Ferronordic AB

STO:FNM

Earnings Call Transcript

[Operator]

Welcome to Ferronordic quarter 3 presentation 2022. [Operator Instructions] I will now hand over the word to CEO, Lars Corneliusson; and CFO, Erik Danemar. Please begin the meeting.

[Lars Corneliusson, executive]

Thank you, and welcome, everybody, to this presentation on our third quarter report for 2022. And if we turn page to Slide 2, we call the report refocusing resources -- and for the Group, we had a revenue decrease of 11% to SEK 1.48 billion, which was partly offset by currency effects. We had a one-off SEK 321 million payment from Volvo CE, which was related to the termination of the dealership in Russia. And during the quarter, we effectively have isolated Russia from the rest of the Group.

In Germany, truck sales in units decreased by 5%, which was mainly due supply constraints. Revenue increased, however, 10% because we saw good growth in the aftermarket sales. We received our first state subsidies for 7 electric trucks for our rental fleet to customers. And Russia/CIS then, we are actively trying to sell our Russian business and new equipment sales decreased by 84% of inventory declines. So in numbers, that means an 11% revenue decrease and adjusted operating profit decrease of minus 12% and adjusted operating profit margin of 8.8% and adjusted EPS increase of 1%. And adjusted here and in the rest of this presentation means excluding the effect of the compensation payment we got from Volvo of SEK 321 million in the quarter.

So if we turn to Page 3. And the conditions for our business in Russia continue to deteriorate, and we take all measures to ensure that operations in Russia comply with the laws. And as a result of that, our business is limited in scope. And obviously, we're facing an uncertain future, and we are working towards divesting the Russian business. By the end of August, we have settled the last outstanding Russia-related payables and obligations that were secured by the Group companies outside Russia. And during the quarter, we also agreed with Volvo CE probably to terminate our dealership agreements for Russia. Effectively, Volvo and Sandvik have not delivered anything to us since February. So in reality that termination didn't mean much for our business.

However, we continue obviously to develop our business in Kazakhstan and Germany. And in the quarter, we became leader for Sandvik Mobile crushers and screens in both Kazakhstan and Germany. In Germany, we are increasing our efforts to promote electric trucks from Volvo and Renault, both through our dealer business but also as rental products. In Kazakhstan, we're looking for opportunities to develop our contracting services business. And obviously, we look for opportunities to grow our business, both in terms of new products and services and new markets.

So if we turn to Page 4, some group summary financials. As we said, revenue down 11%. Revenue in Russia, say, is now 44% in local currency and 16% to SEK 1,119 million. And equipment sales down 67% in Swedish krona and 78% in ruble. Aftermarket sales also down in ruble, but 15% up in Swedish kroner. And contracting services showed very good growth and doubled in Swedish krona, up 44% in local currency. Also Germany grew 10% to SEK 359 million, which was 5%, and new equipment sales down 5%, but our aftermarket sales up 42% and other sales 35%.

So by that, the Group adjusted operating profit decreased by 12% to SEK 130 million. In Russian sales, operating profit decreased from SEK 179 million to SEK 137 million. German operating profit increased from a loss of SEK 32 million last year to a loss SEK 7 million this year, and the adjusted operating margin decreased slightly to 8.8% from 8.9%, which led to a 1% increase in adjusted earnings per share, and our net debt is now at SEK 579 million or 0.5x EBITDA.

So if we move to Slide 5 and talk a little more about the operational highlights. If we start with Russia/CIS. According to AEB, which does not include all brands, the Russian market declined 43% in Q3. However, our assessment is that the total market indeed has declined, but that Western brands are being replaced by mainly Asian -- Chinese suppliers. And as we said, we are actively trying to sell our business in Russia. And to the extent permitted, we have so far continued to sell new and used machines from our inventory. But as you saw, our sales decreased 84% to 50 units in the quarter and most of the sales was in the beginning of the quarter and also about 1/3 of it was in Kazakhstan, where our sales of new machines increased by 45%. So we have a population of active machines in Russia that will gradually decline. And as a result of that, the aftermarket will slowly decrease. And again, we're taking all measures to ensure that our business complies with applicable sanctions laws and regulations.

If we move to Slide 6 and to Germany. The total market for heavy trucks increased by 6% year-on-year. Rigids declined by 11%, while tractors grew by 24%. The market remains strong and supply constraints continue to hold back market growth. However, rising inflation and energy prices, higher interest rates and weaker business indicator may affect the demand for trucks, maybe going forward.

New trucks registered in our sales area increased by 11% and represented 18% of the total German market. Our own sales then decreased by 5% to 166%, which was due to limitations of supply chain. But good growth in aftermarket sales, as I said, by 42% of which 6% was organic growth and the rest came from the acquisitions we have made during the year. And we saw a good increase in the gross margin in Germany from 10.4% to 13.5%.

If we now move to Slide #7. Looking ahead, of course, we're working as a sale of the business to free up and reallocate resources to grow from new business areas, from Russia to other areas. Russia is a very complex market for corporate control at the moment and international capital flows are restricted and subject to certain approvals. In Kazakhstan, we saw businesses growing well from a low base, and we became a dealer for Sandvik mobile crushers and screens, which we think has the potential to reach around 10% of revenues, and we're looking to develop contracts and services.

In Germany, we are marketing electric trucks from both Volvo and Renault trucks. We are launching a rental business for electric trucks with a vision to offer sustainable transport services for our customers. We also have become dealer for mobile crushers and screens in most of Germany, which we think can has potential to reach 15% of the revenues.

We continue to make investments into our networking organization in Germany. And in the quarter, we opened a new workshop in Aschaffenburg and had a site for used trucks -- center for used trucks in Coswig.

On Slide #8, where we can see our network, how we have developed since we took over from Volvo in early 2020. And we now have 20 outlets in Germany. And as I said, Aschaffenburg in Q3 this year. And of course, we just north of Coswig is our used truck centers are very good used business, and we're developing the center up there. So all in all, now 20 outlets in Germany. We want to -- we need to expand a bit further. We need to take more share of the aftermarket in region in order to reach our profitability goals. So we are in a good way, and we're moving in the right direction.

So by that, I'm handing over to Erik for his economic developments.

[Erik Danemar, executive]

Thank you, Lars. So if we turn to Slide 9, please, high-level overview of the economic environment we're working in. We see Germany Q3 plus 1% in terms of growth, expected 1.5% for full year 2022 for growth, and then turning into flat or slightly down in 2023 is the current expectation. Inflation peaked in October, will keep what we will see, but weak 10.4% with very high energy price rises noted as high as 43%, obviously, being a driving factor in that inflation reading.

Kazakhstan 3.5% growth, that's over 9 months according to local authorities and expected 2.5% for the full year and then stronger growth when we look into 2023. So some tailwind in the Kazak market. Russia down 4.4% in Q3, probably less than expected. That is a local data. Less of a decline, I mean, that was expected previously, minus 3.4% expected in the full year and a decline of 2.3% expected in '23, when it comes to inflation, that has come down from high levels, but it's still higher than it was last year at 13.7%. Central Bank has cut its rate. It was up at 20% back in April and has then been trimmed down to 7.5%.

Ruble appreciation, if we look in Q3, 34% depreciation on the average, which is what we use when we convert basically the income statement and 38% on the end of period for the balance sheet. So these are big effects that impact our financial statements, and that's why we make these explicit here.

With that, if we turn into the actual accounts. So if we move on please to the next slide, #10. Starting here, a bullet saying what I just referred to with regards to the FX here, you would have that year-on-year, 34% boost, so to say, from the currency effects. Total revenue at about SEK 1.5 billion. Still, Russia, Kazakhstan is a big share, 76% of the Group; Germany, 24%. We do expect that to decline and fix. Similarly, if we look at the product mix, we see now only 1/3 approximately equipment and trucks, 30% aftermarket and contracting services as much as 36%. A year ago that was 15%.

And if we look at the aftermarket and for the Group at 30% a year ago, that was 22%. So there is a shift in the revenue mix and that is what's driving the next bullet there, not so much difference in necessarily margins across the revenue streams. But when the mix shifts, we see FX in our gross margin in both segments as it were and for the Group as a whole gross margin was just below 25%. So that was up about 5% versus last year same period.

SG&A as a percent of revenue, 12.4%, that is an increase. And Germany is driving up the average with a higher level, a level that is just too high. We need to get that down and we're working on that, mainly by increasing revenue, not so much on the cost side, but really driving revenue growth there both in new trucks and aftermarket. And then we have Russia which also higher and that's partly due to lower revenue, of course. In Russia, we took further additional provisions SEK 54 million in this quarter. So you may remember that we had -- as we had put additional provisions, I think in first quarter, it was around 44, if I remember correctly, and 99 in the second quarter and now 54. Additional, I mean we are in a new environment. So these are maybe more normal, but these are at least extra provisions that we have taken. Adjusted operating margin, as Lars said, declined slightly, but still then also partly driven by the shifting revenue mix 8.8%, and adjusted operating profit, i.e., without taking in consideration that the one-off compensation payment from Volvo CE, minus 12% to SEK 138 million.

If we move to the next slide, briefly on cash flows, what that picture looks like. Start again by saying that, of course, the cash flow for the group as a whole was impacted significantly from the compensation payment from Volvo CE to the parent company. Adjusted for that cash flow, i.e., this compensation payment, the underlying operating cash flow was negative at SEK 81 million. That was partly or mainly a result of higher working capital in both segments, as we'll see. Overall, we saw payables decrease faster than inventories and receivables. Investments mainly into rental trucks and workshop network in Germany. And we point out that cash flows in Russia are not immediately available to the Group due to these restrictions that Lars mentioned as well on transfer of capital between Russia and Sweden, and Russia Internationally, we should say.

With that, we can move on to the balance sheet on next slide, #12. And here I will start out again by reminding the audience that the 39% appreciation of the Russian ruble. So that's driving a lot of these balance sheet costs given the weight of still Russia in the balance sheet of the Group. PP&E up on that basis a lot to some extent, also those investments that were mentioned in network and rental fees. And also end of last year we still had investments going into contracting services in Russia for the commitments to customers we have there.

Higher cash balance reflects partly operating result, but then also again this compensation payment, of course, from Volvo CE, and that's partly offset then by outflows from investing activities and the high working capital that we mentioned. High working capital, if we look at -- we had higher working capital in both markets in Russia/CIS it's because payables are down faster than inventories and receivables, whereas in Germany we have higher inventory and receivables and payables, but the inventory and receivables rising faster. So on -- in Russia, balance sheet shrinking, Germany balance sheet growing, but higher working capital in both due to these different effects. Net debt at SEK 579 million on un adjusted EBITDA, that's 0.5 net debt-to-EBITDA on an adjusted EBITDA, i.e., adjusted for the one-off payment from Volvo CE, that's 0.7x EBITDA.

If we move on to the next slide, we here just put in what we have as additional disclosure for Russia for the last 3 quarters, separate balance sheet to give basically readers of the report a better insight of the dynamics, mainly on the inventory side, but also of the balance sheet positions in Russia as it has developed. And then we also published the preliminary sales results. These are preliminary. So they will probably change, but should give a broad picture and stands out, of course, the unit sales when we look at both new and used, only 5 units sold in October.

If we move to the next slide, this is an overview of NAV as it looks in Russia on a stand-alone basis. So looking only at Russia and probably worth pointing out then that trade and receivables, we did take further provisions there, but this is still a significant item, parts and other inventory and mostly parts now you see versus 2Q left a SEK 123 million in terms of new equipment support is the bigger part and then a big part being the contracting services machines, which sits in the balance sheet. And again, the strong currency effects driving the size of the balance sheet here versus last year if we compare.

With that, I would turn to the next slide, financial objectives and dividend policy. And here state clearly that this is subject to review. Lars has said, we are trying to sell the Russia business, that will change the parameters for us in the outlook. And when we're looking to reallocate resources and develop new -- both the segments we're in and potentially follow our other strategic objectives, and we need to take another look, further appeal on these financial objectives and update. So I think that's enough on that slide, and then I turn back to you, Lars, to comment on the outlook at this point.

[Lars Corneliusson, executive]

Yes. So as we have said on the prospects for our operations in Russia continue to deteriorate, and we are working towards divesting our Russian business. Our operations in Kazakhstan continue to develop positively, and we actively seek opportunities to grow our product and business portfolio. In Germany, we continue to see strong demand for service and trucks with supply constraints so far leading to market growth. However, the macroeconomic uncertainty will likely affect the German economy. In a longer perspective, we nonetheless believe that the underlying conditions and business opportunity in the Kazak and German markets remain strong.

So by that, I'm handing over for questions-and-answers, please.

[Operator]

[Operator Instructions] And our first question comes from Adrian Gilani Göransson from ABG.

[Adrian Gilani Göransson, analyst]

It's Adrian here at ABG. A few questions from my end. First of all, on the sort of preliminary sales figures in October. They were, I mean, strong at SEK 284 million, but would you say that October will be a sort of representative month for the remaining quarter? Or should we expect sales to fall off sort of during the quarter, let's say?

[Erik Danemar, executive]

Well, Adrian, I think we're working -- well, the first thing to say, we don't give forecast, we never do, we won't. So I think the reason why we provide the extra month for us is to give the market a better ability to make its own forecast. I think we've have very sort of unpredictable environment in Russia. What we -- I think can't say and say in the report is that, of course, new equipment sales will decline. And you see that it's very low numbers now. And then what we say is that aftermarket, while slowly the population declines and that market also becomes more limited. So I think that's what we can probably go with. But again, the idea of providing this additional information to you so that you can base your forecast appropriately on the back of that.

[Adrian Gilani Göransson, analyst]

Okay. And just also in Russia, when you say that the cash flows in Russia are not immediately available to the rest of the Group, what -- can you sort of elaborate what that means in practice? Is it that certain amounts cannot be taken out? Or is it that everything can be taken up, but it takes longer time? What are the sort of dynamics there?

[Erik Danemar, executive]

So what we mean by that is that on the one hand, paying for goods and services, that's allowed. When it comes to capital transfers, like dividends or in a potential sale, we need special approvals to do that. So it's not formalized in certain numbers. It's -- you might say that there are governing rules, but there's also some degree of discretion, I would say. So that's again, when it comes to dividends or capital movements, but not for payments or goods and services.

[Adrian Gilani Göransson, analyst]

Okay. But just a follow-up to that then, to clarify the Volvo CE payment that was given to the Swedish sort of holding a mother company. So that would be -- those rules would be applicable in terms of dividends for that payment, right?

[Erik Danemar, executive]

Well, I mean the Volvo CE payment which was paid to the parent company. So that cash would be there.

[Adrian Gilani Göransson, analyst]

Yes, just wanted to clarify that. Regarding the Sandvik deal that you sort of moved to Germany, you now state that the Sandvik deal is going -- or could be 15% of German sales over time. Can you be more specific on the time line? Or is that difficult right now? What sort of over time in terms of when it will reach 15% of sales.

[Erik Danemar, executive]

Yes. I think I mean we said so in the press release, and I will reiterate this. But I think, again, Adrian, sorry, not giving forecast. So we try to give you a sense how quickly that will take. It is a new product, a new brand for us in Germany. We work with them, obviously, in Russia. We also will work with them in Kazakhstan. In Germany, it's worth pointing out that it's not only our sales area for -- that we had with Volvo and Renault trucks. It's -- most of it as per Journey.

There is an area around this which is not ours, but it's mostly. And that's what probably increases a bit, the potential of that. If it was only our area, it would be smaller. But over time we think it could become 15% of the total revenue. And that's again, that bearing in mind that here we have the result for the full of Germany. I am reluctant to give a timeline on that. We need to build some organization and infrastructure and reach out to customers. We have the benefit that there will be a lot of cross-selling opportunities with our current customers, but it will take some time.

[Adrian Gilani Göransson, analyst]

Okay. Also on the Kazak business, now that it's sort of being developed more aggressively and it's becoming an increasingly important part for you. Can you say something about the margin dynamics or sort of the structural to long-term margins in Kazakhstan? Are they where Russia has been historically? Are the market dynamics similar there? Or is it more like the German market in terms of margins?

[Erik Danemar, executive]

No. I think the Kazak is probably comparable with the Russian markets. Similar -- I mean, it's both product-wise, that's what we're doing in Russia, where they make compression equipment and in Kazakhstan as well. So I think you should have the Russia as a rough benchmark for how to think about the Kazak market.

[Adrian Gilani Göransson, analyst]

Okay. And a final question from my end, more of a sort of strategic nature, given that you now got this big payment from Volvo CE, more than SEK 300 million. What are your thoughts regarding your capital allocation. Now this obviously gives you more room to distribute the earnings to shareholders, but it can also be used to expand more aggressively in Germany. How should we think about what sort of -- what the priority will be for this big payment that you've just gotten?

[Erik Danemar, executive]

I think, Adrian, we call this before refocusing resources. And I think one of the idea is that we're not selling that. It's the same that we want to sell the Russian business. We want to focus on our existing markets but also the potential to develop the business beyond those markets, both product-wise and market wise. And so we are very keen to develop the business, and that will require capital. So I think that's where we are. I also said that our financial objectives are subject to review. So I don't think basically a guidance at this point. We need to review once we turn the page probably in North and then have a clear picture of it where we see the best potential and the best return to our stakeholders for developing the business growth going forward.

[Operator]

And the next question comes from Victor Hansen from Nordea.

[Victor Hansen, analyst]

A couple of questions from my side. I'll begin on working capital. So your account payables have been decreasing as part of sales for quite some time now, which has been driving -- driving a much higher net working capital. And as -- I understand that it's probably turbulent due to Russia, but you're also now at 17% working capital to sales in Germany. And I'm wondering what we should expect for Germany going forward here in terms of working capital needs?

[Erik Danemar, executive]

I think we have been building a bigger working capital. There has been supply constraints in the market. So once there have been several quarters that we can take in as been building our inventory. We've been keen to do so. But I think also, I mean, if we look historically and towards some kind of normal, Victor, then it should turn down. I mean, historically we've said that somewhere between 5% and 15% is probably more normal. So in the middle of that is probably where you would expect us to be probably maybe slightly higher in Germany than what normal was in Russia/CIS but around that. So from that I think we should see a decline in normalization. As always, I think in our business, it's hard to give any time line on that. So that I would be very cautious of. These are things that develop over time.

[Victor Hansen, analyst]

Yes. Understood. And then following up on Germany. So you actually underperformed the market on unit deliveries in the quarter specifically, and you mentioned supply chain problems. And I'm wondering if you can tell us more about these problems. For instance, is it related to your machine suppliers? Or is it something else? Since you were quite a bit more impacted than the overall market, do you expect any improvement there in Q4 also?

[Lars Corneliusson, executive]

Yes, Victor, it relates to truck supply and the constraints in supply chains. We were slightly below the market in Q3. We're hoping that -- obviously, we're hoping that these bottlenecks will clear out and we see some tendencies that they will. So that's what I can say.

[Victor Hansen, analyst]

Yes. And then finally from my side here, on Kazakhstan, you said that you will try to develop contracting services here. Could you tell us more about the potential, perhaps if you would get contracts, how quickly can you ramp them up?

[Lars Corneliusson, executive]

Yes. That is quite a long process to ramp up these projects. We will perform and see anything will happen this year. And it's to mobilize and to procure equipment, et cetera, it's a long process. It depends, it can take between 6 and 12 months to do it.

[Operator]

Thank you. There are no more questions from the telephone contacts. I hand over the word back to you, Lars and Erik.

[Lars Corneliusson, executive]

Okay. So then thank you very much, everybody, and I'm looking forward to hearing you again when we report the Q4 quarter 2022. So thank you very much, and goodbye.