Good morning, everyone, and welcome to this second quarter report. As usual, it is me and Marika and the IR team. Let me start, of course, with the usual disclaimer statement and then straight into key highlights. Strong order intake in the quarter of 3.8 GW, 43% increase year-over-year, leading to an all-time high order backlog. EBIT of EUR 259 million, corresponding to 11.5%. Good, or I would say very good, service performance, both on the growth side with the revenue growth of 17% organically, and also a solid EBIT margin of 25%. The free cash flow, negative as a result of a back-end loaded activity level in the year, as we previously have talked about. We also launched a share buyback program of EUR 200 million in order to adjust the capital structure.
On the outlook, within our previous outlook, we have narrowed the outlook for revenue and EBIT based on improved visibility. As usual, I will talk to the orders and the market, Marika have more details on the financial, and then I will come back to the outlook. Starting with the orders then, as I said, 3.8 GW in the quarter and an average selling price of EUR 0.71 million per megawatt. This is an increase of 1.14 GW or 43% year-over-year. The order intake was broad-based across 21 countries, led by the U.S., and again, a good testament to our global reach. We look at the ASP then. We see overall stable levels observed in the recent quarter. Of course, now it is the second quarter sequentially that we see a stable ASP.
As usual, we should remember that ASP is influenced by a number of factors: geography, scope, turbine type, and of course, the uniqueness of the offering. On that topic of the scope and turbine type, the trends that we have seen before continues, which means more 4 megawatts, 3, 4 megawatts, compared to the 2-megawatt platform, and also the trend that we continue to take more order on power modes. One specific thing, fairly small in the quarter, but I can mention, we had a repowering order on around, I think, 200 and some megawatts with a very limited scope. If we adjust for that theoretically, then the ASP would have been EUR 0.72. As I said, the trend on the platforms continues, demand shifting towards 4-megawatt platform.
You can see here that in the first half of this year, we have taken orders of 4.1 GW on the 4 megawatts and 1.3 GW on the 2 megawatts. We continue to invest in technology and to release new products based on our platforms. In the quarter, we received our first order for the V150-4.2 MW, a product that will increase the production more than 20%. Of course, we are really pleased by having a broad range of 3 and 4-megawatt products that covers both a broad range of markets, but also different wind conditions. The same thing on the 2-megawatt platform. We continue also to upgrade this platform, and in the quarter now, we have installed both on the rating and the rotor sizes, and in the quarter, we have installed a prototype of the V120.
If I talk a bit about the market environment and start with Americas region, where we see strong order intake in U.S. and Latin America. Looking first at the market, continue to see very strong U.S. demand, driven by the current PTC cycle. We also see tariffs impacting the cost of wind energy projects. Here, of course, we are working on a range of mitigation strategy, utilizing our global footprint and the full value chain. Latin America, as we talked about before, probably the continent was first with auction. Here we expect the auction in the second half of this year in Argentina, Brazil, and Colombia. Looking at delivery, was down 41% in the first half of this year compared to last year. U.S. declined primarily due to the PTC components of last year, but also a lower activity level general across Latin America.
Order intake strongly up, 100% up. Here we see continued high levels in U.S. and Argentina, while the increase primarily is driven from markets in Latin America such as Mexico, Bolivia, and Panama. If you look at the external forecast for market volume, these are MAKE numbers. We see a continued strong development and growth in MW or GW in the region, primarily driven by the U.S. and a stable Latin American market. If we go over to EMEA or Europe, Middle East, and Africa, also here, good high activity levels. On the market side, we are of course pleased that Europe has increased the 2030 targets. I think we discussed the possibility of that the last quarter from 27%-32%, which is a good more long-term or mid-term sign.
A bit closer to home, we have a new MoD agreement here in Denmark, which we are really pleased with. Also a bit closer to here, we see Poland is restarting auctions from being a market that's basically came to a standstill. New markets coming up in this region, Russia, as such an example. In the quarter, a 900 MW auction was completed, on top of the, I think close to a GW previous auction. We continue our plans on localization after the successful auction. We also see some positive moves outside the European area. South Africa, that of course, has been a market basically frozen for the last two, three years. We now see that PPA has been awarded to the last auction and also new auctions being planned for. Looking at delivery, down 20%, 1.2 GW.
Mainly the decline in U.K., partly offset in France and Italy. We continue to see solid levels of delivery in Germany, although a decline compared to last year. Order intake, 2.3 GW, 16% decline, very much due to Germany, where the recent auctions still not have materialized in firm and unconditional order. On the other hand, compensated by solid development and order intake in the Nordics, a market like Sweden, and also in Mediterranean countries like Italy. Here, if we look at the external forecast up to 2020, we see a fairly flat forecast. I believe that there could be some upside, so that once the increased target in Europe is calculated, maybe a bit after 2020. In Asia-Pacific, quite a lot of changes in the market, you can say. Still early days.
China has decided to move from a feed-in tariff system to auction starting in 2019. Very little today known about the auction, very early days to have a firm view on what it means. Of course, we are hopeful that auction systems well-known for us, and that we will get more focus on lifetime IRR. In India, as we said before, we have seen targets being increased to 2022 from 60 to 80 GW. However, execution in those auctions, still timing uncertain, and of course, very recently, we saw some slippage in planned auctions for this year. We also see positive signals in the broader Asia-Pacific, where we see development in new or semi-new markets such as Indonesia, Philippines, and Thailand, and also a good outlook for Australia with the 650 MW expected auctions in Q4.
Delivery up considerably from a very low base, of course, 448 percentage points. Here, strong development for us in India, Australia, and Thailand. Order intake down about 30% in the half year. This is very much due to the China order intake we had in Q1 of last year. On the other hand, we see continued success in, as I said, a broad scale of markets outside the big two volume drivers. If you look at the external outlook again, you see a solid growth close to 30%. Of course, volumes very much expected to come from India and China. As I said, we see good activity levels in several markets outside the two volume drivers. That leading then to an all-time high order backlog of EUR 23 billion, which is a sequential increase of EUR 1.4 billion.
On the turbine side, EUR 10.2, an increase of EUR 7.9, and on the service side, EUR 12.8, an increase of EUR 7.5 billion. It has also been a busy quarter for joint venture with MHI for offshore. Starting with the product side, we have the largest turbine in the world, and we have now received the certification for the V164-9.5 MW turbine. Also on the sale side, from an unconditional order, both to the three and four, and also a preferred supplier announcement of 900 MW in Taiwan. All in all, both a solid track record and a solid pipeline of 5.1 GW of unconditional order and conditional order preferred supplier agreement. With that, I hand over to Marika.
Thank you, Anders. What you can see here in the income statement is obviously a reflection of what Anders have gone through here in terms of what has impacted us in Q2. You can see revenue, which underlines the high activity level that we have spoken about earlier. You see a positive change of 2% year-over-year. Gross profit is down 14% in absolute numbers, and primarily due to the margins in the Power Solutions segments, i.e., the turbine segments. The SG&A continues to be well under control also in this quarter, and it has continued to be a very important factor for us. You can see here, EBIT is down to 11.5, still double digits margin in Q2, down 1.1% year-over-year. Clearly, less impact on the EBIT than what you see on the gross profit here in the quarter.
If I continue on leveraging on the SG&A, remember here that you see a rolling 12 months, year-over-year, Q2, you see an increase in percentage, but still well and tightly controlled. You see that it is in absolute numbers, the last 12 months rolling is below last year. Obviously, as I said earlier, a very important factor and again, something that we keep well under control, have been, and continue to do. Have a look at the good service performance that Anders was alluding to earlier. We don't only have a very good order backlog for the service business, we also have a growth here, 11% year-over-year, and organically in constant currencies, 17%. A very good growth also in this quarter and on top of it, a very solid, good margin also in this quarter, actually approaching 25% here in the quarter, so very satisfactory.
The balance sheet remains strong and also provides the flexibility that we have been looking for, and that is how we have managed the balance sheet. The net interest-bearing position is above EUR 2 billion, and obviously negatively impacted by the increase in net working capital, which I will come back to on a later slide. Also the cash flow from financing activities. We see an increase that we actually have planned for, in particular for the inventory, by EUR 82 million here in the quarter. Solvency ratio remains in the boundaries, so we are delivering here in Q2 of 25.9%. Also remember here that we did, obviously impacted by the working capital, but also the fact that we did a share buyback starting of year 2018. The change in net working capital over the last 12 months, you see the increase in inventories that we have talked about earlier.
That is well offset by the prepayments over the last 12 months. You see the same trend here over the last three months according to our expectations. Here, the inventory increase is also offset by prepayments and payables, which just underlines the high activity level that we have in the company. We said that Q2, we will also continue to use the balance sheet and therefore increase the inventory. But also bear in mind that we feel comfortable with the fact that we will reduce the inventory due to high activity level in the second half of this year. If we have a look at the warranty provisions and lost production factor, quality, very important for us, and we continue to deliver reasonable and good levels. We are in this quarter consuming less than what we provide for. We are now providing approximately 1.5%.
You see also that the loss production factor continues at a stable level below 2%. The cash flow statement, we are generating cash flow due to good performance in the business. Obviously, the net working capital, as I was alluding to earlier, you see the negative impact from that. The free cash flow before financial investments is negative EUR 173 compared to negative EUR 158 last year. The cash flow from financing activities is obviously driven by the dividend payment that we made in April of this year. If we have a look at the total investment, it is in line with last year, a slight increase also reflecting on the higher activity level in the company. We continue to invest in farm-ins as we have said earlier, and also capitalize R&D. No change in the overall investment pattern that we have.
Bear in mind that we are investing in the local content requirements that take place. We are investing in India, in Argentina, and also in Russia. The capital structure, we continue to be within the thresholds. If you look at net debt to EBITDA, we are well within the boundaries, being in negative territory. The solvency ratio is still within the boundaries, but obviously impacted by the share buyback earlier this year. We are now pleased to announce a share buyback program up to EUR 200 million, which means that we have adjusted the capital structure or will address the strong cash position to a total amount of approximately EUR 400 million this year. We have also done the dividend, and the dividend policy remains the same. We have a policy of 25%-30% on net profit, and that remains. By that, Anders?
Thank you very much, Marika. Let's go to the outlook for the year. As I said, we have narrowed our outlook compared to previously on the revenue side from 10%-11% to 10%-10.5%, and we expect the service business to grow. I should say that we continue to see a good activity level overall and also confirmed by our strong order intake in Q2. However, as you know, we are a project business and we have also seen some delays in some large orders. As you might have noticed, a large part of them came late in the Q2, and consequently, revenue recognition on those projects will materialize later than we originally expected. On the EBIT margin, previous outlook 9%-11%, and now we see 9.5%-10.5%.
Here we expect the service margin to increase compared to 2018 and actually then compensate for the lower part of the guidance for the revenue. Otherwise, no changes. Total investment with the same definition as before at approximately EUR 500 million and a free cash flow of minimum EUR 400 million. With that, we move into Q&A, but before we do that, I just want to take this opportunity to remind you that we have a Capital Markets Day coming up in end of November, 29th of November. Hopefully we will talk to each other earlier because we also have Q3 in November. With that, let's go to Q&A.
Thank you. Ladies and gentlemen, if you wish to ask a question, please could you press zero and then one on your phone keypad now in order to enter the queue. Because of the amount of questions, we also ask you kindly to limit your questions to two at a time. The first question is over to ABG and Casper Blom. Please go ahead, Casper. Your line is now open.
Thanks a lot. Thanks for taking my question and congrats with the strong numbers here in Q2. My first question relates a bit to the guidance that you give for the full year or rate for the full year. If we deduct the first half of the year from the mid of the guidance range, we're looking at a second half where revenue will be up by around 60% or so compared to the first half of the year, but where the margin will only be up marginally. Normally we would expect some operational leverage on the back of higher activity. Is it fair to say that roughly speaking, that operational leverage is now being eaten up by the price pressure really starting to hit the P&L? That's my first question.
Yeah. Thank you, Casper. Your assumptions in terms of lower leverage in the second half is obviously right, looking at the guidance that we are providing right now. It's fair to assume that you see a higher portion of the low margin or the price pressure impact that took place in the latter part of last year that we haven't had time to mitigate at this point, that will take place, or those will be paid in the second half of this year.
Just to follow up a bit on that, it's roughly 12 months now since we started seeing the price pressure, and it's been hitting a year later. Is it then also fair to assume that we'll see the impact on the P&L the next 12 months before we'll sort of go into a more of a stable phase again?
I would say that you will see a mixed bag. You will see impact from the price pressure, but you will also see an impact from the stabilization on the prices. Also bear in mind that the longer lead time you have, obviously the more mean you have to mitigate some of the shortfalls that you saw on the prices, and therefore the margins of the project.
My second question, you did touch a little bit upon it in the slide where you mentioned tariffs, but could you elaborate a bit on your thinking about the higher steel price in the U.S., depending on the assumptions you do? I guess a windmill in the U.S. has become 4% or 5% more expensive. Do you think that's something you can mitigate through higher prices?
Yeah. First of all, of course, I have to say that, as you all know, it's a very fluent situation. It's, of course, something that will change daily, but fairly fluent. Of course, that also makes it very hard to predict. Of course, we are continuously trying to assess the situation, and look at the potential impacts. Also then utilizing our global footprint and the procurement options we have with that in the entire value chain. Based on the current estimates, and I must point out the estimates, and what we've seen so far, our production costs could increase up to 1.5% for the group in 2019. But I stress again, could increase and up to, as I said, it is a very fluent situation.
We are, of course, monitoring this, both when it comes to steel specifically, but of course also these different waves that is currently both implemented and under discussion. Of course, we have a number of mitigation actions, especially on the component side, since we to a very large extent have a dual sourcing strategy.
Okay, just to be absolutely sure here, Anders, the 1.5% higher production cost, you are referring then to the entire group, not just the U.S. market, so basically a 1.5%-
Correct
gross margin decline?
The 1.5% is referring to the total group.
Okay. That's very clear. Thank you very much.
Yeah.
We are now over to Christian Johansen at Danske. Please go ahead, your line is now open.
Yes, thank you. Just a clarification on the answer you just gave. The 1.5, is that excluding the mitigating actions you're working on?
That is, as I said, could increase up to, of course, we are working on mitigating actions.
Good. That's quite clear.
Again, I want to stress that, you all know that it's a fairly fluent environment to judge.
Sure. That's clear. My first question is just on the orders and the exceptionally high level of unannounced orders. Can you just elaborate a bit on what has driven this and what we should expect going forward?
Yeah. As I said, I think orders are a bit lumpy, of course, in the quarters, also on the unannounced side. There is no sort of real conclusion to draw from level of unannounced order going forward. It will continue to be lumpy. No specific market that sticks out.
All right. Fair enough. In terms of your backlog and the delivery schedule, we've now for quite a while seen this trend of continued increasing order backlog, while deliveries for many quarters declined. Now we're seeing a bit of growth. Can you just help us sort of understand when will this continued increasing backlog really materialize into substantial delivery growth?
Yeah.
Will this be towards the end of the year, or do we need to get into 2019 before we really see that kick in?
We have said that we'll meet, not being specific on at what point, but this also depends on the scope of the different project as we have. If we have an EPC project, we're just following the requirements for there. We can actually take revenue as we deliver the projects, but we don't get the megawatts until we have fully TO'd the EPC project, which is obviously different than from a supply and install projects, and it's also different from a supply-only project. I cannot give you an adequate timing because it depends on what type of projects we have in pipeline.
All right, fair enough. Thank you.
We're now over to the line of Akash Gupta at JPMorgan Chase. Please do go ahead.
Yeah. Hi, good morning, everyone. Thanks for taking my questions. My first question is on megawatt under completion and inventory on balance sheet. Obviously, both has gone up quite significantly year-on-year. The question I have is twofold. One is that what sort of milestone do you need to incur, or how much cost do you need to spend on a project in order to qualify the volumes of that project into megawatt under completion? If you can explain this 1 billion increase in balance sheet inventory year-on-year, how much of that is in the U.S. and how much is the rest of the world? That's question number 1.
If I understood your question correctly here, and you're right, obviously, and that's what I said earlier, we are building inventory. We also see a trend going forward that simply because of activity level will be reduced here in the second half of the year. When it comes to MW under completion, until the project have been fully TO'd, you don't get the MW out of inventory. That is a little bit the same answer as the one that I gave to Christian earlier. It depends on a little bit the scope of the project. The confidence we have is obviously that the inventory we're building up now is what we also see a consumption for in the second half of the year.
Okay. The second question is on gross margins. You said previously that you hedge gross margin in orders as soon as the project becomes firm and unconditional. Now if I look at your order intake, significant orders are for 2019 deliveries. For those orders that you already have in backlog for 2019, is there any risk from increased costs of components, or they are all hedged as of now?
Well, a little bit was what Anders was alluding to earlier. What we have said that for this year, we have been well hedged on the steel, in particular. Then you had the different waves, if we're talking about the U.S. specifically, that came pretty late. We also have the third wave that has not been implemented, and we don't know. To answer your question a little bit different and a little bit what I said earlier, the longer lead time you have of the project with the global footprint that we have, the more mitigating factors we can implement on the different projects that are to be TO'd.
Actually, the question I have is not on steel, but more on the other components like gearbox, like bearings and all. Basically, let's say if you have signed a firm and unconditional order for next year, has the pricing for that has been agreed or that can change later on? That was my question, to be precise.
I think that is very specific negotiation. If you have a firm and unconditional order, you have agreed on everything. It's up to us what we can mitigate internally, but it doesn't have anything to do with the customer.
Thank you.
We are now over to Dan Togo Jensen at Carnegie. Please go ahead, your line is now open.
Thank you. I would like to get some clarification on the service margin here, because what surprised me, and I guess also the market and including yourself as you are guiding up here now, is the service business. What has surprised you, and what has performed better than you expected just when we left Q1? That's the first question.
Yeah. Basically when we left Q1, of course, we had very high EBIT margin in the service business, as we also talked about then. On the other hand, fairly modest revenue growth. We've seen that happen before, which is more explained about when we do the activity. If we have less activity, the margin percentage goes up. Now again in Q2, we of course really happy that we are able to combine both solid revenue growth and a healthy better than expected margin. The reason for that, as we see it, is that we have talked about it before, that of course a big part of the focus in the service business is to work on the cost out programs that we have. We see very good traction on those cost outs.
Of course, partly because we actually get more and more efficiency and of course also helped then by the good quality.
The 25% that you reach now, EBIT margin, is this what we should be looking for also for second half, or will there be some sort of say, catch up to what you had in 2017? How should we look at it?
What we said is that we expect the margins to improve compared to last year, and we don't give an exact margin forecast for the service business. On the other hand, then we have, of course, narrowed our EBIT range for this year.
Okay, good. Anders, you were talking about ASP stabilizing. We still see year-over-year decline, we also see a sequential decline here. I understand that, your outlook for this, but when you refer to stabilizing, is that we go back to the sequential year-over-year annual declines of, let's say, small single digits. Is that how we should look at ASP going forward?
When I said stabilizing, of course, I referred to the sequential stabilization of ASP that we have now seen for the second quarter. I think also, if you remember last quarter when I got that question, I said that I would like to have some more sequential quarters where we see a stabilization on the ASP. That's, of course, positive that we see that now. Of course, you're right. If we compare it year-on-year, that's of course where we see the big impact on the ASP reduction. I think it's also important to remember what I said, that if you look at just ASP, everything else equal. Let's say the price is equal, and you just look at ASP. Because of the technology, ASP will, of course, mathematically continue to go down, both from the fact that we have a change in the platforms.
We sell more 4 megawatts, for example, than 2 megawatts, also by the power upgrades that we have in the platforms, you get out more megawatts per platform. Purely mathematically, of course, you will see an ASP decline, even if in that example, the pricing element is constant. I think that we have a view that we should go back to that kind of situation where we actually had before with a modest sort of decline in ASP, but then compensated by technology and cost out is, of course, our hope. I will not really forecast what the competition will do going forward, because I have limited visibility on that.
Understood. Thank you.
We are now over to the line of Katie Self of Morgan Stanley. Please go ahead.
Hi. Morning. Thanks for taking my question. Just one, actually, because my other ones have been covered. I wanted to ask on the shift to IFRS 15. I see that it's essentially added about EUR 30 million to EBIT in the first half of this year. I just wanted to know how we should think about that into the second half. Does that reverse for a sort of neutral impact overall, or is there something different?
We are just following the standard, and you will see that some projects have been shifted from 2017 into 2018, and you will see the same trend depending on type of projects, that they will shift from 2018 into 2019. It's very hard for me to predict exactly what will be the impact in the second half, because it depends on what we will deliver.
Okay, thank you. That's clear.
We are now over to Claus Almer at Nordea. Please go ahead. Your line is open.
Thank you. A few questions from my side, too. Anders, after Q1, you said the pipeline of orders looked really promising, you were definitely right. Can you put some color to the Q2 level? Is this a new level or is more a quality variation? That would be the first question.
No, of course, as I said before, orders by nature are all lumpy. Of course, when we get the orders from an unconditional within the quarters and within the year, that is lumpy will continue. We expect it to continue to be lumpy. I will not give any outlook on order intake. Of course, we are really pleased with the order intake in Q2. Of course, it reflects a high activity level in the market overall and also that we have a good competitive position in order to capture those orders.
Then my second question goes to this possible higher input cost or production cost next year, as you mentioned, which obviously you mentioned 1.5%, which is a negative part of the equation. Maybe it is also possible to get a color on what savings do you see, both internal and external?
Yeah, no, of course, we continue on our operational excellence program, that we have been running now at least for fifth year. For competitive reasons, we don't really go out with a percentage or a number. On that, I can just say, as I think I've said before, that our target on efficiency and cost out are the same, actually, the same magnitude as we have targeted previous years. We see those opportunities. Of course, we have to make sure that we also realize those opportunities during the year.
That should also mean you should more or less be able to mitigate this high production cost, given what you've said in the past. Is that rightly understood?
I don't think you can say it like that. I think you have to say that you have a baseline, then you work on that cost at that baseline. Of course, we break that program down in a two-year rolling and a one-year rolling. We actually try to find the candidates on a three-year basis. That's an ongoing activity on the whole cost base on the baseline at the time that we set the targets, of course. If you have movement in that, I don't think you can sort of come to the conclusion that you can eliminate certain parts. If the cost goes up, of course, you have to do more than your previous, theoretically, you have to do more than you previously anticipated because your baseline has moved.
Okay. I will try to ask in another way. Your comment about 1.5% increase, was that a try to talk to the consensus number for 2019 maybe being too ambitious, although you're obviously not guiding on 2019?
No, our intention is just to put as much information forward as we possibly can and see in the market. Of course, it's a well-known situation that our average, that we've seen steel increases on prices in the U.S. Of course, it's an attempt to us to qualify, as I said, what it could mean on the group level. Nothing else.
Okay. Thanks, Anders.
We are now over to the line of Mark Freshney at Credit Suisse. Please go ahead, Mark.
Hello. Good morning. Can I please ask on the nature of the contracts in the United States? My understanding is that some of your competitors are waiving steel pass-through costs provisions. Is that something that you've done on a lot of your U.S. orders, i.e., are the contracts indexed to steel and other general costs as well? Secondly, just on the turbines under completion, on my estimates, they've gone above 7 GW, which is well over twice what they've been on a through-cycle basis. You spoke about managing blade mold investments, i.e., using the balance sheet to avoid doing extra CapEx. Would we ever expect that turbines under completion number to come down and the inventory and the prepayments to also come down in tandem? Thank you.
Okay. Three, long question. If we start with the inventory and the megawatts under completion, it's basically, again, what I said, your number is obviously correct. It's around 7 GW. We're not disclosing the number, but obviously, if you want more information, you can get that. When it comes to the type of contracts and when we sort of recognize the revenue is again, dependent on the type of contracts. Did I understand it correctly when you asked about the correlation with the megawatts under completion and inventory, or?
What my point is, will we ever see a destocking? Will we ever see you bring that inventory number down?
Okay. That's what I tried to say earlier. If you look at the use of inventory, we obviously are planning for a higher activity level in the second half of this year. We will definitely see a reduction of the inventory. That is part of the planning process. What I have also said to be very specific is that as we've been extremely good at managing the overall working capital, you have seen a significant flush out at the end of every calendar year for the last few years, you will not see that same trend because we're also obviously planning for next year. We are avoiding capacity investments to make sure that we can actually invest in capacity, especially for certain markets. That is also what we've done when you look at Argentina, Russia, as I said earlier, and also India.
If I should give some also on the steel question, I would say that, as you've seen as we said this year, in 2018, we have no significant impact on the module from steel. Of course, that means that with different methods towards our suppliers, indexation towards customers, but also hedging, we have mitigated that. I can't really comment on what our competitors are doing or saying, but that has been our method. How that will work going forward will of course all depend on the competitive situation in the market. There, of course, we should also remember that it's a very competitive market, continuing to be a competitive market, we are not selling a price per turbine to our customer. Our customer takes the decision on the IRR that they get in their business case with different turbines.
Price is one such factor. Another way to compensate it theoretically is of course to have a turbine that produce more, so to speak. That's in the end of the day how we are judged compared to the competition by our customers.
Okay, thank you.
We're now to the line of Alok Katre at Société Générale. Please go ahead. Your line is now open.
Hi, Alok Kataria from Soc Gen. Thanks for taking my questions. A follow-up from my side as well. I was just thinking about how the dynamics of cost and margins within the inventory or, let's say, the megawatt under construction are. You're obviously overproducing today to manage capacity, you get a benefit of fixed cost absorption. It also means that your inventory and production is being valued at today's unit cost, which is higher than, let's say, what you would perhaps have 12, 18 months down the line. Just wondering, how we should think about that in the context of effectively when you convert these megawatt under completion into sales, what sort of margins would kind of get reflected into your P&L over the next 18 sort of months? That's question number 1, I have a follow-up.
If I just verify if I understand you correctly, is that with the activity level we have in the MW under completion, if that's beneficial for us or if it's a difference on the margins depending on that. There, I can only confirm that it's not having a positive or a negative impact on what will be delivered going forward.
I was just thinking, whatever inventory you build up is based on today's unit cost dynamics. Let's say if theoretically you wouldn't build up the inventory today, you would have to, of course, invest in capacity. Your cost dynamics on, let's say, production for 2019 done in 2019, for instance, obviously, perhaps it's going to be more different, and even lower than what you would have today. I'm just trying to think, whether the inventory and MW under completion that you have in your books today, given the fact that it's based on current unit cost dynamics where the pricing actually is obviously going down, I'm just wondering how we should think about those dynamics.
I mean, it's very, very hard to give you an exact number on that. What I said earlier is basically when you receive the order, you start producing, depending on the timeline in between when you produce and you deliver. Obviously, the longer lead time you have there in between, you can actually influence. Then you have the scope of the project potentially would have an impact, but you also have which turbines are used for the project. You have a lot of means that you work on to sort of improve the overall margin for the project. I would say timeline is an important factor, but also, as Anders have alluded to before, we have rolling activities to further improve the efficiency internally. We obviously have the global footprint that we have, which means that our sourcing capability on a global basis is very good.
It's very hard to say, I give you a generic answer to when and how. You have, depending on customers and so forth, everything depends on the negotiations you have.
Okay. Fair enough. Maybe I can take that offline. Second question, from the perspective of just housekeeping as well. Could you outline what your exposure to Turkey, Argentina, and Russia is in terms of, obviously, the sales and backlog where it's applicable? How are you managing the risks over there, not just currency, but also in terms of counterparty risks and so on? Essentially, I'm trying to understand how well-reinforced your backlog is and how confident are you about the business, given the uncertainties that we have.
Okay. I'm not sure. If you look at Russia specifically, we only have 50 MW in Russia that is firm at this point. Obviously, not a big impact on us today. What are you alluding to on the market here?
Well, really Turkey, Argentina, and Russia, in terms of, given the uncertainties, let's say, how the contracts that you've structured, how do they sort of help you hedge from things like currency or even counterparty sort of risks or the fact that, okay, maybe the risk of projects may get delayed or not done. That is what I'm trying to understand.
I think we can definitely give you a rough idea on the announced firm order in these different markets. As I said, our firm order intake in Russia so far is 50 MW. When it comes to the security of those projects, remember that in Argentina, in Russia, in many other of those countries, actually, our counterpart there is our normal global customers. Before we take an order firm, of course, we have a good solid process of looking at the security on our customer sites. In several of those markets, the PPAs that are issued by the government are in euro or dollar-denominated currency. Nothing specifically that we feel nervous about.
Okay. Thank you.
Just to underline, I think it's also important. We are global, so the level of complexity on a global basis is obviously high, and that's the environment we're managing. So far, we've proven that we manage complexity in a very good way, and that's also how we can mitigate some of the complexity is the overall global experience that we have.
Sure. Could you quantify the backlog for Turkey and Argentina? Do you have?
That you have the same-
I don't know it straight in my head. We have to get back to you on that.
Okay, great. Thanks.
Turkey, now I get the information, is zero in the backlog. Russia was 50. We have to come back on Argentina. It's not, as I said, significant that I have it on the top of my head.
Okay, great. Thank you.
We're now over to the line of Philippe Lorrain at Berenberg. Please go ahead. Your line is open.
Good morning. Thanks for taking my question. I've got two, actually. The first one, perhaps just on the service business. Looking at your 25% margin in Q2, I was just wondering if there would be any kind of mix impact that would be helping a bit this quarter, because in Q1, you were mentioning that there was a bit less of spare parts revenues. I guess, the performance linked revenue, in terms of your install base, might help sometimes. What's the impact here on Q2, and how should we expect that to actually evolve in the coming quarters?
Yeah. Okay. What we have said on the service business is that you will see fluctuations, I would say, in between the quarters. It depends also, obviously, with the higher quality, postpone some of the activities and therefore, the revenue. That's part of the lumpiness. On the profitability side, as Anders was alluding to earlier, the main cause of improvements is actually the cost out and the efficiency we're gaining in the business, having a big impact. That's obviously, we're using some of the same methodology as we have used for the V2D over the last five years.
If I understand you right, actually, you just mean that in Q2, there was no particular mix effect helping the margin.
No, correct.
Okay, thank you. The second question is on the U.S., and I'm just asking if you are subject to any of the U.S. tariffs on imports from China for any of the products that you've got in the portfolio?
Yeah, no, of course there is tariffs on components in these different waves. Of course, some of those components comes from China. As I said, we also have, on components, a dual sourcing strategy. As I also said, it's fairly fluent when it comes to definition of which components are included and which are not. It's something that we, of course, as part of the mitigating actions are looking at. On turbines as such, we produce in the U.S. We have the full-fledged production in the U.S. of both turbine towers and blades. It's more individual components in those turbines. Otherwise, we have a full-fledged production locally in the U.S.
Okay, great. Thank you. If I understand you, as well, that means that all the impacts that you would see on the import of components from China that can be mitigated is also part of this one-and-a-half percentage point increase in production costs that you are hinting at before mitigation.
Yeah, that is of course part of our action plans to see how we can mitigate that. Part of those actions is, of course, to reroute the supply of components from other countries then.
Okay, great. Thank you very much.
We are now to the line of Sean McLoughlin at HSBC. Please go ahead. Your line is now open.
Thank you. On the buyback, just your thought process around the sizing of this, and if there is any intention of offering more in 2018.
We haven't been explicit on what is a satisfactory level for us when it comes to the overall cash position. Obviously, as we are issuing another share buyback of EUR 200 million, that reflects how comfortable we are. Also bear in mind that we did another share buyback at the beginning of the year, and we have also paid a dividend. What we have said is that we will come back on how we will address the capital or the cash position in the latter part or the second half of the year, which have turned out to be Q2. At this point, there's no additional plan for share buybacks. We're happy with announcing the EUR 200 million at this point.
Thank you. Can I just return to the service margin? You have a nine-month margin, if I look back over the last three quarters, of 25%, you're consistently hitting this very high level of reliability and satisfactory cost management. I'm just trying to understand what can actually happen in the second half to lower this margin. Why shouldn't we be thinking of a 25% margin going forward?
As I said, we're really pleased with our performance in services and part of our outlook now is, of course, that we see a better margin than previously, but we will not guide for a specific margin on the service business.
Very well. All right. Okay.
Okay, we now go to Martin Wilkie at Citi. Please go ahead. Your line is open.
Yes, thank you. It's Martin from Citi. You mentioned that you did get a repowering order in the quarter, I think a couple hundred million EUR. There's some quite bullish forecasts by some market participants about the number of wind farms in the U.S. that are approaching or exceeding 10 years, and therefore, might see a repowering impact or potential repowering orders over the next two or three years. Is that something you're seeing through the conversations with some of your U.S. customers, and can we expect the amount of repowering as a % of your total could actually quite a big step up over the next two or three years? Thanks.
We definitely see a high interest for the repowering opportunity in the U.S., which of course is driven by the current pay-as-you-save structure. I think if you change 80% or something like that repower, then you can qualify for the new Pay-As-You-Save scheme, so to speak, which makes it attractive for some customers, for sure. Dependent on, of course, what turbines they have, how much you can repower of that, and what you can reuse. Definitely, an area of the market where we have taken some more orders and also an area of the market where we continue to engage with customers.
Technically, from your perspective, does that come as part of your service business, given that it's not a completely new wind turbine, although it could be in some cases, I guess? Would that be part of your Power Solutions business? Would you see this as incremental MW in Power Solutions if you were to have some of these repowering orders come through?
From an accounting point of view, we view it in the Power Solutions business, because, of course, in the examples in the U.S., it's to a large extent, not a turbine as such that you reuse in most cases, I would say. It's of course a fine definition, but the way we see it is that we account for it in the Power Solutions part of the business.
Okay, thank you.
Okay, we're now over to Pinaki Das at Bank of America Merrill Lynch. Please go ahead, your line is now open.
Hi, good morning. This is Pinaki from Bank of America. I had a couple of questions. The first one is just trying to run some numbers between your H1 and H2 metrics, and I was just looking at the service versus Power Solutions, and it came upon me that if I look at the deliveries, the ASP in your delivered volumes is around EUR 1 million per MW. We kind of know that last year you had EUR 0.8 million as an average for the year. Clearly, you'll be probably in H2, looking at your guidance for the full year. You'd probably be delivering at pretty much close to EUR 0.7 million to around that level for H2, which is in line with your order intake.
What I wanted to ask was, even if I assume certain amounts on the service revenue or service profitability, we still get to, like, 8%-9% EBIT margin on the turbines in H2, just from your guidance for the full year. That is actually at an ASP, which is pretty much in line with the low point of ASPs in your order intake. I just wanted to feel, and there's probably already some input cost effects as well in there, but clearly, obviously, you've said that it is hedged 2018. I just wanted to understand this 8%-9% on turbines, is it quite a sustainable level now, even with the low ASPs? That's my first question. I'll come back with a second question.
That was a long one, Pinaki. If I sort of dissect some of your comments in the question, and then the rest, you probably have to re-dig into more details with the IR team. If you look at the deliveries and the higher value, if you look at the average sales price, that's also, again, dependent on the timing of the revenue recognition. You would have an EPC impact also on that average number. It's still the average ASP that you see in the order backlog, I would say is a relevant part at this point. I think it stands around 0.74 in the order backlog. If I understand part of your question again, in the second half, that's also a little bit what I said earlier.
The second half, we're not expecting the same leverage on an EBIT level, despite the overall high activity levels from a revenue point of view, simply because you see some of the impacts of the price pressure we saw at the end of last year, though some of those orders are coming in here in the second half.
Okay, cool. Well, thank you so much. The second question I just wanted to ask was, this is more of a sort of theoretical/broader question is that, and maybe Anders would be the right one to answer it, is just when you go into your discussions now, given that wind has become much more competitive now, we are kind of seeing it in the volume of orders as well. Are you comfortable with the volume outlook in the market, and do you see actually it expanding over time as in some of the forecasts? How, what's your comfort on that?
Secondly, just related to that same question is that, given we've seen some price stability in the turbine pricing, in the recent quarters, are we seeing more rational behavior in the industry?
Yeah, I think, as I hopefully conveyed during my round trip in the regions, we see a high activity level. We also see positive signs that on, probably as we discussed before, that on the back of lower price for wind that we've seen now recently, actually, targets in auctions and also renewable energy targets is coming up. I will say that it's of course still fairly early days, but we definitely see this year a high activity level on the order side. I will say from a megawatt point of view, we will probably also see an increase in delivery this year compared to last year on delivered megawatts. A bit more midterm then, as I said, which of course are these targets. I come back to Europe where I think it is very positive that the renewable energy target has been increased.
The overall activity and the overall targets on renewable energy on the back of a more competitive proposition for wind, we definitely see. On the pricing side, again, I think it is of course encouraging now that we sequentially for the second quarter are seeing a stable ASP. I think if you look at the competitive landscape, I must say I'm really pleased with our performance in Vestas when it comes to balancing to deliver a decent margin in this industry. Which, yeah, again, I just stress that I'm really pleased with our performance and hopefully that also then actually underpins more stabilization in pricing going forward. We clearly see profitability being challenged on several of our competitors' fronts. I think that's of course, again, it's a positive sign. We as usual, have to see how it pans out.
With that, we go to the last question.
Can I just have a quick follow-up, actually? You started to give a new disclosure in the segments about supply only and supply and installation and turnkey. Could you give us a little bit of a color around what sort of price per megawatt difference do you have between these different types of contracts that you're reporting now in your new reporting format?
I think that we are not disclosing the difference. We have just highlighted that it is a difference, and we want to keep that competitive position as we have the ability to deliver all kind of scope projects.
Okay. Our ultimate question for today is of the line of Lello Del Ragione of One Investments. Please go ahead. Your line is now open.
Thank you for taking my question. Actually, going back to the inventory level that you reported, I am putting it together with the comments on the outlook and on the project that are on hold, and some slowdown in terms of deliveries that impacted the revenue line. I was wondering, if we look at the impact that you had on fixed costs in the first half of the year, if you had any material one that affected the gross profit margin in terms of fixed cost absorption, which will come again in the P&L in the second part of the year? Also on the inventory reduction that you mentioned, if you see this project on hold impacting the inventories reduction, meaning that we should see that the reduction could expand further, even after the fourth quarter of this year, so also in Q1 or first half of next year.
Thank you.
Okay. If we start with the inventory, what I said is that we have a build-up, and we alluded to that already in Q1, that we will continue build up inventory here in Q2, which we have all the visibility on. As, again, offset by prepayment of the firm order intake principles remained. We also saying that we see, in the second half, considering the activity level that we have, that we will see a reduction of inventory. Some of the inventory, we have a longer lead time, simply because there is a high demand, and we are using the balance sheet for that. Obviously some of the projects could move into and will move into Q1 of next year.
Okay. Coming up to the first part of the question, is that any positive effect that you had in the first part of the year? Looking just on fixed cost absorption that you had, which actually helped the gross profit line in the first half of the year, or the effect was not material at all?
No. We don't have any fixed capacity cost impact in the first half, we don't expect that in the second half in either direction either.
Okay. Thank you.
In the gross margin. Thank you.
Okay. With that, I would like to thank you for calling in. Thank you for your interest and questions, and I'm sure we will meet at least some of you during the next few days. Thank you.