10-Q 1 meritor_10q.htm QUARTERLY REPORT 10-Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended January 3, 2016
Commission File No. 1-15983

MERITOR, INC.

(Exact name of registrant as specified in its charter)

 
Indiana
38-3354643
 
 
(State or other jurisdiction of incorporation or
(I.R.S. Employer Identification
 
 
organization)
No.)
 
 
 
 
 
2135 West Maple Road, Troy, Michigan
48084-7186
 
 
(Address of principal executive offices)
(Zip Code)
 

(248) 435-1000
(Registrant’s telephone number, including area code)
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 Registration 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 whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one)
 
Large accelerated filer
X
 
Accelerated filer
 
 
 
Non-accelerated filer
 
 
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
 
91,366,352 shares of Common Stock, $1.00 par value, of Meritor, Inc. were outstanding on January 3, 2016.



INDEX
 
 
 
Page
No.
 
 
 
 
 
 
 
 
 
 
 
 
 
Condensed Consolidated Statement of Operations - - Three Months Ended December 31, 2015 and 2014
 
 
 
 
 
 
 
 
 
 
 
 
Condensed Consolidated Balance Sheet - - December 31, 2015 and September 30, 2015
 
 
 
 
 
 
Condensed Consolidated Statement of Cash Flows - - Three Months Ended December 31, 2015 and 2014
 
 
 
 
 
 
Condensed Consolidated Statement of Equity (Deficit) - - Three Months Ended December 31, 2015 and 2014
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2


MERITOR, INC.

PART I. FINANCIAL INFORMATION
ITEM 1. Financial Statements

CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(in millions, except per share amounts)

 
Three Months Ended
December 31,
 
2015
 
2014
 
(Unaudited)
Sales
$
809

 
$
879

Cost of sales
(705
)
 
(764
)
GROSS MARGIN
104

 
115

Selling, general and administrative
(56
)
 
(65
)
Restructuring costs
(1
)
 
(3
)
Other operating income, net

 
1

OPERATING INCOME
47

 
48

Other income, net
1

 
2

Equity in earnings of affiliates
10

 
9

Interest expense, net
(22
)
 
(19
)
INCOME BEFORE INCOME TAXES
36

 
40

Provision for income taxes
(7
)
 
(7
)
INCOME FROM CONTINUING OPERATIONS
29

 
33

LOSS FROM DISCONTINUED OPERATIONS, net of tax
(2
)
 
(3
)
NET INCOME
27

 
30

Less: Net income attributable to noncontrolling interests
(1
)
 
(1
)
NET INCOME ATTRIBUTABLE TO MERITOR, INC.
$
26

 
$
29

NET INCOME ATTRIBUTABLE TO MERITOR, INC.
 
 
 
Net income from continuing operations
$
28

 
$
32

Loss from discontinued operations
(2
)
 
(3
)
       Net income
$
26

 
$
29

BASIC EARNINGS (LOSS) PER SHARE
 
 
 
Continuing operations
$
0.30

 
$
0.33

Discontinued operations
(0.02
)
 
(0.03
)
       Basic earnings per share
$
0.28

 
$
0.30

DILUTED EARNINGS (LOSS) PER SHARE
 
 
 
Continuing operations
$
0.30

 
$
0.32

Discontinued operations
(0.02
)
 
(0.03
)
       Diluted earnings per share
$
0.28

 
$
0.29

 
 
 
 
Basic average common shares outstanding
92.5

 
97.9

Diluted average common shares outstanding
94.3

 
101.2


See notes to condensed consolidated financial statements.


3


MERITOR, INC.


CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (LOSS)
(in millions)

 
Three Months Ended December 31,
 
2015
 
2014
 
(Unaudited)
Net income
$
27

 
$
30

Other comprehensive income (loss):
 
 
 
Foreign currency translation adjustments:
 
 
 
     Attributable to Meritor, Inc.
(6
)
 
(34
)
     Attributable to noncontrolling interest

 
(1
)
     Other reclassification adjustment


 
1

Pension and other postretirement benefit related adjustments
9

 
12

Unrealized gain (loss) on investments and foreign exchange contracts
3

 
(1
)
Other comprehensive income (loss), net of tax
6

 
(23
)
Total comprehensive income
33

 
7

Less: Comprehensive income attributable to noncontrolling interest
(1
)
 

Comprehensive income attributable to Meritor, Inc.
$
32

 
$
7


See notes to condensed consolidated financial statements.


4


MERITOR, INC.

CONDENSED CONSOLIDATED BALANCE SHEET
(in millions)

 
December 31,
2015
 
September 30,
2015
 
(Unaudited)
ASSETS
 
 
 
CURRENT ASSETS:
 
 
 
Cash and cash equivalents
$
128

 
$
193

Receivables, trade and other, net
357

 
461

Inventories
367

 
338

Other current assets
54

 
50

TOTAL CURRENT ASSETS
906

 
1,042

NET PROPERTY
414

 
419

GOODWILL
399

 
402

OTHER ASSETS
331

 
332

TOTAL ASSETS
$
2,050

 
$
2,195

LIABILITIES AND EQUITY (DEFICIT)
 
 
 
CURRENT LIABILITIES:
 
 
 
Short-term debt
$
74

 
$
15

       Accounts and notes payable
470

 
574

Other current liabilities
244

 
279

TOTAL CURRENT LIABILITIES
788

 
868

LONG-TERM DEBT
981

 
1,036

RETIREMENT BENEFITS
619

 
632

OTHER LIABILITIES
315

 
305

TOTAL LIABILITIES
2,703

 
2,841

COMMITMENTS AND CONTINGENCIES (See Note 20)

 

EQUITY (DEFICIT):
 
 
 
Common stock (December 31, 2015 and September 30, 2015, 99.5 and 98.8 shares issued and 91.4 and 94.6 shares outstanding, respectively)
99

 
99

Additional paid-in capital
868

 
865

Accumulated deficit
(788
)
 
(814
)
Treasury stock, at cost (December 31, 2015 and September 30, 2015, 8.1 and 4.2 shares, respectively)

(98
)
 
(55
)
Accumulated other comprehensive loss
(760
)
 
(766
)
Total deficit attributable to Meritor, Inc.
(679
)
 
(671
)
Noncontrolling interests
26

 
25

TOTAL DEFICIT
(653
)
 
(646
)
TOTAL LIABILITIES AND DEFICIT
$
2,050

 
$
2,195


See notes to condensed consolidated financial statements.

5


MERITOR, INC.

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(in millions)

 
Three Months Ended December 31,
 
2015
 
2014
 
(Unaudited)
OPERATING ACTIVITIES
 
 
 
CASH USED FOR OPERATING ACTIVITIES (See Note 9)
$
(5
)
 
$
(9
)
INVESTING ACTIVITIES
 
 
 
Capital expenditures
(22
)
 
(12
)
Other investing activities
1

 

Net investing cash flows provided by discontinued operations
3

 

CASH USED FOR INVESTING ACTIVITIES
(18
)
 
(12
)
FINANCING ACTIVITIES
 
 
 
Repurchase of common stock
(43
)
 

Other financing activities
1

 
(4
)
CASH USED FOR FINANCING ACTIVITIES
(42
)
 
(4
)
EFFECT OF CHANGES IN FOREIGN CURRENCY EXCHANGE
RATES ON CASH AND CASH EQUIVALENTS

 
(8
)
CHANGE IN CASH AND CASH EQUIVALENTS
(65
)
 
(33
)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
193

 
247

CASH AND CASH EQUIVALENTS AT END OF PERIOD
$
128

 
$
214


See notes to condensed consolidated financial statements.



6


MERITOR, INC.

CONDENSED CONSOLIDATED STATEMENT OF EQUITY (DEFICIT)
(In millions)
(Unaudited)

 
Common
Stock
 
Additional
Paid-in
Capital
 
Accumulated
Deficit
 
Treasury Stock
 
Accumulated
Other
Comprehensive
Loss
 
Total Deficit
Attributable to
Meritor, Inc.
 
Noncontrolling
Interests
 
Total
Beginning balance at September 30, 2015
$
99

 
$
865

 
$
(814
)
 
$
(55
)
 
$
(766
)
 
$
(671
)
 
$
25

 
$
(646
)
Comprehensive income

 

 
26

 

 
6

 
32

 
1

 
33

Equity based compensation expense

 
3

 

 

 

 
3

 

 
3

Repurchase of common stock

 

 

 
(43
)
 

 
(43
)
 

 
(43
)
Ending Balance at December 31, 2015
$
99

 
$
868

 
$
(788
)

$
(98
)
 
$
(760
)
 
$
(679
)
 
$
26

 
$
(653
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance at September 30, 2014
$
97

 
$
918

 
$
(878
)
 
$

 
$
(749
)
 
$
(612
)
 
$
27

 
$
(585
)
Comprehensive income (loss)

 

 
29

 

 
(22
)
 
7

 

 
7

Vesting of restricted stock
1

 
(1
)
 

 
 
 

 

 

 

Equity based compensation expense

 
2

 

 


 

 
2

 

 
2

Ending Balance at December 31, 2014
$
98

 
$
919

 
$
(849
)

$

 
$
(771
)
 
$
(603
)
 
$
27

 
$
(576
)

See notes to condensed consolidated financial statements.

7

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



1. Basis of Presentation
Meritor, Inc. (the “company” or “Meritor”), 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. The company serves commercial truck, trailer, military, bus and coach, construction and other industrial OEMs and certain aftermarkets. The condensed consolidated financial statements are those of the company and its consolidated subsidiaries.
Certain businesses are reported in discontinued operations in the condensed consolidated statement of operations, condensed consolidated statement of cash flows and related notes for all periods presented. Additional information regarding discontinued operations is discussed in Note 4.
In the opinion of the company, the unaudited financial statements contain all adjustments, consisting solely of adjustments of a normal, recurring nature, necessary to present fairly the financial position, results of operations and cash flows for the periods presented. These statements should be read in conjunction with the company’s audited consolidated financial statements and notes thereto included in the Annual Report on Form 10-K, for the fiscal year ended September 30, 2015, as amended. The quarter end condensed balance sheet data was derived from audited financial statements but does not include all annual disclosures required by accounting principles generally accepted in the United States of America. The results of operations for the three months ended December 31, 2015 are not necessarily indicative of the results for the full year.
The company’s fiscal year ends on the Sunday nearest September 30. The first quarter of fiscal years 2016 and 2015 ended on January 3, 2016 and December 28, 2014, respectively. All year and quarter references relate to the company’s fiscal year and fiscal quarters, unless otherwise stated. For ease of presentation, September 30 and December 31 are used consistently throughout this report to represent the fiscal year end and first fiscal quarter end, respectively.
2. Earnings per Share
Basic earnings (loss) per share is calculated using the weighted average number of shares outstanding during each period. The diluted earnings (loss) per share calculation includes the impact of dilutive common stock options, restricted shares, restricted share units, performance share unit awards, and convertible securities, if applicable.
A reconciliation of basic average common shares outstanding to diluted average common shares outstanding is as follows (in millions):
 
Three Months Ended
December 31,
 
2015
 
2014
Basic average common shares outstanding
92.5

 
97.9

Impact of restricted shares, restricted share units and performance share units
1.8

 
2.3

Impact of stock options

 
0.1

Impact of convertible notes

 
0.9

Diluted average common shares outstanding
94.3

 
101.2


In November 2015, the Board of Directors approved a grant of performance share units to all executives eligible to participate in the long-term incentive plan. Each performance share unit represents the right to receive one share of common stock or its cash equivalent upon achievement of certain performance and time vesting criteria. The fair value of each performance share unit is $10.51, which was the company’s share price on the grant date of December 1, 2015. The Board of Directors also approved a grant of 0.5 million restricted share units to these executives. The restricted share units vest at the earlier of three years from the date of grant or upon termination of employment with the company under certain circumstances. The fair value of each restricted share unit is $10.51, which was the company's share price on the grant date of December 1, 2015.
The actual number of performance share units that will vest depends upon the company’s performance relative to the established performance metrics for the three-year performance period of October 1, 2015 to September 30, 2018, measured at the end of the

8

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


performance period. The number of performance share units will depend on Adjusted EBITDA margin and Adjusted diluted earnings per share from continuing operations at the following weights: 50% associated with achieving an Adjusted EBITDA margin target and 50% associated with achieving an Adjusted diluted earnings per share from continuing operations target. The number of performance share units that vest will be between 0% and 200% of the grant date amount of 0.7 million performance share units.
In November 2014, the Board of Directors approved a grant of performance share units to all executives eligible to participate in the long-term incentive plan. Each performance share unit represents the right to receive one share of common stock or its cash equivalent upon achievement of certain performance and time vesting criteria. The fair value of each performance share unit is $13.74, which was the company’s share price on the grant date of December 1, 2014. The Board of Directors also approved a grant of 0.4 million restricted share units to these executives. The restricted share units vest at the earlier of three years from the date of grant or upon termination of employment with the company under certain circumstances. The fair value of each restricted share unit is $13.74, which was the company’s share price on the grant date of December 1, 2014.
The actual number of performance share units that will vest depends upon the company’s performance relative to the established performance metrics for the three-year performance period of October 1, 2014 to September 30, 2017, measured at the end of the performance period. The number of performance share units will depend on Adjusted EBITDA margin and Adjusted diluted earnings per share from continuing operations at the following weights: 75% associated with achieving an Adjusted EBITDA margin target and 25% associated with achieving an Adjusted diluted earnings per share from continuing operations target. The number of performance share units that vest will be between 0% and 200% of the grant date amount of 0.6 million performance share units.
In November 2013, the Board of Directors approved a grant of performance share units to all executives eligible to participate in the long-term incentive plan. Each performance share unit represents the right to receive one share of common stock or its cash equivalent upon achievement of certain performance and time vesting criteria. The fair value of each performance share unit is $7.97, which was the company’s share price on the grant date of December 1, 2013.
The actual number of performance share units that will vest depends upon the company’s performance relative to the established M2016 goals for the three-year performance period of October 1, 2013 to September 30, 2016, measured at the end of the performance period. The number of performance share units will depend on meeting the established M2016 goals at the following weights: 50% associated with achieving an Adjusted EBITDA margin target, 25% associated with achieving a net debt including retirement benefit liabilities target, and 25% associated with achieving an incremental booked revenue target. The number of performance share units that vest will be between 0% and 200% of the grant date amount of 1.8 million performance share units including incremental share units that were issued subsequent to the December 1, 2013 grant date. There were 0.9 million and 0.6 million shares related to these performance share units included in the diluted earnings per share calculation for the three months ended December 31, 2015 and December 31, 2014, respectively, as certain payout thresholds were achieved in the first quarter of fiscal year 2016 relative to the Adjusted EBITDA, net debt reduction and incremental booked revenue targets.
For the three months ended December 31, 2015, the dilutive impact of previously issued restricted shares, restricted share units, and performance share units was 1.8 million, compared to 2.3 million share units for the same period in the prior fiscal year. For the three months ended December 31, 2015, compensation cost related to restricted shares, restricted share units, performance share units and stock options was $3 million, compared to $2 million for the three months ended December 31, 2014.
For each of the three month period ended December 31, 2015 and December 31, 2014, options to purchase 0.3 million shares of common stock were excluded in the computation of diluted earnings per share because their exercise price exceeded the average market price for the periods and thus their inclusion would be anti-dilutive.
For the three months ended December 31, 2015 the company’s convertible senior unsecured notes were excluded from the computation of diluted earnings per share, as the company’s average stock price during this period was less than conversion price for the notes. For the three months ended December 31, 2014, 0.9 million shares were included in the computation of diluted earnings per share because the average stock price during this period exceeded the conversion price for the 7.875 percent convertible notes due 2026.

9

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


3. New Accounting Standards
Accounting standards to be implemented
In January 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2016-01, Financial Instruments - Overall (Subtopic 825-10), Recognition and Measurement of Financial Assets and Financial Liabilities, which requires equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income. The guidance is effective for interim and annual periods beginning after December 15, 2017. Early adoption is permitted. The company does not expect a material impact on its consolidated financial statements from adoption of this guidance.

In November 2015, the FASB issued ASU 2015-17, Balance Sheet Classification of Deferred Taxes, as part of its Simplification Initiative, which updates Income Taxes (Topic 740) guidance to eliminate the requirement for an entity to separate deferred tax liabilities and tax assets between current and noncurrent amounts in a classified balance sheet. Deferred taxes will be presented as noncurrent under the new standard. The guidance is effective for interim and annual periods beginning after December 15, 2016. Early adoption is permitted. The company is assessing the potential impact of this new guidance on its consolidated financial statements.

In July 2015, the FASB issued ASU 2015-11, Inventory (Topic 330): Simplifying the Measurement of Inventory, which requires entities that measure inventory using first-in, first-out (FIFO) or average cost to measure inventory at the lower of cost and net realizable value. The standard is required to be adopted by public business entities in annual periods beginning on or after December 15, 2016 and interim periods within those annual periods. The company is assessing the potential impact of this new guidance on its consolidated financial statements.

In August 2014, the FASB issued ASU 2014-15, Presentation of Financial Statements - Going Concern (Subtopic 205-40), which provides guidance about management's responsibility in evaluating whether there is substantial doubt relating to an entity’s ability to continue as a going concern and to provide related footnote disclosures as applicable. ASU 2014-15 is effective for the interim and annual periods ending after December 15, 2016. Early adoption is permitted. The company does not expect a material impact on its consolidated financial statements from adoption of this guidance.

In June 2014, the FASB issued ASU 2014-12, Compensation - Stock Compensation (Topic 718), Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could be Achieved After the Requisite Service Period. This guidance requires that an award with a performance target that affects vesting, and that could be achieved after the requisite service period, such as when an employee retires, but may still vest if and when the performance target is achieved, be treated as an award with performance conditions that affect vesting and the company apply existing guidance under ASC Topic 718, Compensation - Stock Compensation. The guidance is effective for fiscal years beginning after December 15, 2015 and may be applied either prospectively or retrospectively. The company is assessing the potential impact of this new guidance on its consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606), which requires companies to recognize revenue when a customer obtains control rather than when companies have transferred substantially all risks and rewards of a good or service and requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts. ASU 2014-09 was originally effective for annual reporting periods beginning on or after December 15, 2016 and interim periods therein. In August 2015, the FASB issued a deferral of ASU 2014-09 of one year making it effective for annual reporting periods beginning on or after December 15, 2017 while also providing for early adoption but not before the original effective date. The company plans to implement this standard in the first quarter of the fiscal year beginning October 1, 2018 and is currently evaluating the potential impact of this new guidance on its consolidated financial statements.
Accounting standards implemented during fiscal year 2016
In September 2015, the FASB issued ASU 2015-16, Simplifying the Accounting for Measurement-Period Adjustments, which updates Business Combination (Topic 805) guidance to eliminate the requirement to restate prior period financial statements for measurement period adjustments. The guidance should be applied prospectively to measurement period adjustments that occur after the effective date. The guidance is effective for interim and annual periods beginning after December 15, 2015. Early adoption is permitted. The company adopted this standard in the first quarter of the fiscal year 2016. This guidance did not have a material impact on the company's consolidated financial statements.

10

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



In April 2014, the FASB issued ASU 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360) - Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity. This guidance changes the definition of a discontinued operation to include only those disposals of components of an entity that represent a strategic shift that has (or will have) a major effect on an entity's operations and financial results. The guidance also requires new disclosure of both discontinued operations and certain other disposals that do not meet the definition of a discontinued operation. This guidance is effective for fiscal periods beginning beginning after December 15, 2014, and is to be applied prospectively. The company adopted this guidance in the first quarter of fiscal year 2016. The impact of this new guidance on the company's consolidated financial statements is dependent upon future business divestitures. Previous divestitures and amounts currently included in discontinued operations were not impacted.
4. Discontinued Operations
Results of discontinued operations are summarized as follows (in millions):
 
Three Months Ended
December 31,
 
2015
 
2014
Sales
$

 
$

 
 
 
 
Loss before income taxes
$
(3
)
 
$
(3
)
Benefit from income taxes
1

 

Loss from discontinued operations attributable to Meritor, Inc.
$
(2
)

$
(3
)
Loss from discontinued operations attributable to the company for the three months ended December 31, 2015 was primarily related to changes in estimates related to legal costs incurred in connection with a previously divested business. Loss from discontinued operations during the first quarter of fiscal 2014 was primarily related to the company's former Mascot business.
Total discontinued operations assets as of December 31, 2015 and September 30, 2015 were $2 million and $4 million, respectively, and total discontinued operations liabilities as of December 31, 2015 and September 30, 2015 were $9 million and $10 million, respectively.
5. Goodwill
In accordance with FASB Accounting Standards Codification (ASC) Topic 350-20, “Intangibles - Goodwill and Other”, goodwill is reviewed for impairment annually during the fourth quarter of the fiscal year or more frequently if certain indicators arise. If business conditions or other factors cause the operating results and cash flows of a reporting unit to decline, the company may be required to record impairment charges for goodwill at that time.
The company tests goodwill for impairment at a level of reporting referred to as a reporting unit, which is an operating segment or one level below an operating segment (referred to as a component). A component of an operating segment is a reporting unit if the component constitutes a business for which discrete financial information is available and segment management regularly reviews the operating results of that component. When two or more components of an operating segment have similar economic characteristics, the components are aggregated and deemed a single reporting unit. An operating segment is deemed to be a reporting unit if all of its components are similar, if none of its components are a reporting unit, or if the segment comprises only a single component.
A summary of the changes in the carrying value of goodwill by the company’s two reportable segments are presented below (in millions):
 
Commercial Truck & Industrial
 
Aftermarket
& Trailer
 
Total
Beginning balance at September 30, 2015
$
239

 
$
163

 
$
402

Foreign currency translation
(2
)
 
(1
)
 
(3
)
Balance at December 31, 2015
$
237

 
$
162

 
$
399


11

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


6. Restructuring Costs
During the first quarter of fiscal year 2015, the company recorded severance charges of $3 million associated with the elimination of approximately 50 hourly and 20 salaried positions in the Commercial Truck & Industrial segment in connection with the consolidation of certain gearing and machining operations in North America. Restructuring actions associated with this program were substantially complete as of September 30, 2015.
At December 31, 2015 and September 30, 2015, $9 million and $10 million, respectively, of restructuring reserves, primarily related to unpaid employee termination benefits attributable to the company's Commercial Truck & Industrial segment, remain in the condensed consolidated balance sheet. The changes in restructuring reserves for the three months ended December 31, 2015 and 2014 are as follows (in millions):
 
Employee
Termination
Benefits
Beginning balance at September 30, 2015
$
10

Activity during the period:
 
Charges to continuing operations
1

Cash payments – continuing operations
(2
)
Total restructuring reserves at December 31, 2015
9

Less: non-current restructuring reserves
(2
)
Restructuring reserves – current, at December 31, 2015
$
7

 
 
Balance at September 30, 2014
$
11

Activity during the period:
 
Charges to continuing operations
3

Cash payments – continuing operations
(1
)
Other
(1
)
Total restructuring reserves at December 31, 2014
12

Less: non-current restructuring reserves
(2
)
Restructuring reserves – current, at December 31, 2014
$
10

7. Income Taxes
For each interim reporting period, the company makes an estimate of the effective tax rate expected to be applicable for the full fiscal year pursuant to FASB ASC Topic 740-270, “Accounting for Income Taxes in Interim Periods.” The rate so determined is used in providing for income taxes on a year-to-date basis. Jurisdictions with a projected loss for the year or an actual year-to-date loss where no tax benefit can be recognized are excluded from the estimated annual effective tax rate. The impact of including these jurisdictions on the quarterly effective rate calculation could result in a higher or lower effective tax rate during a particular quarter, based upon the mix and timing of actual earnings versus annual projections.
Income tax expense (benefit) is allocated between continuing operations, discontinued operations and other comprehensive income ("OCI"). Such allocation is applied by tax jurisdiction, and in periods in which there is a pre-tax loss from continuing operations and pre-tax income in another category, such as discontinued operations or OCI, income tax expense is allocated to the other sources of income, with a related benefit recorded in continuing operations.
In prior years, the company established valuation allowances against its U.S. net deferred tax assets and the net deferred tax assets of its 100-percent-owned subsidiaries in France, U.K. and certain other countries. In evaluating its ability to recover these net deferred tax assets, the company utilizes a consistent approach which considers its historical operating results, including an assessment of the degree to which any gains or losses are driven by items that are unusual in nature, and tax planning strategies. In addition, the company reviews changes in near-term market conditions and other factors that impact future operating results. Continued improvement in the company’s operating results could lead to reversal of some or all of these valuation allowances in the future. However, the company continues to maintain the valuation allowances in these jurisdictions, as the company believes the negative evidence that it will be able to recover these net deferred tax assets continues to outweigh the positive evidence.

12

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Although the company was profitable in the U.S. in 2014 and 2015, it has not generated enough positive evidence to warrant a reversal of the U.S. valuation allowance, so it continues to record a full valuation allowance against the U.S. net deferred tax assets. The weight of negative evidence related to cumulative losses continues to decrease, however, the company believes that the objectively-measured negative evidence outweighs the subjectively-determined positive evidence.
For the three months ended December 31, 2015, the company had approximately $11 million of net pre-tax income compared to $12 million of net pre-tax income in the same period in fiscal year 2015 in tax jurisdictions in which tax expense is not recorded. Income arising from these jurisdictions resulted in an adjustment to the valuation allowance, rather than an adjustment to income tax expense.
8. Accounts Receivable Factoring and Securitization
     Off-balance sheet arrangements 
Swedish Factoring Facility: The company has an arrangement to sell trade receivables due from AB Volvo through one of its European subsidiaries. Under this arrangement, which terminates on June 28, 2016, the company can sell up to, at any point in time, €150 million ($164 million) of eligible trade receivables. The receivables under this program are sold at face value and are excluded from the condensed consolidated balance sheet. The company had utilized €150 million ($164 million) and €108 million ($121 million) of this accounts receivable factoring facility as of December 31, 2015 and September 30, 2015, respectively.
U.S. Factoring Facility: The company has an arrangement to sell trade receivables from AB Volvo and its U.S. subsidiaries through one of its U.S. subsidiaries. Under this arrangement, which terminates on February 28, 2016, the company can sell up to, at any point in time, €65 million ($71 million) of eligible trade receivables. The company is working to extend this arrangement before its current maturity date. In December 2014, the company amended this agreement to allow for the sale of trade receivables to exceed Nordea Bank’s commitment at Nordea Bank’s discretion. The receivables under this program are sold at face value and are excluded from the condensed consolidated balance sheet. The company had utilized €81 million ($89 million) and €74 million ($83 million) of this accounts receivable factoring facility as of December 31, 2015 and September 30, 2015, respectively. As of the end of the first quarter of fiscal year 2016, the company had utilized more than the committed eligible trade receivable amount of €65 million ($71 million) based on approval from the bank.
     The above facilities are backed by 364-day liquidity commitments from Nordea Bank which extend through May 2016. The commitments are subject to standard terms and conditions for these types of arrangements.
     United Kingdom Factoring Facility: The company has an arrangement to sell trade receivables from AB Volvo and its European subsidiaries through one of its United Kingdom subsidiaries. Under this arrangement, which expires in February 2018, the company can sell up to, at any point in time, €25 million ($27 million) of eligible trade receivables. The receivables under this program are sold at face value and are excluded from the condensed consolidated balance sheet. The company had utilized €9 million ($10 million) and €8 million ($8 million) of this accounts receivable factoring facility as of December 31, 2015 and September 30, 2015, respectively. The agreement is subject to standard terms and conditions for these types of arrangements, including a sole discretion clause whereby the bank retains the right to not purchase receivables, which has not been invoked since the inception of the program.
     Italy Factoring Facility: The company has an arrangement to sell trade receivables from AB Volvo and its European subsidiaries through one of its Italian subsidiaries. Under this arrangement, which expires in June 2017, the company can sell up to, at any point in time, €30 million ($33 million) of eligible trade receivables. The receivables under this program are sold at face value and are excluded from the condensed consolidated balance sheet. The company had utilized €28 million ($31 million) and €22 million ($24 million) of this accounts receivable factoring facility as of December 31, 2015 and September 30, 2015, respectively. The agreement is subject to standard terms and conditions for these types of arrangements including a sole discretion clause whereby the bank retains the right to not purchase receivables, which has not been invoked since the inception of the program.
     In addition to the above facilities, several of the company’s subsidiaries, primarily in Europe, factor eligible accounts receivable with financial institutions. Certain receivables are factored without recourse to the company and are excluded from accounts receivable in the condensed consolidated balance sheet. The amount of factored receivables excluded from accounts receivable was $9 million and $18 million at December 31, 2015 and September 30, 2015, respectively.
     Total costs associated with all of the off-balance sheet arrangements described above were $2 million in the three months ended December 31, 2015 and 2014, and are included in selling, general and administrative expenses in the condensed consolidated statements of operations.

13

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


     On-balance sheet arrangements
The company has a $100 million U.S. accounts receivables securitization facility. On December 4, 2015, the company entered into an amendment which extends the facility expiration date to December 4, 2018. The maximum permitted priority-debt-to-EBITDA ratio as of the last day of each fiscal quarter under the facility is 2.25 to 1.00. This program is provided by PNC Bank, National Association, as Administrator and Purchaser, and the other Purchasers and Purchaser Agents from time to time (participating lenders), which are party to the agreement. Under this program, the company has the ability to sell an undivided percentage ownership interest in substantially all of its trade receivables (excluding the receivables due from AB Volvo and subsidiaries eligible for sale under the U.S. accounts receivable factoring facility) of certain U.S. subsidiaries to ArvinMeritor Receivables Corporation ("ARC"), a wholly-owned, special purpose subsidiary. ARC funds these purchases with borrowings from participating lenders under a loan agreement. This program also includes a letter of credit facility pursuant to which ARC may request the issuance of letters of credit issued for the company’s U.S. subsidiaries (originators) or their designees, which when issued will constitute a utilization of the facility for the amount of letters of credit issued. Amounts outstanding under this agreement are collateralized by eligible receivables purchased by ARC and are reported as short-term debt in the condensed consolidated balance sheet. At December 31, 2015 and September 30, 2015, no amounts, including letters of credit, were outstanding under this program. This securitization program contains a cross-default to the revolving credit facility. At certain times during any given month, the company may sell eligible accounts receivable under this program to fund intra-month working capital needs. In such months, the company would then typically utilize the cash received from customers throughout the month to repay the borrowings under the program. Accordingly, during any given month, the company may borrow under this program, amounts exceeding the amounts shown as outstanding at fiscal quarter ends.
9. Operating Cash Flow
The reconciliation of net income to cash flows provided by operating activities is as follows (in millions):
 
Three Months Ended December 31,
 
2015
 
2014
OPERATING ACTIVITIES
 
 
 
Net income
$
27

 
$
30

Less: Loss from discontinued operations, net of tax
(2
)
 
(3
)
Income from continuing operations
29

 
33

Adjustments to income from continuing operations to arrive at cash provided by operating activities:
 
 
 
Depreciation and amortization
15

 
15

Restructuring costs
1

 
3

Equity in earnings of affiliates
(10
)
 
(9
)
Pension and retiree medical expense
5

 
7

Other adjustments to income from continuing operations

 
2

Dividends received from equity method investments
8

 
5

Pension and retiree medical contributions
(13
)
 
(14
)
Restructuring payments
(2
)
 
(1
)
Changes in off-balance sheet accounts receivable factoring
48

 
53

Changes in assets and liabilities, excluding effects of acquisitions, divestitures, foreign currency adjustments and discontinued operations
(88
)
 
(100
)
Operating cash flows used for continuing operations
(7
)
 
(6
)
Operating cash flows provided by (used for) discontinued operations
2

 
(3
)
CASH USED FOR OPERATING ACTIVITIES
$
(5
)
 
$
(9
)

14

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


10. Inventories
Inventories are stated at the lower of cost (using FIFO or average methods) or market (determined on the basis of estimated realizable values) and are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Finished goods
$
142

 
$
133

Work in process
29

 
28

Raw materials, parts and supplies
196

 
177

Total
$
367

 
$
338

11. Other Current Assets
     Other current assets are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Current deferred income tax assets
$
20

 
$
20

Asbestos-related recoveries (see Note 20)
13

 
13

Prepaid and other
21

 
17

Other current assets
$
54

 
$
50

12. Net Property
     Net property is summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Property at cost:
 
 
 
Land and land improvements
$
31

 
$
31

Buildings
216

 
214

Machinery and equipment
836

 
864

Company-owned tooling
113

 
116

Construction in progress
59

 
62

Total
1,255

 
1,287

Less accumulated depreciation
(841
)
 
(868
)
Net property
$
414

 
$
419


15

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


13. Other Assets
     Other assets are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Investments in non-consolidated joint ventures
$
100

 
$
96

Asbestos-related recoveries (see Note 20)
39

 
42

Unamortized revolver debt issuance costs
9

 
10

Capitalized software costs, net
27

 
28

Non-current deferred income tax assets, net
27

 
28

Assets for uncertain tax positions
3

 
3

Prepaid pension costs
113

 
110

Other
13

 
15

Other assets
$
331

 
$
332

In accordance with FASB ASC Topic 350-40, costs relating to internally developed or purchased software in the preliminary project stage and the post-implementation stage are expensed as incurred. Costs in the application development stage that meet the criteria for capitalization are capitalized and amortized using the straight-line basis over the estimated economic useful life of the software.
The company holds a variable interest in a joint venture accounted for under the equity method of accounting. The joint venture manufactures components for commercial vehicle applications primarily on behalf of the company. The variable interest relates to a supply arrangement between the company and the joint venture whereby the company supplies certain components to the joint venture on a cost-plus basis. The company is not the primary beneficiary of the joint venture, as the joint venture partner has shared or absolute control over key manufacturing operations, labor relationships, financing activities and certain other functions of the joint venture. Therefore, the company does not consolidate the joint venture. At December 31, 2015 and September 30, 2015, the company’s investment in the joint venture was $46 million and $42 million, respectively.
14. Unconsolidated Significant Subsidiary
Article 10 of Regulation S-X (Rule 10-01(b)(1)) requires separate interim period summarized income statement information for each 50-percent-or-less-owned subsidiary not consolidated that would have been a significant subsidiary for annual periods in accordance with Rule 3-09 of Regulation S-X. In accordance with this guidance, the company’s non-consolidated joint venture Meritor WABCO Vehicle Control Systems’ summarized income statement information is as follows (in millions):

 
Three Months Ended
December 31,
 
2015
 
2014
 
(Unaudited)
Sales
$
85

 
$
82

Gross margin
$
22

 
$
18

Income from continuing operations
$
15

 
$
11

Net income
$
15

 
$
11


16

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


15. Other Current Liabilities
     Other current liabilities are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Compensation and benefits
$
89

 
$
122

Income taxes
10

 
9

Taxes other than income taxes
23

 
23

Accrued interest
17

 
14

Product warranties (see Note 16)
22

 
22

Environmental reserves (see Note 20)
8

 
9

Restructuring (see Note 6)
7

 
7

Asbestos-related liabilities (see Note 20)
17

 
17

Indemnity obligations (see Note 20)
2

 
2

Other
49

 
54

Other current liabilities
$
244

 
$
279

The company records estimated product warranty costs at the time of shipment of products to customers. Warranty reserves are primarily based on factors that include past claims experience, sales history, product manufacturing and engineering changes and industry developments. Liabilities for product recall campaigns are recorded at the time the company’s obligation is probable and can be reasonably estimated. Policy repair actions to maintain customer relationships are recorded as other liabilities at the time an obligation is probable and can be reasonably estimated. Product warranties, including recall campaigns, not expected to be paid within one year are recorded as a non-current liability.
A summary of the changes in product warranties is as follows (in millions):
 
Three Months Ended December 31,
 
2015
 
2014
Total product warranties – beginning of period
$
48

 
$
51

Accruals for product warranties
3

 
2

Payments
(4
)
 
(5
)
Change in estimates and other

 
1

Total product warranties – end of period
47

 
49

Less: Non-current product warranties
(25
)
 
(26
)
Product warranties – current
$
22

 
$
23

16. Other Liabilities
Other liabilities are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Asbestos-related liabilities (see Note 20)
$
121

 
$
109

Restructuring (see Note 6)
2

 
3

Non-current deferred income tax liabilities
99

 
99

Liabilities for uncertain tax positions
15

 
15

Product warranties (see Note 15)
25

 
26

Environmental (see Note 20)
8

 
8

Indemnity obligations (see Note 20)
13

 
13

Other
32

 
32

Other liabilities
$
315

 
$
305

17. Long-Term Debt
     Long-Term Debt, net of discounts where applicable, is summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
4.625 percent convertible notes due 2026 (1)
$
55

 
$
55

4.0 percent convertible notes due 2027(1)(3)
142

 
142

7.875 percent convertible notes due 2026(1)(4)
127

 
127

6.75 percent notes due 2021(2)(5)
270

 
270

6.25 percent notes due 2024(2)(6)
442

 
442

Capital lease obligation
17

 
17

Export financing arrangements and other
20

 
18

Unamortized discount on convertible notes
(18
)
 
(20
)
Subtotal
1,055

 
1,051

Less: current maturities
(74
)
 
(15
)
Long-term debt
$
981

 
$
1,036

(1) The 4.625 percent, 4.0 percent and 7.875 percent convertible notes contain a put and call feature, which allows for earlier redemption beginning in 2016, 2019 and 2020, respectively.
(2) The 6.75 percent and 6.25 percent notes contain a call option, which allows for early redemption.
(3) The 4.0 percent convertible notes due 2027 are presented net of $1 million unamortized issuance costs as of December 31, 2015 and September 30, 2015.
(4) The 7.875 percent convertible notes due 2026 are presented net of $2 million and $3 million unamortized issuance costs as of December 31, 2015 and September 30, 2015, respectively, and $10 million original issuance discount as of December 31, 2015 and September 30, 2015.
(5) The 6.75 percent notes due 2021 are presented net of $5 million unamortized issuance costs as of December 31, 2015 and September 30, 2015.
(6) The 6.25 percent notes due 2024 are presented net of $8 million unamortized issuance costs as of December 31, 2015 and September 30, 2015.


17

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Revolving Credit Facility
On May 22, 2015, the company entered into a second amendment of its senior secured revolving credit facility. Pursuant to the revolving credit agreement as amended, the company has a $499 million revolving credit facility, $40 million of which matures in April 2017 for banks not electing to extend their commitments under the revolving credit facility, and $459 million of which matures in February 2019. The availability under this facility is dependent upon various factors, including principally performance against certain financial covenants as highlighted below. Prior to May 22, 2015, $89 million of the $499 million revolving credit facility was scheduled to mature in April 2017 for banks not electing to extend their commitments under the revolving credit facility, and $410 million was scheduled to mature in February 2019.
The availability under the revolving credit facility is subject to certain financial covenants based on (i) the ratio of the company’s priority debt (consisting principally of amounts outstanding under the 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. The company is required to maintain a total priority-debt-to-EBITDA ratio, as defined in the agreement, of 2.25 to 1.00 or less as of the last day of each fiscal quarter throughout the term of the agreement.
The availability under the revolving credit facility is also subject to a collateral test, pursuant to which borrowings on the revolving credit facility cannot exceed 1.0x the collateral test value. The collateral test is performed on a quarterly basis. At December 31, 2015, the revolving credit facility was collateralized by approximately $608 million of the company's assets, primarily consisting of eligible domestic U.S. accounts receivable, inventory, plant, property and equipment, intellectual property and the company's investment in all or a portion of certain of its wholly-owned subsidiaries.
Borrowings under the revolving credit facility are subject to interest based on quoted LIBOR rates plus a margin and a commitment fee on undrawn amounts, both of which are based upon the company’s current corporate credit rating. At December 31, 2015, the margin over LIBOR rate was 325 basis points and the commitment fee was 50 basis points. Overnight revolving credit loans are at the prime rate plus a margin of 225 basis points.
Certain of the company’s subsidiaries, as defined in the revolving credit agreement, irrevocably and unconditionally guarantee amounts outstanding under the revolving credit facility. Similar subsidiary guarantees are provided for the benefit of the holders of the publicly held notes outstanding under the company’s indentures (see Note 23).
No borrowings were outstanding under the revolving credit facility at December 31, 2015 and September 30, 2015. The amended and extended revolving credit facility includes $100 million of availability for the issuance of letters of credit. At December 31, 2015 and September 30, 2015, there were no letters of credit outstanding under the revolving credit facility.
Debt Securities
In December 2014, the company filed a shelf registration statement with the Securities and Exchange Commission, registering an unlimited amount of debt and/or equity securities that the company may offer in one or more offerings on terms to be determined at the time of sale. The December 2014 shelf registration statement superseded and replaced the shelf registration statement filed in February 2012, as amended.
Issuance of Debt Securities - 2024 Notes
On February 13, 2014, the company completed a public offering of debt securities consisting of the issuance of $225 million principal amount of 10-year, 6.25 percent notes due 2024 (the "Initial 2024 Notes"). The offering and sale were made pursuant to the company's February 2012 shelf registration statement. The Initial 2024 Notes were issued under the company's indenture dated as of April 1, 1998, as supplemented. The Initial 2024 Notes were issued at 100 percent of their principal amount. The proceeds from the sale of the Initial 2024 Notes were $225 million and, together with cash on hand, were primarily used to repurchase $250 million principal amount of the company’s previously outstanding 10.625 percent notes due 2018.
On June 11, 2015, the company completed a public offering of an additional $225 million aggregate principal amount of 6.25 percent notes due 2024 (the “Additional 2024 Notes"), in an underwritten public offering pursuant to the company's December 2014 shelf registration statement. The proceeds from the sale of the Additional 2024 Notes were used to replenish available cash used to pay $179 million, including premium and fees, to repurchase $110 million principal amount at maturity of the company's 7.875 percent convertible notes due 2026. The company used the remaining net proceeds, along with cash, to purchase annuities to satisfy its obligations under the company's Canadian and German pension plans. The Additional 2024 Notes constitute a further issuance of, and are fungible with, the $225 million aggregate principal amount of Initial 2024 Notes that the company issued on February 13, 2014 and form a single series with the Initial 2024 Notes (collectively, the “2024 Notes”). The Additional 2024 Notes have terms identical to the Initial 2024 Notes, other than issue date and offering price, and have the same CUSIP number as the

18

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Initial 2024 Notes. Upon completion of the offering, the aggregate principal amount of outstanding notes of this series was $450 million.
The 2024 Notes bear interest at a fixed rate of 6.25 percent per annum. The company pays interest on the 2024 Notes semi-annually, in arrears, on February 15 and August 15 of each year. The 2024 Notes constitute senior unsecured obligations of the company and rank equally in right of payment with existing and future senior unsecured indebtedness, and effectively junior to existing and future secured indebtedness. The 2024 Notes are guaranteed on a senior unsecured basis by each of the company's subsidiaries from time to time guaranteeing its senior secured credit facility. The guarantees rank equally with existing and future senior unsecured indebtedness of the guarantors and will be effectively subordinated to all of the existing and future secured indebtedness of the guarantors, to the extent of the value of the assets securing such indebtedness.
Prior to February 15, 2019, the company may redeem, at its option, from time to time, the 2024 Notes, in whole or in part, at a redemption price equal to 100 percent of the principal amount of the 2024 Notes to be redeemed, plus an applicable premium (as defined in the indenture under which the 2024 Notes were issued) and any accrued and unpaid interest. On or after February 15, 2019, the company may redeem, at its option, from time to time, the 2024 Notes, in whole or in part, at the redemption prices (expressed as percentages of the principal amount of the 2024 Notes to be redeemed) set forth below, plus accrued and unpaid interest, if any, if redeemed during the 12-month period beginning on February 15 of the years indicated below:
Year
     
Redemption Price
2019
 
103.125%
2020
 
102.083%
2021
 
101.042%
2022 and thereafter
 
100.000%
Prior to February 15, 2017, the company may redeem, at its option, from time to time, up to approximately $79 million aggregate principal amount of the 2024 Notes with the net cash proceeds of one or more public sales of the company's common stock at a redemption price equal to 106.25 percent of the principal amount, plus accrued and unpaid interest, if any, provided that at least approximately $146 million aggregate principal amount of the 2024 Notes remain outstanding after each such redemption and notice of any such redemption is mailed within 90 days of any such sale of common stock.
If a Change of Control (as defined in the indenture under which the 2024 Notes were issued) occurs, unless the company has exercised its right to redeem the 2024 Notes, each holder of 2024 Notes may require the company to repurchase some or all of such holder's 2024 Notes at a purchase price equal to 101 percent of the principal amount of the 2024 Notes to be repurchased, plus accrued and unpaid interest, if any.

Issuance of Debt Securities - 2021 Notes
On May 31, 2013, the company completed an offering of debt securities consisting of the issuance of $275 million principal amount of 8-year, 6.75 percent notes due 2021 (the "2021 Notes"). The offering and sale were made pursuant to the company's February 2012 registration statement that was effective at the time of the offering. The 2021 Notes were issued under the company's indenture dated as of April 1, 1998, as supplemented. The 2021 Notes were issued at 100 percent of their principal amount. The proceeds from the sale of the 2021 Notes were $275 million and were primarily used to complete a cash tender offer for $167 million of the 8.125 percent notes due 2015.
The 2021 Notes bear interest at a fixed rate of 6.75 percent per annum. The company pays interest on the 2021 Notes semi-annually, in arrears, on June 15 and December 15 of each year. The 2021 Notes constitute senior unsecured obligations of the company and rank equally in right of payment with existing and future senior unsecured indebtedness and effectively junior to existing and future secured indebtedness to the extent of the security therefor. The 2021 Notes are guaranteed on a senior unsecured basis by each of the company's subsidiaries from time to time guaranteeing its senior secured credit facility. The guarantees rank equally with existing and future senior unsecured indebtedness of the guarantors and will be effectively subordinated to all of the existing and future secured indebtedness of the guarantors, to the extent of the value of the assets securing such indebtedness.
Prior to June 15, 2016, the company may redeem, at its option, from time to time, the 2021 Notes, in whole or in part, at a redemption price equal to the 100 percent of the principal amount of the 2021 Notes to be redeemed plus an applicable premium (as defined in the indenture under which the 2021 Notes were issued) and any accrued and unpaid interest. On or after June 15, 2016, the company may redeem, at its option, from time to time, the 2021 Notes, in whole or in part, at the redemption prices

19

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


(expressed as percentages of the principal amount of the 2021 Notes to be redeemed) set forth below, plus accrued and unpaid interest, if any, if redeemed during the 12-month period beginning on June 15 of the years indicated below:
Year
     
Redemption Price
2016
 
105.063%
2017
 
103.375%
2018
 
101.688%
2019 and thereafter
 
100.000%
Prior to June 15, 2016, the company also may redeem, at its option, from time to time, up to 35 percent of the aggregate principal amount of the 2021 Notes with the net cash proceeds of one or more public sales of the company's common stock at a redemption price equal to 106.75 percent of the principal amount, plus accrued and unpaid interest, if any, so long as at least 65 percent the aggregate principal amount of 2021 Notes originally issued remains outstanding after each such redemption and notice of any such redemption is mailed within 90 days of any such sale of common stock.
If a Change of Control (as defined in the indenture under which the 2021 Notes were issued) occurs, unless the company has exercised its right to redeem the 2021 Notes, each holder of 2021 Notes may require the company to repurchase some or all of such holder's 2021 Notes at a purchase price equal to 101 percent of the principal amount of the 2021 Notes to be repurchased, plus accrued and unpaid interest, if any.

Repurchase of Debt Securities
In fiscal year 2015, the company repurchased $110 million principal amount at maturity of the company's 7.875 percent convertible notes, of which $85 million were repurchased at a premium equal to approximately 64 percent of their principal amount in the third quarter of 2015, and $25 million were repurchased at a premium equal to approximately 58 percent of their principal amount in the fourth quarter of 2015. The 7.875 percent convertible notes contain a conversion to equity feature which can be settled in cash upon conversion. Accordingly, the debt and equity components are required to be separately accounted for upon recognition. Subsequently, upon derecognition of the convertible notes, the total cash consideration paid by the company is required to be allocated between the extinguishment of debt component and the reacquisition of equity component. Of the fiscal year 2015 total cash consideration of $179 million paid to repurchase the 7.875 percent convertible notes, $121 million and $58 million were allocated between the extinguishment of debt and reacquisition of equity components, respectively. The repurchase of $110 million principal amount at maturity of the company's 7.875 percent convertible notes was accounted for as an extinguishment of debt, and accordingly, the company recognized a net loss on debt extinguishment of $24 million, which consisted of $14 million of unamortized discount and deferred issuance costs and $10 million of premium. The net loss on debt extinguishment is included in the consolidated statement of operations in interest expense, net. The repurchase was made under the company's 2026 convertible notes repurchase authorization (see Note 21).
In fiscal year 2015, the company repurchased $19 million principal amount of the company's 4.0 percent convertible notes due 2027. In the second quarter of fiscal year 2015, $15 million of the notes were repurchased at a premium equal to approximately 6 percent of their principal amount. In the third quarter of fiscal year 2015, $4 million of the notes were repurchased at a premium equal to approximately 5 percent of their principal amount. The repurchase of $19 million principal amount of 4.0 percent convertible notes was accounted for as an extinguishment of debt, and accordingly the company recognized an insignificant net loss on debt extinguishment, the majority of which is premium. The net loss on debt extinguishment is included in the consolidated statement of operations in interest expense, net. These repurchases were made under the company's equity and equity-linked repurchase authorization (see Note 21).
Capital Leases
On March 20, 2012, the company entered into an arrangement to finance equipment acquisitions for various U.S. locations. Under this arrangement, the company can request financing from GE Capital Commercial, Inc. (GE Capital) for progress payments for equipment under construction, not to exceed $10 million at any time. The financing rate is equal to the 30-day LIBOR plus 475 basis points per annum. Under this arrangement, the company can also enter into lease arrangements with GE Capital for completed equipment. The lease term is 60 months and the lease interest rate is equal to the 5-year Swap Rate published by the Federal Reserve Board plus 564 basis points. The company had $9 million and $10 million outstanding under this capital lease arrangement as of December 31, 2015 and September 30, 2015, respectively. In addition, the company had another $8 million and $7 million outstanding through other capital lease arrangements at December 31, 2015 and September 30, 2015, respectively.

20

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Letter of Credit Facilities
On February 21, 2014, the company entered into an arrangement to amend and restate the letter of credit facility with Citicorp USA, Inc., as administrative agent and issuing bank, and the other lenders party thereto. Under the terms of this amended credit agreement, the company has the right to obtain the issuance, renewal, extension and increase of letters of credit up to an aggregate availability of $30 million through December 19, 2015. From December 20, 2015 through March 19, 2019, the aggregate availability is $25 million. This facility contains covenants and events of default generally similar to those existing in the company’s public debt indentures. There were $22 million and $24 million of letters of credit outstanding under this facility at December 31, 2015 and September 30, 2015, respectively. The company had another $6 million of letters of credit outstanding through other letter of credit facilities at December 31, 2015 and September 30, 2015.
Export Financing Arrangements
The company entered into a number of export financing arrangements through its Brazilian subsidiary during fiscal year 2014.  The export financing arrangements are issued under an incentive program of the Brazilian government to fund working capital for Brazilian companies in exportation programs. The arrangements bear interest at 5.5 percent and have maturity dates in 2016 and 2017. There was $18 million outstanding under these arrangements at December 31, 2015 and September 30, 2015.
Other
One of the company's consolidated joint ventures in China participates in a bills of exchange program to settle its obligations with its trade suppliers. These programs are common in China and generally require the participation of local banks. Under these programs, the company's joint venture issues notes payable through the participating banks to its trade suppliers. If the issued notes payable remain unpaid on their respective due dates, this could constitute an event of default under the company’s revolving credit facility if the defaulted amount exceeds $35 million per bank. As of December 31, 2015 and September 30, 2015, the company had $10 million and $13 million, respectively, outstanding under this program at more than one bank.
18. Financial Instruments
Fair values of financial instruments are summarized as follows (in millions):
 
December 31, 2015
 
September 30, 2015
 
Carrying
Value
 
Fair
Value
 
Carrying
Value
 
Fair
Value
Cash and cash equivalents
$
128

 
$
128

 
$
193

 
$
193

Short-term debt
74

 
74

 
15

 
15

Long-term debt
981

 
959

 
1,036

 
1,123

Foreign exchange forward contracts (asset)
2

 
2

 
1

 
1

Foreign exchange forward contracts (liability)
2

 
2

 
3

 
3

Short-term foreign currency option contracts (asset)
2

 
2

 
1

 
1

Long-term foreign currency option contracts (asset)

 

 
1

 
1


The following table reflects the offsetting of derivative assets and liabilities (in millions):
 
December 31, 2015
 
September 30, 2015
 
Gross
Amounts Recognized
 
Gross Amounts
Offset
 
Net Amounts
Reported
 
Gross
Amounts Recognized
 
Gross Amounts
Offset
 
Net Amounts
Reported
Derivative Asset
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange forward contract
2

 

 
2

 
1

 

 
1

Derivative Liabilities
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange forward contract
2

 

 
2

 
3

 

 
3

Fair Value
The current FASB guidance provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical instruments (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are described below:
Level 1 inputs use quoted prices in active markets for identical instruments.
 
Level 2 inputs use other inputs that are observable, either directly or indirectly. These Level 2 inputs include quoted prices for similar instruments in active markets and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.

Level 3 inputs are unobservable inputs, including inputs that are available in situations where there is little, if any, market activity for the related instrument.
In instances where inputs used to measure fair value fall into different levels in the above fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest priority level input that is significant to the valuation. The company's assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each asset or liability.

21

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Fair value of financial instruments by the valuation hierarchy at December 31, 2015 is as follows (in millions):
 
Level 1
 
Level 2
 
Level 3
Cash and cash equivalents
$
128

 
$

 
$

Short-term debt

 
55

 
19

Long-term debt

 
942

 
17

Foreign exchange forward contracts (asset)

 
2

 

Foreign exchange forward contracts (liability)

 
2

 

Short-term foreign currency option contracts (asset)

 

 
2

Long-term foreign currency option contracts (asset)

 

 

Fair value of financial instruments by the valuation hierarchy at December 31, 2014 is as follows (in millions):
 
Level 1
 
Level 2
 
Level 3
Cash and cash equivalents
$
214

 
$

 
$

Short-term debt

 

 
5

Long-term debt

 
1,152

 
45

Foreign exchange forward contracts (asset)

 
2

 

Short-term foreign currency option contracts (asset)

 

 
4

Long-term foreign currency option contracts (asset)

 

 
1

The tables below provide a reconciliation of changes in fair value of the Level 3 financial assets and liabilities measured at fair value in the condensed consolidated balance sheet for the three months ended December 31, 2015 and 2014, respectively. No transfers of assets between any of the Levels occurred during these periods.
Three months ended December 31, 2015 (in millions)
 
Short-term foreign currency option contracts (asset)
 
Long-term foreign currency option contracts (asset)
 
Total
Fair Value as of September 30, 2015
 
$
1

 
$
1

 
$
2

Total unrealized gains (losses):
 
 
 
 
 


Included in other income
 

 

 

Included in cost of sales
 

 
(1
)
 
(1
)
Total realized gains (losses):
 
 
 
 
 


Included in other income
 

 

 

Included in cost of sales
 

 

 

Purchases, issuances, sales and settlements:
 
 
 
 
 


Purchases
 
1

 

 
1

Settlements
 

 

 

Transfer in and / or out of Level 3 (1)
 

 

 

Reclass between short-term and long-term
 

 

 

Fair Value as of December 31, 2015
 
$
2

 
$

 
$
2


22

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Three months ended December 31, 2014 (in millions)
 
Short-term foreign currency option contracts (asset)
 
Long-term foreign currency option contracts (asset)
 
Total
Fair Value as of September 30, 2014
 
$
2

 
$
1

 
$
3

Total unrealized gains (losses):
 
 
 
 
 
 
Included in other income
 
1

 

 
1

Included in cost of sales
 

 

 

Total realized gains (losses):
 
 
 
 
 
 
Included in other income
 

 

 

Included in cost of sales
 

 

 

Purchases, issuances, sales and settlements:
 
 
 
 
 


Purchases
 
1

 

 
1

Settlements
 
(1
)
 

 
(1
)
Transfer in and / or out of Level 3 (1)
 

 

 

Reclass between short-term and long-term
 
1

 

 
1

Fair Value as of December 31, 2014
 
$
4

 
$
1

 
$
5

(1) Transfers as of the last day of the reporting period.
Cash and cash equivalents — All highly liquid investments purchased with an original maturity of three months or less are considered to be cash equivalents. The carrying value approximates fair value because of the short maturity of these instruments. The company did not have any cash equivalents at December 31, 2015 or September 30, 2015.
     Short- and Long-term debt — Fair values are based on transaction prices at public exchange for publicly traded debt. For debt instruments that are not publicly traded, fair values are based on interest rates that would be currently available to the company for issuance of similar types of debt instruments with similar terms and remaining maturities.
Foreign exchange forward contracts — The company uses foreign exchange forward purchase and sale contracts with terms of one year or less to hedge its exposure to changes in foreign currency exchange rates. The fair value of foreign exchange forward contracts is based on a model which incorporates observable inputs including quoted spot rates, forward exchange rates and discounted future expected cash flows utilizing market interest rates with similar quality and maturity characteristics. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of changes in the fair value of the contracts is recorded in Accumulated Other Comprehensive Loss in the statement of shareowners’ equity and is recognized in operating income when the underlying forecasted transaction impacts earnings.
Foreign currency option contracts — The company uses option contracts to mitigate foreign currency exposure on expected future Indian rupee denominated purchases. The contracts were entered into during the third quarter of fiscal year 2014 with effective dates from the start of fiscal year 2015 through the end of fiscal year 2017. In the second quarter of fiscal year 2015, the company monetized its outstanding foreign currency option contracts and entered into a new series of foreign currency option contracts with effective dates from the start of the third quarter of fiscal year 2015 through the end of fiscal year 2017. The fair value of the foreign currency option contracts is based on a third-party proprietary model, which incorporates inputs at varying unobservable weights of quoted spot rates, market volatility, forward rates, and time utilizing market instruments with similar quality and maturity characteristics. The company did not elect hedge accounting for these derivatives. Changes in fair value associated with these contracts are recorded in cost of sales in the consolidated statement of operations. For the three months ended December 31, 2015, net unrealized losses totaled $1 million.
From time to time, the company will hedge against its foreign currency exposure related to translations to U.S. dollars of financial results denominated in foreign currencies. In the first quarter of fiscal year 2015, the company entered into a series of foreign currency option contracts with a total notional amount of $48 million to reduce volatility in the translation of Brazilian real earnings to U.S. dollars. These foreign currency option contracts do not qualify for a hedge accounting election but are expected to mitigate foreign currency translation exposure of Brazilian real earnings to U.S. dollars. In the second quarter of fiscal year 2015, the company monetized these outstanding foreign currency option contracts and entered into a new series of foreign currency option contracts with effective dates from the start of the third quarter of fiscal year 2015 through the end of fiscal year 2015. In the third and fourth quarters of fiscal year 2015, we monetized these outstanding foreign currency option contracts. As of December 31, 2015 and September 30, 2015, there were no Brazilian real foreign currency option contracts outstanding.

23

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Also, in the fourth quarter of fiscal year 2015, the company entered into a series of foreign currency contracts with total notional amounts of $30 million and $27 million to mitigate the risk of volatility in the translation of Swedish krona and euro earnings to U.S. dollars, respectively. During the first quarter of fiscal year 2016, the company entered into additional foreign currency contracts with total notional amounts of $19 million and $21 million to mitigate the risk of volatility in the translation of the Swedish krona and euro earnings to U.S. dollars, respectively. These foreign currency option contracts do not qualify for a hedge accounting election but are expected to mitigate foreign currency translation exposure of Swedish krona and euro earnings to U.S. dollars. In the three months ended December 31, 2015, the company recognized an insignificant net gain associated with the change in fair value of these foreign currency option contracts. The fair value of the foreign currency option contracts is based on a third-party proprietary model, which incorporates inputs at varying unobservable weights of quoted spot rates, market volatility, forward rates, and time utilizing market instruments with similar quality and maturity characteristics. Changes in fair value associated with these contracts are recorded in the consolidated statement of operations in other income, net.
19. Retirement Benefit Liabilities
     Retirement benefit liabilities consisted of the following (in millions):
 
December 31,
2015
 
September 30,
2015
Retiree medical liability
$
431

 
$
438

Pension liability
213

 
219

Other
14

 
14

Subtotal
658

 
671

Less: current portion (included in compensation and benefits, Note 15)
(39
)
 
(39
)
Retirement benefits
$
619

 
$
632

The components of net periodic pension and retiree medical expense included in continuing operations for the three months ended December 31 are as follows (in millions):
 
2015
 
2014
 
Pension
 
Retiree Medical
 
Pension
 
Retiree Medical
Interest cost
6

 
4

 
18

 
5

Assumed return on plan assets
(25
)
 

 
(28
)
 

Recognized actuarial loss
6

 
3

 
7

 
5

Total expense (income)
$
(13
)
 
$
7

 
$
(3
)
 
$
10

20. Contingencies
Environmental
     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 the operations of the company. The process of estimating environmental liabilities is complex and dependent upon evolving physical and scientific data at the sites, uncertainties as to remedies and technologies to be used and the outcome of discussions with regulatory agencies. The company records 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, the company records a liability for its allocable share of costs related to its involvement with the site, as well as an allocable share of costs related to insolvent parties or unidentified shares. At environmental sites in which Meritor is the only potentially responsible party, the company records a liability for the total probable and estimable costs of remediation before consideration of recovery from insurers or other third parties.

24

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


     The company has been designated as a potentially responsible party at nine Superfund sites, excluding sites as to which the company’s records disclose no involvement or as to which the company’s liability has been finally determined. Management estimates the total reasonably possible costs the company could incur for the remediation of Superfund sites at December 31, 2015 to be approximately $17 million, of which $2 million is probable and recorded as a liability. Included in reasonably possible amounts are estimates for certain remediation actions that may be required if current actions are deemed inadequate by the regulators.
     In addition to the Superfund sites, various other lawsuits, claims and proceedings have been asserted against the company, alleging violations of federal, state and local environmental protection requirements, or seeking remediation of alleged environmental impairments, principally at previously disposed-of properties. For these matters, management has estimated the total reasonably possible costs the company could incur at December 31, 2015 to be approximately $28 million, of which $14 million is probable and recorded as a liability.
     Included in the company’s environmental liabilities are costs for on-going operation, maintenance and monitoring at environmental sites in which remediation has been put into place. This liability is discounted using discount rates in the range of 0.5 to 2.5 percent and is approximately $8 million at December 31, 2015. The undiscounted estimate of these costs is approximately $8 million.
     The following are the components of the Superfund and non-Superfund environmental reserves (in millions):
 
Superfund Sites
 
Non-Superfund Sites
 
Total
Beginning balance at September 30, 2015
$
2

 
$
14

 
$
16

Payments and other

 

 

Accruals

 

 

Balance at December 31, 2015
$
2

 
$
14

 
$
16

Environmental reserves are included in Other Current Liabilities (see Note 15) and Other Liabilities (see Note 16) in the condensed consolidated balance sheet.
     The actual amount of costs or damages for which the company may be held responsible could materially exceed the foregoing estimates because of uncertainties, including the financial condition of other potentially responsible parties, the success of the remediation, discovery of new contamination and other factors that make it difficult to predict actual costs accurately. However, based on management’s assessment, after consulting with outside advisors that specialize in environmental matters, and subject to the difficulties inherent in estimating these future costs, the company believes that its 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 effect on the company’s 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 remedies could significantly change the company’s estimates. Management cannot assess the possible effect of compliance with future requirements.
Asbestos
     Maremont Corporation (“Maremont”), a subsidiary of Meritor, manufactured friction products containing asbestos from 1953 through 1977, when it sold its friction product business. Arvin Industries, Inc., a predecessor of the company, 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.
Maremont had approximately 5,700 and 5,600 pending asbestos-related claims at December 31, 2015 and September 30, 2015, respectively. Although Maremont has been named in these cases, in the cases where actual injury has been alleged, very few claimants have established that a Maremont product caused their injuries. Plaintiffs’ lawyers often sue dozens or even hundreds of defendants in individual lawsuits, seeking damages against all named defendants irrespective of the disease or injury and irrespective of any causal connection with a particular product. For these reasons, the total number of claims filed is not necessarily the most meaningful factor in determining Maremont’s asbestos-related liability.

25

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


     Maremont’s asbestos-related reserves and corresponding asbestos-related recoveries are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Pending and future claims
$
71

 
$
71

Billed but unpaid claims
1

 
3

Asbestos-related liabilities
$
72

 
$
74

Asbestos-related insurance recoveries
$
38

 
$
41

A portion of the asbestos-related recoveries and reserves are included in Other Current Assets and Liabilities, with the majority of the amounts recorded in Other Assets and Liabilities (see Notes 11, 13, 15 and 16).
         Pending and Future Claims: Maremont has engaged Bates White LLC (“Bates White”), a consulting firm with extensive experience estimating costs associated with asbestos litigation, to assist with determining the estimated cost of resolving pending and future asbestos-related claims that have been, and could reasonably be expected to be, filed against Maremont. Bates White prepares these cost estimates annually in September. Although it is not possible to estimate the full range of costs because of various uncertainties, Bates White advised Maremont that it would be possible to determine an estimate of a reasonable forecast of the cost of the probable settlement and defense costs of resolving pending and future asbestos-related claims, based on historical data and certain assumptions with respect to events that may occur in the future.
     As of September 30, 2015, Bates White provided a reasonable and probable estimate that consisted of a range of equally likely possibilities of Maremont’s obligation for asbestos personal injury claims over the next ten years of $71 million to $100 million. Management recognized a liability of $71 million as of each of December 31, 2015 and September 30, 2015 for pending and future claims over the next ten years. The ultimate cost of resolving pending and future claims is estimated based on the history of claims and expenses for plaintiffs represented by law firms in jurisdictions with an established history with Maremont. Historically, Maremont has recognized incremental insurance receivables associated with recoveries expected for asbestos-related liabilities as the estimate of asbestos-related liabilities for pending and future claims changes. However, Maremont currently expects that its settled insurance coverage will not be sufficient to fully offset its expected asbestos-related liabilities through the end of the ten-year forecasted liability period.
     Assumptions: The following assumptions were made by Maremont after consultation with Bates White and are included in their study:
Pending and future claims were estimated for a ten-year period ending in fiscal year 2025;
Maremont believes that the litigation environment could change significantly beyond ten years and that the reliability of estimates of future probable expenditures in connection with asbestos-related personal injury claims will decline for each year further in the future. As a result, estimating a probable liability beyond ten years is difficult and uncertain;
On a per claim basis, defense and processing costs for pending and future claims will be at the level consistent with Maremont’s prior experience;
Potential payments made to claimants from other sources, including other defendants and 524(g) trusts favorably impact Maremont’s estimated liability in the future; and
The ultimate indemnity cost of resolving nonmalignant claims with plaintiffs’ law firms in jurisdictions without an established history with Maremont cannot be reasonably estimated.
Recoveries: Maremont has insurance that reimburses a substantial portion of the costs incurred defending against asbestos-related claims. The insurance receivable related to asbestos-related liabilities is $38 million and $41 million as of December 31, 2015 and September 30, 2015, respectively. The receivable is for coverage provided by one insurance carrier based on a coverage in place agreement. Maremont currently expects to exhaust the remaining limits provided by this coverage sometime in the next ten years. The difference between the estimated liability and insurance receivable is primarily related to exhaustion of settled insurance coverage within the forecasted period and proceeds from settled insurance policies. Amounts received from insurance settlements generally reduce recorded insurance receivables.

26

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Maremont maintained insurance coverage with other insurance carriers that management believes also covers indemnity and defense costs. During fiscal year 2013, Maremont re-initiated lawsuits against these carriers, seeking a declaration of its rights to coverage for asbestos claims and to facilitate an orderly and timely collection of insurance proceeds. One of these insurance policies has been partially settled in cash. On December 12, 2015, Maremont received $17 million, of which $5 million was recognized as reduction in asbestos expense and $12 million was recorded as a liability to the insurance carrier as it is required to be returned to the carrier if additional asbestos liability is not incurred. The settlement also provides additional recovery if certain spending thresholds are met.
     The amounts recorded for the asbestos-related reserves and recoveries from insurance companies are based upon assumptions and estimates derived from currently known facts. All such estimates of liabilities and recoveries for asbestos-related claims are subject to considerable uncertainty because such liabilities and recoveries are influenced by variables that are difficult to predict. The future litigation environment for Maremont could change significantly from its past experience, due, for example, to changes in the mix of claims filed against Maremont in terms of plaintiffs’ law firms, jurisdictions and diseases; legislative or regulatory developments; Maremont’s approach to defending claims; or payments to plaintiffs from other defendants. Estimated recoveries are influenced by coverage issues among insurers and the continuing solvency of various insurance companies. If the assumptions with respect to the estimation period, 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 Maremont’s asbestos-related claims, and the effect on the company, could differ materially from current estimates and, therefore, could have a material impact on the company’s financial condition and results of operations.
     Rockwell International (“Rockwell”) — ArvinMeritor, Inc. (“AM”), a subsidiary of Meritor, along with many other companies, has also been named as a defendant in lawsuits alleging personal injury as a result of exposure to asbestos used in certain components of Rockwell products many years ago. Liability for these claims was transferred at the time of the spin-off of the automotive business from Rockwell in 1997. Rockwell had approximately 3,100 and 3,000 pending active asbestos claims in lawsuits that name AM, together with many other companies, as defendants at December 31, 2015 and September 30, 2015, respectively.
A significant portion of the claims do not identify any of Rockwell’s products or specify which of the claimants, if any, were exposed to asbestos attributable to Rockwell’s products, and past experience has shown that the vast majority of the claimants will likely never identify any of Rockwell’s products. Historically, AM has been dismissed from the vast majority of similar claims filed in the past with no payment to claimants. For those claimants who do show that they worked with Rockwell’s products, management nevertheless believes it has meritorious defenses, in substantial part due to the integrity of the products involved and the lack of any impairing medical condition on the part of many claimants.
     The Rockwell legacy asbestos-related reserves and corresponding asbestos-related recoveries are summarized as follows (in millions):
 
December 31,
2015
 
September 30,
2015
Pending and future claims
$
55

 
$
55

Billed but unpaid claims
3

 
3

Asbestos-related liabilities
$
58

 
$
58

Asbestos-related insurance recoveries
$
14

 
$
14

Pending and Future Claims: The company has engaged Bates White to assist with determining whether it would be possible to estimate the cost of resolving pending and future Rockwell legacy asbestos-related claims that have been, and could reasonably be expected to be, filed against the company. Bates White prepares these cost estimates annually in September. As of September 30, 2015, Bates White provided a reasonable and probable estimate that consisted of a range of equally likely possibilities of Rockwell’s obligation for asbestos personal injury claims over the next ten years of $55 million to $74 million. Management recognized a liability for the pending and future claims over the next ten years of $55 million as of each of December 31, 2015 and September 30, 2015. The ultimate cost of resolving pending and future claims is estimated based on the history of claims and expenses for plaintiffs represented by law firms in jurisdictions with an established history with Rockwell.

27

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


  Assumptions: The following assumptions were made by the company after consultation with Bates White and are included in their study:
Pending and future claims were estimated for a ten-year period ending in fiscal year 2025;
The company believes that the litigation environment could change significantly beyond ten years and that the reliability of estimates of future probable expenditures in connection with asbestos-related personal injury claims will decline for each year further in the future. As a result, estimating a probable liability beyond ten years is difficult and uncertain;
On a per claim basis, defense and processing costs for pending and future claims will be at the level consistent with the company’s prior experience;
Potential payments made to claimants from other sources, including other defendants and 524(g) trusts favorably impact the company’s estimated liability in the future; and
The ultimate indemnity cost of resolving nonmalignant claims with plaintiff’s law firms in jurisdictions without an established history with Rockwell cannot be reasonably estimated.
Recoveries: The insurance receivable related to asbestos-related liabilities was $14 million as of each of December 31, 2015 and September 30, 2015. Included in these amounts are insurance receivables of $9 million as of each of December 31, 2015 and September 30, 2015 that are associated with policies in dispute. Rockwell has insurance coverage that management believes covers indemnity and defense costs, over and above self-insurance retentions, for most of these claims. The company has initiated claims against certain of these carriers to enforce the insurance policies, which are in various stages of the litigation process. The company expects to recover some portion of the defense and indemnity costs it has incurred to date, over and above self-insured retentions, and some portion of the costs for defending asbestos claims going forward. The amounts recognized for policies in dispute are based on consultation with advisors, status of settlement negotiations with certain insurers and underlying analysis performed by management. The remaining receivable recognized is related to coverage provided by one carrier based on a coverage-in-place insurance arrangement. If the assumptions with respect to the estimation period, the nature of pending claims, the cost to resolve claims and the amount of available insurance prove to be incorrect, the actual amount of liability for Rockwell's asbestos-related claims, and the effect on the company, could differ materially from current estimates and, therefore, could have a material impact on the company’s financial condition and results of operations.
Indemnifications
The company has provided indemnifications in conjunction with certain transactions, primarily divestitures. These indemnities address a variety of matters, which may include environmental, tax, asbestos and employment-related matters, and the periods of indemnification vary in duration.
In December 2005, the company guaranteed a third party’s obligation to reimburse another party for payment of health and prescription drug benefits to a group of retired employees. The retirees were former employees of a wholly-owned subsidiary of the company prior to it being acquired by the company. The wholly-owned subsidiary, which was part of the company’s light vehicle aftermarket business, was sold by the company in fiscal year 2006. Prior to May 2009, except as set forth hereinafter, the third party met its obligations to reimburse the other party. In May 2009, the third party filed for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code requiring the company to recognize its obligations under the guarantee. The company recorded a $28 million liability in fiscal year 2009 for this matter. At December 31, 2015 and September 30, 2015, the remaining estimated liability for this matter was approximately $13 million.
   In connection with the sale of its interest in MSSC in October 2009, the company provided certain indemnities to the buyer for its share of potential obligations related to pension funding shortfall, environmental and other contingencies, and valuation of certain accounts receivable and inventories. The company’s estimated exposure under these indemnities at December 31, 2015 and September 30, 2015 was approximately $1 million and $2 million, respectively, and is included in other liabilities in the condensed consolidated balance sheet.
The company is not aware of any other claims or other information that would give rise to material payments under such indemnifications.
Other
As a result of performing ongoing product conformance testing in the ordinary course of business, the company identified a non-safety related, potential product performance issue arising from a defective supplier component. During fiscal year 2013, the company notified all major customers and initiated a sampling campaign. Management estimated the total costs the company could incur for a full campaign to be in the range of $12 million to $20 million, of which $12 million was recorded as a specific warranty

28

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


contingency reserve. In the fourth quarter of fiscal year 2013, the company received $5 million of non-cash cost recovery from the component supplier. During the second half of fiscal year 2014, the company worked with customers to determine the appropriate next steps. In the fourth quarter of fiscal year 2014, after no field failures were identified during the sampling campaign, the company determined a full campaign to be unnecessary and moved to a fix-as-find approach with an extended warranty, thereby reducing the accrual significantly. As of December 31, 2015 and September 30, 2015, the estimated cost the company could incur for this non-safety related, potential product performance issue was $2 million and $3 million, respectively.
The company identified certain sales transactions for which value added tax was required to be remitted to certain tax jurisdictions for tax years 2009 through 2015. At December 31, 2015 and September 30, 2015, the company’s estimate of the probable liability was $10 million.

In addition, various lawsuits, claims and proceedings, other than those specifically disclosed in the condensed consolidated financial statements, have been or may be instituted or asserted against the company, relating to the conduct of the company’s business, including those pertaining to product liability, warranty or recall claims, intellectual property, safety and health, contract and employment matters. Although the outcome of other litigation cannot be predicted with certainty, and some lawsuits, claims or proceedings may be disposed of unfavorably to the company, management believes the disposition of matters that are pending will not have a material effect on the company’s business, financial condition, results of operations or cash flows. 
21. Shareowners' Equity
Equity and Equity-Linked Repurchase Authorizations
   In June 2014, the company’s Board of Directors authorized the repurchase of up to $210 million of its equity and equity-linked securities (including convertible debt securities), subject to the achievement of its M2016 net debt reduction target and compliance with legal and regulatory requirements and its debt covenants. In September 2014, the company’s Board authorized the repurchase of up to $40 million of its 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 have no stated expiration. During the three months ended December 31, 2015, the company repurchased 3.9 million shares of common stock for $43 million (including commission costs) pursuant to these authorizations. As of December 31, 2015, the company has repurchased 8.1 million shares of common stock for $98 million (including commission costs) and $19 million principal amount of its 4.0 percent convertible notes due 2027 pursuant to the equity and equity-linked repurchase authorizations. The amount remaining available for repurchases under these authorizations was $94 million at December 31, 2015.
In January 2015, the Offering Committee of the company’s Board of Directors approved a repurchase program for up to $150 million aggregate principal amount of any of its public debt securities (including convertible debt securities) from time to time through open market purchases or privately negotiated transactions or otherwise, until September 30, 2016, subject to compliance with legal and regulatory requirements and the company's debt covenants. This repurchase program is in addition to the equity and equity-linked repurchase authorizations described above. The amount remaining available for repurchases under this program is $150 million as of December 31, 2015 and September 30, 2015.

In May 2015, the Offering Committee of the company's Board of Directors approved a repurchase program for up to $175 million aggregate principal amount at maturity of its 7.875 percent convertible notes due 2026 from time to time prior to September 30, 2015, subject to compliance with legal and regulatory requirements and its debt covenants. This repurchase program was in addition to the equity and equity-linked repurchase authorizations and debt repurchase program described above. During fiscal year 2015, prior to its expiration, the company repurchased $110 million aggregate principal amount at maturity of the 7.875 percent convertible notes for $179 million.

29

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Accumulated Other Comprehensive Loss (AOCL)
The components of AOCL and the changes in AOCL by components, net of tax, for three months ended December 31, 2015 and 2014 are as follows (in millions):
 
Foreign Currency Translation
 
Employee Benefit Related Adjustments
 
Unrealized Loss, net of tax
 
Total
Balance at September 30, 2015
$
(54
)
 
$
(705
)
 
$
(7
)
 
$
(766
)
Other comprehensive income (loss) before reclassification
(6
)
 

 
3

 
(3
)
Amounts reclassified from accumulated other comprehensive loss - net of tax

 
9

 

 
9

Net current-period other comprehensive income (loss)
$
(6
)
 
$
9

 
$
3

 
$
6

Balance at December 31, 2015
$
(60
)
 
$
(696
)
 
$
(4
)
 
$
(760
)
 
Details about Accumulated Other Comprehensive Income Components
 
Amount Reclassified from Accumulated Other Comprehensive Income
 
Affected Line Item in the Consolidated Statement of Operations
 
Employee Benefit Related Adjustment
 
 
 
 
 
Actuarial losses
 
9

 
(a) 
 
 
 
9

 
Total before tax
 
 
 

 
Tax (benefit) expense
 
Total reclassifications for the period
 
$
9

 
Net of tax
 
 
 
 
 
 
 
(a)  These accumulated other comprehensive income components are included in the computation of net periodic pension and retiree medical expense (see Note 19 for additional details).
 
 
Foreign Currency Translation
 
Employee Benefit Related Adjustments
 
Unrealized Loss, net of tax
 
Total
Balance at September 30, 2014
$
41

 
$
(789
)
 
$
(1
)
 
$
(749
)
Other comprehensive income before reclassification
(34
)
 

 
(1
)
 
(35
)
Amounts reclassified from accumulated other comprehensive loss - net of tax
1

 
12

 

 
13

Net current-period other comprehensive income
$
(33
)
 
$
12

 
$
(1
)
 
$
(22
)
Balance at December 31, 2014
$
8

 
$
(777
)
 
$
(2
)
 
$
(771
)

30

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Details about Accumulated Other Comprehensive Income Components
 
Amount Reclassified from Accumulated Other Comprehensive Income
 
Affected Line Item in the Consolidated Statement of Operations
 
Employee Benefit Related Adjustment
 
 
 
 
 
Actuarial losses
 
$
12

 
(b) 
 
 
 
12

 
Total before tax
 
 
 

 
Tax expense
 
 
 
12

 
Net of tax
 
 
 
 
 
 
 
Foreign Currency Translation Related Adjustment
 
 
 
 
 
Other reclassification adjustment
 
$
1

 
 
 
 
 
1

 
Total before tax
 
 
 

 
Tax expense
 
 
 
1

 
Net of tax
 
 
 
 
 
 
 
Total reclassifications for the period
 
$
13

 
Net of tax
 
 
 
 
 
 
 
(b)  These accumulated other comprehensive income components are included in the computation of net periodic pension and retiree medical expense (see Note 19 for additional details).
 
22. Business Segment Information
The company defines its operating segments as components of its business where separate financial information is available and is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. The company’s Chief Operating Decision Maker ("CODM") is the Chief Executive Officer.
      The company has two reportable segments at December 31, 2015, as follows:
The Commercial Truck & Industrial segment supplies drivetrain systems and components, including axles, drivelines and braking and suspension systems, primarily for medium- and heavy-duty trucks, 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 parts to commercial vehicle and industrial aftermarket customers. This segment also supplies a wide variety of undercarriage products and systems for trailer applications in North America.

     Segment EBITDA is defined as income (loss) from continuing operations before interest expense, income taxes, depreciation and amortization, non-controlling interests in consolidated joint ventures, loss on sale of receivables, restructuring expense and asset impairment charges. The company uses Segment EBITDA as the primary basis for the CODM to evaluate the performance of each of its reportable segments.
     The accounting policies of the segments are the same as those applied in the consolidated financial statements, except for the use of Segment EBITDA. The company may allocate certain common costs, primarily corporate functions, between the segments differently than the company would for stand alone financial information prepared in accordance with GAAP. These allocated costs include expenses for shared services such as information technology, finance, communications, legal and human resources. The company does not allocate interest expense and certain legacy and other corporate costs not directly associated with the segment.

31

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


     Segment information is summarized as follows (in millions):
 
Commercial Truck
& Industrial
 
Aftermarket
& Trailer
 
Eliminations
 
Total
Three Months Ended December 31, 2015
 
 
 
 
 
 
 
External Sales
$
613

 
$
196

 
$

 
$
809

Intersegment Sales
20

 
7

 
(27
)
 

Total Sales
$
633

 
$
203

 
$
(27
)
 
$
809

Three Months Ended December 31, 2014
 
 
 
 
 
 
 
External Sales
$
678

 
$
201

 
$

 
$
879

Intersegment Sales
25

 
7

 
(32
)
 

Total Sales
$
703

 
$
208

 
$
(32
)
 
$
879

 
 
 
 
 
 
 
 

 
Three Months Ended December 31,
 
2015
 
2014
Segment EBITDA:
 
 
 
Commercial Truck & Industrial
$
52

 
$
56

Aftermarket & Trailer
20

 
25

Segment EBITDA
72


81

Unallocated legacy and corporate costs, net (1)
4

 
(2
)
Interest expense, net
(22
)
 
(19
)
Provision for income taxes
(7
)
 
(7
)
Depreciation and amortization
(15
)
 
(15
)
Noncontrolling interests
(1
)
 
(1
)
Loss on sale of receivables
(2
)
 
(2
)
Restructuring costs
(1
)
 
(3
)
Income from continuing operations attributable to Meritor, Inc.
$
28


$
32

(1)
Unallocated legacy and corporate costs, net represents items that are not directly related to the company's business segments. These costs primarily include asbestos-related charges and settlements, pension and retiree medical costs associated with sold businesses and other legacy costs for environmental and product liability.
     
Segment Assets:
December 31,
2015
 
September 30,
2015
Commercial Truck & Industrial
$
1,552

 
$
1,569

Aftermarket & Trailer
440

 
448

Total segment assets
1,992

 
2,017

Corporate (1)
361

 
434

Less: Accounts receivable sold under off-balance sheet factoring programs(2) 
(303
)
 
(256
)
Total assets
$
2,050

 
$
2,195

(1) 
Corporate assets consist primarily of cash, deferred income taxes and prepaid pension costs.
(2) 
At December 31, 2015 and September 30, 2015, segment assets include $303 million and $256 million, respectively, of accounts receivable sold under off-balance sheet accounts receivable factoring programs (see Note 8). These sold receivables are included in segment assets as the CODM reviews segment assets inclusive of these balances.

32

MERITOR, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


23. Supplemental Guarantor Condensed Consolidating Financial Statements
Rule 3-10 of Regulation S-X requires that separate financial information for issuers and guarantors of registered securities be filed in certain circumstances. Certain of the company's 100% owned subsidiaries, as defined in the credit agreement (the "Guarantors"), irrevocably and unconditionally guarantee amounts outstanding under the senior secured revolving credit facility on a joint and several basis. Similar subsidiary guarantees were provided for the benefit of the holders of the notes outstanding under the company's indentures (see Note 17).
Schedule I of Rule 5-04 of Regulation S-X requires that condensed financial information of the registrant (Parent) on a stand alone basis be filed when the restricted net assets of consolidated subsidiaries exceed 25 percent of consolidated net assets as of the end of the most recently completed fiscal year. Certain subsidiaries in China, India and Brazil are restricted by law from transfer of cash by dividends, loans, or advances to Parent, which exceeded 25 percent of consolidated net assets of Parent as of September 30, 2015. As of December 31, 2015, the company's proportionate share of net assets restricted from transfer by law was $45 million.
In lieu of providing separate audited financial statements for the Parent and Guarantors, the company has included the accompanying condensed consolidating financial statements as permitted by Regulation S-X Rules 3-10 and 5-04. These condensed consolidating financial statements are presented on the equity method. Under this method, the investments in subsidiaries are recorded at cost and adjusted for the Parent's share of the subsidiary's cumulative results of operations, capital contributions and distribution and other equity changes. The Guarantors are combined in the condensed consolidated financial statements.

33

Index                        
MERITOR, INC.
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
(In millions)
(Unaudited)


 
Three Months Ended December 31, 2015
 
Parent
 
Guarantors
 
Non-
Guarantors
 
Elims
 
Consolidated
Sales
 
 
 
 
 
 
 
 
 
External
$

 
$
417

 
$
392

 
$

 
$
809

Subsidiaries

 
27

 
16

 
(43
)
 

Total sales

 
444

 
408

 
(43
)
 
809

Cost of sales
(14
)
 
(377
)
 
(357
)
 
43

 
(705
)
GROSS MARGIN
(14
)
 
67

 
51

 

 
104

Selling, general and administrative
(20
)
 
(21
)
 
(15
)
 

 
(56
)
Restructuring costs

 

 
(1
)
 

 
(1
)
OPERATING INCOME (LOSS)
(34
)
 
46

 
35

 

 
47

Other income (expense), net
(1
)
 

 
2

 

 
1

Equity in earnings of affiliates