued to lower product costs year over year; (ii) lower year-over-year steel indices, which also reduced material costs; and (iii) insurance settlements and favorable insurance recoveries related to legacy asbestos liabilities (see Note 23 of the Notes to the Condensed Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data). These more than offset the impact of lower Class 8 production volumes in North America and unfavorable foreign currency impacts on our EBITDA margin.

Net income from continuing operations attributable to the company for fiscal years 2016 and 2015 was $577 million and $65 million, respectively. Adjusted income from continuing operations attributable to the company for fiscal years 2016 and 2015 was $151 million and $159 million, respectively. See Non-GAAP Financial Measures below.

Cash flows provided by operating activities were $204 million in fiscal year 2016 compared to cash flows provided by operating activities of $97 million in the prior fiscal year. The increase is due in part to $52 million received related to insurance settlements for recoveries for defense and indemnity costs associated with asbestos liabilities in fiscal year 2016 (see Note 23 of the Notes to the Condensed Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data), as well as $94 million used in fiscal year 2015 to fund a voluntary buyout of our German and Canadian pension plan obligations.

Valuation Allowance (VA)

In prior years, we established valuation allowances against our U.S. net deferred tax assets and the net deferred tax assets of our 100-percent-owned subsidiaries, including those in France, U.K. and certain other countries.

During the fourth quarter of fiscal year 2016, as a result of sustained profitability in the U.S., evidenced by a recent strong earnings history, future forecasted earnings, and additional positive evidence, we determined it was more likely than not that we will be able to realize a portion of our deferred tax assets. Accordingly, we reversed a portion of the valuation allowance in the U.S. resulting in a non-cash income tax benefit of $438 million.

During the fourth quarter of fiscal year 2016, due to a three-year cumulative loss and future economic uncertainty, we concluded that a valuation allowance was required in Brazil. This resulted in a non-cash charge to income tax expense of $9 million.

We continue to maintain valuation allowances in France, U.K. and certain other jurisdictions, as we believe the negative evidence that we will be able to recover these net deferred tax assets continues to outweigh the positive evidence. If, in the future, we generate taxable income on a sustained basis in jurisdictions where we have recorded valuation allowances, our conclusion regarding the need for valuation allowances in these jurisdictions could change.

Repurchase Authorizations

32




In June 2014, our Board of Directors authorized the repurchase of up to $210 million of our equity and equity-linked securities (including convertible debt securities), subject to the achievement of our M2016 net debt reduction target and compliance with legal and regulatory requirements and our debt covenants. During fiscal year 2016, we repurchased 8.7 million shares of common stock for $81 million (including commission costs) and all of our $55 million outstanding principal amount 4.625 percent convertible notes at 100 percent face value of the notes. In the aggregate under this authorization, we repurchased 12.8 million shares of our common stock for $136 million (including commission costs), $19 million principal amount of our 4.0 percent convertible notes due 2027, and all of our $55 million outstanding principal amount 4.625 percent convertible notes at 100 percent of the face value of the notes (see Note 18 of the Notes to Consolidated Financial Statements). The repurchase program under the $210 million authorization was complete as of September 30, 2016.

On July 21, 2016, our Board of Directors authorized the repurchase of up to $100 million of our common stock and up to $150 million aggregate principal amount of any of our debt securities (including convertible debt securities), in each case from time to time through open market purchases, privately negotiated transactions or otherwise, until September 30, 2019, subject to compliance with legal and regulatory requirements and our debt covenants. The amounts remaining available for repurchases under these authorizations were $100 million of our common stock and $150 million of our public debt securities, in each case as of November 30, 2016.

Trends and Uncertainties

 Industry Production Volumes

 The following table reflects estimated on-highway commercial truck production volumes for selected original equipment (OE) markets based on available sources and management's estimates.
 
 
Year Ended September 30,
 
2016
 
2015
 
2014
 
2013
 
2012
Estimated Commercial Truck production (in thousands):
 
 
 
 
 
 
 
 
 
North America, Heavy-Duty Trucks
253


328


281


243


295

North America, Medium-Duty Trucks
240


235


220


198


181

North America, Trailers
293

 
303

 
254

 
235

 
229

Western Europe, Heavy- and Medium-Duty Trucks
440


402


395


414


394

South America, Heavy- and Medium-Duty Trucks
61


89


156


187


174

India, Heavy- and Medium-Duty Trucks
326

 
287

 
216

 
208

 
315

North America:
During fiscal year 2016, production volumes in North America decreased compared to the levels experienced in fiscal year 2015, which we believe is primarily due to excess Class 8 inventory. We believe we are in the midst of an inventory correction that will persist through at least the first half of fiscal 2017. As a result, we expect fiscal year 2017 production volumes in North America to decline further from the levels experienced in fiscal year 2016 with the first quarter having the lowest level of Class 8 production for the year.
Western Europe:
During fiscal year 2016, production volumes in Western Europe increased slightly compared to the levels experienced in fiscal year 2015. We expect fiscal year 2017 production volumes to remain relatively consistent with the levels experienced in fiscal year 2016.
South America:
During fiscal year 2016, production volumes in South America significantly decreased on a year-over-year basis as a result of the difficult economic climate in Brazil. For the first half of fiscal year 2017, we expect South America production volumes to remain relatively consistent with the depressed levels experienced in fiscal year 2016 but to increase slightly in the second half of fiscal year 2017.
China:

33



During fiscal year 2016, production volumes in China remained relatively consistent with levels experienced in fiscal year 2015. We expect fiscal year 2017 production volumes in China to remain relatively consistent with the levels experienced in fiscal year 2016.
India:
During fiscal year 2016, production volumes in India increased due to an improving economic climate compared to the levels experienced in fiscal year 2015. We expect fiscal year 2017 production volumes in India to increase slightly from the levels experienced in fiscal year 2016.
Industry-Wide Issues
Our business continues to address a number of other challenging industry-wide issues including the following:
Uncertainty around the global market outlook;
Volatility in price and availability of steel, components and other commodities;
Disruptions in the financial markets and their impact on the availability and cost of credit;
Volatile energy and transportation costs;
Impact of currency exchange rate volatility;
Consolidation and globalization of OEMs and their suppliers; and
Significant pension and retiree medical health care costs.
Other
Other significant factors that could affect our results and liquidity include:
Significant contract awards or losses of existing contracts or failure to negotiate acceptable terms in contract renewals;
Ability to successfully launch a significant number of new products, including potential product quality issues, and obtain new business;
Ability to manage possible adverse effects on our European operations, or financing arrangements related thereto, following the United Kingdom's decision to exit the European Union, or in the event one or more other countries exit the European monetary union;
Ability to further implement planned productivity, cost reduction, and other margin improvement initiatives;
Ability to successfully execute strategic initiatives;
Ability to work with our customers to manage rapidly changing production volumes;
Ability to recover, and timing of recovery of, steel price and other cost increases from our customers;
Any unplanned extended shutdowns or production interruptions by us, our customers or our suppliers;
A significant deterioration or slowdown in economic activity in the key markets in which we operate;
Competitively driven price reductions to our customers;
Potential price increases from our suppliers;
Additional restructuring actions and the timing and recognition of restructuring charges, including any actions associated with the prolonged softness in markets in which we operate;
Higher-than-planned warranty expenses, including the outcome of known or potential recall campaigns;
Uncertainties of asbestos claim and other litigation, including the outcome of litigation with insurance companies regarding scope of asbestos coverage, and the long-term solvency of our insurance carriers; and
Restrictive government actions (such as restrictions on transfer of funds and trade protection measures, including export duties, quotas and customs duties and tariffs).

34




NON-GAAP FINANCIAL MEASURES
In addition to the results reported in accordance with accounting principles generally accepted in the United States ("GAAP"), we have provided information regarding non-GAAP financial measures. These non-GAAP financial measures include Adjusted income (loss) from continuing operations attributable to the company, Adjusted diluted earnings (loss) per share from continuing operations, Adjusted EBITDA, Adjusted EBITDA margin, Free cash flow, Net debt including retirement liabilities, and Net Debt.
     Adjusted income (loss) from continuing operations attributable to the company and Adjusted diluted earnings (loss) per share from continuing operations are defined as reported income (loss) from continuing operations and reported diluted earnings (loss) per share from continuing operations before restructuring expenses, asset impairment charges, non-cash tax expense related to the use of deferred tax assets in jurisdictions with net operating loss carry forwards, and other special items as determined by management. Non cash tax expense was added as an adjustment in fiscal year 2016. Adjusted EBITDA is defined as income (loss) from continuing operations before interest, income taxes, depreciation and amortization, non-controlling interests in consolidated joint ventures, loss on sale of receivables, restructuring expenses, asset impairment charges and other special items as determined by management. Adjusted EBITDA margin is defined as Adjusted EBITDA divided by consolidated sales from continuing operations. Free cash flow is defined as cash flows provided by (used for) operating activities less capital expenditures. Net debt including retirement liabilities is defined as total debt plus pension assets, pension liability, retiree medical liability and other retirement benefits less cash and cash equivalents. Net Debt is defined as total debt less cash and cash equivalents.
     Management believes these non-GAAP financial measures are useful to both management and investors in their analysis of the company's financial position and results of operations. In particular, management believes that Adjusted EBITDA, Adjusted EBITDA margin and Adjusted diluted earnings (loss) per share from continuing operations are meaningful measures of performance as they are commonly utilized by management and the investment community to analyze operating performance in our industry. Further, management uses these non-GAAP financial measures for planning and forecasting future periods. Management believes that Free cash flow is useful in analyzing our ability to service and repay debt and return value directly to shareholders. Net debt, including retirement liabilities, is a specific financial measure which was part of our three-year plan, M2016, to reduce debt and other balance sheet liabilities. Net Debt over Adjusted EBITDA is a specific financial measure in our M2019 plan.
     Adjusted income (loss) from continuing operations attributable to the company, Adjusted diluted earnings (loss) per share from continuing operations and Adjusted EBITDA should not be considered a substitute for the reported results prepared in accordance with GAAP and should not be considered as an alternative to net income as an indicator of our operating performance. Free cash flow should not be considered a substitute for cash provided by (used for) operating activities, or other cash flow statement data prepared in accordance with GAAP, or as a measure of financial position or liquidity. In addition, these non-GAAP cash flow measures do not reflect cash used to repay debt or cash received from the divestitures of businesses or sales of other assets and thus do not reflect funds available for investment or other discretionary uses. These non-GAAP financial measures, as determined and presented by the company, may not be comparable to related or similarly titled measures reported by other companies. Net debt should not be considered a substitute for total debt as reported on the balance sheet. Set forth below are reconciliations of these non-GAAP financial measures to the most directly comparable financial measures calculated in accordance with GAAP.

35



Adjusted income from continuing operations attributable to the company and adjusted diluted earnings per share from continuing operations are reconciled to income from continuing operations attributable to the company and diluted earnings per share from continuing operations below (in millions, except per share amounts).
 
Year Ended September 30,
 
2016
 
2015 (2)
 
2014 (2)
Adjusted income from continuing operations attributable to the company
$
151

 
$
159

 
$
105

Antitrust settlement with Eaton (1)

 

 
210

Restructuring costs
(16
)
 
(16
)
 
(10
)
Reduction of specific warranty contingency, net of supplier recovery

 

 
8

Pension settlement losses

 
(59
)
 

Loss on debt extinguishment

 
(24
)
 
(31
)
Goodwill and asset impairment charges

 
(17
)
 

Non-cash tax expense (3)
(13
)
 
(4
)
 
(4
)
       Tax valuation allowance reversal, net and other (4)
454

 
16

 

       Income tax benefits
1

 
10

 
1

Income from continuing operations attributable to the company
$
577


$
65

 
$
279

 
 
 
 
 
 
Adjusted diluted earnings per share from continuing operations
$
1.64

 
$
1.59

 
$
1.06

Impact of adjustments on diluted earnings per share
4.63

 
(0.94
)
 
1.75

Diluted earnings per share from continuing operations
$
6.27

 
$
0.65

 
$
2.81


(1) Adjustment associated with our share of the antitrust settlement with Eaton less legal expenses incurred in fiscal year 2014.
(2) The fiscal years ended September 30, 2015 and 2014 have been recast to reflect non-cash tax expense.
(3) Represents tax expense related to the use of deferred tax assets in jurisdictions with net operating loss carry forwards.
(4) Includes non-cash income tax benefit (expense) of $438 million related to the partial reversal of the U.S. valuation allowance ($9) million related to the establishment of a valuation allowance in Brazil and $25 million related to other correlated tax relief.

Free cash flow is reconciled to cash flows provided by operating activities below (in millions).
 
Year Ended September 30,
 
2016
 
2015
 
2014
Cash provided by operating activities
$
204

 
$
97

 
$
215

Capital expenditures
(93
)
 
(79
)
 
(77
)
Free cash flow
$
111

 
$
18

 
$
138


Adjusted EBITDA is reconciled to net income attributable to Meritor, Inc. below (in millions).


36



 
Year Ended September 30,
 
2016
 
2015
 
2014
Net income attributable to Meritor, Inc.
$
573

 
$
64

 
$
249

Loss from discontinued operations, net of tax, attributable to Meritor, Inc.
4

 
1

 
30

Income from continuing operations, net of tax, attributable to Meritor, Inc.
$
577

 
$
65

 
$
279

 
 
 
 
 
 
Interest expense, net
84

 
105

 
130

Provision (benefit) for income taxes
(424
)
 
1

 
31

Depreciation and amortization
67

 
65

 
67

Restructuring costs
16

 
16

 
10

Loss on sale of receivables
5

 
5

 
8

Pension settlement losses

 
59

 

Antitrust settlement with Eaton, net of tax (1)

 

 
(208
)
Reduction of specific warranty contingency, net of supplier recovery

 

 
(8
)
Goodwill and asset impairment charges

 
17

 

Noncontrolling interests
2

 
1

 
5

Adjusted EBITDA
$
327

 
$
334

 
$
314

 
 
 
 
 
 
Adjusted EBITDA Margin (2)
10.2
%
 
9.5
%
 
8.3
%

(1)Adjustment associated with our share of the antitrust settlement with Eaton less legal expenses incurred in fiscal year 2014.
(2)Adjusted EBITDA Margin equals Adjusted EBITDA divided by consolidated sales from continuing operations.


Net debt, including retirement liabilities, is reconciled to total debt (in millions).
 
September 30,
 
2016
 
2015
Short-term debt
$
14

 
$
15

Long-term debt
982

 
1,036

Total debt
996

 
1,051

 
 
 
 
Pension assets - non-current
(123
)
 
(110
)
Pension liability - current
6

 
5

Pension liability - non-current
277

 
214

Pension liability
160

 
109

 
 
 
 
Retiree medical liability - current
33

 
33

Retiree medical liability - non-current
414

 
405

Retire medical liability
447

 
438

 
 
 
 
Other retirement benefits - current
1

 
1

Other retirement benefits - non-current
12

 
13

Subtotal
1,616

 
1,612

 
 
 
 
Less: Cash and cash equivalents
(160
)
 
(193
)
Net debt, including retirement liabilities
$
1,456

 
$
1,419



37



Non-Consolidated Joint Ventures
 
At September 30, 2016, our continuing operations included investments in joint ventures that are not majority owned or controlled and are accounted for under the equity method of accounting. Our investments in non-consolidated joint ventures totaled $100 million at September 30, 2016 and $96 million at September 30, 2015.

These strategic alliances provide for sales, product design, development and/or manufacturing in certain product and geographic areas. Aggregate sales of our non-consolidated joint ventures were $1,101 million, $1,288 million and $1,268 million in fiscal years 2016, 2015 and 2014, respectively. 

Our equity in the earnings of affiliates was $36 million, $39 million and $38 million in fiscal years 2016, 2015 and 2014, respectively. The decrease in fiscal year 2016 compared to fiscal year 2015 was primarily due to lower earnings from our North American joint ventures. We received cash dividends from our affiliates of $37 million, $32 million and $36 million in fiscal years 2016, 2015 and 2014, respectively.

In June 2014, ZF Meritor LLC (“ZF Meritor”), a joint venture between ZF Friedrichshafen AG and our subsidiary, Meritor Transmission, entered into a settlement agreement with Eaton Corporation relating to an antitrust lawsuit filed by ZF Meritor in 2006. Pursuant to the terms of the settlement agreement, Eaton agreed to pay $500 million to ZF Meritor. In July 2014, ZF Meritor received proceeds of $400 million net of attorney's contingency fees. In July 2014, we received proceeds of $210 million representing our share based on our ownership interest in ZF Meritor and including a recovery of current and prior years' attorney expenses paid by Meritor. ZF Meritor and Meritor Transmission agreed to dismiss all pending antitrust litigation with Eaton. ZF Meritor does not have any operating activities.

Our pre-tax share of the settlement was $210 million ($209 million after-tax), of which $190 million was recognized as equity in earnings of ZF Meritor and $20 million for the recovery of legal expenses from ZF Meritor was recognized as a reduction of selling, general and administrative expenses in the consolidated statement of operations. The proceeds from the settlement were used primarily to voluntarily pre-fund the next three years of mandatory pension contributions to our U.S. and U.K. pension plans.
 
For more information about our non-consolidated joint ventures, see Note 13 of the Notes to Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data.
 
Results of Operations


38



Fiscal Year 2016 Compared to Fiscal Year 2015
 
Sales
 
The following table reflects total company and business segment sales for fiscal years 2016 and 2015 (dollars in millions). The reconciliation is intended to reflect the trend in business segment sales and to illustrate the impact that changes in foreign currency exchange rates, volumes and other factors had on sales. Business segment sales include intersegment sales.
 
 
 
 
 
 
 
 
 
 
Dollar Change Due To
 
2016
 
2015
 
Dollar
Change
 
%
Change
 
Currency
 
Volume/ Other
Sales:
 
 
 
 
 
 
 
 
 
 
 
Commercial Truck & Industrial
 
 
 
 
 
 
 
 
 
 
 
            North America
$
1,358

 
$
1,560

 
$
(202
)
 
(13
)%
 
$

 
$
(202
)
            Europe
559

 
574

 
(15
)
 
(3
)%
 
(20
)
 
5

            South America
130

 
198

 
(68
)
 
(34
)%
 
(28
)
 
(40
)
     China
84

 
90

 
(6
)
 
(7
)%
 
(4
)
 
(2
)
     India
152

 
140

 
12

 
9
 %
 
(9
)
 
21

     Other
86

 
87

 
(1
)
 
(1
)%
 
(4
)
 
3

          Total External Sales
$
2,369

 
$
2,649

 
$
(280
)
 
(11
)%
 
$
(65
)
 
$
(215
)
            Intersegment Sales
76

 
90

 
(14
)
 
(16
)%
 
(7
)
 
(7
)
          Total Sales
$
2,445

 
$
2,739

 
$
(294
)
 
(11
)%
 
$
(72
)
 
$
(222
)
 
 
 
 
 
 
 
 
 
 
 
 
Aftermarket & Trailer
 
 
 
 
 
 
 
 
 
 
 
            North America
$
716

 
$
734

 
$
(18
)
 
(2
)%
 
$
(9
)
 
$
(9
)
            Europe
114

 
122

 
(8
)
 
(7
)%
 
(4
)
 
(4
)
          Total External Sales
$
830

 
$
856

 
$
(26
)
 
(3
)%
 
$
(13
)
 
$
(13
)
            Intersegment Sales
30

 
28

 
2

 
7
 %
 
(5
)
 
7

          Total Sales
$
860

 
$
884

 
$
(24
)
 
(3
)%
 
$
(18
)
 
$
(6
)
 
 
 
 
 
 
 
 
 
 
 
 
Total External Sales
$
3,199

 
$
3,505

 
$
(306
)
 
(9
)%
 
$
(78
)
 
$
(228
)

Commercial Truck & Industrial sales were $2,445 million in fiscal year 2016, down 11 percent from fiscal year 2015. The decrease in sales was driven by lower production in the North America Class 8 truck market and South America and the effect of foreign exchange translation primarily driven by the strong U.S. dollar relative to the Brazilian real and the euro. The decrease was partially offset by new business wins and increasing market volumes in India.
 
Aftermarket & Trailer sales were $860 million in fiscal year 2016, down 3 percent from fiscal year 2015. Sales decreased due to the unfavorable impact of the softer North America and Europe aftermarket business and foreign exchange translation driven by the strong U.S. dollar compared to the same period in the prior fiscal year.
 
Cost of Sales and Gross Profit
 
Cost of sales primarily represents material, labor and overhead production costs associated with our products and production facilities. Cost of sales for fiscal year 2016 was $2,763 million compared to $3,043 million in the prior year, representing a 9.0 percent decrease. Total cost of sales was approximately 86.4 percent of sales for fiscal year 2016 compared to approximately 86.8 percent for the prior fiscal year.
 

39



The following table summarizes significant factors contributing to the changes in costs of sales during fiscal year 2016 compared to the prior fiscal year (in millions):
 
 
Cost of Sales
Fiscal year ended September 30, 2015
$
3,043

Volumes, mix and other, net
(203
)
Foreign exchange
(77
)
Fiscal year ended September 30, 2016
$
2,763


Changes in the components of cost of sales year over year are summarized as follows (in millions):
 
 
Change in Cost of Sales
Lower material costs
$
(238
)
Lower labor and overhead costs
(54
)
Other, net
12

Total change in costs of sales
$
(280
)
Material costs represent the majority of our cost of sales and include raw materials, composed primarily of steel and purchased components. Material costs decreased by $238 million compared to the same period in the prior fiscal year primarily due to lower volumes, movement in foreign currency rates, favorable material economics and material performance programs.
 
Labor and overhead costs decreased by $54 million compared to the prior fiscal year primarily due to lower volumes, the movement in foreign currency exchange rates, and savings associated with labor and burden cost reduction programs.

Other, net increased by $12 million compared to the prior fiscal year. The increase was primarily driven by foreign currency transaction losses related to the strengthening U.S. dollar, net of hedge impacts.

Gross margin for fiscal year 2016 was $436 million compared to $462 million in fiscal year 2015. Gross margin, as a percentage of sales, was 13.6 percent and 13.2 percent for fiscal years 2016 and 2015, respectively.
 
Other Income Statement Items
 
Selling, general and administrative expenses ("SG&A") for fiscal years 2016 and 2015 are summarized as follows (dollars in millions):
 
 
2016
 
2015
 
Increase (Decrease)
 
Amount
 
% of sales
 
Amount
 
% of sales
 
Amount
 
% of sales
SG&A
 
 
 
 
 
 
 
 
 
 
 
Loss on sale of receivables
$
(5
)
 
(0.2
)%
 
$
(5
)
 
(0.1
)%
 
$

 
(0.1) pts

Short- and long-term variable compensation
(30
)
 
(0.9
)%
 
(27
)
 
(0.8
)%
 
(3
)
 
(0.1) pts

Asbestos-related liability remeasurement
(4
)
 
(0.1
)%
 
2

 
 %
 
(6
)
 
(0.1) pts

Asbestos-related insurance settlements, net
30

 
0.9
 %
 

 
 %
 
30

 
0.9 pts

Supplier litigation settlement
6

 
0.2
 %
 

 
 %
 
6

 
0.2 pts

All other SG&A
(210
)
 
(6.6
)%
 
(213
)
 
(6.0
)%
 
3

 
(0.6) pts

Total SG&A
$
(213
)
 
(6.7
)%
 
$
(243
)
 
(6.9
)%
 
$
30

 
0.2 pts


2016 Insurance and Litigation Settlements, net
In fiscal year 2016, we recognized $27 million related to cash settlements with insurance companies for recoveries of defense and indemnity costs associated with asbestos liabilities. In addition, in the fourth quarter of fiscal year 2016, we recognized $12 million to reflect expected reimbursement of future defense and indemnity payments under a coverage-in-place arrangement with

40



an insurer associated with Rockwell asbestos liabilities. Separately, although we continue to pursue litigation and believe we have insurance coverage, the collection of $9 million of Rockwell asbestos-related insurance receivables associated with policies in dispute has become doubtful; therefore, in the fourth quarter of fiscal year 2016, we recorded a $9 million reserve. In fiscal year 2016, we also recognized approximately $6 million related to a supplier litigation settlement. (refer to Note 23 in the Notes to Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data).
All other SG&A, which represents normal selling, general and administrative expense, remained relatively flat but increased as a percentage of sales due to lower sales.

Goodwill Impairment costs of $15 million were recognized during the fourth quarter of fiscal year 2015 for our Defense reporting unit, which is included in the Commercial Truck and Industrial segment.

Restructuring costs were $16 million in fiscal year 2016, compared to $16 million in fiscal year 2015. In fiscal year 2016, $6 million of restructuring costs were recognized by our Commercial Truck & Industrial segment, $8 million by our Aftermarket and Trailer segment and $2 million by our corporate locations, primarily related to employee severance. In fiscal year 2015, our Commercial Truck & Industrial segment and corporate locations recognized $14 million and $2 million, respectively, of restructuring costs primarily related to employee severance costs.

Operating income for fiscal year 2016 was $204 million, compared to $128 million in fiscal year 2015. Key items affecting income are discussed above.

Equity in earnings of affiliates was $36 million in fiscal year 2016, compared to $39 million in the prior year. The decrease was primarily attributable to lower production in our affiliates' respective markets.

Interest expense, net was $84 million and $105 million in fiscal years 2016 and 2015, respectively. The decrease was primarily attributable to the recognized loss on debt extinguishment of $25 million in fiscal year 2015, primarily related to the repurchase of our 7.875 percent convertible notes due 2026, partially offset by the increase of interest expense related to fixed-rate debt in fiscal year 2016.

Benefit for income taxes was $424 million in fiscal year 2016 compared to provision for income taxes of $1 million in fiscal year 2015. The decrease in tax expense was primarily attributable to a $438 million tax benefit from the partial reversal of the U.S. valuation allowance and a $25 million tax benefit related to a correlated tax relief. This decrease was partially offset by a $9 million non-cash charge to income tax expense in Brazil related to the establishment of a valuation allowance and the recording of tax expense in jurisdictions in which we previously recognized a valuation allowance.

Income from continuing operations (before noncontrolling interests) for fiscal year 2016 was $579 million compared to $66 million in fiscal year 2015. The reasons for the increase are discussed above.

Loss from discontinued operations, net of tax for fiscal year 2016 was $4 million, compared to a loss of $1 million in the prior year. The increase in loss from discontinued operations, net of tax, was primarily attributable to a litigation settlement in the current year.

Net income attributable to noncontrolling interests was $2 million in fiscal year 2016 compared to $1 million in fiscal year 2015. Noncontrolling interests represent our minority partners’ share of income or loss associated with our less than 100-percent-owned consolidated subsidiaries.
 
Net Income attributable to Meritor, Inc. was $573 million for fiscal year 2016 compared to net income of $64 million for fiscal year 2015.The various factors affecting net income are discussed above.
 
Segment EBITDA and EBITDA Margins
Segment EBITDA is defined as income (loss) from continuing operations before interest expense, income taxes, depreciation and amortization, noncontrolling interests in consolidated joint ventures, loss on sale of receivables, restructuring expense, and asset impairment charges. We use Segment EBITDA as the primary basis for the Chief Operating Decision Maker ("CODM") to evaluate the performance of each of our reportable segments. Segment EBITDA margin is defined as Segment EBITDA divided by consolidated sales from continuing operations.

41



The following table reflects Segment EBITDA and Segment EBITDA margins for fiscal years 2016 and 2015 (dollars in millions).
 
 
Segment EBITDA
 
Segment EBITDA Margins
 
2016
 
2015
 
Change
 
2016
 
2015
 
Change
Commercial Truck & Industrial
$
208

 
$
216

 
$
(8
)
 
8.5
%
 
7.9
%
 
0.6 pts

Aftermarket & Trailer
115

 
123

 
(8
)
 
13.4
%
 
13.9
%
 
(0.5) pts

Segment EBITDA
$
323

 
$
339

 
$
(16
)
 
10.1
%
 
9.7
%
 
0.4 pts

Significant items impacting year-over-year Segment EBITDA include the following (in millions):

 
Commercial
Truck & Industrial
 
Aftermarket
& Trailer
 
TOTAL
Segment EBITDA–Year ended September 30, 2015
$
216

 
$
123

 
$
339

Lower earnings from unconsolidated affiliates
(3
)
 

 
(3
)
Impact of foreign currency transactions, net of hedge impacts
(18
)
 
(11
)
 
(29
)
Impact of foreign currency translation
(7
)
 
(1
)
 
(8
)
Short and long-term variable compensation
(4
)
 
(2
)
 
(6
)
Asbestos related insurance settlements, net of asbestos related expense
10

 
3

 
13

Supplier litigation settlement

 
6

 
6

Volume, mix, pricing and other
14

 
(3
)
 
11

Segment EBITDA – Year ended September 30, 2016
$
208

 
$
115

 
$
323

Commercial Truck & Industrial Segment EBITDA was $208 million in fiscal year 2016, compared to $216 million in the prior fiscal year. Segment EBITDA margin increased to 8.5 percent in fiscal year 2016 compared to 7.9 percent in the prior fiscal year. The increase in Segment EBITDA margin was primarily driven by strong material, labor and burden performance, which continued to lower costs year-over-year and insurance settlements for recoveries for defense and indemnity costs associated with asbestos liabilities (refer to Note 23 in the Notes to Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data). In addition, material costs have been favorably impacted by lower year-over-year steel prices. The overall increase in Segment EBITDA margin was partially offset by foreign currency impacts, which included a $5 million non-recurring foreign currency option contract hedge gain in 2015, unfavorable product mix and the impact of lower sales in fiscal year 2016.

Aftermarket & Trailer Segment EBITDA was $115 million in fiscal year 2016, compared to $123 million in the prior fiscal year. Segment EBITDA margin decreased to 13.4 percent in the current fiscal year compared to 13.9 percent in fiscal year 2015. The decreases in Segment EBITDA and Segment EBITDA margin were primarily driven by lower revenue, foreign currency impacts, and unfavorable product mix, which were partially offset by a supplier litigation settlement (see Note 23 of the Notes to the Condensed Consolidated Financial Statements in Item 8. Financial Statements and Supplementary Data).


42



Fiscal Year 2015 Compared to Fiscal Year 2014
 
Sales
 
The following table reflects total company and business segment sales for fiscal years 2015 and 2014 (dollars in millions). The reconciliation is intended to reflect the trend in business segment sales and to illustrate the impact that changes in foreign currency exchange rates, volumes and other factors had on sales. Business segment sales include intersegment sales.
 
 
 
 
 
 
 
 
 
 
Dollar Change Due To
 
2015
 
2014
 
Dollar
Change
 
%
Change
 
Currency
 
Volume/ Other
Sales:
 
 
 
 


 


 
 
 
 
Commercial Truck & Industrial
 
 
 
 


 


 
 
 
 
            North America
$
1,560

 
$
1,447

 
$
113

 
8
 %
 
$

 
$
113

            Europe
574

 
644

 
(70
)
 
(11
)%
 
(120
)
 
50

            South America
198

 
408

 
(210
)
 
(51
)%
 
(53
)
 
(157
)
     China
90

 
146

 
(56
)
 
(38
)%
 
(2
)
 
(54
)
     India
140

 
114

 
26

 
23
 %
 
(5
)
 
31

     Other
87

 
117