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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Welcome to SGS Full Year Results Conference Call. As usual Frankie and Dominik will present, and then I will return to host the Q&A. As the operator just said there are two ways to submit questions. One is by joining the conference call and speaking live. The other one is by webcast. So please write your questions on the webcast and I will read them out afterwards.
Please note that we will restrict it to two questions maximum for each person. And then if we have time at the end of the call, you can join the back of the queue and then start again and we may have time to answer them.
With that, I will hand over to Frankie.
Thank you, Toby. Good afternoon everyone. As usual, I will give you a highlight of our performances for the year. Dominik will then provide you a more detailed financial review and then I will cover the business outlook for 2023 followed by Q&A. But before we start on the result, I would like to take this opportunity to thank all my colleagues across SGS network for their contribution to the group.
Many of them in their personal and professional lives were impacted by some significant challenges in 2022, including the war in Ukraine, COVID in many countries, and particularly in China recently, are the impact of high inflation.
Beyond their dedication to keeping operations running the sense of community and the support provided to each other during these challenging circumstances is something that I have really appreciated and I have learned from. So thank you to all of them.
So as for the results. Just before the inverses of the last November, we issued an ad-hoc communication revising our guidance for the full year 2022. Since then, some further operational disruptions has occurred in China.
The lifting of all the COVID restrictions resulted in high sickness rate, which is impacting us on our customers operations. However, I'm pleased to report that despite the unforeseen event, our operations performed strongly and we have close the a year in line with our revised guidance.
So for the full year 2022, total revenue increased by 6.8% at constant currency, while organic growth was 5.8%. Adjusted operating income stand at CHF1.23 million, at the same level in constant currency as 2021.
Free cash flow stands at CHF507 million. This is the decline of 20.2% compared to prior year, partly due to the increase working capital required to support the growth of activities. And the Board of Directors is proposing a dividend of 80 Francs per share at AGM, same as last year.
Despite the difficult market conditions, we are continuing our journey as a purpose driven company. We are convinced that the balanced approach to planet, people and performances will result in the best long term value creation for all our stakeholders.
This slide shows some of the progress we made during 2022. Maybe one of the most important changes in these slides is the approval of our SBTi 1.5 degree operations by the Science-Based target initiative.
Our commitment to 1.5 degree is the first step in our new trajectory. This require us to step up our effort on current reduction program on scope 1 and 2, and to launch additional programs to tackle as Scope 3 emissions related to our supply chain in a more systematic way.
We are also looking at expanding the sustainability related short-term incentive KPIs across a larger population of managers. These to create marketability and to give a stronger focus on achieving our goals. We will further update you as those programs are implemented.
And now with our strategic focus, we made for more acquisitions during the second half on top of the three companies we acquired during the first half. Proderm base in Germany is a leading players in the cosmetic and personal care testing sectors with strong scientific expertise.
Significantly we inforce our global auditions in Europe and globally. Silver State Analytic Laboratories based in the U.S. compliment our network of Excelchem [ph] Laboratories in North America.
They're specialized in the environment testing of water and salt. Penumbra Security in the U.S. helps SGS to continue the expansion of his subsequent testing network, adding accreditations and competencies in all information security conformance and regulatory compliance testing.
Industry Lab in Romania, specialized in food, microbiological testing. These acquisition growth also our service offering in Romania on our food network in Eastern Europe. As a reminder, the three companies are caught during the first half were Gas Analysis Services based in the UK, bringing the pharmaceutical semiconductor, food and beverage expertise in gas instrumentation and calibration.
Ecotecnos based in Chile is specialize in monitoring the impact of industrial activities on biodiversity and aquatic and marine ecosystems. AIEX based in France is a technical inspection and disease specialist in the nuclear sector.
We have also acquired the minority, stack of two companies during the first half. 32% of our advanced metrology solution based in Spain, specializes in metrology and commercial measurement in aviation industry, and 49% of SGS digital comply a JV created by SGS that specializes in regulatory monitoring in the food sector using digital technology.
So, on that, I'm going to hand over to Dominik for more details and show numbers. Dominik?
Thank you, Frankie. Good afternoon, ladies and gentlemen. I will start with the overview of the financial highlights for fiscal year 2022. Frankie already mentioned operating highlights in his introduction the revenues of CHF6 billion [ph], and adjusted operating income of CHF23 million and free cash flow CHF507 million.
Revenues for the group and constant currency increase strongly by 6.8%. Adjusted operating income was CHF23 million in constant currency broadly stable, fully in line with our trading update provided a couple of days prior to our investor days. Consequently, AOI dropped by 100 basis points in constant currency to 15.4%.
We incurred restructuring costs of CHF46 million versus CHF50 million the prior year and one of costs of CHF29 million due to our decision to cease to keep upstream projects in Libya following the absence of cash collection.
Net profit after minority interest declined by 4.1% to CHF588 million, which is to a large extent a function of currency. Adjusted EPS increased by 3.4% to 92.46 Swiss Franc. Cash flow from operating activities declined by 11.9% to CHF1.30 million mainly due to higher network and capital requirement to support the strong revenue growth. For 2023, we expect less network capital need than 2022 and therefore, a stronger cash conversion.
Organic revenues increased by 5.8% in 2022 equally split between volume and price growth. The contribution from acquisition is with 1% limited and reflect several smaller, but strategically very important additions to our network. The currency impact was the 3.1% negative. SGS Swiss Franc continued to strength against several important currencies leading to revenue growth with an extra rates of 3.8%.
Moving on to the revenue growth by business. Organic growth in connectivity and products was 3.9% very solid, especially considering the COVID related impacts in China. Growth accelerated strongly after the lock downs in the second quarter 2022 in China, but slow towards the end of the year as higher thickness rates occurred given the opening up, reopening of the economy.
The strongest growth was achieved in Softlines given very strong performance outside China, namely Turkey, India and Bangladesh. Also connectivity experienced above average growth given recent investments and the strong performance of private side.
Hardlines organically declined given the change situation in China and supply chain disruptions. Revenues in health and nutrition increased by 7.6% supported by the continued focus on M&A. Organic growth was 4.1%.
Food grew organically above the dividend on average supported by growth across the network. As science has replaced much of COVID vaccine related work, however, organic growth declined slightly.
Revenues in industrial environment increased by 5.4% in constant rate, while organic growth was 4.8%. Field services and inspection grew above divisional average driven by good performance in environment viewed in marine services.
Technical assessment advisory delivered double digit organic growth continuing to benefit from the increase in supervision and consulting work in Latin America, as well as strong performance in Middle East and Southeast Asia and Pacific.
Public mandates revenue declined due to loss of contracts in Africa, partly compensated by price increases in Latin America, Latin American legal and compliance services. The 8.7% organic growth natural resources was driven by double digit growth in laboratory testing and metallurgy and consulting.
Growth and trade inspection was strong, primarily driven by good momentum in minerals, and in oil and gas commodities. Knowledge fostered strong organic growth of 8.7%. Growth was achieved across all SBUs and regions.
The strongest growth was delivered by consulting, primarily driven by the strong performance of main point, benefiting from strong demand for supply chain optimization, and performance improvement services.
From a regional point of view, growth was primarily driven by the Americas and Asia-Pacific. The Eastern Europe and Middle East countries achieve double digit growth across the maturity of its key and markets with the exception of Russia.
Both in the African countries was mid single digit, while growth in the key European countries was to large extent modest to moderate. In the Americas revenues increased strongly by 11.1% in constant weight, while organic growth was 10.2%.
The strong growth was notably driven by double digit growth in several LATAM key countries by growth in North America also strong. The organic growth in Asia was 6% strong, especially considering that China was impacted by COVID.
In most markets mid to high single digit growth was achieved while India, Singapore, Vietnam and Japan posted double digit growth. FTEs at the end of 2022, increased by 2% versus prior year, primarily driven by organic additions partly offset by the impact of restructuring.
Average FTEs in 2022 increase by 3.7% clearly lower than the total revenue growth of 6.8%. Adjusted operating income was CHF1.23 million broadly stable in constant currency. Currency had a negative impact of 3.1% leading to a decline in AOI of 3% in the period under review.
On this slide, I would like to provide an update on our level up initiatives. In 2022, project Prometheus was implement. The purpose of the program was to outsource IT infrastructure, application maintenance and application development to reduce the time to market for new solutions and to reduce costs. This program is the basis to roll out new solutions globally in an accelerated manner. For 2023 we expect the full realization of the benefits of this program.
We established the Builders Organization to design and develop new technology based products, initially focusing on higher productivity internally, leading to 5 MVPs in 2022 and we aiming for 12 MVPs in 2023.
We introduced Salesforce as the new global CRM tool. We implemented CertIQ as the global knowledge platform. Almost 20% of our lab revenues are covered by the digital lab concept, while we expect the coverage to increase to 30% in 2023. At the same time, additional functionalities will be considered via release upgrades.
We added 15 additional countries to our financial service center setup, covering now 6% of group revenues with regional financial service center support. For 2023, we will add an additional shared service center in Mexico to cover the Americas. And we expect to add globally 20 additional countries to cover 70% plus of our group revenues.
We also implemented billing centralization. We added 17 countries covering 13% of group revenues in 2022. We will add more than 20 additional countries in the current year to cover more than 70% of group revenues.
Our world class service program 65% of the labs are audited, and we expect that 20% of the labs will reach cross award level during 2023. With these initiatives we are building a strong platform for growth, positioning SGS as a more resilient and a higher productive business. With the benefits realizing from those investments, margins and returns will further increase.
Our adjusted operating income margin dropped by 100 basis points to 15.4% in constant rate in 2022 as strong revenue growth didn't result in an increase in AOI, as I mentioned before the AOI was broadly stable in constant rate.
Our margin performance in 2022 was negatively affected by more impactful lockdowns in China primarily in the second quarter, worldwide supply chain disruptions and subsequent effects of geopolitical events, leading to notably higher inflation a second half and softening of demand in some of the European.
Higher sickness rates in December in China and temporarily higher bad depth expenses in the second half. Our connecting and products businesses mostly geared to China. Given the COVID related impact in China in 2022, the margin decline is just 30 basis points rather limited, as an improved profitability in cybersecurity and strong performance of some key affiliates partly offset the negative COVID effect in China.
The AOI margin in health nutrition decreased to 13.3% from 17.1% the prior year, affected by the end of COVID vaccine related testing, the impact of the lockdown and China in Q2, as well as the continued investment into our global network and inflationary pressure, which was partly offset by price increase.
AOI margin, industrial environment decreased by 90 basis points to 10.4%. Due to COVID restrictions in China, the ramp up of new contracts and collection delays from certain government contracts, this was partly offset by the positive performance of recent acquisitions.
AOI margins natural resources decreased by 20 basis points to 14.2%. Strong operational level to minerals was offset by changes in portfolio mix in oil and gas and agriculture commodities.
The margin decline of 70 basis points to 20.3% in knowledge is primarily a function of change in the service mix as an easing of travel restrictions and return to on site audits resulted in increased travel costs with the full impact of price increases will be in 2023.
Operation at working capital stands at 0% of revenue. By not any more negative as in the last two years, it is still the best network capitalization in SGS. The high network capital needs is primarily a function of strong growth, as well as some collection delays, especially in China at the end of 2022 and in general somewhat lower levels of provisions.
For the whole year, these old levels remain strong and sustainable, supported by centralized cash collection years to come, as well as network capital benefits from our centralized building initiatives.
Cash flow from operating activities decreased by 11.9%, compared to the prior year, primarily due to higher working capital needs given the growth of the corporation, partly offset by lower tax payments.
We spent net CHF369 million investing activities, which considers also CHF65 million for several smaller bolt on acquisitions. Dividend payments as well as NCI transactions amounted to CHF651 million.
We bought back on shares for an amount of CHF268 million. We paid back a CHF250 bond and issued CHF500 million bonds. All this leads to a cash position of CHF1.6 billion at the end of 2022.
For 2023, our cash conversion will be stronger, as stronger as less network capital need is expected to be required compared to 2022. Gross CapEx for 2022 decreased by 2% to CHF329 million and the same percentage of revenues with 5% slightly lower compared to the prior year. Net CapEx stood at 4.8% in 2022.
To sum it up, our revenue in 2022 increased by 6.8% which 5.8% is organic. Our adjusted operating income is probably stable as guided during the investor days in November. Our return on invested capital went strong, but decreased by 100 basis points to 18.6%. We will propose a stable dividend of CHF80 to the each year.
With this I hand back to you, Frankie.
Thank you, Dominik. So, let me go through the outlook of the five divisions. As usual, all the divisional growth outlook comments relate to our expectation for full year 2023 organic growth and are relative to the total group organic growth.
So let me start with C&P. Connectivity and Product should grow above the group average. We're expecting some short term market disturbance to continue in Q1 in China following the lifting of COVID restrictions.
The situation should gradually improve in the second quarter and we anticipate some catching up for some of those activity in the second half. Connectivity is a key growth driver for C&P. We expect the market to continue to grow strongly in 2023 as product demand cycles and new testing requirement continues to evolve.
For example, our order book for our cybersecurity lab network is already secured to for the full first half. The investment we have made in both our capabilities and capacity in C&P globally will continue to generate positive momentum, especially as part of the supply chain continues its transition from China, particularly in hardgood and Softline.
At the same time as the Chinese market reopens, we are seeing new market opportunities for operations supporting our domestic market growth. On health and nutrition, growth should outperform the group average.
Our largest headwinds in 2022 for health science were decreasing volume of COVID vaccine testing and talent retention in that very tight market. Both of these factors should ease as we move into the new year.
The underlying market remains strong and our continued investment across the network should help to add further growth momentum. Our food testing services will see pressure in Europe as customers are becoming more cautious due to the current economic volatility.
However, as Asia and particularly China reopens, foreign COVID we expect our food services related to the hospitality sectors to pick up. Together with new investment made in testing facilities in North America and South America, we're expecting growth in these sectors, but slightly below the divisional average.
The recently, our Proderm in Germany strengthen our leadership in the cosmetic and hygiene sector. With product becoming more complex on a greater regulatory focus on ingredients, we're seeing increasing market demand for our solutions.
And in industrial environment, growth should be below the average. Our strong momentum in health and safety rating services will continue in 2023 with expansion of our scope into the renewable energy sectors. New contract wins in Latin America and Europe will start this year.
Technical assessment related to the infrastructure and construction sectors is also expecting to have a strong year with new project in Asia and Latin America. Market condition remains difficult for now in our environmental testing activities, particularly in Europe.
Low economic growth and project delays are having an impact. However, growth in 2023 should be better than last year. The structural drivers of the environmental market remain healthy and will strengthen as one of the concern and control increases. Our [Indiscernible] field services will continue to be impacted by end of contract in certain countries as well as some project delay.
Natural resources. So natural resources growth should be above the group average. While of all mining expirations expenditure is expected to decrease in 2023, it should not have a significant impact on our activities. Demand for minerals related to the renewable sectors such as copper shall remain strong. SGS is the leading service provider in on-site lab activities, we are continuing to expand our network with new project.
For the agricultural sectors, while a better crop season is expected, overall market has been significantly disrupted by the war in Ukraine. As new supply chain emerges, we will see new opportunities within our network.
The demand for oil and gas is increasing and drive better volume for inspection and testing services. However, current pricing can be very competitive, particularly in the inspection services.
The oil and gas supply chain also being impacted by the war in Ukraine and we expect the market to remain volatile throughout this year. As a consequence, we are continuously redistributing our network resources to manage these changes.
And finally, knowledge. Knowledge should grow above the group average. The underlying market conditions for knowledge remain healthy supported by increasing demand in certification scheme, such as medical devices, information security, and food safety.
We're also seeing a noticeable increase of market interest in services related to ESG including gap analysis, consulting and auditing. The revenue impact is still limited, but as the market develops, we should see ESG related services becoming a clear growth drivers for the division in coming years.
Clinical Consulting Services had a strong year in 2022 and we're seeing the same momentum moving into 2023, with expansion of services in Asia. Interestingly, the evolution of our technical consulting is partially driven by our customers seeking helps to reduce the operational environmental impact of our field and testing expertise in enabling us to provide a broader ESG solution than pure auditing.
So, going into the outlook. In terms of outlook for 2023, many of the uncertainties of last year continues, including the current macroeconomic environment, uncertainty over the impact from COVID in China in Q1 and the ongoing war in Ukraine.
However, I'm confident that with our focus on key tech market of sectors, continuous improvement, operational efficiencies, and our ability to get better pricing in sectors of expertise, will deliver growth and margins improvement with annexation in the second half.
So given that, the expectation for next year is mid single digit organic growth, improving adjusted operating income and margin, strong cash conversion, maintain best-in-class organic ROIC, to continue to accelerating investment into our strategic focus area with M&A as a differentiator, and to at least maintain the dividend.
The last slide. We are entering the final year of our planned 2023. And this slide is a reminder of the different objectives we set up at the beginning of the period. With the outlook I have just given for this year and the progress we made in our vision, we're well on track to achieving all our midterm target by the end of this year.
However, while we expect an improvement, we improved adjusted operating income and margin for 2023, th4e 10% plus adjusted operating income CAGR target for the period of 2023 becomes more challenging, given the progress in 2022 on our discipline approach toward M&A.
As a conclusion, the long term drivers of the tech market remain intact, will continue to develop positively and in many cases are strengthening. We're investing in the business, building our platform for growth and SGS is well positioned to capture on this evolution.
On that, I think Toby we can go through the Q&A. Thank you.
The first question comes from Kate Carper from Bank of America. Please go ahead.
Hi, everyone. Thanks for taking my question. Two for me. So, if I look at the organic growth for the second half, relative to what you reported for July to October, it looks like organic growth decelerated quite sharply to 3% in those last two months of the year. Just want to check how much of this deceleration was a function of one-offs from absenteeism in China and COVID revenues leaving the system versus a broader slowdown in activity? And then second question. Just if you could clarify how much you expect pricing to contribute to growth this year. And also what the underlying cost inflation assumptions are?
Thank you for the question. Kate, so basically, if we look to this two month, the organic growth in these two months was actually 3.8%. So November, December, so you take the organic, which was to the investor days, October, year-to-date, and then these two months 3.8%. And if I would take out the effect from China, we would be by roughly 5% growth for this two month.
On pricing?
And then regarding the pricing environment, I mean, the half of organic growth is basically was the price increase. Now this is basically fully in line with what we expected. And that obviously means there was a good acceleration also into to the end of the year. So, we expect the further acceleration into this year. And we have seen good momentum for price increase the second half, which would be effective this year. So there's definitely a higher, and clearly higher impact on price increases in 2023. And then, on the cost inflation, surely, in some labor markets, there's higher wage inflation in 2023 than in 2022. But there are also some areas very proactively taken some personal cost already in 2022. So it will also accelerate. But, yes, we will see how it's moving on. But overall, the vast majority of the cost will be passed on.
Thank you very much. Can I remind everyone so all media inquiries should be directed to corporate communications or directly to me. So this call is aimed to analysts investors. So we will stick to analyst investors on the call. The next person to ask questions and please [Indiscernible] is Daniel, please go ahead, Daniel
Yes. Hello, everybody. I would have another question on pricing. If I look at your guidance for 2023, you also expect some volume growth, you'd be happy to soft are stable in volumes and pricing will do the rest. That's the first one. And you mentioned higher labor costs, probably more acceleration than 2022. Could you maybe also discuss other cost like energy for example what the impact to expect then in 2023? Thank you.
I mean, obviously, let's say that there is no - let's put it this way. Obviously, we look for mid single digit organic growth, which is a certain range, and I think it's now too premature, but it's the exact growth number, I know where were you coming from, but our view would be the majority of this growth is coming from pricing given the environment in which we are in and we see how things are going in that regard. If you think about cost inflation, and obviously some areas we are the kind of costs one rate, which we experienced in the second half of last year, it's not yet in the full year. So there is a little bit of catch up.
So for example, if we think about energy costs, energy costs, was of course, clear increase in certain jurisdictions like Europe, very in the first half last year still benefited from contracts in place prior to the increase in energy costs, they are renewed, and they are now on a different level. So that's definitely some I would say, additional cost moving from our incremental cost, as the full run rate of H2 was lower and H1 coming into next year. And other part is also if you think about travel related cost, in the beginning of last year, we were still not traveling that much. We went and up. But the country like China traveling, a real traveling only started with the opening up. So there will be also some cost increases which would be higher than what you normally expect from inflationary point of view, to get it to the right level.
Thank you very much Dominik. The next question or questions, I guess, come from [Indiscernible] from Morgan Stanley. Please go ahead [Indiscernible].
Hi, thanks, Toby. And thanks for taking my questions. And so just firstly, just a quick one on the replacing of the vaccine volumes in health and nutrition. I think in the comments. Dominik you said that most of that has been replaced. Do you have a timeframe over replacing the rest of it? And if you could give some flavor as to what kind of work you're replacing that with and how the margin compares to the COVID vaccine work you were doing last year? And then secondly, just on industries and environment where you sound fairly bearish for this year. Clearly, there's been a lot of talks from capital goods and chemicals around destocking and it's lower volumes. Is that the main dynamics that you're seeing in your end markets? And do you see that continuing through till at least the second half? Or are there other dynamics at play? Any color on that would be helpful. Thank you.
So if you first think about the COVID related work, so basically the health science part a very slight decline in terms of organic growth, but it was really very, very slightly. So the most of the COVID related work is replaced. There was still some remaining work there which is phasing out, but it's not anymore, very relevant in that in that regard. Obviously, it has taken over some time until certain projects are coming in. So there are sometimes a bit of a time delay during 2022 where the vaccine work to large extent reduced a lot after Q1 and until new businesses is ramping up. So that's one of the key reasons why the margin is more materially down than other segments in health and nutrition and surely the vaccine block at rather high profitability. But that being said, it's now in the baseline, the new businesses and projects started. So you should expect the strong margin increase of the health and nutrition business in the current year.
The second question [Indiscernible], I think the R&D portfolio is quite large. So in fact, there is a lot of moving parts in there. Clearly the health and safety related activities, or the construction supervision related activities, we're looking at the positive development, especially we have secured quite a few contracts related to renewable energy, wind farm and so on. On the environmental sector, the year is still going to be positive politically more challenging than the other two services I just mentioned, because of the fact that they are some delay in information recreations, as well as some project in Europe. So this is we're looking at it. But it should be slightly better than the last year for sure. Then you have sectors like the life science sectors where it could be a little bit more negative in our outlook. The automotive statutory inspection sectors would be flat, flattish. Also, all the strategy work with the MDT and so on, as well as some of the transportation sectors will be pretty soft in our views in our party in Europe and to some extent in North America.
Thank you very much, Frankie. And the next person we have on the call is Simon from Stifel. Please go ahead, Simon.
Yes. Thanks Toby. Two questions please. First of all on 2023 outlook, could you give us some details on the phasing of margins between H1 and H2? And secondly, on the working capital, if you could give us some details on the dynamics there and should we expect another outflow for 2023? Thank you.
If we think about the phasing of the margins, they are -- there should be clearly from the margin increase in H2. Now, what are the kinds of events? Obviously, H1 was already impacted last year by China, excluding China margins were in the H1 still okay. Now, we need to see probably the first or second month in China, there will be still a little bit of higher sickness rates even though we hear good signs, which could have a little bit slower start, but then it should ramp up and have then the second quarter easier compass. There was the lockdown in China and then in the second half the margin should basically a more accelerate. To certain extent the question is a little bit how the bad debt recoveries happening.
We assume obviously, the majority of the of the kind of incremental bad debt expense which occurred in 2022 will be collected in general more in the first half, but it could be also throughout the year, but in general I would say the margin increase is more geared to the second half. And then on the working capital. The working capital out there will be with mid single digit growth. There will be some outflow, but the outflow will be surely lower than what we experienced. But we experienced in 2022, because while for the whole year, these are, we are stable, it's clear that towards the end of the year with especially in China with having high sickness rates, there was also much less collection, which should move into this quarter and into this year. In that regard, and also in general provisions we are somewhat lower end of for last year. So yes, there will be outflow, but it will be less. So cash conversion should clearly increase for 2023.
Thank you. Next up, please Sylvia from JP Morgan. Please go ahead.
Thank you. Hi, good afternoon, everyone. First question, could you discuss a little bit more of the margin trajectory? You said margin up and I guess you've identified the bad debts, you still expect to collect those? What about the cost savings of CHF50 million? How much of that has been done already? Is that fully going to benefit 2023? And then, could I just check within the knowledge business what margins is that consulting business coming in? It seems to be growing very quickly? Thank you.
Maybe the second one first. So basically the knowledge business has good margins, but it's below. Sorry, the consulting business within knowledge has good margins, but it's below the average within knowledge. So it's slightly lower. So you could argue it's a bit dilutive. But I would not say and that's the reason of the margin decline and last year, it's really more that in the year before, we did a lot of work remotely and had this, so basically in the year 2021 situation where our delivery model, was simply cheaper, because we worked remotely. So we definitely expect a much an increase in knowledge, even if the consulting piece which probably will outgrow the rest has slightly lower margins, because the difference is not that big, but they are somewhat lower in the consulting business than in the more legacy management system certification businesses.
Regarding the margin development, I mean, we not guiding for exact margin. I mean, we are, I think we are very confident that we have good margin increase, but I can give you some, of course, some moving parts. So basically, the CHF50 million restructuring is in implementation, is in motion. So this should, we expect it to be achieved in 2023. Then the majority of the attempt is CHF20 million was to higher bad debt. Last year, the maturity should be collected. So this is definitely on the positive side. Obviously, we should also get the first benefits from the digital lab program in terms of productivity. But there are also some offsetting items which we need to consider.
So, for example, bonuses in 2023 are assumed to be on target. Bonuses in 2022, they were clearly lower given the fact that we had to rise our guidance, and certain KPIs related to it. We have as I mentioned before, on the question regarding cost for gas electricity, it's not the new norm of this costs. It's higher than what we have in 2022. So the H2 run rate needs to be considered. What I also mentioned before on the travel costs. There will be more traveling. Also China opening up there will be more traveling and one of our biggest markets in that part. And we will also further accelerate our investments into IT, into the digitalization into level up.
Thank you very much. The next on the call is Alan from Jefferies. Alan, please go ahead.
Hey, good afternoon, guys. Just two quick follow ups from me if it's okay. I just really go back to kind of the November comments from the first question. Obviously, the time, the run rate was pretty good. The guidance was for the upper end of mid single digit. So I just want to just dig into, was it purely the China recovery that kind of caught you off guard? I just wanted to check was there anything else in those November, December months that maybe was slightly weaker than you were expecting back in November? That's my first question. And secondly, I just wanted to provide a little bit more color on China specifically like what exactly you seeing in terms of a group level, the sickness levels, the impact on activity and margins, how has that been trending through January and then just thinking about kind of Q1 versus Q2 impact for 2023, obviously, over the low base and the restrictions in there would you expect China to still be down year-on-year in the first half or net-net positive? Thank you.
If you first start with guidance. So basically when we had investor days, our guidance was we said we were looking for a gaining growth more on the upper end of mid single digit. So, if I say mid single digits between four and six, so I think the 5.8 we are basically there and what we assumed, obviously, we could not know, mid of November, when we had investor days, the sickness challenge in mid of December in China. So obviously, this was a -- could say, this was not considered. What we assumed like we also said at the investor days, we see some softening in some of the European markets, which occurred. So that was the assumptions. The only difference is really the China part. But again, if we adjust for China, this two months will be about five. So from this point of view, and 5.8 was achieved. And it considers a bit of slowing in Europe what we kind of expected.
On the second part regarding China, if you think about China, it is actually, of course, they are often challenges. If you think about the big lockdown, or the COVID start back in H1 and was it again, H1, 2020 we've recovered very well in the second half. I mean, I think our team did a fantastic job to recover in the second half. Yes, we were helped also, by all this work for the masks. If you think about the lockdown in the second quarter, we had after the lockdown in the big cities in the second quarter, we had very quickly strong growth, basically up to late autumn. And so from this point of view, I think our business, our ability to recover fast is very strong. So I'm not concerned about the growth rate in H1.
Maybe just to add on the. So end of the year, or as toward the end of the year, we are about 70 plus percent sickness absence. So the operation was pretty down. By the second week, just before Chinese New Year we are more or less back up to not fully 100%, but pretty much close to 100%. So, but this also considered that our customers has their own problems. So it's not one, it's one thing that we are back up with. The second thing is whether the supply chain and our customers are back up to 100%. So, we're going to monitor the situation after Chinese New Year to see how things goes. But quarter one will be a bit challenging, and quarter two will pick up again once the situation stabilize.
Thank you very much, Frankie. The next question or questions we have is from Michael [Indiscernible]. Please go ahead, Michael?
Thank you. Good afternoon. Two questions. The first one is regarding capital allocation priorities. And if you have identified any further areas of potential divestments with the possibility to deploy to cash elsewhere? And the second question tying into that is your equity dropped quite a bit. So net debt to EBITDA continuously increasing. You mentioned that cash flow will be better in 2023. But are you planning any other measures to improve the balance sheets? Thank you.
If you think about capital allocation, obviously, we focus first of all, of course, on organic growth. We put two years ago, our CapEx more towards the higher end of the range 4.5% to 5%, which we'll continue to do and allocate especially capital into above average allocation into areas like connectivity, into areas like health science, but we'll continue to do. We are obviously open for acquisitions in the core segments, which we defined their acquisitions will also help. As I mentioned, the investor days, we're not seeing currently a lot of acquisitions, although we are very disciplined on pricing, we will be more smaller bolt on acquisitions in that regard.
We also continue to work on our portfolio. So there are a couple of businesses where we have some discussions about with external parties about divesting and so maybe there's one or the other could be announced during the course of the year, but this will be more smaller ones in segments, like the outline that the investor days that we have, which are not of high strategic priority where we have a low market share, and also not the right or the best returns.
Net debt to EBITDA increased. Now, obviously, we had some years ago, it was a very, I would say unlevered balance sheet, it increased. They also had a share buyback throughout last year. So share buyback is definitely not a priority. It's really about bolt-on acquisitions, organic growth, and of course, a stable dividend. Otherwise, we feel comfortable with our leverage, so there is no other actions needed.
Thank you. Next up, please is Arthur from Citi Group. Please go ahead, Arthur.
Thanks, Toby. First question from me, just on the working capital outflow again. And are you just able to sort of specify how much of that you think is China driven? I know you've mentioned it, some of it but whether you could just put a number on that and likewise, what the outflow is likely to be in 2023? And the second question I had was just within connectivity and products, obviously, we've talked quite a lot about connectivity. But in the autumn, some of your peers were talking about destocking cycles, having an impact on softlines and hardlines. I was just wondering whether that was something you were seeing any impact of now or not so much? Thank you.
I go on to the second part of questions. Certainly, there is lot of cautions from the retailers about the inventory level, and so on. So,- but on the softline side, we are still seeing quite good growth for 2022. And moving into the New Year, I think that growth trajectory might be slightly lower than last year, but I'm not too concerned about that. How good some trajectory? I would say last year was even more difficult. We're looking at the better year this year. But again, while the destocking is an important factors, we're also looking at number of SKU and so on. So there's not always a one to one ratio between the large inventory of our customers and retail sectors versus what we do in the production countries.
And the last one as well I think we also extended our network to capture different sources of supply chain away from China. As I mentioned within the call lot over the past few years into Turkey, Vietnam, and so on, we are we seeing these to be part of the drivers in terms of the way we're growing our unit there. So.
Regarding the development in terms of network capital movement, it will be in the ballpark, I would say outflow this year round plus minus CHF75 million for 023 and 2022. China effect, it's a bit hard to say what if and so on, right, because, but it was most likely it was around CHF25 million, CHF30 million, there is a bit of a timing issue. But also I know there were also bad debt, which we still want to recover or which will recover which impacted also working capital in the 2022.
Thank you very much. [Operator Instructions]. The next person on the call is Carl from RBC. Please go ahead, Carl.
Yes, thanks, Toby. Just two for me, as well. Back on the health and nutrition business. Just looking at the second half margin development, I mean it dropped back almost 500 basis points, that's created a super easy comp for you it next year. The question would be the extent to which you believe that that margin can recover for the full year 2023 to levels that we saw in 2018, 2019, sort of 14% to 14.5%. That's my first question. And then the second question, I just wanted to check, I heard it rightly, it seems that all of the divisions on the outlooks we're going to outperform the group average with the exception of I&E and just mathematically are you signaling there that I&E is going to be particularly weak versus the group average, or perhaps I've misheard one of the divisions?
No, in fact, yes. It'd be confusing, I agree. But because they're all pretty close to the average, let's put it this way. So we have a clear view on where we can land as a company. So most of those [Indiscernible] outperformed. They're pretty close to each other, as well as the I&E on the other side of the middle points. So considering the size of I&E which are larger, so it has an incident on average, but I would say they're pretty close to each other. So there's no massive drop on the I&E versus the older form.
That's clear. Thank you.
Then on the margin in health and nutrition, if we think about definitely the second half, if you compare second half 2022 versus second half 2021 definitely you recall, probably after the year 2021, when we had our announcement, and we had a margin at the time of 16.5%, which was a very strong impact also from the second half at the time, was also a lot related to health and nutrition and the fact that we had a big part of this vaccine work in this second half of 2022 and obviously now, it's very small. So this is the main reason obviously. And that regard that there will be a good recovery, because the projects are running. There should be definitely clearly higher than in the prior years. Obviously, the match and as we outlined at the time they match in 2021 was definitely more on the higher end, given the special impact of this vaccine, which was nicely priced.
Thank you very much. Next on the call is Suhasini from Goldman Sachs. Please go ahead.
Hi, thank you. Two for me please as well. So, the decision to seize the two upstream projects in Libya due to the absence of cash collection, can you please give some color on how big it is? And what impact you'd expect on revenues and margins for 2023? And then, what exactly you're thinking about wage inflation for 2023, please? I know you have the offsetting factors, et cetera for restructuring and so on. But is it like mid to high single digit wage inflation that you're penciling in? Thank you.
So basically, if you think about this business, the revenue which we recognize and was for last year was around CHF15 million. So, but we, it's really a kind of one-off, and we put basically everything in the one-off line. So from this point of view, that will be no real impact on a year-over-year comparison in that regard, because obviously, they also not recognized revenue in the base case, as we basically decided to seize this business and in given the absence of cash collection. In terms of cost inflation, it really depends market to market, about inflation. Our inflation you need to see is more geared to wages, right. So it's probably not high to mid to high single digit in that regard, because it's more geared to wages, and then things like traveling and so on, but that outlined into the second half. First half is more question of volume.
Thank you. Now we move to the last questions on the call. As I said, you can rejoin if you'd like and if we got time at the end, we'll get around to you again. And the final caller please is Rory from UBS. Please go ahead, Rory.
Thank you. Two for me please. Can you give us the price and contribution by division? Or even just rank them in terms of where it has been hardest or easiest increase contract prices? Just think about your performance dashboard on slide 34. Is it those businesses that have a lower market share where you've struggled to pass on cost inflation? And does that influence any decisions about disposing of units? And then secondly, just on the knowledge division. Do you see any risks that the consulting service lines face a tough outlook over the next few years? I know there's quite a few companies talking about wanting to cut back on consulting bills and other areas of spend. So any headwinds you're anticipating there? Thank you.
If you think about pricing, I mean, first of all, we see price upticks in basically all the businesses. Now it's fair to say that for sure, certain businesses, their barriers to entry are materially higher, where it's easier to pass on in other areas, when it's more to commodities. It is more -- it's more challenging. But it's also fair to say if we think about our large accounts, that is also a realization. That is inflation was really high, and openness to accept price increases. So I think it's more in that regard. Certain businesses, I think the kind of what we dispose, or what like to change the portfolio is less a function of inflation or price. It's more our view about the structural outlook of this businesses, our market positioning and our ability to achieve strong returns because we are obviously very, very return focused.
On the consulting part, what we're doing on consulting has a lot to do with supply chains and other portfolio what we're doing there. And actually, we are pretty optimistic because in this part there is rather more incremental demand of advice needed. And so from this point of view, we have a rather positive outlook also for the years to come.
Thank you very much. We're now moving to the questions which have been sent via the web. So I will read this out. So please bear with me. The first two are from Neil Tyler from Red Burn. How are we thinking about headcount into the next 12 months keeping in terms of the balance between capturing growth and keeping costs in check?
I mean let's say, we drive, we have our objectives to basically drive productivity very clearly. And obviously, headcount planning on headcount deployment is a key parameter. And we adapt the headcount to the needs to the market demand. But it's obviously if we see opportunities for growth, and potential to have good returns, we will invest. Frankie, you want to add something?
No. No. I would say also, it depends on the mix of a portfolio certainly. As you know that for quite some time, we have been pushing more into the testing part of the portfolio. So the testing in terms of headcount, and the manpower intensity is different than the field activities. So I would say, as we migrate, including the level up initiative to help to optimize the efficiency across our laboratories as we migrate toward these directions certainly, the labor intensity will change over time towards more laboratories and more automated level up initiative that we've been trying to push for the past couple of years already
Thank you. And then the second question from Neil is specific to health and nutrition. Following the fall in profits in the first half and second half, and based on the assumption that is based upon the vaccine development work coming out of the business. We've also mentioned the cost of network investment. So on that is the 2022 base now clear of vaccine work? And secondly, how are we budgeting for network investment this year?
No go ahead.
End of 2022 was still some related vaccine work, but it's really the minor part. And regarding investments, especially in health and nutrition, and health science, we see good opportunities for the midterm, and also opportunities to enlarge our footprint. So we will continue to invest in certain labs across the world.
Yes. Absolutely. I mean, the health science is a strategic direction that we set, we have nutrition a few years back. So we'll continue to invest into network and this will include some additional investment in a couple of Asian countries, in Europe, partially to just create some of our facilities probably in North America.
Thank you. And we have [Indiscernible] and he would like to have an update on the M&A pipeline and our vision for FX in 2023?
So from the M&A side I mean, nothing changed to what we discussed at the investor days that we not seeing for the time being sizable, more sizable opportunities. On the market, it's more smaller things and we looking after this and conclude certain things like a Proderm, which was a very nice addition for our cosmetic business. I would expect for this year not too much M&A part, because we simply not seeing enough supply on the market in the areas of our high interest. And also given that last year was of course also very demanding I would say from a pricing point of view, we are very disciplined in that respect. We have to see what more supply comes back to the market better in the private market, how pricing has adjusted.
Thank you very much. And There are two from Pablo from [Indiscernible] I'll start with the sort of more technical one, which is an update on cost of debt and tax for 2023.
So if we look to our cost of debt, our overall portfolio of debt instruments outstanding ones, which is biggest part is 0.8% interest expense, obviously, we'll have an interest income, but also hedging costs. So finance expense made CHF50 million should be a good number. Tax rate improved. And we would foresee and we believe this tax rate is more or less sustainable, which we posted. So we expect the tax rate going for between 26% and 27%.
Thanks very much and then one which is similar to question we had before, actually, but Back in November, we expected to get -- I'm not saying we expected to, but the expectation from Pablo was that we would get 100 basis points of margin benefit in 2023 from the factors of cost savings and bad debt recovery. Could you talk around those points and what we expect to realize in 2023?
So I mean, there are positive items there, like outlined before the CHF50 million restructuring benefits, which we fully occur on 2023 and we have, we also have bad debt to expect it to be a large extent. And all the things, of course, have a positive impact. But as I mentioned to one of the questions earlier, there are also some offsetting items, like higher bonuses, then in 2022, we expect for 2023, if assuming bonus at target, obviously, higher kind of the facing of electricity gas costs, which is more the run rate of H2 versus what we had in H1. The same is true for traveling and where traveling given the opening of China. So overall, we expect very nice margin increase, but we're not guiding now to fixed much.
Thank you. And I'll cover two capital allocation questions at the same time, because I think it's going to be easy to do that. Patrick from __ is asking whether we will consider a share buyback program this year, and what factors does it depend upon? And then secondly, part of the sort of overall picture, I think, net debt has gone up and free cash flow hasn't covered a dividend. Should we be, is there a case for cutting the dividend rather than holding it flat?
So to the first question, we concluded the share buyback program, which we announced a good half year ago. And with this, we are done. I'm not foreseeing share buyback programs in the near term, clearly not. So in terms of capital allocation, it's really the dividend of CHF80, which should be stable. Yes, the free cash flow is it was last year, lower. We expect clearly better cash conversion into this year, and the dividend will stay stable at CHF80 until the moment that the payout ratio will move down towards 70%, 75%. And then dividend increase is an option. But up to this moment is basically CHF80 in no share buybacks.
Thank you very much. And then we have the final two. So the first one is from [Indiscernible] Alpha Value. We're targeting 50% of revenue from sustainability solutions. Based on interactions with customers, where do we think which divisions do we believe have the most room to introduce new services and solutions into 2023?
The way we calculate our system sustainability solution framework includes some of the existing activities. So I would say, Knowledge will be certainly one of the beneficiary, because the fact that there's already increased demand on the market about sustainability related audit assessment and consulting. I would also believe that the way we continue to grow our health and nutrition portfolio will be contributing to this segment. And on the C&P side, we also have some new project this thing to suitability solution in terms of product certificate, and so on, as well as the transitions from I&E. But I would say if I have to pick two that will contribute, the more we'd be health and nutrition and knowledge.
Thank you very much. And then our final question, because I think we've overrun already. So we'll cut it off there. And going back to health, could you break down the difference in margin impact from China and investment? And how much of that will reverse into 2023?
We don't have this detail number.
Okay. Maybe [Indiscernible] from Barclays. If you send me that question, we can come back to you a bit more detail. So thank you very much. It's been a long call. And I think we've got through a lot of questions. Thank you for attending the call. And with that, I'll hand over to Frankie for a couple of words at the end.
Thank you, Toby. So I think just to conclude that the team and I are very focus on the winter, the outlook we set here. So we are clear that productivity growth will focus on midterm long term of the regional market is essential. And as we discussed last November for those of you who attended the industries date, the long term drivers are still there. We're investing for the long term and the reasons of the companies clear. And we are looking at the strong year for 2023. Thank you.
Thank you very much.