Good morning and good afternoon, ladies and gentlemen, and welcome to the DEUTZ AG conference call regarding Q3 results 2018. At this time, all participants have been placed on a listen-only mode. The floor will be open for questions following the presentation. Let me now turn the floor over to your host, Mrs. Leslie Iltg en.
Good morning. Welcome to our conference call on the third quarter and first nine months of 2018. My name is Leslie Iltgen, Head of Investor Relations and Corporate Communications at DEUTZ. With us today is our CEO, Dr. Frank Hiller, and our CFO, Dr. Andreas Strecker. Mr. Hiller will give a short update on business and point you to the key highlights of our Q3 and nine-month results. Mr. Strecker will then cover the financials in depth. As always, both will be happy to answer any questions you may have in our Q&A session at the end of this call. Also, let me remind you that this call will be recorded. A replay will be available on our Investor Relations website after this call. Before I hand over, please also pay attention to our usual disclaimer that you will find in the presentation.
It is now my pleasure to hand over to our CEO, Mr. Hiller. Please go ahead.
Yeah, ladies and gentlemen, a warm welcome to our today's investor and analyst call on Q3. I jump directly into the highlights on page three. We had a strong Q1 to Q3 2018, a very nice performance. Sharp order growth by around 32% year on year, double-digit revenue increase around 19% year on year, ongoing growth in all regions and all segments. We had a substantial improvement on the operating profit, the EBIT before exceptional items, more than 70% increase year on year. On Q3, good Q3 results despite strike at Hallberg. At this point of time, some words on our casting supplier, Neue Hallberger Guss. In order to ensure reliable delivery to our customers, we had announced that we would, if necessary, use all legal means at our disposal to enforce the contractual obligations of Neue Hallberger Guss GmbH. We have done so.
At the request of DEUTZ AG, the sub-regional court ruled in a summary proceeding for injunctive relief that the supply of casting parts to DEUTZ AG, as contractually agreed, must resume with immediate effect. The decision issued in the form of a mandatory injunction, that's in German Leistungsverfügung, provides DEUTZ AG with security of supply in respect of crankcases and cylinder heads. We have no doubt that the rule of law in our country provides the appropriate instrument to support DEUTZ in ensuring the performance of the existing contracts. Should it be necessary in the future, DEUTZ AG will not hesitate to use all legal means at its disposal to ensure it is able to maintain a reliable supply to its customers. Please understand that we cannot comment any further on the ongoing legal disputes. Now, switching from operative issues to strategic topics.
The strategic topics are well on the way. DEUTZ sets a course for future growth in China. GV, DEUTZ Dalian, DDE sold to the former partner FAW in October. DDE related P&L effects will be offset in Q4. The expected cash inflow is approximately EUR 10 million, 70% are already paid in the last days. New opportunities arise due to the implementation of China 4 emission legislation for off-highway application, which has been brought forward to 2020. This is one of the big topics. Besides that, a license agreement with Norinco was signed in November, exactly two days ago. The EDEUS DEUTZ strategy is well on track. We had a successful presentation of hybrid and full electric prototypes on our electric event in September. The first EDEUS customer project with money too is on the way.
So far to the highlights, and I'm coming now to an overview on the financial key figures on page five. All key figures have developed very well. New orders, EUR 1.549 billion, an increase year on year for nine months of more than 30%. Revenue, EUR 1.297 billion, nearly an increase of 20% year on year. The adjusted EBIT on a level of EUR 60.3 million, increased by more than 100%. EBIT before exceptional items, EUR 45.9 million, more than 70% increase. Net income, EUR 35.6 million, also an increase more than 70%. Purely looking on Q3, things are ongoing on new orders and revenue. EBIT and net income, the increase on a year-on-year basis is even higher compared to the increase of the nine-month figures. Going to the sales figures on page six and giving you an overview. As already mentioned, new orders increased by 32%.
Unit sales, we are now on a level of 156,000 engines this year. For the full year, we are expecting a number of around 200,000 engines. The revenue increased by nearly 20%. We are now on a revenue basis of EUR 1.3 billion. Torqeedo sold around 9,000 electric drive systems in Q1 to Q3 2018. Unit sales grew faster than the revenue due to the mixed effect and strong demand for smaller engine series. On page seven, revenue by quarter. In quarter three 2018, we had a revenue of around EUR 420 million. As always, Q3 is always a little bit weaker than Q2, but it was a double-digit revenue growth on Q3 year on year despite the strike at Hallberg. Maybe a preview on Q4, October was a very strong month. We sold more engines than in all other months of the year 2018.
Going on page number eight, revenue by regions, I would say no major changes on the revenue by regions. Germany, we have a 90% share and an increase of around 16% year on year. Europe, without Germany, 49% increase year on year, 21%. America's is very strong here. We see an increase year on year of around 26%, now on a level of EUR 260 million, and America's is now bigger and stronger than Germany. Asia Pacific, 9%. This is purely export business, and to grow this region, we will focus on the future. All in all, we have a very strong revenue growth supported by all regions. Going to page number nine, revenue by application, biggest segment, construction equipment, 30%. We have an increase year on year of around 23%. Construction equipment segment is running very well on the market side.
Second biggest product segment, material handling, 21%. Here, the increase is even stronger year on year, 34%. Agricultural machinery, also on the product side, 14% share, increase of around 15% year on year. Our service business, very important for our margin, also developed very nice. The share is 19%. The increase was on a level of 6% year on year. Far from my side, and I'm handing over to Andrea Strecker.
Good morning, ladies and gentlemen. This is Andrea Strecker, the CFO of DEUTZ. We continue on page 10 with the operating profit and net income. Our adjusted EBITDA increased by 33.4% from EUR 89.4 million to EUR 119.3 million. The adjusted EBIT more than doubled and reached EUR 60.3 million compared to EUR 26.7 million in 2017. The DDE effects, we talked already at our half-year call, EUR 14.4 million negative. As we sold the shares now in the joint venture, this EUR 14.4 million will reverse from other comprehensive income into the P&L in the fourth quarter. The EBIT now, as reported, is EUR 45.9 million, which is still a strong increase compared to the EUR 26.8 million we had last year. We reduced further our debts. Therefore, the net interest expense also decreased to EUR 1.7 million, and our tax rate continues to be low.
The net income with EUR 35.6 million is 76% higher than last year. If you go to page 11, when we look at the product segments, if we exclude the DDE effects and look at the EUR 60.3 million EBIT, it's EUR 42 million EBIT on the compact side, which is a very high increase improvement from the EUR 5.6 million we had last year. Also, customized solution showed a nice increase to EUR 26.3 million. The minus EUR 8.6 million is Torqeedo. For the most part, that is the operating result plus the depreciation we had on certain acquisition portions, and so that's a minus EUR 8.6 million negative. Overall, the reported portion is these EUR 14 million lower because of DDE. If you look on page 12, we have the breakdown on the compact engine side.
As I said earlier, we had a very strong increase on the EBIT side that was driven by higher unit sales. That increased by 26% to 141,000 units. Revenue increased by almost 20%. The new orders were even higher in the percentage improvement than unit sales. The order backlog there is very good. Also, if you look at Q3 alone, the numbers are in the same region. That means that we continue to have an even order income and look forward to good order backlog for the rest of the year and Q1 next year. As Dr. Hiller mentioned, material handling, construction equipment, and agricultural equipment all showed double-digit growth. Service revenue in compact engines increased by 5.5%. If you go on page 13, customized solutions, we had a very good development also there in that segment in Q1 to Q3. The new orders increased by 5%.
As we all know, customized solutions is our older product program, but still it is holding up nicely in the marketplace. The unit sales increased by 2.5%. Revenue increased, and therefore also then the EBIT showed a 20% improvement in the first nine months. If you look in the third quarter, there we see on the EBIT side a slight reduction. There were some impacts felt from the spike at Hallberg as we had to slow down productions for certain product lines. On page 14, with the R&D capital expenditure, as can be expected with EDEUS and Stage V development, our R&D expenditure increased. That was expected, is in line with budget. We spend there EUR 60.5 million. We capitalized there of EUR 13.4 million compared to EUR 10 million in the last year.
Capital expenditure is in line with budget with EUR 41 million, which is in the same neighborhood like last year. On page 15, working capital and operating cash flow. Here you see an increase. The working capital ratio increased also to 17.6%. That is something on the 30th of September, so it's on a certain date. We have higher inventory levels because we have to do the order backlog and the high production program in the fourth quarter. We wanted to make sure that we have parts available. On the operating cash flow side, you see a reduction compared to last year, but it's still in solid positive territory with EUR 55.5 million. If you look on page 16, the free cash flow is positive. It's actually better than we planned for the first three quarters. Our net financial position with EUR 78.8 million is still absolutely positive.
On page 17, driven by the good results, our equity ratio increased to 49.5%. On the financing side, you can see we have a credit line of EUR 160 million. That is due only in five years from now. In the next couple of years, we have some repayments from the European Investment Bank, but overall, our financial scenario is absolutely positive. If I summarize on page 18, very, very high order backlog indicates strong fourth quarter and a good start for the first half year 2019. Double-digit revenue increase. The underlying operating profit has increased substantially. EDEUS is running well. We have presented the hybrid and electric prototypes, and we continue to set our course for further growth in China. For the outlook, I would hand back to Frank Hiller.
Forecast for key end customer markets 2018, all markets are in good shape, especially construction equipment. Here, we raised the forecast for North America and China by 5%. This is running very well. This market also material handling. On the agricultural machinery, yeah, we see some challenges in China, but overall, looking at China, China is running very good. Coming to the financial outlook on page 21, we raised our guidance on July 27, 2018, and we confirm it today. Revenue more than EUR 1.6 billion, EBIT margin 4.5% or better. R&D expenditure EUR 70-80 million and CapEx EUR 60-70 million. So far, our presentation, and we are open to your question.
Ladies and gentlemen, if you would like to ask a question, please press nine and star on your telephone keypad. In case you wish to cancel your question, press nine star again. Please press nine star now to state your question. The first question comes from Charlotte Friedrich Berenberg. Please go ahead with your question.
Good morning. Thank you for taking my question. I have two questions on order intake and one about supply. On order intake, firstly, can you maybe comment on current dynamics with your order intake? Q3 was down sequentially. How do you see that developing into Q4? Was that driven by a particular end market, for instance, agriculture? Secondly, can you tell us how much of the order intake in Q3 was for pre-buying engines? Finally, on your supply situation, can you comment maybe on whether you expect any impact on your financial performance from any disruptions or delay on the supply side? Thank you.
Yeah, Frank Hiller here. Maybe I start with the order intake, and then Andreas Strecker can say something to the pre-buy effect. Order intake was very strong in quarter one and quarter two because we talked to our customers to have fixed orders. That caused additional order intake in Q1 and Q2. This was already discussed in the calls before. Normally, Q3 is, I would say, always a little bit weaker on order intake. Looking at the different months, September was quite good and was much better than year before. Also, we saw good order intake in October. We are discussing a lot about market development with our OEMs and also with the end customers. Especially on the construction equipment, they see still a lot of projects going on and real demand also for future.
I think we are here on a quite good level today, for sure. Discussing this with our customers, they see, I would say, no risk for 2019 that this is going on in construction equipment. On the agricultural side, I would say this is more a stable business on the same level as before here, especially in China. The people are waiting for recovery of the market.
Mr. Friedrich, good morning. Regarding the pre-buy, as we said earlier, we expect overall some 15,000 units in pre-buy. The customers ordered also pre-buy engines in the first six months, so it is not only a subject of quarter three. I think the good growth that we have seen also in Q3 compared to the previous year has not so much to do with pre-buy. What the final number will be remains to be seen because it could also be that some customers will use these engines that were originally determined for pre-buy for serious production, depending on what their order backlog looks like. Again, the key message is that Q3 was not really affected by pre-buys when we showed the increase compared to last year.
Okay. No, I was just wondering because with Q1 and Q2, you commented you had EUR 50 million or respectively EUR 25 million in your order intake for pre-buy engines. I was wondering if you could give that number for Q3, or was that number basically almost zero?
That I will come back to you. Almost zero, certainly not, but it was not very high. I will send you an email with that information.
Okay. Thank you.
I think your third question was on the supply base, for sure. I think this is not specific on DEUTZ. The supply base is under big pressure. Talking about Hallberger, this is a major topic for us, for sure. Effects on the year end. Now we have another one and a half months to go. I think we've said everything to Hallberger. This topic is well on the focus, I would say.
Okay. Thank you.
The next question comes from Richard Schramm, Berenberg. Please go ahead with your question.
Yes. Good morning, gentlemen. Just to follow up on this last thing with Neue Hallberger Guss. You said that you have increased inventory. Is it a fair assumption to assume that the rest of the year is already covered by inventory? The risk of production interruption is more or less gone now, or is there still a gap which has to be filled? Looking to a broader basis, as you correctly said, supply chain issues are really a widespread phenomenon in the sector at the moment. Is there the risk on the other end that there might be something pop up in the near future here? Do you think your supply chain is stable for the time being? Especially looking into 2019, what are negotiations saying in respect of pricing? Are suppliers here pushing for higher prices?
Can you avoid this, or would you have to accept a certain increase which might go beyond what we have seen in the recent years? Thank you.
Yeah. Mr. Schramm, some words on the supply base. Neue Hallberger Guss, I think we have sufficient inventory to, and this will last until mid of November for engine series that are essential for DEUTZ and its customer. This does not mean that the production would come to a complete and immediate standstill in mid of November if we did not receive new supplies from Neue Hallberger Guss. There is still a transitional period in the production process during which the stock will be brought to the assembly lines and engines can be produced. Yeah, I do not want to speculate. After all, we are operating in a country that is governed by the rule of laws, and we firmly believe that if required, the law provides the instruments necessary to support DEUTZ in ensuring the performance of existing contracts.
At the request of DEUTZ, the South African Regional Court has ruled in the summary proceedings for injunctive relief that the supply of cast parts to DEUTZ as contractually agreed must resume with immediate effect. We assume that Neue Hallberger Guss will completely comply with the court's order and recommence production for DEUTZ promptly and permanently. Yeah. That is the situation. In general, price increases on the supply base, yes, that is always the discussion. If something like this happens, we have to give that also to our customers, to the OEMs. Maybe so far from my side.
Maybe to price increases, yeah, there's always pressure. We look to broaden our supply base in best cost countries for each individual commodity. You can go so far, and there will be some residual effects where we also will then get price increases from our customers as we have contractual terms that we can pass on certain raw material increases to them.
Sorry, I didn't get this last point. Did you say you have some agreements that you can pass on material price increases to your customers? Is that the case?
If some raw material, certain raw materials, if they increase by an index, we are able with several customers to pass these things on to them. Yes.
To which portion would apply these price acceleration clauses? Any idea what portion of your material supplies is covered by this?
I think that's too confidential of information, and please understand that I cannot give you the further details there.
Okay. Thank you.
Ladies and gentlemen, if you would like to ask a question, please press nine and star now. The next question comes from Mr. Peter Rodenicher, Baden-Bank. Please go ahead with your question.
Yes. Hello, gentlemen. Regarding your guidance, after these strong nine-month figures, clearly, there is not a big gap anymore towards your guidance of more than EUR 1.6 billion sales. Also with regard to the EBIT, I understand that there is some uncertainty regarding supply from Neue Hallberger Guss. Is it fair to assume there must go wrong a lot not to achieve at least sales of, let's say, more than EUR 1.7 billion and definitely also a higher margin?
No, I would say we really confirm our guidance for sure on the sales side. I think we are very good on the way. Also on the EBIT side, we are very confident.
Okay. No further comment.
The next question comes from Mr. Hans-Joachim Heimburger, Kepler Schulte.
Yeah. Good morning, gentlemen. Very quick one from my side, please. Can you update us on the status of your potential new partnership in China, how you stand there, and when we can expect an announcement? Thank you.
Yeah, Mr. Heimburger, this is a major action point. We are working on new partnerships. Discussions are really very deeply now. We are discussing business plans, things like that. I think we can come up with new information within this year.
Okay. Thank you very much.
We have a follow-up question from Mr. Richard Schramm.
Yes. Thank you. I just wanted to come back to your increased outlook statement, especially for construction equipment. Can you elaborate a bit on what's behind these developments here in China? It's often triggered by some state subsidies or something like that. How sustainable would you assume this improvement here and in North America? I have in my mind that especially the rental companies are a major trigger here for your business. What has moved the market here, and how would you judge the development going forward into 2019? You indicated already that this trend should go on. Maybe you can shed a bit more light on this. Thank you.
Yeah. As already said, we had a lot of discussions with our customers, with the OEM. As you mentioned, rental companies are also important customers for us, especially in the U.S. and for our material handling business. They are, I would say, very optimistic and also seeing a lot of really projects coming on the customer side. I would say at least, and also seeing our order intake, at least for the next or for the first six months in 2019, I'm absolutely convinced that there will be a substantial level of orders. Here, I do not see any risk, I would say, for the first half year. This is the normal visibility.
Okay. In China, you do not rely on subsidies, but you would also say that this is really a sound structural growth trend we see here.
Yeah. Also here in China, we do not see any negative signs. We were at the beginning of this week at the export-import fair in Shanghai. Also here, it is a very positive business environment. I would say right now, no question mark on this.
Yeah. Amazing and very positive. Thank you.
The next question comes from Mr. Yasko Tertic, Bank of Switzerland. Please go ahead with your question.
Yes. My question is, on the momentum you mentioned for September and October, you said that you still see good growth momentum. Can you give us a feeling? What do you understand is good growth momentum? Is it the same growth rate we have seen so far in the running fiscal year?
I would say it's completely in line with our guidance. For sure, we left some or we missed some engines by the strike of Hallberg. This was around 12,000 engines which we lost three months ago. Now we are in the phase of recovering this. Therefore, I would say sales, especially in September and October, was very good.
Regarding order intake, is it also the same momentum you have seen so far in the first nine months?
Absolutely. It is on a high level. It is always, if you are looking in our figures, it is always interesting how you come out of the summer break. If September, October, the order intakes increase or stay on the same level or go down. This is absolutely, I would say, as strong as in quarter one and quarter two, taking into account the special effects which we had in quarter one and quarter two by having fixed orders. We are very confident here on the market side.
Okay. Your visibility regarding those pipeline you mentioned on construction, etc., how long is that actually? Because it looks as if you are very confident for the next two, two, three quarters.
Yeah. I would say it's always good for a half year. You are discussing the orders with the customers in a certain range. I would say for the next half year or first half 2019, we are quite confident.
Okay. Interesting. The last question is regarding Neue Hallberger Guss, because there were also some rumors that Neue Hallberger Guss was going to terminate the contract within four weeks. Could you give a comment on this one, please?
I think this was more or less answered. You have also the court decision which says that it is not feasible. We have a long-term contract with Neue Hallberger Guss. Maybe also here, you mentioned Hallberger Guss. I think it is also important to mention, and I would like to clarify at this point that contrary to some media reports, DEUTZ currently does not intend to buy or take over Neue Hallberger Guss. We want to keep Neue Hallberger Guss as a high-quality and reliable supplier and partner in the business as it was always in the past.
Okay. When.
The contract runs well over a year. It continues to run well over a year. There's budget for weeks are coming from. Never heard that.
Okay. I guess you're also working on new suppliers in that area. Can you give an update on this?
Yeah. Yeah. Absolutely. This is unconnected to the current supply problems of Neue Hallberger Guss. We have already initiated alternative solutions, particularly with the view of DEUTZ's planned growth strategy in the coming years. We will expand our supplier base. I think this is a general move, not only related to casting parts, but especially on the casting side now with the supply situation of Neue Hallberger Guss.
Okay. Can you give us a feeling when those potential bottlenecks, should they remain, can be solved with a new supplier? Is it next year, or is it more a question of two to three years?
No, no, no. It's a question of months. For sure, on the casting side, we have not only the supplier Neue Hallberger Guss. There are other suppliers in place. They can increase their capacity, I would say, more quickly. Also, besides this, we are discussing new opportunities with other completely new suppliers.
Okay. That's helpful. Thank you.
There are no further questions. Now I hand back to Mrs. Iltgen.
Thank you, everybody, for joining the call today. Should there be any follow-up questions after this call, do not hesitate to contact the investor relations department. We are happy to answer any questions you may still have. Our next results are due March 14, 2019. Other than that, I wish you a good remainder of the day. Cheers and goodbye.