Ladies and gentlemen, welcome to the Philips Lighting Analyst Conference Call. For the first part of this call, all participants will be in listen-only mode, and afterwards, there will be a question-and-answer session. Please note that you are limited to one question and a follow-up per round. I would now like to give the floor to Robin Jansen, Head of Investor Relations. Mr. Jansen, please begin your meeting.
Thank you. Good morning, everyone, and welcome to the Philips Lighting Analyst and Investor Conference Call for the second quarter 2017 results. With me are Eric Rondolat, CEO of Philips Lighting, and Stéphane Rougeot, CFO. In a moment, Eric will give you an update about our business and operational performance, after which Stéphane will take you through the second quarter financial performance. Eric will tell you more about the outlook for 2017 and wrap up. After that, we will be happy to answer your questions. Our press release and the related slide deck were published at 7:00 A.M. CET this morning. Both documents are now available for download from our investor relations website. A full transcript of the conference call will be made available as soon as possible on our investor relations website. With that, I will now hand over to Eric.
Thank you, Robin. Good morning, everyone, and thank you for joining us today. Let's go to slide three. We delivered a solid performance both on the top line as well as on profitability in the second quarter. Comparable sales declined by 1.8% due to the ongoing decline in the conventional lighting market, which was partly offset by robust growth in LED and connected lighting systems. Business groups LED and Home achieved double-digit growth. Total LED-based sales grew by 14%. LED-based sales now represent 63% of total sales compared to 53% in Q2 last year. Europe delivered robust growth with a continued solid performance in the Benelux, Germany, and Iberia. The Americas and the Middle East and Turkey continue to be impacted by softer market conditions. In Professional, we were impacted by the high comparison base in the second quarter of 2016 due to a large project in Asia Pacific.
In the quarter, the Adjusted EBITA margin increased to 10.2%, including a one-off real estate gain of EUR 15 million in Home. Excluding this gain, the Adjusted EBITA margin improved to 9.4%. Net income improved from EUR 57 million to EUR 73 million. Free cash flow decreased from EUR 60 million to minus EUR 27 million, reflecting an increase in inventories in Home and LED specifically to support anticipated growth in the second half of the year. On slide four, you can see an overview of the financial performance by business group. Each business group contributed to the improvement of the Adjusted EBITA margin. Total Adjusted EBITA increased by EUR 30 million. We are pleased to see that business group LED Professional and Home compensated the absolute decline in profitability in lamps. This becomes even more evident when we move to slide number five.
This slide shows the contribution to the profitability improvement of each business group. As you can see, increasing profitability in LED Professional and Home more than offset the decreasing profit contribution of lamps as its size continues to shrink. Excluding the EUR 15 million real estate gain Home, we increased our Adjusted EBITA margin by 10 basis points in the second quarter. Let me now quickly walk you through our business groups, starting on slide six with Lamps. Comparable sales declined by 18.2% due to the ongoing transition to LED lighting. We estimate that the conventional lighting market continued to decline faster in the range between 23%-24%, which results in market share gains. Despite the high decline in top line, Lamps was able to sustain a high level of profitability, once again, at 20.7%. This clearly reflects the success of our last-man-standing strategy.
Let me now continue with LED on the next slide. We were pleased with our performance in LED in the second quarter. LED volume grew significantly, and the margin continued to improve, which is clearly showing that the actions we implemented about a year ago are paying off. In the second quarter, comparable sales increased by 20.9%, driven by significant volume growth, which was partly offset by lower selling prices and stronger growth in affordable products. All regions contributed to the growth, although we noticed that countries with low LED penetration rates showed higher growth. The Adjusted EBITA margin improved by 220 basis points to 10.6% in Q2, driven by operational leverage and procurement savings, offsetting price reductions and mix impact. Let's now move on to Professional on slide eight. In Professional, comparable sales declined by 2.7%.
This decline reflects a high base of comparison due to a large project in Asia Pacific, as well as the situation in Saudi Arabia that negatively impacted sales growth by 180 basis points in Q2 2017. System and Services was the fastest growth driver in the first half of 2017 and continued to deliver solid double-digit growth. Performance in Europe and greater China remains strong when market conditions in the U.S. continue to be soft, in particular for small to medium-sized projects. However, the backlog for larger projects in the U.S. specifically continues to be strong, and is expected to positively impact comparable sales growth and the Adjusted EBITA margin in the second half of the year. The Adjusted EBITA margin improved by 50 basis points to 7.2%, driven by procurement savings and mix improvements.
Restructuring costs amounted to EUR 23 million related to the ongoing rationalization of the manufacturing footprint and indirect cost reduction. Let's now turn to slide number 9. Home delivered double-digit growth in the second quarter of the year and remains on track to become profitable for the full year in 2017. The CSG of 15.5% was driven by Home System and Home Luminaires, and by all the regions. Demand for Philips Hue increased significantly in the first half of 2017, partly because of our strong partnerships with the makers of the recently introduced voice-activated smart home devices. To support the growth of the Philips Hue offering, investments in innovation, investments in marketing, and investments in supply chain were stepped up as we expect to further drive growth in the second half of the year. The Adjusted EBITA margin increased to 8.2% in the quarter.
However, excluding the real estate gain of EUR 15 million, the Adjusted EBITA margin improved by 6 percentage points to -1.9%. This was driven by operational leverage and procurement savings, and partly offset by the higher investment in Philips Hue that I already referred to. All in all, Home remains on track to become profitable on a full-year basis in 2017, excluding the impact of the real estate gain. Moving on to slide 10 now. Solid progress was made overall and in each business group, despite difficult market conditions in markets like the Americas and Middle East and Turkey. Sales performance in the first half of this year continued to show an improving trend compared to 2015 and also compared to 2016.
Once again, excluding the EUR 15 million real estate gain, the Adjusted EBITA margin increased to 8.9% in the first half, giving us confidence that we are on track to deliver on our margin targets for the year. Free cash flow was minus EUR 26 million in the first half of 2017, reflecting an increase in inventory to support the growth in the second half. Let's now look at slide 11, where we provide a snapshot of our LED-based sales, which grew by 17% to EUR 2.4 billion in the first half of 2017. In the left chart, you can see that our LED-based sales grew with a CAGR of 28% since 2013 and now represents 62% of total sales in H1 2017. In the chart on the right, we see that 40% of our LED-based sales comes from business group LED, while 38% comes from Professional and 12% from Home.
In each business group, we saw double-digit comparable sales growth in LED-based sales in the first half of 2017. This is what I wanted to cover regarding the business and its operational performance. I will now hand over to Stéphane, who will tell us more about the financial performance for the second quarter of 2017.
Yeah. Thank you, Eric. Turning now to page 13, you can see the Adjusted EBITA bridge. With respect to gross margins, we were able again to improve our productivity and also deliver procurement savings across each of our business groups. The adjusted gross margin as a percentage of sales improved by 30 basis points this quarter compared to last year. Our indirect costs improved by EUR 9 million, and that includes the additional investment that we've made to support our growth. We also benefited from favorable currency effect and also from the real estate gain in Home. On that last point, let me take a moment to explain how we treat incidentals and most notably, the sale of real estate. First, of course, we comply with the accounting policies of our main shareholder as we are still consolidated in their statements.
As a consequence, our Adjusted EBITA includes restructuring costs, acquisition-related charges, and also other charges and gains above EUR 20 million. Once our main shareholder will deconsolidate Philips Lighting financials, we plan to review this policy. Since our goal is to provide clear and accurate information so that we can show our true operational performance, we therefore highlight material one-offs. In Q1, you remember that the real estate gain of EUR 15 million was by and large equal to a one-off gain in Q1 2016. The results in Q1 reflected our true underlying operational performance improvement, and we improved from 7.1% to 8.4%. In Q2, as we did not have a similar material one-off gain in Q2 last year, we also show our Q2 Adjusted EBITA excluding the EUR 15 million real estate gain in Q2. That we present our true operational performance improvement from 9.6% to 9.4%.
When it comes to our outlook, it's totally consistent with that approach. The 50 to 100 basis point increase of the Adjusted EBITA margin for the year will reflect our true operational performance improvements without the help of any material one-offs. This is why we have now excluded from the guidance the EUR 50 million gain that we have realized in Q2. Finally, when we look at the year-to-date performance, our Adjusted EBITA is 120 basis points ahead of last year at the end of June. As mentioned by Eric earlier, excluding the EUR 50 million real estate gain in Q2, our year-to-date Adjusted EBITA margin is 70 basis points ahead of the first half of 2016, and that's within the range of our outlook for the year.
Turning now to the next page 14, we show the year-on-year development of our indirect cost base, which was 32.3% in the second quarter of 2017, compared to 32% a year ago. We had the negative impact of currency movements, which increased our cost base by EUR 3 million. We continue in parallel to implement all the cost reduction initiatives that we have launched, we have achieved a EUR 9 million savings on indirect costs. This reduction is after the additional investment that we have made to support our growth, in particular, in Home systems. Finally, as you know, we are executing a detailed plan to realize our cost savings, for example, in Selling expenses, in IT, in real estate, in finance, and in HR.
If we look at the reported EBITA, just to give you an update on our restructuring charges that support our cost reduction both above the gross margin and below the gross margin. In the first half of 2017, we recorded EUR 41 million of restructuring costs, which is comparable to the level of the first half 2016. For the remainder of the year, we expect restructuring costs to be in the range of EUR 20 million-EUR 25 million for the Q3 , and probably EUR 60 million-EUR 70 million for the Q4 of 2017, which would take our overall restructuring cost in the range of EUR 140 million for the year. This is in line with our guidance between 1.5%-2% of annual sales. Let me now take a closer look at our working capital position in the second quarter.
I am on page 15. You can see that our working capital decreased by €126 million year-on-year. At the end of June, it represents 10.9% of sales. This is an improvement of 130 basis points compared to a year ago. This reflects the sustained improvements that we have achieved throughout the year 2016. Compared to the end of the first quarter of 2017, our working capital has increased. Although inventories have always been an important driver to decrease our working capital, we had higher inventories in LED and in Home in the second quarter to support the growth that is expected in the second half of the year. Let's now move to our net debt position on slide 16. Our net debt at the end of June was €697 million. This is an increase of €281 million compared to the end of the first quarter.
We had a cash outflow of €27 million in the quarter, which was largely the result of higher inventories in LED and Home that I just talked about. In the quarter, as you know, we also paid a dividend of €157 million to our shareholders. We invested €120 million in our own shares by participating to the second sale down by our main shareholder. Also a few open market purchases to cover the obligations under our long-term incentive plan. Our net debt to a level of €697 million at the end of June. Finally, let me give you a bit of an update on our capital allocation policy on slide 17. We continue to have a very strict financial discipline in the way we generate and in the way we use cash.
As you know, we are committed to managing our financial ratio and maintaining a financing structure that is compatible with an investment-grade profile. That includes the disciplined management of balance sheet liabilities. In the second quarter, we paid the dividend. We will return up to €300 million to our shareholders in the period 2017 to 2018 by participating to share disposal by our main shareholders. Up to now, we have already used €183 million out of the €300 million. We have also looked at our pension situation. We have an active pension derisking strategy. We always look for opportunities to reduce the cost and the risk associated with the defined benefit plans.
As part of this strategy, like many other companies, we intend to reduce our deficit in the U.S. To contribute approximately $150 million to our U.S. pension fund over the period 2017-2019. That we further reduce our liabilities and lower the cost of Contribution of $50 million is planned for the third quarter of 2017. Let me now turn to Eric for the outlook and the conclusion.
Thank you, Stéphane. If we turn to slide 20, you will see that we reiterate our outlook for 2017. We are on track to further improve the Adjusted EBITA margin by 50 to 100 basis points in 2017. However, note that this is excluding the EUR 15 million real estate gain in Home in this quarter, as we have already said. We will continue to deliver solid free cash flow driven by profitability and working capital improvements. While we are cautious given the global economic uncertainty, we remain on track to return to positive Comparable Sales Growth in the course of the second half of this year. That I have confirmed the outlook, I would also like to highlight two elements that will impact performance but not our outlook for 2017.
First of all, we expect an additional gain on the sale of real estate in the third quarter of around EUR 20 million in months, which will not affect our Adjusted EBITA margin guidance. Secondly, as most of you probably know, a new tax regime came into effect in India on the 1st of July, which is known as the Goods and Services Tax or GST. We welcome this tax reform, please keep in mind that it is estimated to have a negative impact of around EUR 15 million on our sales in the second half of the year, which again, will not affect our growth outlook for 2017. That, I would like to open the call for questions, which Stéphane here and myself are happy to answer.
Ladies and gentlemen, we are now ready to take your questions. Please press the zero one on your telephone keypad to ask a question. That's zero one on your telephone keypad to ask a question, please note that you're limited to one question per round. The first question comes from the line of Andreas Willi, J.P. Morgan. Please go ahead. Your line is open.
Yeah. Good morning, gentlemen. My question is on cash flow. You mentioned on the call and in the release the increase in inventory for growth in Home and LED in the second half. Should we expect this to be beyond the growth rates we have seen before? These divisions have had good growth rates for a while, why is there quite a significant step up in inventory now? Does it mean basically growth rates are expected to increase materially for the year? Should we still expect working capital in terms of the cash flow statement to be a positive contributor then for the full year as this working capital or the inventory gets shipped in the second half?
Yes, Andreas, good morning. Let me take the question on the increase in inventory, and I will let Stéphane take the question about the cash flow. What we see so far, we see very clearly, at the level of Home systems, a growth that is quite important for the year and we expect to see it coming really to life in the two last quarters of the year. In that specific business, we run out of capacity at the end of Q1 and during Q2. We had to make investments in order to rebuild the capacity and to increase the capacity of that business for the rest of the year.
We have been building up inventories in order to make sure that we're going to capture all the opportunities in Q3 and Q4 for that business, also very much in line with the growth intake that we see on voice-activated devices of Amazon, Google, and now Apple is also coming in that game. When it comes to the growth rate, they also have to be compared to where we were last year, because we also grew substantially in those quarters. For Home system, we see a clear intake and a very big potential to grow further. When it comes to LEDs, we've seen also a high level of growth in those two quarters. It was around 16.6 or 16.7 in Q1 and 20.9 in Q2.
We are fairly confident in moving forward that we're going to be able to maintain a high level of growth for those businesses. We need the inventory in order to be able to satisfy the demand. We need also to take into account that the back end of Q3, but especially Q4, are very high quarters for us, especially for everything which is related to consumer businesses. This is why we are building on these inventories.
Yes. Andreas, on your question with respect to working cap and its contribution to free cash flow for the year. I think we've always said that since the end of last year, that in 2015 and in 2016, the reduction of working capital has been a significant contributor to the free cash flow, and that we should not expect that moving forward, it would be by the same order of magnitude by the simple effect of the company going back to growth. From that standpoint, the contribution that was above EUR 100 million per year up to 2016, I don't think people should expect that it's going to be the same type of magnitude. Whether it's going to be a positive contribution, of course, we are working in order to be able to deliver this, but again, not as much as before.
It's going to depend also very much on the level of growth in the fourth quarter. If we have a significant growth in the fourth quarter, of course, we won't be able to collect all our receivable by the end of December, and it will be collected partly in the first quarter of next year. In that case, that may impact the free cash flow. That will also depend on the end of the year.
Thank you. Just to clarify on the inventory build, was this mainly components or did you overproduce in Q2?
Um-
Did it benefit profitability in Q2 or not, basically?
It's both, Andreas. It's components and finished goods.
Thank you.
Thank you. Moving on to the line of Martin Wilkie with Citi. Please go ahead. Your line is open.
Yeah. Thank you. It's Martin from Citi. Just only LED growth and partly in relation to the inventory build. You mentioned, I think last quarter, there was some change in relationships with certain distributors, and you also mentioned in the past that perhaps white label could be part of a new growth strategy. I wanted to understand if any of these new distributor relationships were more onerous for you in terms of inventory build, in terms of whether you need to essentially hold more of it versus your distributors, or if that's pretty much neutral in terms of how the working capital works. Thank you.
Thanks, Martin. It's pretty much neutral. We are and we described last time that we're moving into the market of private labels. We've seen that especially on the consumer side of the business, that many of the retailers are moving also towards private label, and we've been very successful in securing some of those deals. It would, I would say, marginally increase our inventory because these are standard product, but potentially different SKUs because the branding is different, but I would say it's marginal.
If I can just follow up on that. In terms of those private label deals, obviously, you're not going to disclose profitability and so forth, but does it have a meaningful impact in terms of your margin outlook, in terms of that mix between Philips branding and private label, or should we not think of any significant change there?
They have effectively, from a gross margin standpoint, a much lower level. They drive business. They help also to dilute the cost base, and they are not that dilutive when you go to the operating margin.
Okay. Thank you.
Thank you. Moving on to the line of David Vos, Barclays. Please go ahead. Your line is open.
Good morning, gents. Thanks for taking my question. A question on the gross margin or the volume mix impact on that gross margin. There's quite a big step change between Q1 and Q2. Volume mix went from EUR 9 million positive to EUR 35 million negative. I was just wondering if you could comment on where that exactly is coming from. Is this just the lamps division declining in magnitude, or is this also partly contributed to the LED division, for example? Of course, if you could quantify that would be amazing. Thank you.
Yeah, sure, David. I'll take that one. Yes, indeed, when you look at our volume mix this quarter compared to last quarter, it's a different trend. You're right, it's essentially due to the lamp business. We've seen higher unit decrease in lamp year-on-year compared to what we've seen in the first quarter. That has been largely offset in the lamp business by gains, especially in terms of productivity. That's why, by the way, the total margin on lamps is still high and slightly improved. The volume effect is largely coming from lamps versus Q1. Also, you noticed that in Home, our CSG this quarter is a bit below our CSG last quarter. We had a bit of a higher volume in Home in Q1 this year compared to Q1 last year, and it's a bit lower in Q2 this year compared to Q2 last year.
The main driver is really lamps. On LED, because you kind of hinted on that one. On LED, we haven't seen that much difference between Q1 and Q2. Still very high growth in terms of volume.
Perfect. Then actually staying on the same page 13 as my follow-up, on the indirect cost side, moving away from the gross margin. There is also a bit of a step change between Q1 and Q2. What are your ambitions for indirect costs going forward? Is kind of EUR 10 million a quarter of cost out, is that a run rate, or can we achieve something materially different from that? Thank you.
When you look at the past performance, it has been actually higher than this. You cannot really do this on a quarterly basis because there is also comparison. There are some investments. The true underlying number is, of course, better than that one. When you look on a full year basis, you probably remember last year, the improvement was closer to EUR 100 million for the year. Our goal is, of course, to continue to reduce our fixed cost structure. We have taken quite a number of actions in order to deliver this. Q1 was limited. It was zero, although, of course, there were quite a number of additional investment. Q2, now we start to see again some reduction to EUR 9 million, despite additional investment. We plan to see more in Q3 and more in Q4.
Yes, this is really on top of our agenda to make sure that we get our fixed cost structure reduced overall and also as a % of sales.
Perfect. Thanks so much.
Thank you. Moving on to the line of Lucie Carrier with Morgan Stanley. Please go ahead. Your line is open.
Hi. Good morning, gentlemen. My first question actually is around the Professional business. You stated very clearly you have high expectations for this business in the second half, despite the market still being relatively soft in North America. My question is what is the level of conviction or the evidence that you have that those projects that you're expecting will take place in the second half, and how much of the, I would say, the top half of your guidance is linked to this conviction or to this expectation around the Professional business? That's question number one.
Yes. Hi, Lucie. As we said at the end of Q1, it's more than a level of conviction because these are projects that we took in order intake in Q1, and these are projects that are going to be delivered in the course of Q3 and Q4 of 2017. It's a backlog that we have already taken and that we need now to convert in revenue by delivering and installing the goods in Q4.
Sorry, just to my question on how much the top half of your guidance depend on those projects.
We're not going to give numbers. We're not only depending on these projects in the Americas, if that's the sense of the question. We see that we have a potential lead in Professional in most of the geographies, which is quite good.
Okay. My follow-up question was around regarding the pricing. It seems that the price pressure has stepped up as a % of sales sequentially between the first and the second quarter, which was a little bit of a surprise because considering increase in raw materials across the board that we see, I was more expecting actually that the price pressure potentially would come down. Can you maybe comment on the dynamic on pricing here, please?
Yes, sure. I'll do this. When you look at the price effect, it was -EUR 100 million. Q1 was -EUR 87 million. I mean, we don't really see any material change from that standpoint. Of course, it depends on the mix of the businesses and the pressure we see in one business group versus the other business group. In LED, which is usually where most of the questions are because that's where we see the highest price pressure, we haven't seen any material change in trend in price pressure in Q2 compared to Q1. For the other businesses, it remained also relatively similar with a few puts and takes here and there. I would say overall, no major change or trend evolution here with respect to price.
Okay. Thank you.
Thank you. Moving on to the line of Alok Katre with Societe Generale. Please go ahead. Your line is open.
Hi. Alok Katre from Soc Gen. Thanks for taking my questions. Could I have a little bit of a follow-up on the Professional side in the U.S.? Clearly you have those, let's say a few large projects that come in. I can understand that you have a pretty sizable conviction on those, can I sort of take it, or can we sort of take it as a message that you've already started progress on those projects and therefore that is what is driving the conviction that those projects will get delivered? Is it where the projects are still, let's say, not even in the work in progress stage and therefore there's some risk attached to it? That's my first one.
Yeah, sure. Good morning, Alok. We have, at the back end of Q2, already invoiced a part of this project, we could not recognize them as revenue yet because it depends on the actual installation of the LED by contractors. As you can see, it's a reality. We have not only started to produce, we have also started to invoice according to the contract that was signed. It's a reality.
Okay. Fair enough. My question around the non-manufacturing costs. Could you just elaborate a little bit on where you stand in terms of the process, particularly in terms of HR, finance, and selling costs? I guess you started some of these actions over the past six months, any details or granularity on where you stand over there and by when should we start to see a bit more meaningful impact on the savings sort of feeding through into the P&L? The associates sort of question over there, you talked about the GST changes in India. I can understand the sort of sales effect over there, should we then also see that, let's say the bunch of red dots that you have on the distribution footprint over there also then start to sort of help you?
Are you sort of doing any specific steps over there for the second half of this year or over the next sort of 12 months or so? Thanks.
Sure. Stéphane can take the cost reduction action and I will talk to India. Sure. Alok, on the MNCs. IT is probably the area where we started earlier, which has contributed already to a reduction of what we spend in terms of MNCs. There is more that we can do here, but that's the one that is the most in advance. Real estate also to a large extent, and here I'm talking in terms of spend. I put aside the gains, of course. When it comes to HR, that function has also started its reduction plan probably about six to nine months ago, and we start to see the impact in terms of reduction, and we will see more by the end of the year and especially in 2018. Finally, finance. The reduction and streamlining when it comes to finance has started.
We've done the design in the first part of the year, and that started at the end of the second quarter. Of course, implementation takes a bit of time because we have still a lot of things that we need to do and to provide as a finance function. Here we would expect to see the material effect in the course of 2018 and then the full effect in 2019. Finally, when it comes to SellEx, which is a large part also of our spend in MNCs. In many regions, there have been a lot of actions taken to optimize our SellEx, which we've been doing. In parallel, as you know, we highlighted some of the investments we've made also to support growth in some very specific areas and very specific businesses.
Overall, we expect the end of the year and also in 2018 to also have a reduction of our SellEx as a % of sales. That's a bit where we are on the overall transformation and reduction of cost initiatives.
Thanks. If we just understand it clearly, IT more advanced in that sense. For 2017, really, it's HR where you should see most of these savings come through, and then finance and SellEx really is a 2018, 2019 topic, right?
Yes. Also the percentage of sales, the impact of higher sales in Q3 and Q4 are also contributing to dilute our MNC as a percentage of sales.
Fair point. Thanks.
Let me quickly go back to the question about the GST in India. Directionally for the medium term, we believe that that's a great measure. At this point in time, the Indian territory is quite complex when it comes to the tax regime in between provinces. It's a great measure, it will need, after it's been implemented, a moment of adaptation. We believe that will have an impact on our top line as we have described, that's for the short term. That will not modify the efficiency and the wide network that we have in India in terms of point of sales. They are based in the geography where they operate, and they're extremely efficient, and we're going to continue to support them after that measure has taken place.
That GST measure will help greatly the way we're going to manage logistics in India, because at this point in time, we need to have warehouses in all the different provinces, and probably we're going to be able to further optimize and streamline the cost of our logistics over there.
Okay, thanks.
Thank you. Moving on to the line of Daniela Costa with Goldman Sachs. Please go ahead. Your line is open.
Hi, good morning. I have three questions. First, can you let us know if you closed any plants in conventional, what's the plan in there? Obviously, you've done very well on the margins, to just have a little bit of more of a visibility on plant closures. The second thing on market share and following on some of the questions on LED, the good levels of growth in LED. Do you think you're gaining market share? Maybe you can expand on market share more in general. The third point, just wanted to ask you about pricing in lamps. Obviously, as you said in the beginning, you're gaining some market share in lamps. Is there a point where you can actually take advantage of these in pricing as well? Thank you.
Good morning, Daniela. Let me answer to the first question concerning the plants in conventional. Nothing that we have really commented on communicating in Q2. Once again, you know the way we work on that business. We're looking at all our industrial setup, we are looking forward the factory utilization of the different plants that we have, whenever that goes beyond a given threshold, we will take the measures that we have to take. More may come in the distant future. For obvious reasons, we will only comment on those whenever they happen. Market share, it's true that on LED, we are growing at this point in time at a very good level. We believe that we are effectively taking market share.
What is also extremely important, if you remember when in Q2 last year, that business that was running at high double digits started to grow between 11% to 13% starting Q2 last year and for the full remaining of the year. We implemented actions, very clearly dedicated actions. In some countries, we wanted to expand on our go-to markets and try new go-to markets that were also linked to the availability of different prices for LED lamps. We also tried to take advantage in the U.S., specifically from utility rebates. That is happening. We also decided to expand our reach to private labels. At the same time, we did a much more pull towards LED lamps than what we did in the past. All that is paying off. It's a market share increase, but which is also directly related to concrete actions.
What is good to see also is that business continues to improve on its operating margin because we again increased it by 220 basis points for the quarter. What we had said at the time was implemented, it took a little bit of time, two to three quarters to get the impact of these actions. The actions are in place, they are continuing, and we see the results, which is good.
On, yes.
To your question on pricing for lamps, Daniela. Yeah, we see a very limited price erosion. There's still a bit of price erosion, but it's very limited across the various product lines. We are still able to extract savings from commodities and from purchasing. Overall, of course, that helps, and that allows us to still be able to adjust a bit the price in order to continue to gain market share. Again, it's limited, and we haven't seen any material change in Q2 versus Q1.
Maybe just to complement, at this point in time, we continue to have a very rigorous, very stable strategy when it comes to pricing in lamps. As it has happened over the past three to four years, the market price, respecting the market price, and as Stéphane said, a very limited level of price erosion. Are we taking advantage of our position to increase prices? No, we're not doing that at this point in time.
Thank you.
Thank you very much. Moving on to the line of Peter Riley with Jefferies. Please go ahead. Your line is open.
Good morning. It's Peter Riley from Jefferies. My question, please, is a bit more color what's happening in the U.S. LED market. There's been a shift away from premium to value and private label, which was very dramatic last year. Can you talk about whether that trend is continuing into this year? In effect, you're seeing ASPs still coming down quite rapidly. Whether you see any sign of that trend starting in other places, for example, Europe? Thank you.
Yes, Peter, good morning. As I've said previously, we see the trend in private labels for consumer LED lamps, a trend that is taking place worldwide, online and offline. We are participating into that market. It was probably more difficult for us to participate in that market when price erosion was extremely steep. Now that it's a bit less steep than what it used to be, we are participating in that market. It's not only a phenomenon that we see in the States where it has actually happened, but it's also a phenomenon that we see in other regions. Now, if we look at it from a different angle, this is not something totally new. Also in the past, with conventional lighting, we had that phenomenon of private labels by some big and small retailers, and we participated to it at that point in time.
It is something that we know how to do. Now, this trend is very good for us. It's very good for our volumes. It's very good for our bill of material, and as a consequence, it's also good for the operating margin.
Can I just have a follow-up, please, on pricing for Hue? You've obviously got very high growth ambitions, and it's getting very good reviews, but it is priced at a significant premium to some of the new entrants that come into that marketplace. Do you think you can keep Hue pricing where it is, or do you think you're going to have to be more competitive on pricing, given all the other people that are targeting that space?
Peter, that's a very good question. We are looking at the situation at this point in time, and when we look at our offer, we look at it more globally. It's not only about connected lamps. We could be compared with other entrants that offer connected white lamps. What you get when you buy a Hue lamp, it's not only the lamp itself, it's the connectivity with the full ecosystem that we have been developing on which we investing a lot. Let me give you examples. One Hue lamp can be connected to motion sensors. It can be connected to battery-less switches behind which you can register all different types of scenes. We've invested a lot in the app. Part of the experience in the Hue offer, it's not only the lamp itself, it's everything which is around it.
We have also been working extensively with the smart home integrators that are, at this point in time, launching on the market voice-activated devices, which is boosting the market of connected lamps. Here, the name of the game is not only to provide a lamp that can react to a command given to a voice-activated device. You have to make sure that when the command is given, it goes very quickly to the cloud of the smart integrator, then goes to our cloud and comes back really fast to command the lamp. There's a huge investment to be done there. When we look at our offer, Hue, it's not only about a lamp, it's about the whole ecosystem that comes with it.
We're looking at it at this point in time because it's true that the traction of that business is also bringing a lot of competitors. If at one stage we need to review our policy in terms of pricing, we will do that. We're looking at that quite actively.
That's very helpful. Thank you very much.
Yeah.
Thank you. Moving on to the line of Peter Olofsen, Kepler Cheuvreux. Please go ahead. Your line is open.
Good morning, gentlemen. Two questions left from my side. First on the restructuring in Professional, the manufacturing footprint adjustment there and the charge that you took in Q2.
Is that in a particular region, or are you taking measures there on a worldwide basis? Then a question for Eric. I saw a headline on Bloomberg, which seems to be quoting you that you might be interested in GE's light bulb business. Did you indeed make such a comment? If so, don't you think there will be potential antitrust issues when you would buy that business? Thank you.
Let me take the one on restructuring for Professional. Yes. The charge is for actions that we are taking more in Europe. I won't be too specific, but more in Europe. It's not something that's global. It's dedicated to some very specific and targeted initiatives to adjust the footprint, which can be either manufacturing or of course, more general cost. It could be development cost, it could be cost for the business group itself. We're really looking at the overall cost structure of our various business groups. This is what the EUR 23 million is covering.
Okay. May I follow up on that? Because if I look at Professional, it's probably still the North American business which is on the lower end in terms of margins. Is there any meaningful restructuring in that region? Or is it mainly the top line which has to drive the margin improvement there?
It's mainly the top line that we expect to grow in the U.S. Let me now take your second question about light bulbs and GE. We've commented, and maybe I was not clear enough this morning, but I think I said it quite clearly. We're not interested to acquire light bulb companies. This is not where our M&A strategy goes. We've stated, and I reinforced this morning, that we're interested in luminaire companies that potentially would come for consolidation and technological breaks for systems or platforms and capabilities for services. This is where our M&A strategy will play. We said from the beginning, small to medium-size build-on acquisitions. This is where we are, this is where we stay. No interest to buy a light bulb company and not interested to buy GE.
Okay, thank you.
Thank you. Moving on to the line of Nigel from ING. Please go ahead. Your line is open.
Good morning, gentlemen. I have a follow-up on the earlier discussions around the larger projects in Professional. If I understand, the U.S. project for the second half is also a street lighting project. Could you just give us a hint how this compares to Jakarta? I think that was about 90,000 luminaires. Then also more broadly, should we see this as a trend strengthening into the next year, or is this more of a one-off for the U.S. today? Thanks.
Good morning, Nigel. It's not a street lighting project. It's more architectural lighting in that specific case. We will only be able to comment whenever it happens. It's a big project, it's a one-off, but it could generate further sales moving forward. When you look at the project at its value, at this point in time, we could consider it a one-off.
Clear. How should we see these bigger projects going forward? To what extent will you continue to flag these? They, at some point, order course of business, how would it compare to the second, or at least the first half next year?
We will keep the same consistency as what we have done previously, where we believe that there are some projects that can be substantially impacting the numbers we will comment. We did the same for a big project in Asia-Pacific last year in the second quarter of 2016. We will continue to highlight whenever the size is sufficiently material we inform you. We are managing a pipeline of projects. We're reviewing them on a regular basis. Big projects take time in terms of commercial process before we take an order. We have all these ones ongoing at this point in time. Whenever there is something sufficiently substantial and material, we inform you.
Clear. Thanks.
Thank you. Moving on to the line of David Ryzhik, KBC Securities. Please go ahead. Your line is open.
Yes. Hi. Good morning, everyone. Thanks for taking my question. Lots of my question has actually been asked. First on FX, could you clarify please what has been the impact of FX on your cost of goods sold, in particular the RMB, in Q2? Then maybe a question on the Philips Hue. Could you explain the investments you're now making, the strategy you have, and the objectives you set yourself in terms of profitability? Thank you.
For David, on FX, as you know, we provide this in the appendix in terms of the breakdown of sales. FX had a positive impact on sales, which is largely due to the US dollar. When we look at our cost structure and cost of goods sold, even though we still have a large amount of costs that are in dollar, there is, of course, a large amount that is euro, and with the depreciation of the euro, that had a positive impact. We don't provide those specific details of those impacts, but that's what explains why at the gross margin and also at the adjusted EBITDA level, we had the mix of that positive impact on sales and then some negative impact, but to a lesser extent because of the favorable impact of renminbi and the cost of goods sold.
That led to that positive impact on the adjusted EBITDA for the second quarter. We also had one, by the way, in the first quarter, as you noticed. Yes, from that standpoint, it's been a positive impact.
Thanks.
When it comes to Philips Hue and the investments that we're doing, we do 3 types of investments. The first one in innovation. I've talked previously about what we do in terms of cloud-to-cloud connection as well as delivering new offers to the market, that's one. We do also a substantial investment in terms of marketing campaigns and 2. We have been able to see over the past quarters that activation for that business is extremely important and we have a set of actions that are going to be put in the market in Q3 and Q4. The last level of investment that we are doing on that business relates directly to logistics supply chain and capacity.
We realized that in order to be able to cater for the volume that we expect in Q3 and Q4, we also had to step up in terms of logistics and operations. This is where part of the investment that we've done on that business has gone. From a profitability standpoint, we still aim at the profitability level which is high. We're not commenting specifically, but the level of profitability of that business is very good.
Thanks. If I may just very quick follow-up on the operating leverage you expect to have on your logistics supply chain investment. When should we expect to see the pay of these paying off in terms of margin?
To explain also the way we manage the supply chain, we are not manufacturing. We are using strategic suppliers to manufacture, we fully design ourselves. We will see an immediate impact on our performance whenever we step up, together with our suppliers, their capacity.
Okay. Thank you.
Thank you. Moving on to the line of Alexander Virgo at Bank of America Merrill Lynch. Please go ahead. Your line is open.
Thanks very much. Good morning, gentlemen. A couple of questions if I may. One on Professional. Can you talk a little bit about what you're doing underlying in North America? Obviously I understand that you've got project work that underpins margin improvement in the second half. I'm just wondering from a sort of manufacturing footprint or a fixed cost structure perspective, what you're doing there, particularly in light of the indirect cost commentary earlier on. Then the second question just around the second half. Obviously your growth numbers in the second half of last year provide you with some relatively easy comps I think across most of the business actually. I can understand the confidence in the growth accelerating, which is good. Can you just talk quickly about the impact of KSA on Professional, and how we should think about that in the back half?
Thank you.
In Professional in the U.S. first. We have been permanently adapting our cost structure to the business that we have in that territory. We continue to do that on a regular basis. It is not only about the big project that we are talking a lot about here, it is also the rest of the business. We permanently adapt whenever need be, our structure to the business we have there. Now, we have also dedicated actions towards distributors, agents and also end users in order to develop the business in the U.S. We see in many different forms that business growing after a few quarters that we commented in the previous years of decline. There are a lot of actions that are ongoing despite the big project that we are focusing a lot on during this call.
A lot of things are happening in the U.S. and we are permanently adapting there. When it comes to H2, you are right, the basis of comparison will be slightly easier because we declined 3%, maybe a bit below 3% last year both in Q3 and also in Q4. It is not only about the base of comparison. I think we
Expect genuine growth also to come during those two quarters. Now, with that KSA, we still are registering in Q2 an impact of KSA on the core business of 180 basis points of growth. It is still important, but it is much less than what we experienced last year. That is exactly in line with what we had anticipated. We were very impacted last year. We are a bit less impacted this year, but it is still a market that is not rebounding at this point in time, and we have limitations in doing business since we have decided not to do any more business with customers that have not paid us. When it comes to being paid, after the provision for bad debt that we did take last year, this is coming in, but slowly.
I will tell you probably a bit slower than what we had expected, but that is the reality of the situation. Yes, we do not expect the KSA to be rebounding for the rest of the year.
Okay, lovely. Thank you.
Thank you very much. We now take our last question from the line of George Eadie, UBS. Please go ahead. Your line is open.
Yeah, good morning. Just quickly following up on your U.S. comments and what you've just said on the question before, that you're quite confident on what you're seeing in your [core] base business. Would you be confident to start outgrowing the underlying market again, more like Acuity at the moment? We all know the market is kind of flat, is only slightly up. Would you be confident that in the next couple of quarters you start outperforming the market growth again? That would be the first question.
Well, if we take into account the big projects that we have talked about and that we're going to be invoicing in those quarters, probably.
Okay. Not excluding those projects.
It's difficult to say. We're going to go into a lot of details. What we are saying is that we have felt, as have the competitors, that the market was softer starting from August last year, and it has continued in Q4 and Q1, and also in Q2. Between them, we are active on the market, and we are taking all the possible opportunities.
Okay. I just have a follow-up question on what you said on India. Did you say this is going to have an impact of EUR 15 million on the top line or EUR 50?
EUR 15.
Okay. Thank you very much.
Thank you.
Thank you very much. I would like to return the conference call to the speaker.
All right. Thank you, ladies and gentlemen. Thank you very much for attending the call and for taking part in the discussion about our results. If you have any additional questions, please don't hesitate to contact investor relations, we're happy to answer your questions. Again, thank you very much and have a nice day.
Ladies and gentlemen, this concludes today's conference call. Thank you for attending. You may now disconnect.