Marel hf

ICEX:MAREL

Earnings Call Transcript

[Tinna Molphy, executive]

Good morning from Reykjavik, Iceland, to our third quarter investor meeting, where CEO, Arni Oddur Thordarson; and CFO, Stacey Katz, will go over the third quarter results and some key business highlights. My name is Tinna Molphy, Investor Relations, and I'll be moderating today's session. We start off with presentations and then move into Q&A. [Operator Instructions]Now over to you, Arni Oddur Thordarson.

[Arni Thordarson, executive]

Thank you, Tinna, and welcome all to this third quarter results. In this quarter and in recent periods, we have been intensifying our journey toward the market. We ask the customer, for the customers, increase their customer approximately. We need all to lead here by example, I have enjoyed myself, for instance, going deep in China with our customer there, our great team there, going into Turkey, around Europe and as well nice visits here in Iceland to our fish customers.We have been focusing as well on getting a leaner operation with a new operating model. We have been helped now by easing of the [indiscernible] and as well seen some of our price action filtering through. Getting the cost down and remarkable EUR 9 million year-on-year down the operating cost and solid 9% EBIT. The cash flow is back on track here. As we know here in Marel, we have a great cash flow model and it's nice to see that back here. Trailing 12 months though, only at 100%, but very high in this quarter and going forward.So let's look at, and I want to start in the order intake, in that we are feeling better when we go into the fourth quarter. We are seeing more activities. We see as well more customer wins out there. It is in all segments, like we are securing a good orders in beginning of the quarter in the fish segment. We are seeing robotic sales secured in meat sector, plant-based as well, but then the remarkable large-scale transformational greenfield in Australia with the respected long-term partner Baiada.This compensates for the soft order intake, EUR 391 million in the third quarter. We have seen 4 to 5 quarters where we have been on soft side in the project order intake. And moreover, they have been coming extremely late in the quarter. So positive signs beginning of the fourth quarter.In the recent quarter, we have had around EUR 200 million in project order intake. So a greenfield, largest greenfield in beginning of fourth quarter you can see, how proportional that weighs in. However, in the service, we have seen around and above order intake EUR 200 million per [indiscernible]. So that's the base recurring increasing by 12% a year year-on-year last 5 years.We have been investing well in this business. It has costed nonrecurring costs, but now it's harvesting time going forward and enhance the margins here with more speed, more operational efficiency and first to growth. This is one of the intrinsic value that we believe that we have been creating here significantly.So last quarter, a little bit higher even order intake in the service business than in the project business. Of course, we are targeting in the project business orders to be on the level in projects around EUR 250 million to EUR 300 million on top of the EUR 200 million in the service business.I would say compared to the lower revenues in the quarter that is a reflection on the order intake in the past quarters. We are delivering solid 9% EBIT. We are seeing our actions filtering through the price-cost ratio is improving. Stacey will go much deeper through this. And as I said, EUR 9 million down in the operating cost. It has not always been easy, and we are as well just streamlining our backend and being out in the field here, but 9% EBIT compared to the target of sustained 14% to 16% EBIT, backbone growth track.I want to stop a little bit here on this page. We have always highlighted how important it is our cash flow model. If you study other capital goods companies and I challenge you to find a company that has a track record of 118% to 130% compared to EBIT and operating cash flow. This has been under that in recent quarters because we are in low-volume, high-mix business. We need to do ramp safety inventories because we are not going to sacrifice our business. We were able to deliver on time to our customers. Now with the easing of the supply chain, we can ramp down say the inventories model is that our customer finest project business and we run faster and faster the spare part and the standard equipment.In this quarter, it's much higher than the 98% year. This is the trailing 12 months and we are going back on track on our historic levels. But Stacey will explain that better. I will be back with you after Stacey goes through the financials.

[Stacey Katz, executive]

Thank you very much, Arni, and thank you for joining us today as we present our results for Q3. Major highlights in the figures this quarter are the strong cash flow, showing steps towards our historical cash conversion, the lower operating expenses on our journey towards a sustainable lower cost base and the improvement in working capital rebalancing after the last few years. These highlights are showing that the actions that we have been working on diligently are materializing.I would also like to mention a softer highlight in the quarter. Linda, our Chief Operating Officer, and I, took a 2-week trip around the world to visit Marel's locations in Singapore, China, various locations in the U.S. and Brazil. It was really inspiring to meet with and listen to our engaged employees and passionate team, learning more about the opportunities and the challenges that they are faced with each day on our united journey towards transforming food processing.Revenues of EUR 404 million compared to EUR 422 million last quarter. Lower project revenues due to, as Arni mentioned, the level of project orders received in the past quarters and also due to a parts availability issue in Wenger that we expect to resolve in the fourth quarter, mitigated by continuing momentum in aftermarket revenues at EUR 196 million. Continued progress on our investments in our end-to-end spare parts journey.Orders received at EUR 391 million in the quarter. EUR 391 million is below where we had wanted to see it due to timing of investments with orders shifting between quarters. Book-to-bill of 0.97, closer to the parity level, though we would like to see this continue to rise in the next quarters. Pipeline is strong and outlook is improving in the coming quarters. This quarter started off on a stronger note, as Arni mentioned, than the last quarter. Order book of EUR 562 million or 32% of trailing 12-month revenues, gross profit improving in the quarter, 35.6% on a lower revenue base. We are seeing improvements in price cost and mix, which are then offset by volume and cost coverage. I will cover more on this shortly.Operating expenses are trending downwards with the focused effort of our team in relation to strong cost management and rightsizing of resources. Total operating expenses are EUR 9 million down year-over-year, EUR 7 million down quarter-over-quarter. In Q3, we do have the benefit of releasing holiday accruals in, for example, Europe, which will go in the other direction in Q4. However, we are continuing to turn over each stone to ensure we are spending our money wisely.EBIT of 9% or EUR 36 million in the quarter, improving from last quarter on a lower revenue base. Operating cash flow of EUR 62 million, as Arni already mentioned, very positive and free cash flow of EUR 32 million. Good improvements in terms of rebalancing our working capital. In the quarter, capital expenditures normalized and cash flow was strong despite timing of tax payments. Bank leverage per our credit agreement remains below 3.5x net debt/EBITDA.That being said, finance costs are elevated in the third quarter, we also paid fees for the new term loan and the extension of the revolver. We expect to continue our cash and EBITDA generation as well as improving working capital to reach our targeted capital structure. Finance costs expected around the EUR 14 million level in fourth quarter.If we look at our diversified revenue base, the revenue by segment's picture shows the impact of lower volume in the meat segment year-over-year. The revenues by geography picture shows as well proportionally higher revenues in EMEA, particularly South Europe than the Americas year-over-year, in line with market conditions. The revenues by business mix shows the resilience of the aftermarket business, which has now grown to EUR 776 million trailing 12-month revenues. It also shows the relatively lower project revenues.We are committed to our targets of achieving a sustainable 14% to 16% EBIT made up of 38% to 40% gross profit and 24% operating expenses in the course of 2024. We have been working to achieve our targets despite the headwinds in the environment. The chart to the right, I believe, shows it well in terms of the bridge between second quarter and third quarter EBIT, where we see a negative effect from the lower volume that is then compensated by improvements and positive movements in price cost and mix as well as lower operating expenses, leading to the 1% improvement in EBIT.The initiatives mentioned on this slide that we are working on to get to our targets are the same ones as we have mentioned last quarter and are ongoing. We are seeing results materializing in the quarter on numerous items on this list, like the price cost discipline, the mix, the continued aftermarket revenues, ensuring our workforce is the right size, our added focus on our product portfolio, ongoing actions on our footprint optimization and procurement savings campaigns, which are linked to the easing of the supply chain and our stronger cost management for a sustainable lower cost base.As already mentioned, strong operating cash flow of EUR 62 million in the quarter due to moderating capital expenditures and focused improvements on the working capital. Free cash flow at EUR 32 million in the quarter, very good improvement, both quarter-over-quarter and year-over-year despite tax payments being on the higher side in the quarter. Interest payments elevated in the quarter, including the cost for the new term loan and extension of the revolver. Bank leverage remains below 3.5x net debt/EBITDA, which is connected to the interest rate bracket that we are paying.In terms of CapEx, we aim to continue at a normalized level of 2% to 3% to be prudent in relation to being above our targeted capital structure. Focus now is on reaping the benefits of our investments in, for example, the manufacturing parts warehouse in Boxmeer, which is ramping up in efficiency and continuing our end-to-end spare parts journey.Let's now walk through the segments. Good improvement in orders received in poultry in the quarter and pipeline is improving. Outlook is improving as input costs are moderating and profitability is improving at the processors. The fourth quarter started off on a stronger note than Q3 with the greenfield order that Arni mentioned previously. Revenues were stable quarter-over-quarter and aftermarket continued strong. EBIT margin slightly down in the quarter compared to last quarter. This is due to costs associated with ramping our manufacturing parts warehouse to the desired efficiency level.Meat continues to face a challenging environment that is not yet moderating. EBIT ticked slightly upwards in the quarter to 1.3%, still below expectations, that is clear, though it does show that the focused actions to lower the cost base of the meat team are materializing. EBIT increases despite the lower volume, as you can see in this picture.Orders received were soft in meat for the first 9 months of the year. Beef is outperforming pork. North America continues to drive orders and there is more activity within consumer-ready in secondary processing than primary. There are though quite a few interesting projects in the pipeline for meat, though elevated uncertainty in terms of the timing of conversion of those projects. Processors are interested in automation investments with value-added solutions in secondary processing.Priorities in meat are to be at the customer to focus on driving commercial activity with a focused portfolio of value-added solutions as well as ongoing actions to lower the cost base and improve profitability. In fish, like in meat, we do see improvement in the EBIT, up to 0.9%, still below the expectations, though on a lower revenue level. So it's very good to see EBIT moving in the right direction with the focused actions of the fish team in the quarter.Orders received in the quarter were soft. Demand in salmon continues to be impacted by clarity on the resource taxes. Demand in whitefish is impacted by inflation and buy shifts to cheaper proteins by consumers. Outlook for orders received and the pipeline is improving and expected to pick up. Processors are focusing on value-added solutions and further automation. Fish continues efforts to finalize projects from previous acquisitions. The team is making progress, though it's also clear that this is taking time. The dedication by the fish team is really admirable. Further actions to expand EBIT margin focus around operational efficiency and optimization. These are ongoing.Plant, Pet and Feed, a 13% EBIT in the quarter. Solid orders received in the quarter driven by pet food, while outlook is softer in plant-based and aqua feed solutions. Revenue and EBIT in the quarter was affected by a parts availability issue that is expected to resolve in the fourth quarter. Operational performance for Wenger for the year is expected to be within the 14% to 15% EBIT. This means that they are expecting strong deliveries and favorable mix in the fourth quarter.Order book at EUR 562 million or 32% of trailing 12-month revenues, book-to-bill in the quarter of 0.97 or 0.91 for the first 9 months of the year. We are expecting stronger conversion of pipeline into orders in the coming quarters.I already covered quite a bit of the income statement here. On the gross profit development, I did want to mention that we do see pricing on steel, logistics and other materials coming down in line with indices. There is a timing delay in those benefits hitting our figures with the current usage and income level. Operating expenses, as we have mentioned, EUR 9 million down year-over-year, EUR 7 million down quarter-over-quarter. We have continued to focus on reducing our cost base sustainably and the percentages here, of course, are being impacted by the volume.Non-IFRS adjustments are back to normalized levels with the purchase price allocations around the EUR 7 million mark, limited acquisition-related expenses and we did adjust EUR 1.5 million relating to severance and rightsizing actions in the quarter. Further detail on the non-IFRS adjustments are included as an appendix both to the presentation and the press release. Finance costs elevated, as previously mentioned, connected to the debt level.Looking at the balance sheet. On the asset side, the property, plants and equipments is increasing related to our investments. Inventories continue to trend downwards, making good progress with focused targets and efforts by the team. Contract assets are decreasing between quarters, showing solid customer deliveries based on our order book. Cash is increasing in the quarter with strong cash flow, a good sign for us to be able to pay down our debt.On borrowings, there are limited movements between the quarters aside from currency. As already mentioned, in July, we signed a 2-year extension to the revolver and a new EUR 150 million term loan to create headroom to repay the upcoming maturity on the Schuldschein. An appendix with further information on financing is included in the presentation.Trade and other payables decreased due to volume, timing of payments and payments due to investments. It's really great to see here in this picture, the big difference year-over-year in terms of free cash flow and the improvement. As well, as already mentioned, bank leverage remains below 3.5x net debt/EBITDA per our credit agreement. We are focused on staying the course towards reaching our targeted capital structure of 2 to 3x net debt/EBITDA with improvements in working capital as well as expecting a pickup in order intake.Back over to you, Arni.

[Arni Thordarson, executive]

Thank you, Stacey. As always, very well explained line by line how we are driving our financials, getting back on track in the cash flow and our operational results, so. Last time, I had the main focus on our technologies and how we are transforming the way food is processed. This time, I will deep-dive a little bit into our customers, but we are very proud. SensorX came 20 years ago into the market, started in the fish industry, very difficult to detect the bones and hard contamination in the fish industries, the species varies quite significantly. It's a blockbuster in the poultry industry, just to recap.And now we are moving with Acura system, Magna system into the meat. Where it is very much needed in the meat, you have seen the kilotons going down in Europe and the U.S. in the meat sector. While the primary focus is on the consumer-ready fresh or prepared, and of course, it needs to be safe, fully traceable, contamination-free and with a fat/lean ratio on a good level for our delicious burgers. One of the uniqueness in Marel, alongside the digital, our pilot portfolio is how close we are to the customers. We have built a second to none, a global reach with customer centers in 6 continents.We are seeing wins in the market. Let's start the air chilling here in North America. I cannot name the customers. But here, we are writing on the way our [ Lincoln ] premier partner, our Costco and [ Belledevus ] that are reference plants in the U.S., where we are transforming the way poultry is processed, with air chill with seamless flow at higher line speed that has been seen before. And we will step-by-step transform and get the U.S. poultry business to the next level in servicing the delicious chicken all the weekends and every single day.Loneg in Mexico, Beypilic in Turkey, long-term customer, their partner out there, Bremnes in the fish sector in Norway and then Tempeh Today in India in the Plant, Pet and Feed industry. Just to give you a glimpse on customer activities in last quarter, Beypilic came in 2 tranches in the first quarter and third quarter as order and as I said, we started the fourth quarter with a blast with Baiada in Australia in the fourth quarter.Warming up for air chilling, we have to have some humor here, Tinna. I believe this comes from you. But this is changing the game. We are not in the water business. I think water in the beginning of the process, we want to air chill it, it's more carbon-neutral. And doing it that way, otherwise as well, what it reps out in the supermarket or at the hands of the consumers. So we are having the portfolio here and we are seeing it warming up and we are expecting a lot from increased line speed and the air chilling in 2024 in the poultry industry in U.S.Recap, beginning of the year, our customers were facing inventories and lower prices when this has been stabilizing throughout the year. And actually now there is more demand than the supply and the prices of the end products are starting to pick up, improving a bit the operational profits for our customers and to stay competitive, you have to have the best-in-class seamless flow.Turkey, it was a great visit, their customers and their team. I had the opportunity to go both with the meeting, visiting our meat customers that are planning large-scale investments and as well the poultry team visiting like seeing when Beypilic is halfway through, they have best infrastructure. They are now starting to install our equipment and the solution there as well, it was nice to visit the fast food restaurant chains. The biggest 1,600 outlets in Turkey is actual owning as well 1,600 outlets in China, very many similarities with those markets and good to take them in one go in Shanghai and Istanbul.Loneg in Mexico, we have gone through that case in the beef market. So even there is a softness in North Europe and North America in the kilos of tonnes, then we are moving forward. And overall, globally, we are seeing flat this year in kilotonnes and people need to move on with automization. There is labor scarcity all over, even in Turkey, even in China and the salary increase is quite significant at the moment and we need to automate, when I say we, the value chain as a whole.Bremnes Seashore in the Norway, let's move on. There is now though, here we are talking about salmon. You have seen that we have been talking about the tax resolution in Norway. That went through the parliament in May, it's still affecting the order intake in third quarter. However, the Norwegian salmon industry and the [indiscernible] one with the North Atlantic salmon is the most profitable and we'll continue to invest and then you invest in other geographicals, such as land-based here in Iceland that is in high-scale investment. And then we are very proud to move forward with Tempeh in India. This is testing the market and how we can take the plant-based industry there on the next level.We have talked about our targets. 14% to 16% sustained EBIT, best-in-class EBIT with best-in-class operating cash flow. This is not done without dedication, commitment and hard work of our people and I really want to thank you. We have as well been putting the money where our mouth is, continue to innovating and investing extensively in our infrastructure, of course, that has colored the books. Now we take those capital expenditure down to normalized levels. Our infrastructure is second to none in this industry. We are the global leaders in solutions, services, digital software to water market.There is needed economical scales here. The market is quite fragmented and there is a need for ongoing consolidation in the market. Our customers, the largest one are EUR 50 billion to EUR 80 billion in revenues and we are seeing as well [ Movian ] targeting similar levels. We are seeing Tyson, we are seeing [ Tebias ]. And then we are seeing prominent supermarkets such as Costco, Walmart moving into the value chain and going with us in partnership to transform the value chain.But let's go to Q&A.

[Tinna Molphy, executive]

Thank you, Arni, and thank you, Stacey. Yes, very keen to open this up to the floor. [Operator Instructions] First up, we have Klas Bergelind from Citigroup.

[Klas Bergelind, analyst]

Klas from Citi. So it looks like the underlying self-help is coming through, which is great to see, but you need to get around EUR 450 million in sales per quarter here for this to shine through properly. Orders are below EUR 400 million at the moment. You obviously signed a big greenfield order start of the fourth quarter. The pipeline looks solid. Can we talk about the pipeline a bit more? Are there enough orders here in poultry to push you up to the EUR 450 million level, say, within 6 months given that the outlook for meat is rather flattish from here? I'll start there.

[Arni Thordarson, executive]

Yes. So Klas, thank you very much for the question. We were a little bit softer in third quarter and a little bit later coming in than we were targeting. That has been the case for 4, 5 quarters. But also as well the case towards the 8, towards the 9, 5 quarters in softness and the following 4 quarters 21% increase. Just to recap, very important. There is a catch-up on top of the underlying growth of 4% to 6%. The pipeline is there, and it's strong and building up in all industry, mainly though in our highest profitable industries, the poultry, plant-based and pet.So yes, there is enough and it's only a question of time when we start to reach what we don't define softness, but we reach above EUR 450 million in order intake, compositing of our great service, EUR 200 million, EUR 200 million-plus and then bypassing the EUR 250 million in solution and the equipment. So we will probably not reach the EUR 450 million in fourth quarter.But you asked about is that enough to reach our targets. You see, we would be very close to 24% OpEx in this quarter with EUR 450 million in operating costs, and we are taking faster actions to get it leaner and then automate and digitalize the backend. So yes, it's a quarter of time. We are not yet out of the woods and how long time it takes to do the lateral credits. It seems like it will -- is now easier and easier for our customers to make the prepayments. So yes, we will gradually go there and after a part of the assumption to get back on track in a 14% to 16% EBIT.

[Klas Bergelind, analyst]

Then I had a question on the warehouse expansion infrastructure, as you call it in poultry. When do we expect these investments to drop out? The sales in poultry wasn't too different versus my expectation, but the margin can be lower than I thought. And if you could quantify these investments in poultry, please?

[Arni Thordarson, executive]

Over to you, Stacey.

[Stacey Katz, executive]

Yes, sure. No worries. So I think the team is really working dedicated on ramping up the efficiency, let's say, to the desired efficiency level. Of course, when we're making investments like this in the manufactured parts warehouse in Boxmeer, it is also not to get to the same efficiency level, it is to really increase our efficiency level. So I believe we're taking diligent actions and I would say we're looking for ramp down, let's say, towards the end of the year. And I think it's a fair comment, Klas, but at the same time, I would say volume was the same in poultry quarter-over-quarter. And the difference is really, let's say, the additional cost on investments that we have been incurring.

[Arni Thordarson, executive]

So the new warehouse in beginning of second quarter, it is about the operational improvements, different flow on the flex and we will continue in our great business. So yes, soon we will get this out like Stacey said.

[Stacey Katz, executive]

Perhaps it's also good to mention that we recently visited this manufacturing parts warehouse. So it was really brilliant to see the automation, the investments, et cetera.

[Arni Thordarson, executive]

Staying with the team as well on the commercial front in Boxmeer and thank you team, it was really nice to see. We are having 1,700 people in the Boxmeer site. It's our largest site and there is a lot of spirit and passion go get in the growth market of the ticket.

[Klas Bergelind, analyst]

I'll get back in line, but I have more questions, I'll jump on late.

[Tinna Molphy, executive]

Okay. Next up, we have Akash Gupta from JPMorgan.

[Akash Gupta, analyst]

I have 2 as well. The first one is on 2026 target. So you still have EUR 3 billion revenues. And when I look at your last 12 months sales figure of EUR 1.76 billion, I mean you need 19% CAGR in the next 3 years to get to EUR 3 billion by 2026. Again, I mean, this has both organic and inorganic growth included in this EUR 3 billion figure. But I was just wondering on if you can provide a bit more color on how do you see the pace of growth in the medium term and the direction to get to EUR 3 billion by 2026? That's the first one.

[Arni Thordarson, executive]

Yes. Very good question. And of course, you are seeing that it was softer than we expected in recent quarters. We have, based on experience, based on both the pipeline business division by business division based on interaction with our customer base and discussion with CEOs in the global banks that are actually financing our customers, we believe it's a matter of time when we will bypass the EUR 450 million level. Why am I always talking about the EUR 450 million level is because our pro forma revenues were EUR 1.8 billion in '22, and we can define growth back on growth track when we get 2 consequent quarters above EUR 450 million level in order intake.So we expect a very good growth in the coming years. However, we don't want to define the timing there. Our primary focus as well in '26 target was to reach 50% recurring service on software revenues. And we said with you investors 2017, dear investor, it is systematic investment and you can start to see increased software revenues '24 and onwards in our books, and we stick to that. This quarter, 49% are service revenues, but the project revenues are lower. So underlying, we are moving closer from 40% to 50% in our target there.We got similar questions towards the '14, '15, '16 are you going to upon your EUR 1 billion target when we were only EUR 600 million. Then we finalized a large-scale acquisition. The timings are uncertain, but we will be back on track as well in the consultation game in the industry because we need the economical scale to have the digital software solution. So I don't want to go into details how we see it and let's revisit it again after our fourth quarter full year results.

[Akash Gupta, analyst]

And my follow-up question is on meat business. So you mentioned in the release that the quarter had soft orders and profitability is also lower than expected. Can you tell us the path for recovery in both meat demand and the profitability? And when do you think we may be going back to the normalized margin range of mid- to high-single-digit in the segment?

[Arni Thordarson, executive]

Yes. To be fair, then it's harder to predict in the meat sector. We have said clearly that we are strengthening the commercial focus. We are focusing on the secondary portfolio here in the consumer-ready where it's much needed. At the same time, there are large scale greenfields in our pipeline. It's hard to have the timing there as well, but we are coming closer and closer.At the same time, we have ramped down the cost in the primary meat because we don't expect a capacity expansion in North Europe and North America. So the team is working here hard. There are opportunities in the meat sector out there. So gradually, we will move there, but we wanted first to stabilize the cost base. And we have pioneering solutions that are the question to current market environment.Then of course, we have a high plans with Muyuan in China, where the market is starting to stabilize, building not only primary processing, but secondary processing as well. I mentioned Turkey as well with [ Nametu ] working on projects there and so on and so on. So there are pockets there. We need to increase both the service revenues in meat and as well cutting the base orders.

[Tinna Molphy, executive]

Okay. Next up, we have an e-mail question from [ Sver Karl Johansson ] from { Acro ] and the question reads, in the Q2 report, management announced that forecast indicated 12% to 14% EBIT in 4Q '23. Is that still management's forecast for the fourth quarter? I think there's room there for -- yes.

[Arni Thordarson, executive]

So the 12% to 14% is still reachable. It's more stretched than when we reported the second quarter. The reason is how late the orders came in, in third quarter. However, if the partner of the order intake as well in fourth quarter will be different than the last quarters, like in poultry or plant-based where we are very standardized model and we can accelerate the build of those models.So we removed the 12% to 14% as a primary watch out here, but we are focusing on the 14% to 16% sustained level next year. Some would say, how can you reach 14%, 16% if you are not as well sure about the 12% to 14%? Things don't work in that direction -- that way.We need to have a stickiness in what we are doing. That's why we took 18 months and rebalancing and getting cost leaner from middle of last year where we were 8,500 people to enter this year where we have 7,500 people. And then we are looking at the scalability, meaning when we ramp, we want to have less marginal cost and marginal revenues. So this is what we are looking at and we are talking about sustained 14% to 16% EBIT going forward in a growth scenario.

[Tinna Molphy, executive]

Okay. Next question is from Andre Mulder from Kepler.

[Andre Mulder, analyst]

So 2 questions. So first question on the price/cost ratios improving. I would expect that the large part is really coming from the lower cost level in terms of raw mats, energy, logisticals rather than pricing in the absence that you have taken further actions on pricing. Is that right?

[Stacey Katz, executive]

So I would actually say no. I would say the larger percentage is coming more from, let's say, the pricing improvements filtering through and overall coverage then on the, let's say, overhead. We do see that the materials and those indices are starting to go down. However, I think we also see it the usage and volume level that we're at currently that it will take some time before we are really seeing those benefits in our results.

[Andre Mulder, analyst]

And then second question is on restructuring. Do you expect any further restructuring costs in Q4?

[Stacey Katz, executive]

I would perhaps mention that I think we're still on our journey in terms of making sure that we are headed towards a sustainable lower cost base, that we can do things more efficiently, et cetera. So I wouldn't rule it out, although I wouldn't also give guidance on it at the moment. I mean, I think these costs that we are taking, we feel are, let's say, to set ourselves up for resilience for the future, to be able to get to also our 38% to 40% gross profit and our 24% operating expenses targets.

[Arni Thordarson, executive]

Yes. There will be some cost in the fourth quarter, but it is -- we are very prudent in how we classify that. And you can see it best now by our EBIT 9% and our operating cash flow is 170% of EBIT in last quarter. For 2 reasons, we have a great operating cash flow model. And secondly, we are very prudent in how we adjust the EBIT.

[Andre Mulder, analyst]

Coming back to this pricing, I think, this is the result of actions you've taken in the past. So you have not taken any further pricing actions recently?

[Stacey Katz, executive]

Yes. Our last price increase was at the beginning of the year, as we've stated previously. We do run, let's say, quarterly cycles, and we are also focused on value-based pricing. So that means that we are also really looking at, let's say, the deal and deal pricing within that. We have run our quarterly cycle for Q4. And yes, I don't really think we will go into, let's say, each quarter now. But we are both conscious of, let's say, the material prices coming down, but also the wage inflation for ourselves and for our suppliers also remaining at a higher level.

[Arni Thordarson, executive]

Yes, very important quarterly cycles quotes outstanding 30 days instead of months before, team in place, system in place and to recap purchase price index, wholesale index is usually 6 months ahead of the CPI consumer index. We have seen now 5, 6, 7 quarters in a row, purchasing price index going down throughout the system. Depending on geographies, there is deflation in China actually and so on.And now the CPI is nearly only consisting of energy and salaries. Salaries are -- and then the turnover rate of the people is our business, biggest business opportunity because our customers need to automate. It as well refreshed discipline on our operation. And once again, EUR 9 million lower year-on-year OpEx despite the global 6% salary inflation last year is a pretty good milestone. And then we will continue to become leaner with more optimization and digital in the buckets.

[Tinna Molphy, executive]

Thank you. Next up, we have Martijn den Drijver from ABN AMRO ODDO.

[Martijn den Drijver, analyst]

Most of my answers -- most of my questions have been answered. I have 2 left. You talked about the cost associated or inefficiencies associated with the automated warehouse. Can you do the same for the Global DC in Eindhoven and the Regional DC in Buford, when will those cost inefficiencies come down? That would be question one.

[Stacey Katz, executive]

Sure. So Buford has been in operation and it was actually one of the sites that I visited when we were with Linda passing through the U.S. Buford is already above efficiency level compared to how we were handling spare parts previously in the North America region. So there are not further costs being incurred in relation to Buford, and it's actually like Buford is not the state-of-the-art automated facility, but you can really show that the team has been very dedicated in how they have run their processes and I think you also see that back in the continued momentum in the aftermarket revenues.In relation to the Global Distribution Center, I mean, that has not started up yet. That is still being invested in. I think you can see those costs then coming through in terms of the capital expenditures. There are also associated operating expense costs in terms of people that are working to get the Global Distribution Center ready. But the plan is for that to start being in operation in the first half of next year. And then it will be like a gradual roll-in.

[Martijn den Drijver, analyst]

Got it. And then just a small bookkeeping question. The cash taxes were high in this third quarter. Is that just a timing issue? Or should we take into account some more structural change?

[Stacey Katz, executive]

No, it was just a timing matter. So it was EUR 3 million higher than last quarter. I think also, if you then saw, let's say, how we made estimated tax payments in last year, it was a bit of a catch-up effect. It was all already booked in terms of the balance sheet. So yes, just a timing matter.

[Tinna Molphy, executive]

Okay. Next up, we have a couple of questions from [ Halther Chrismonson ] on the -- and the question reads, has Marel appointed an investment bank as a adviser? If so what is the role? And please also clarify if investment bank or adviser has been appointed by [ Arisson ] of Marel?

[Arni Thordarson, executive]

So first of all Marel doesn't comment on market rumors. The Chairman answered that clearly toward a request that came from the journalists. As always, we have the futures duty of being adequately advised in the financial markets. Nothing more to comment.

[Tinna Molphy, executive]

Okay. His second question is much focus is on improved cash flows and percentage as operational improvements. How much of the net cash flow improvement in this quarter can directly be explained by lowering R&D from historical 6% to only 2% to 3%? And what can investors expect will be the R&D ratio in 2024? I think there's probably a mix up there.

[Stacey Katz, executive]

Yes. So I think we're mixing 2 things up. So one is, let's say, the R&D percentage and the second one is the capital expenditures percentage. If you actually look at R&D, R&D is 6% in the quarter. So that is, let's say, similar to historical levels. You do see that it goes down EUR 2 million quarter-over-quarter and that's very much about efficiency in relation to how we best use our resources, et cetera, like we said.I do think it's good to run through, let's say, the improvements in the cash flow. These should be clear from the cash flow statement. But if you look at improvements in the cash flow from operating activities, it's about 30% from a higher EBIT level, results from operations, about 30% also from a contract assets being worked through the order book and getting payments from customers and then about 40% due to the inventories decline.So that's basically how you break down operating cash flow. And then the journey from that to free cash flow is basically EUR 3 million higher in taxes paid, like we just discussed and then EUR 6 million lower in relation to the capital expenditures where we are aiming to be at normalized levels of 2% to 3% of revenues to be prudent while we are above our targeted capital structure.And then perhaps, Arni, if you want to take any further comments on the R&D, but I would actually say it was probably just a mix up.

[Arni Thordarson, executive]

Yes. So maybe you see as well going forward that we are seeing the R&D going forward 5%, 6% level when we have been stating the 6% in the past. Of course, when our service revenues get closer to the 50% or above 40%, we don't need as high percentage to get the same. Although one of our biggest investment in R&D is to move from -- into the preventive service from the proactive service, we were reactive proactive to preventive. So digital connected and et cetera, but overall, we will see R&D balancing out, maybe long term in 4% to 6%. Here, we of course using 5% to 6%. We as well might be a slightly higher than 18% in SG&A for the first quarter, because we have so wonderful portfolio to display out there in the field with our customers, but then we will take as well the digitalization optimization of the backend. OpEx 24%, clear target, gross profit clear target of 38% to 40% with a long-term target of 40%.

[Tinna Molphy, executive]

Okay. And since we have time, I think we have Klas Bergelind with his follow-up question.

[Klas Bergelind, analyst]

So just on near-term expectations. Last quarter, Arni, you helped us a bit with the near-term trading. You said you saw sales likely in the third quarter similar to the second at a lower cost base. Obviously, sales came in lower and largely drove the margin mix. There is some seasonality, I think, into the fourth quarter with typically higher sales versus the third. Do you expect this to play out? And do you think you will have a further lower cost base, which perhaps could push the margin over 10%, perhaps not all the way to 12% to 14%, but further margin progression?

[Arni Thordarson, executive]

We are expecting margin improvements in fourth quarter compared to third quarter. And the market situation is turning positive, that's clear. Activities have seldom been as high as they are now. And of course, internally, we have a very ambitious target to now crystallize this. We have been gaining market share in recent quarter in the softness in the market. So we are going through both to systematically long-term and then go and get the -- as well out there in the standard equipment.

[Stacey Katz, executive]

And then perhaps I'll just comment on your comments regarding the lower cost base. I mean, I think we also have to realize that in Q3, we have the benefit of the releasing holiday accruals. So we are, let's say, continuing on that journey to lower our cost base. Whether it ends up exactly the same, slightly different, I can't exactly say at the moment because there are also other actions that we are currently taking to also positively affect it as well.

[Arni Thordarson, executive]

Yes. So the absolute will -- the OpEx will be slightly higher than third quarter, and then we have more volume coverage.

[Klas Bergelind, analyst]

But you will have a higher quarter-on-quarter volumes, right, because you typically have a higher fourth quarter?

[Arni Thordarson, executive]

Yes, yes. The -- yes. Yes. And we have a higher volume coverage against that percentage-wise, so.

[Klas Bergelind, analyst]

Yes. Okay. Clear. Very quick final one is on price cost. Obviously, good to see that the gross margin is improving quarter-on-quarter a bit. We can see the OpEx improvement of EUR 9 million. And then on Slide 10, you have shown the 3.5% margin improvement from price mix. I don't know, Stacey, if you can help us just within sort of COGS here a little bit.You're price cost positive now at the COGS level. But by how much? And how should we think about the next couple of quarters? Because we know the logistics, raw mats are gradually coming down. You have good visibility on pricing trending through the backlog, right? So I guess the gross margin from here should gradually quarter-on-quarter step up unless something strange happens. I'm trying to sort of -- yes.

[Stacey Katz, executive]

Yes. No, I think that's a fair assessment, I would say. We do envision a step-up. I would say though the impact of the volumes here does really affect in terms of if you also look at the picture. What we also see in this environment where we talked about it in fish and meat, let's say, also more focused on value-added solutions in secondary processing. That is also positive in terms of how it affects the mix if we have the volume.So we are really trying to balance quite carefully in terms of -- on the supply chain side, how we're managing our sites at the moment, et cetera. I think we also need to realize that we need to make sure we take the right decisions. So we're not just then going quarter-by-quarter. We need to be able to ramp up when we can ramp up and so on and so forth. But we are following it very closely with scenario planning with our team.

[Arni Thordarson, executive]

The power curve is clearly shifting industries by industries. It was good to be in transportation. In the pandemic, Shanghai freight index went from 1,000 to 5,000 tonnes a spot in the middle, back now to 1,000 tonnes. The oil price, energy price was as well extremely low in the pandemic now that is going back. This is how power could shift industry by industries and we should get filtering on lower cost, get filtering on fair price. We are following it very, very diligently because we don't want to overshoot deals. So we do it carefully.

[Tinna Molphy, executive]

We also have a follow-up from Martijn den Drijver from ABN AMRO ODDO.

[Martijn den Drijver, analyst]

What is the order of magnitude of this holiday accrual release in the third quarter, Stacey? Could you share with that -- could you share that with us? You said low-single-digit, mid-single-digit, high-single-digit euro millions. Just to get a bit of a sense of what the reversal impact will be in Q4?

[Stacey Katz, executive]

Yes, yes, below single digit.

[Arni Thordarson, executive]

Yes. But you can see it last year. So that's why we compare year-on-year EUR 9 million down with the same seasonality.

[Stacey Katz, executive]

Yes.

[Arni Thordarson, executive]

And then you can see the movement into the [ vortex ]. But now we are taking additional action as well to get leaner.

[Stacey Katz, executive]

Last year, we also had inflation in the fourth quarter, perhaps. So it is a mix. So I understand the question, but low-single-digit.

[Tinna Molphy, executive]

And indeed, many questions raised here today on behalf of the [indiscernible] team. Thank you all for your time and attention and continued support for Marel. We'll see you back here in Q4. Until then, take care and have a great day.

[Stacey Katz, executive]

Thank you.