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Welcome to Ericsson's analyst and media conference call for the third quarter report. To view visual aids for this call, please log on to www.ericsson.com/press or www.ericsson.com/investors. [Operator Instructions] As a reminder, a replay will be available 1 hour after today's conference. Peter Nyquist will now open the call.
Thank you, Mark, and welcome, everybody, to this Q3 earnings call. With me here in the room, I have Börje Ekholm, President and CEO; and Carl Mellander, Chief Financial Officer. I will state the following statements first. During the call today, we will make forward-looking statements. These statements are based on our current expectations and certain planning assumptions, which are subject to risks and uncertainties. The actual results may differ materially due to factors mentioned in today's press release and discussed in this conference call. We encourage you all to read about these risks and uncertainties in our earnings call earnings report as well as in our annual report.Before leaving the word to Börje, we would like to say that this call is focused on the Q3 earnings. And later this afternoon, we will have an investor update. And then we'll take more Q&As on the long-term strategic issues.By that, I would like to leave the word to you, Börje.
Thanks, Peter, and welcome to all of you for this call for the third quarter. And of course, we appreciate that all of you have the time to join us. So in the third quarter, we continue to execute on our focused strategy that we defined and laid out in 2017. The execution during the third quarter shows that we do what we said we will do and execute towards building a stronger Ericsson longer term. A key part of our strategy is to increase investments in R&D for technology and cost leadership, and we see good momentum in our business based on a strong portfolio and a good cost position. Another key part of our focused strategy was to strengthen our footprint, and we see good progress here with several wins. We're disciplined in how we take contracts, and we target opportunities where we have a clear technology advantage. However, these contracts are margin-dilutive in the short term.But the good thing is here, we're also starting to see some of the early contracts we have taken to gain footprint to become margin-contributive and actually helping us drive margins. So the impact during the third quarter net of operating leverage was about 80 basis points from this type of contracts. But the important here is to remember that we will try to manage or we will manage these strategic contracts within our overall profitability, and we can still deliver a healthy gross margin.We see faster rollout of 5G than we earlier anticipated, driven by the pioneers in North America, Northeast Asia. During the third quarter, we also recorded a provision of USD 1.2 billion or SEK 11.5 billion as the estimated costs for resolving the situation with the SEC/DOJ. Of course, we are ashamed of our historical performance but we confront issues head on, and we're now investing significant resources to strengthen our future compliance program.Over the last 2 years, we focused on improving our cash generation capability or capacity. During the third quarter, our free cash flow before M&A was SEK 5.5 billion, and we now have the net cash position of SEK 37 billion.The geopolitical uncertainty has continued during the quarter. And as always, uncertainty is never good for investments. So we see really no impact in our order books yet. But if anything, we see uncertainty among our customers. And actually, it's delaying investment decisions in certain parts of the world.If we move into a summary of the numbers for Q3 2019, we had a strong cash flow, as we said, SEK 5.5 billion during the quarter before M&A. Organic growth was 3%. Underlying margin, when we adjust for the provision for SEC/DOJ and the onetime refund of social security costs, was 11.4% and that improved both year-over-year and quarter-over-quarter. Networks had a good gross margin, absorbing the dilution from strategic contracts. And in Digital Services, we see improved results. When we laid out our strategy in 2017, we did not target the fastest possible turnaround of Digital Services, instead our priority was to build a strong unit for us longer term and create a strong product portfolio. And thereby, we defined the ambition to reach low single-digit margins in 2020. And what we see now is that the business -- the underlying business continues to improve, and we're getting closer to breakeven. We still carry costs for the 45 previously identified critical contracts, but we're resolving them one by one. But what's very encouraging and makes us comfortable about the targets for 2020 is the strong development in the underlying portfolio or underlying business. Maybe the most encouraging thing with Digital Services is the strong growth we see in our new growth portfolio to actually combat the declining legacy portfolio. We saw Managed Services to be after a bit of a bump in Q2 to be back on where it should be, delivering a good and improved margin. In Emerging Business, we see good growth especially in our IoT offering where we have also decided to double down to be the stronger business longer term. Short summary of the market area sales then. We see very good growth in the regions with early 5G launches, that's really the U.S. and Northeast Asia. In Europe, we saw growth in Networks and Digital Services while Latin America saw declines following a strong 2018 tough comparable. In Southeast Asia, Oceania and India, we saw declining sales due to lower sales of our legacy product in Digital Services. In Middle East and Africa, we saw actually growth because of strong investments in 4G as well as 5G in key markets, but we were also -- had a headwind from contract exits in Managed Services. So with that, over to you, Carl.
Thank you, Börje. I will start by mentioning 2 items affecting comparability in the third quarter. Those are important to understand, the underlying business. And first to SEC/DOJ-related cost provision. The cost here is estimated at USD 1.2 billion, which is the same as in our earlier communication. And when we applied the exact exchange rate on this in the closing, then this translated into Swedish kronor amount of SEK 11.5 billion.Secondly, it's the refund of Social Security costs related to pensions in Sweden, and this amounts to SEK 0.9 billion. Both of these are booked on segment Emerging Business and Other, and for the only reason of keeping them, easy to track for external stakeholders. When we adjust for these one-off items, we arrived at an operating income of SEK 6.5 billion or an operating margin of 11.4%. And you also see here that the adjusted operating income for segment Emerging Business and Other is negative SEK 0.8 billion. Let's have a look at the 4 segments starting with Networks. Networks grew by 4% currency adjusted to SEK 39.3 billion, again driven by North America, mainly. Gross margin was flat year-over-year and down 0.8% sequentially, if we exclude an item affecting comparability in the second quarter. We'll come back to that later. So we did have a decline of 0.8 percentage points. We have absorbed the margin impact and inventory provisions related to the so-called strategic contracts.Both operating income and operating margin here increased year-over-year. And if we drill down into this a bit more, the underlying margin is stable year-over-year as in the third quarter 2018. We had burdened the margin by some revaluations for customer financing and also some impairment losses of trade receivables.So as you can see here in the graph, the operating margin this quarter exceeded the 2020 target range, 18.4%.We move to Digital Services. Sales grew by 5% FX adjusted to SEK 9.9 billion. And as Börje said, a good momentum in the 5G-ready and cloud-native portfolio. And geographically here, we're talking North America and Northeast Asia. And again, we're happy to see the growth in the new product portfolio of 19%, if we look at a rolling 4-quarter basis.Gross margin improved both year-over-year and quarter-over-quarter from increased software share of sales and also continued cost reductions. On operating income level, we saw significantly reduced losses here, now down to minus SEK 0.5 billion versus negative SEK 1.4 billion a year ago and minus SEK 1.3 billion last quarter. And this was then in spite of absorbing a negative impact of the remainder of the 45 critical contracts that we defined way earlier of SEK 0.5 billion. So now we have addressed 29 of the 45 contracts. As you know, we target to have 75% of those 45 completed by the end of this year. I also want to mention that the BSS strategy execution, which we have communicated about earlier, is progressing well. And here, we have recorded several new BSS wins in the quarter as well. So all in all, I would say the turnaround here in Digital Services is on track for the 2020 low single-digit margin target. But again, please bear in mind, as we have said many times before, that the impact of the remainder of these 45 contracts will continue to vary between quarters as they are addressed. Managed Services delivered well in the quarter and operating margin above the 2020 target range. And here, we declined top line if we adjust for FX, but this is mainly following the planned exit from contracts that we have talked about. Gross margin improved also here, following continued efficiency gains, but also thanks to higher portion of what we can call add-on sales, meaning additional business generated under existing contracts. And looking at operating income, we also here increased both year-over-year and quarter-over-quarter following the higher gross margin. I would say it's also relevant for -- here in Managed Services to look at the year-to-date operating margin, which is 6.9%, up from 5.4% the corresponding period last year, and we have to exclude the positive effect of certain provision reversal we did in the first quarter. And this, again, in line with the 2020 target range. Here in Managed Services, we continue to invest in R&D for automation, machine learning, artificial intelligence, obviously, to continue develop this business into a competitive and value-generating part of Ericsson. In segment Emerging Business and Other, sales was SEK 1.6 billion, which is an organic decline of 7%, and operating income here was impacted by some nonrecurring items that we talked about before. When we exclude this, it's minus SEK 0.8 billion compared to SEK 1 billion negative in Q3 '18. Looking at the different parts, we had the Emerging Business including iconectiv. And here, Börje mentioned already but I think this is worth repeating, this is good that we see our IoT business growing almost twice the pace in the market. And we have now 4,500 enterprises onboard into our platform via telecom operators. And yes, then we have Red Bee Media, stable business at breakeven, working hard to improve. And the Media Solutions, of course, divested earlier, now generating a negative SEK 0.3 billion operating income.When it comes to gross margin, here you see the long-term development. We could say the gross margin has established itself as -- at the higher level in line with the target for 2020. And I think I have mentioned most of the factors there, so we can move on.Here, let me say a few words about the Networks' gross margin and the so-called strategic contracts in the form of this margin bridge here. Some of the contracts that we decide to take, they do come with lower initial margins. However, they were all selected for value creation long term. And the product offering and cost structure we have now is more competitive, and this is an enabler for us to capture these opportunities without jeopardizing the targets for 2020. But we have a certain negative impact on the gross margin. You saw the 0.8 percentage points here in the third quarter, and the dilutive impact can vary between quarters, of course, but this is about building for the long term. So you see the underlying margin Q2 was 42.3%, if you make an adjustment for an IPR settlement there. Compare that with the Q3 number, 41.6%, and you get the 0.8% delta including this margin impact and inventory provisions, but also offset by operational leverage.OpEx. Quickly, starting from the left with R&D, slightly up. And we have seen reductions now continuously in Digital Services as well as Emerging Business. That's mainly related to the divestment of MediaKind. And we invest for Networks as well as Managed Services, as you are well aware. SG&A in the middle in a stable underlying level. You can say we compensate for the negative currency effect by continued cost savings. And then we have the impairment losses on trade receivables. Yes, they continue to vary between quarters. It was a positive this quarter, thanks to good collection efforts in our company.Free cash flow SEK 5.5 billion is a key number here, free cash flow before M&A. We saw some outflow from provisions here, SEK 2.2 billion in this quarter. Looking at the future in Q4, we expect the majority of the SEC/DOJ-related cost to be paid out but this is, of course, uncertain. This is with current information, but let's see how the discussions there play out in reality. Just to highlight also the year-to-date free cash flow, which is SEK 11.8 billion compared with SEK 1.2 billion same period last year. A lot of this has to do with working capital management and at least good cash collection in the quarter and the whole year.Planning assumptions here. Again, please look at the full report for all the planning assumptions. I don't go through the details here. There are a few additions and changes here, so I just suggest that you have a look in the report where you can find all of that.And with that, I hand back to Börje.
Thanks, Carl. So our focused strategy stays firm. We are excited about the opportunities to expand the market with our 5G technology as we enter the enterprise space and many more advanced consumer applications. We continue to invest in R&D for technology and cost leadership. Our investments are, of course, focused on 5G but also cloud-native portfolio and AI. We continue to seek to expand our footprint in a disciplined way. We're building on a strong portfolio and a good and competitive cost structure. But nevertheless, the margins can be -- or the contracts can be dilutive to margins in the short term, but they are surely creating value long term and strengthening our market position, but we can take those within the targets we have earlier or previously communicated.Our focused strategy is aimed towards building a stronger Ericsson longer term, think in terms of 5 to 10 years out. And we feel we are doing what we said we would do in delivering on that. So we are very comfortable about our targets near term for 2020 and 2022 as some sort of intermediate checkpoints underway to longer-term stronger Ericsson.With that, back to you, Peter.
Thank you, Börje. And on the topic of the investor update this afternoon, we will then focus that session more on the strategic question. And you will get a run-through with both Börje and Carl with details around what we're going say about targets and the strategy at that point. So we will focus this Q&A session on the Q3 earnings.With that, operator, we will open up for the Q&A, please.
[Operator Instructions] Our first question comes from the line of Daniel Djurberg of Handelsbanken.
Congratulations on the strong report. The question would be to Carl, I think. On the Networks side, you had the inventory provisions in the quarter, making up part of this 80 basis point gross margin impact in the full. How much of this 80 came from this inventory provision and how much was from strategic contracts?
Daniel, Carl here. We don't go into that level of detail here, but we said -- we talked about the net impact here of the 80 basis points, but we're not going to break it up into smaller components of that.
I have one more question then perhaps to Börje. It might be interesting to get your view on this development of open radio access network that some operators, quite large operators start to talk about it now. And I was thinking if this openRAN so far has impacted your strategic plans for Networks segments long term or what you're thinking is on the openRAN.
Yes, we have. And then you see it from our earlier announcements, we, for example, join the overall alliance already in the beginning of the year. So we believe the openness and the open architectures will, of course, be important part of the market going forward. So we see that as a natural extension and an area that we are surely going to participate in. So we are working to position ourselves as a strong competitor in the -- as an open provider or provider of an open solution. No question. Then exactly how that's going to impact and when it will be introduced, et cetera, that's a little bit unclear. Solutions, of course, can be done for 4G already today. But so far, we haven't really seen that on 5G. So we'll continue to work on our path, and it's going to be an important part of our business going forward as well. But as you see, we continue to have a guidance of a strong Networks going forward. So we believe we have a good position also here.
Our next question comes from the line of Aleksander Peterc of Societe Generale.
I just have a few questions. One is simple and housekeeping. When you say there's a 0.8% impact in gross margins from competitive price contracts, is that quarter-on-quarter or year-on-year? Then the second question would be on the impact of Kathrein. How should we model sales gross profits and operating profit contribution within Networks here? I think you alluded to about SEK 3 billion at the sales level that we should model for the full year, but I'd like to have a little bit more detail on that. And then lastly, on guidance, so you lift the midpoint, I'd say, by about 9%. Is it correct to assume that about half of that is down to FX changes since your last update about a year ago? And also is there an inorganic contribution of Kathrein that I don't think was modeled in that initial guidance indication you gave a year ago?
Should I start then? Yes, first of all, that 0.8 is the sequential delta on the Networks margin if you adjust for one specific nonrecurring item regarding an IPR settlement in Q2. When it comes to Kathrein, what we have said earlier is that it's about EUR 270 million in top line in 2018. And so that's about the level we have talked about. No? Then the -- sorry, I'm reading on the wrong line. It's actually around EUR 220 million exactly. Apologies for that. We have a certain negative impact from Kathrein in Q4 and also in 2022, and it has to do with changing the portfolio and modernizing the portfolio there and the whole shift that we are going to do. Of course, over time, this acquisition is going to be accretive clearly, but there's some short-term hits on that.
But it's important to stay put in the context of 2020, that's why we're still comfortable with our targets, and they remain firmly in place. So of course, as Carl said, we expect to see a bit of a headwind from Kathrein in 2020, but we need to modernize the portfolio and make sure to invest in our antenna technology. And that's a strategic investment we're making. So that -- but we can manage that within our targets.
And I guess, your third question was around the midpoint of the 2020 top line, right?
Yes.
No, I can take that. It's divided between the FX impact, but also good market momentum. And thirdly then, the Kathrein acquisition. I mean to give you a rough idea, FX is probably around, say, SEK 9 billion on that market and another SEK 9 billion in Kathrein, say, 2.
Our next question comes from the line of Sandeep Deshpande of JPMorgan.
I have a couple of questions. Firstly, regarding the United States. I mean you have mentioned on your release that T-Mobile, Sprint may cause some issues. Maybe can you elaborate on what you think that will do to your normal seasonality in the fourth quarter? And then secondly, if I look at -- I mean you've talked about DSS in the past. When do you think DSS adoption in the U.S. will start?
Repeat the last question, please. You meant DDS or...
No, the Dynamic Spectrum Sharing.
Yes.
Okay. I'll take that. If we look in the U.S., what we are saying is that there are a bit uncertainty in relating to a potential merger, as Peter announced. And we think that is going to impact their spending levels in the second or during the fourth quarter. So of course, that will be a lower seasonality effect in Q4 than we've -- than normal as a consequence of this. So I -- it's hard for us to be much more specific, but we want to say that, overall, you should expect lower seasonality than normal and/or lower seasonality effect than normal. And come back to your question about the Dynamic Spectrum Sharing. This is an important technology. We've taken steps forward. When it will be introduced? That depends on launch plans with our customers. So we're not going to comment on details, but it will, of course, be announced as it is deployed.
Next from Edward Snyder at Charter Equity Research.
This is [ Jack Egan ] on for Ed Snyder. So operators such as Verizon and British Telecom backing of extra monthly charges for 5G service suggests ARPUs are remaining flat. Is there a specific reason why they haven't risen yet? Is it due to ineffective marketing or reduced CapEx? Just trying to get an idea of expectations for commercial uptake for 5G.
The -- if you look at -- it's also -- I think to be able to charge a premium, you need to also consider other aspects like how much coverage, for example, you have for the service, right? So when you look at other parts of the world where we see early movers actually get a price premium for 5G, but it's typically linked to a broader coverage, a broader user spectrum, so to say. So -- and so far in the U.S., it's -- the buildout is happening. It's happening very quickly and it's building out quickly. Coverage is not -- it's not deep yet, and I think that limits your ability to charge a premium. But if we learn from the history, we've seen the first movers always be able to extract a price premium, and we see the same thing in 5G or expect the same thing in 5G.
Okay. For my follow-up, for sub-6 base stations with 64 antennas, can we get a general cost point for these? Are they twice as expensive or 10x as expensive? Really just looking for a ballpark estimate.
I guess, you would love that, but you're not going to get it. Sorry.
Our next question comes from the line of Achal Sultania of Crédit Suisse.
Just coming back to the U.S. market and maybe Korea as well. Like, obviously, we've seen continued strength in both these markets as 5G leaders. You've obviously been commenting for the last few quarters that we have to be careful as some of these markets may start peaking. We still haven't seen that. Q3 was another quarter of growth from a very high base. So what has been the surprise element for you when trying to predict the demand coming out of the U.S. and telco -- Korean operators? Is it 4G catch-up spending? Is it the base of 5G rollout? Is it the densification part? Just trying to understand like where are we missing something, which is going on in the U.S. and Korea.
It's not easy to give a very clear answer. But if you look back 2 years ago, with the expectations of the 5G introductions, we would have said more like a 2020 event. Since then, it's been actually accelerated by more than 12 months. So you see a much faster rate of introduction of 5G than expected. You also continue to see a very high increase in the data consumption among the users. So what you are seeing is actually a need to invest in the network to actually give the end user the quality needed. So you see operators invest in both 4G as well as 5G. And yes, we -- generally, you could have said, "should we have expected this?" To some extent, we should have, but the reality is it's happening even faster than we expected just a few months ago. So the demand here is strong. And when we look at early launch markets for 5G, we see a very sharply increase of data consumption among the 5G users, which indicate that 5G yet again shows that you will use your device in a different way when you get a better service. So if we look at -- compare that, for example, to Europe where we typically have weaker coverage, weaker network as more of an average compared to Northeast Asia and the U.S., and we see much lower data consumption as well. So I think the reality here is better network drives new type of behaviors that actually also drives investment need and drives our business. And that's why it's important, I think, that the operators also are able to charge a premium for 5G because it will create new type of use cases. So it's a multitude of factors, but it's actually back to the demand for -- it's almost you're feeding the data consumption beast in a way, and the consumer continues to love consuming data.
And maybe just a follow-up on Japan. Have you started seeing the 5G prep getting done in Japan or it's still more like a 2020 event? And how is your relationship with all the 3 major operators? I know you've announced Softbank and KDDI, but what's the progress with the third operator in Japan in terms of what you can supply in the new relationship?
The -- Japan is still preparing to upgrade the network to launch 5G, so they're in that phases. So that -- it's more of a 2020 event, as you called it. We see good progress in the market. And of course, our ambition is to be stronger in 5G than we've been before. So that would include working together, as we have said before, with Fujitsu and approaching the market that way as well. So we feel quite positive about the situation in Japan.
That's from the line of David Mulholland of UBS.
Just on China, I think your commentary is getting increasingly over the last few quarters confident around your ability to take market share into 2020. I just wonder if you could update us to the -- on where you are on? Has business been awarded yet that you've seen? When do you expect that to happen? And is that also, in terms of impacting your P&L, something that's already going to kick in Q4 this year or really a 2020 story?
Yes. It's -- the -- our ambition is clear. We want to be stronger in China than we -- in 5G than we were in 4G. 4G spend or 4G market in China is really more than 60% of the global market. So it's clearly very important. We have no reason to believe 5G will be less than that. So we try to position ourselves for gaining share. We feel we're making progress. We're making investments to do that. Still, we don't know -- no rewards have been made. We have really no way of knowing potential market shares, and we don't really know price levels either. But we expect that to be awarded in the -- a bit in the near term, in the next few months, but we will see and we will update you based on what we achieved.
And then just one quick follow-up on Kathrein. I think the commentary you're making around potential margin impact that -- as in dilutive margin impact, is that, I assume, just a Q4 issue? Because whenever you announce it, you said it would have a positive impact to your profitability targets for 2020.
What we have said is that it will have a near-term dilutive impact. We're closing it much later than we expected, so it will clearly carry into 2020. So that is -- it's going to provide headwind in 2020, but the reality is it's still fitting into the overall guidance. So you can quantify it a bit and say that, yes, it's going to have an impact, but not that much.
Our next question comes from the line of Jörgen Wetterberg of Nordea.
Congratulations on the report. A couple of questions, if I may. One, related to the operating expenses. So you had some good improvements there after adjusting for the social security benefit repayment, et cetera, right? And you're saying that it's driven by FX and seasonality. Still, you're increasing employees by 1,000 people. So could you give us a bit of understanding? Is it only FX and seasonality? Or do we have structural improvement trends here? And how are you thinking about the OpEx going forward into Q4 and 2020? That's number one. Number two is you have quite a big uplift on Digital Services sales in Northeast Asia and you point at Japan. Could you give us a flavor since they are kind of pre-5G investment, what type of investment is that? What -- is it 4G pocket core capacity increases because 5G isn't there yet? Or what are we seeing?
If you start with the increase in number of employees, it's really in our service delivery organization. As we win contracts, we need to step up accordingly. So that you should see in that conjunction, right? So you see a top line growth, and you will see some increase in service delivery staff. On our SG&A, that you see. And I think Carl said it also, in a way, we have currency headwind. So efficient structure and efficiency gains we're making are in a way canceling out the headwind from currency. So you do see a continuous improvement there. So we're able actually to take cost out in SG&A and grow top line. So there is an operating leverage and operating efficiency gain in there.Then on the question about Japan, the -- what we see and we have seen that in other markets before, there is a need also to upgrade your -- the whole network including the core orchestration, et cetera. And all of that has to be done before you can launch 5G. So you see this is a natural spending cycle going on in Japan as well.
The next question comes from the line of Johanna Ahlqvist of SEB.
Two questions, if I may. The first one relates to IPR revenues. You still guide for SEK 9 billion for the full year, which, if I do the math correctly, implies that you will end up at SEK 1.8 billion in Q4. I'm just wondering, is there any reason why the patent revenues should decrease in Q4 versus the SEK 2.4 billion we see now in Q3? And then my second question relates to the U.S. market. If you can comment anything of how you expect 2020 to develop in the U.S. I know you sort of guided previously for more service heavy type of revenues and also how you see the mix on clients. I would expect the 2 major telcos in the U.S. are very big part of your CapEx now and if you expect that to change in 2020.
Great. I can take the IPR question, first of all. So Johanna, it's -- when we talk about SEK 9 billion, that is really the contract baseline annualized. This year, I think we can expect Q4 more or less in line with Q3. That would bring you a bit higher than the SEK 9 billion for this year because of some FX and well-performing contracts here and there and one-off. So that will bring you to about SEK 9.5 billion.
And U.S. market, I guess, was the second question, okay, in 2020.
It's -- when you look at -- we have seen a great growth in the U.S. during 2019. We don't see that the U.S. market is in that sense structurally slowing down, and that's because it is driven by the end user. It's the end users' consumption of data that drives the need for building network capacity. So we don't see the U.S. market necessarily to, in that sense, slow down because the end market is actually growing. In addition, we will have clarity on the merger, what's going to happen. So we think there are a couple of things speaking in favor of the market. On the other hand, it's -- when you have this high development, you will have to at least be prepared to absorb some negative surprises. So we're just trying to position ourselves. On the other hand, we have other global markets that we see also that could contribute positively. Northeast Asia, for example. So when we put together the guidance for -- or the targets for 2020, we kind of -- we said it's 230 to 240 is a realistic number on the overall, and that's what we are sticking to. And then we can absorb some short-term fluctuations in certain markets compensated by others.
And that comes from the line of Amit Harchandani of Citigroup.
Amit Harchandani from Citi. Firstly, if I may, I guess I don't know if you can help me on this, but as we look towards Q4, you've talked obviously about the revenue line and how we should think in terms probably below seasonality. Is there any steer or assistance you can provide us as we think in terms of the gross margin, in terms of, say, the impact of strategic contracts or any other puts and takes around the gross margin, if you can help us. And then I have a follow-up.
I can take that. So you saw then the impact of the so-called strategic contracts in Q3. It's fairly limited, 80 basis points. I think we can -- we don't see any dramatic impact of those going forward either, more dramatic. But it is there. And for the reasons we have explained, we'll take some of these contracts when they are value-accretive longer term to build a stronger footprint. And this is, of course, in line with strategy, but somewhat negative impact that I would say contained and limited. So I think that's the thing to keep track of for gross margin into Q4. Then we mentioned also Kathrein in the planning assumptions, a certain negative impact from that short term, we also mentioned that. Final point, perhaps then on Digital Services, you know that the 45 contracts that we have identified may have an impact in individual quarters, and that impact can vary from quarter-to-quarter, of course. But again, just to repeat, we are on track there on the recovery towards the low single-digit margin for next year.
And just to clarify, in terms of the mix of networks, there's nothing that we need to be aware of in terms of the mix. I guess Q4 potentially tends to be a higher software quarter. So is it fair to assume product mix would be positive in Networks?
No, I wouldn't assume any specific positive exchanges into Q4. I would not model that.
And as a follow-up, if I may. Is there -- could you give us a sense for your own perspective of how the stand-alone versus nonstand-alone deployment is shaping up across your conversations with operators? How do you feel Ericsson is positioned? I understand there are few releases down the pipeline with 3GPP, but a sense of your perspective on stand-alone versus nonstand-alone would be helpful.
It varies a bit by market, but we see the initial deployments being nonstandalone, but we're seeing also the interest for standalone increasing. So we feel that we're well positioned in both, and it depends a bit about the operator priority and how they're going to build out the network. But we see ourselves to be well positioned here in the early phases of standalone as well.
And is there any clarity around time line or still too early to comment on that?
It's a bit early. When China launches, it will most likely be a stand-alone, and we will see how that develops, right?
That's from Andrew Gardiner at Barclays.
Just another one on China, please. Compared to the way you and others in the industry were talking earlier in the year, the contract awards have been delayed and continue to be delayed. Is -- are you getting any visibility from the operators around why they're delaying it? I think we can speculate on it, but I'd be interested in the feedback you're hearing as to why this process seems to be dragging.Also, in the report this morning, you were saying you do expect deliveries to China to start in the near term. Is that 4Q? Are you getting any indication it could be that quickly? Or is it really a 2020 event? And then just in terms of thinking about the margin impact from that, is that -- are you taking into account China when you talk about the near-term impact of strategic contracts? Or would that be additional to that still?
It's easy to make predictions. It's just hard to be right. I think that holds to China as well. So we can speculate a bit, and I think we don't really know. We know there are changes in the market, 2 operators decide to share the network, et cetera. And I think those discussions, while they're ongoing, leads to certain delays, and that's not to be surprised. And we're not talking a particularly long delay, we're talking rather months, right? And so it's not the whole lot. So we see still China starting. It may well be early next year or it will be late this year, we honestly don't know. But we're trying to invest to gain market share and trying to be stronger in the market. That's our ambition. That's not changed. What -- we don't know the price level yet, so it's a bit hard to forecast. But if you look historically, you've typically had the top margin in the beginning of the contract as you roll out, and then you may -- you catch up over the contract period. What we say is that we're committed to the targets we've given for 2020. So you can see that it's incorporated in there. And of course, it can be dilutive, but we should be able to handle that in the targets we have. We see no reason to change those.
Okay. And then just another one related to the strategic contracts. Now that we're sort of few quarters sort of beyond when you guys first started talking about it, can you give any sense to us of the breadth of these contracts? Is it a small number but a particularly important, and therefore, you've been more aggressive and you're starting to see that impact? Or is it much broader across the 5G discussions that you're having? And therefore, you're seeing a little bit -- being a bit more aggressive in price on a broad range of contracts? Can you help us sort of between those 2 ends of the spectrum?
The first time we mentioned, it was actually 2017 when we said our focus strategy builds upon gaining footprint. So yes, it's -- hey, we're delivering. We are doing what we said we would do. What we see is some of the early wins we had already in '18 actually are now contributing to our gross margin. So the reality is we see the model of gaining a footprint actually works in real contracts. Why do we define them as strategic? Well, it was the overall sense of build upon the technology advantage to gain an increased footprint, those we defined as strategic. Maybe that was a wrong wording, but that's what we call them. We're not -- we're engineers, we're not creative marketing. And the reality is we're trying to tell -- to say that these are contracts that -- where we have a unique technology advantage to try to gain the footprint, and they are associated with some early costs. And that's typically costs for changing equipment, for example, and it's service-related costs typically. We're taking those over the P&L. And we see some short-term headwinds from them, but we also see that we create a stronger business for Ericsson 5 to 10 years out. So it's nothing new in this. It's actually -- it's 2.5 years old.
That's from the line of Janardan Menon of Liberum.
I just want to go back to the strength that you saw in the Digital Services revenue. You said that it came from North America and North Asia (sic) [ Northeast Asia ] in response to a previous question. You said it's a normal course of business as operators are preparing for changes. So can we take this as an inflection point in the Digital Services revenue trend? As in do you have a good pipeline of business of this nature coming in these cloud native products, which will sustain the growth that you're seeing in Q3 into Q4 as well as potentially into 2020? Or could it be quite volatile as we go through the next few quarters?
And I won't have to just take a step back. When you look at our business, it has an element of volatility because contracts tend to be rather large. And that's why they -- it's very hard to predict and it's almost inappropriate to predict which quarter that we would never be accurate on. But the reality is -- what we're doing is we're building a cloud-native portfolio with a modern architecture that we are seeing gaining momentum with customers. And we have a number of important wins up to date, but they are also continuing. So if you look a bit longer term, we should be able to grow this part of our business quite substantially, benefiting from the technology advantage we are creating right now.
Understood. And just going back to North America. Previously, you talked about certain sort of constraints in terms of, I think, tower crew and things like that. Are we now well beyond that? You've trained up your people and you have enough resources on the ground to deal with contracts as they come through.
Tower crews are still one of the main shortages in the U.S., and the -- but there are also other problems in the U.S., right? You can't ramp up fast because of permitting process. It still takes quite some time to get permits, depends on which geography, depends on local counties, et cetera. So there are restrictions in other areas as well, but tower crews are important and it actually slows down ramp-up.
That's from Stefan Slowinski of Exane BNP Paribas.
Just 2 quick ones. First, for Carl, I guess, on restructuring. You only have, I think, SEK 500 million of restructuring in the first 9 months of the year. You're guiding for 1% of sales for the full year, which would imply significant restructuring charges in Q4. Do you expect some sort of need for that in the fourth quarter that's different from what you've seen in the first 3 quarters? Or is that just kind of a cautious guidance there on the restructuring side? And then secondly, for Börje, on the geopolitical risks that you flagged today and the macro risks. Are these related to the security discussions that we've been hearing about for well over a year now in the market? Or is this sort of new more macroeconomic risks that you're seeing delaying some projects? And is there any geography in particular that you would call out where you're seeing maybe an increase in those potential delays?
No. I wouldn't say we're not flagging a delay in the market in that general sense, but we're rather saying that everyone seems to assume that the geopolitical uncertainty and the quality security discussions will be beneficial and it would make life easy for us. That, we don't see. If anything, we see it rather being slower with certain customers. So it's not that we're trying to warn or anything or flag in any way, but it's more combating that notion that life is easy and a walk in the park because it's a very competitive market. We still see competitors being aggressive on price levels, et cetera. So it's -- that's more the norm, the business as usual kind of prevails. So don't read anything more into it. But then it's fair to say that what goes on is something. In a way, it's a political national security mix into one thing where I don't think we can have any view or shouldn't have any view. We can only focus on one thing, which is working with a customer, make sure they get the best solutions, make sure they get the best way to operate their network, providing the best quality service to their end customers. And if we do that, we'll win business. And I think that's what you see us do during Q3 and you have seen us do for the last 1.5 years as well. So our focus is clearly on winning business, and we win business based on our own merits. Then on the restructuring, Carl takes that.
I can take that. So of course, we're always working on efficiencies and cost out, but we are able to limit the cost to do that, the restructuring costs. And we also have growth absorbing headcount at the moment. So there is less of restructuring costs then for those reasons. And then you're right that we have invested or spent quite a low amount so far this year. There will be some more in Q4, and we aim now for about 1% of the net sales as a total. And as you will remember, this is also our long-term ambition that we talked about a year ago at the Capital Markets Day, about 1% of net sales. And we're looking now for that already now in 2019.
So operator, we're open for the last question as we're getting closer to the hour. So please, let's get the last analyst into the call.
The last question comes from the line of Fredrik Lithell of Danske Bank.
Much has been answered, but maybe, Börje, if you could just clarify your earlier comment on how we should view the potential in Q4 on the sequential growth expectations and then what you have seen the latest years if your sequential growth, normal base, sort of what we should base it on.So the second one is you have talked about sort of mix shifts throughout the year here. North America product and service mix shift and then also geographic mix shift. If you could sort of update on those comments, if they still stand or if they have -- or more muted right now or if they are pushed. So just clarifying on that.
What we say is that the normal seasonality is about 18%, Q3 to Q4 over the last 2 years. We foresee a bit less seasonality this year, and that's because of the uncertainty of this, I don't -- I don't know what would be announced merger in North America without going into customer names. So we see that limit spend a bit and limit that seasonality. So we should see -- or we expect to see less seasonality, that's basically what we've guided. I think the mix question is, of course, important, but I also want to say we see -- given the work we've done on cost efficiency and adjusting our cost structure, we leverage here both. Of course, product costs, hardware costs, but also AI and automation to limit -- to gain efficiencies in service delivery. We see less exposure to the mix than we have in the past because we're, I think, overall, our business is a bit tighter and a bit leaner. Having said that, the guidance we've said is pretty much still there, as you said.
Okay. Thank you. So before handing it over to Börje for his closing remarks, I just want to remind you of the investor update we have at 3:00 Central European Time. There, we can spend more, as I said in the beginning, more on strategic long-term topics. By that, I would like to hand over the closing remark to you, Börje, please.
So thanks, everyone, for listening in. We are very excited about the opportunities we see in front of us for our technology. And we see the market for 5G being much bigger than we've seen for 4G. We see 5G as we create new applications both for consumers, but most importantly, for enterprise. We see a much larger market potential for 5G than we've seen for 4G, and we are determined to capture that growth potential. First, by investing in R&D for technology and cost leadership, but also to make sure we have a strong footprint in the market as we expand into 5G. And with the third quarter result, we continue to see progress on executing on our focus strategy to be a stronger company 5 to 10 years out. So with that, thank you, and thanks for listening in.
Thank you.
This now concludes our conference call. Thank you all for attending. You may now disconnect your lines.