Good afternoon, everyone, and welcome to KONE's Q1 results presentation. My name is Sanna Kaje and I'm the Head of Investor Relations. I have here with me today our President and CEO, Henrik Ehrnrooth, and CFO, Ilkka Hara. Henrik will first go through the business highlights. Ilkka will then dig a bit deeper into the numbers, and Henrik will then conclude with the outlook. Henrik, please.
Thank you, Sanna, and also warm welcome on my behalf to our Q1 results announcement. It's again my pleasure to share some interesting news with you and share with you how we have performed in the first quarter of the year. In Q1, we had a solid start to the year with continued sales growth and a very strong cash flow. However, we did have a number of areas that burdened our result, and therefore, despite good progress, our results declined slightly. What is also important in a quarter is that we launched some new, very groundbreaking services, that we can see already now that has great traction with our customers. During this presentation, I'll start with going through the highlights of our performance, talk about a little bit broader how our markets and our market share developed last year.
I will talk also about our market development, and after that, I will hand over to Ilkka Hara to review our numbers a little bit more in detail. Then I'll wrap up with the outlook for the coming year. If you go straight into the key highlights and the key figures for 2017, you see that our orders received, they were a little bit over EUR 1.9 billion, and it declined slightly at 1.2% in comparable currencies. Order book continues to be strong. It is over EUR 9 billion and has grown at about 5% over prior year. Our sales continued its growth. It was over EUR 1.8 billion. In this environment, I would say good 3.3% growth. We'll come a little bit more in detail into what is behind this good development. Our operating income declined slightly from EUR 221 million to EUR 218 million.
Here, despite good performance in many areas, we did have areas that burdened the result, and therefore, also the margin declined slightly from 12.7%-12%. It's clear that we are not happy with the fact that our results declined slightly, and we continue to take action to find areas where we can improve compared to the headwinds that we are facing. What I'm happy about is that our cash flow was very strong again at EUR 305 million, so we can see that cash conversion was very good again in the first quarter. EPS, EUR 0.36 compared to EUR 0.37 last year. In the environment that we're going through, where we can see the environment is very mixed, we have some good markets, some very challenging market, and I would say quite an uncertain overall environment.
What is important is that a company has a very clear direction, employees understand where to focus, where the opportunities can be found. There, I think our employees have again done a great job, so big thank you to them, understanding of how we drive performance also in a more challenging environment. If you look at how our business mix is developing, we can see that the trends that we started to see during the second half of last year continues, which is that the services business is clearly our strongest growth driver at the moment, and where we have good growth. Share of maintenance and share of modernization continues to increase. If you look again on a geographic basis, we can see that it's North America, the share is clearly growing, and it was already 22% in the first quarter of our revenues.
I think particularly the geographic share, it's good that we get a more balanced market share of our business as we know that our markets do develop in different rhythm globally. If you look at some of the highlights of our businesses and our business review in Q1, we can see that on the positive side, a continued good growth in our services and good growth in both maintenance and modernization sales in all geographic areas. What I'm very happy about is that the active development we put into our services business over the past few years is really continuing to deliver strong results. We also had a solid development in orders received in many markets, which is supported by some of the very successful product launches that we had during last year, where we continue to strengthen our product competitiveness.
It's clear that we also had some areas that burdened the orders received, but overall, many good performances. Ilkka will come back in more detail into this. Also, during the quarter, we launched our new strategy, have been actively rolling it out throughout KONE and discussing it very broadly with our customers. What I'm very happy about is building great momentum and has been very positively received. Also, we opened our renewed high-rise test laboratory in Tikkurila, Finland, which is a totally unique high-rise testing laboratory where we can bring, again, lot of great solutions to add value to our customers. From market perspective, I would say that the positives, thing that occurred during the quarter was that we start to see a stabilization in the large Chinese market. If you look at volumes in a Chinese market, that they were now stable year-over-year.
As you all remember, the trend last year was that we clearly saw a clear price decline in China throughout 2016. Now during the quarter, we saw that our prices started to stabilize. I would say some first positive signs that we're going in the right direction, and that's also very positive. In the first quarter, we were also facing some clear headwinds, something that we had expected and something we already talked about during last year and beginning of this year. What is burdening our profitability is a combination of the price pressures we saw in the Chinese market last year, and also clearly higher raw material costs. We're also seeing, particularly I would say in larger project, an intense and perhaps intensifying price competition. These are the highlights of our business from the first quarter.
Another important highlight is that we really showed how we bring our strategy alive. We had a very important launch on the 8th of February, where we launched some truly groundbreaking services. What is perhaps most important with these new services that we launched is that these are not only a promise, these are services that we have been delivering to our customers in pilot mode or actually some countries a little bit broader already during the year. We can see that the results have been very positive and that we are definitely on the right path. What we launched on the 8th of February were two things. First, our KONE 24/7 Connected Services. These are some of the first truly customer value creating IoT services.
We hear a lot about technology and technique when it comes to IoT, and that we have really the best partners, I believe, in the world to develop this. Perhaps the most important thing is how we have packaged this to something that truly adds value to our customers and something we've been able to show with customers that they really appreciate it and it's developing well. They get clear value in seeing improved safety, much better transparency in understanding how the building works, how people are moving there, and how the equipment overall are performing, as well as being able to predict before problems occur. The other thing we launched was our new KONE Care maintenance services. These are truly differentiating market, and we can see, as I mentioned, we have been selling this for over a year.
We already have thousands of customers who are benefiting from the value that we deliver through these services. What is new in this? The new thing here is that as our industry, most places, most companies have three different offers, what they want to sell to the customer. Here we turn it on the head. We instead go to our customers, truly want to understand what type of buildings, what type of tenants, what type of needs do they have. Based on that, based on certain modules that we have, we tailor an individual offer that meets their exact needs. We can see that our customers are very much appreciating this, and it adds value to them.
The reason we can see it is we can see it from the customer feedback, but also from the fact that our hit rates are up and our prices are better when we work in this way. We can see that we are truly bringing differentiation also to the services business in this industry. That is about KONE's performance and our development during the first quarter. If then go to market development. New equipment markets in the first quarter, globally, they were rather stable. Europe, Middle East, and Africa grew slightly, particularly in Central and North Europe. South Europe continued to recover from a low level. Middle East, more mixed and challenging. North America, particularly United States, market continued to grow. We're already coming into eighth year of growth, but the market is very solid across segments.
In Asia Pacific, if I start with markets outside of China, we saw now a more challenging environment in the market. India market declined slightly because of demonetization that happened in the fourth quarter last year. Also Australia is slightly declining from a high level. Southeast Asia, I would say more mixed environment, some growth markets, some more uncertain, where more political uncertainty is at the moment. China, as I mentioned already, markets overall stable. During the quarter, we started to see that prices were stabilizing. I would say first, very positive news from that market. If we go into a little bit what is behind the stabilization of the Chinese market year-over-year in volumes and now during the quarter in prices as well. Of course, behind it is the Chinese property market.
We're starting to see that is starting to have an impact, particularly in the higher tier cities. We already have about 32 large cities with the restrictions, which represents close to half of the overall market. It's starting to have an impact. Because of these restrictions, we start to see that growth is now shifting more into tier 3 and tier 4 cities overall. Because of this, we can see also more confidence amongst developers and because of that, also total real estate investments is growing up 9.1% year-over-year. All this, as I mentioned, has created a more stable market for us now. When we look forward during the year, we still expect that the market is stable to -5%.
You can say there are positive things happening in the property market, but on the other hand, we also have the restrictions being imposed by the government. Those we believe will start to have a bigger impact towards the end of the year. That is the new equipment markets, a little bit more detail on China. If I turn to the services market, maintenance, development continued very much in line with last year. Slight growth in the market in Europe, Middle East and Africa, and North America, and strong growth in the Asia Pacific market. Modernization, where the markets have been growing quite well for a couple of years now, we continue to see slight growth in both Europe and Middle East and Africa, and in North America, and strong growth in Asia Pacific, although that's a slightly smaller market, but continues to develop very well.
You can say there are positive things happening in the property market, but on the other hand, we also have the restrictions being imposed by the government. Those we believe will start to have a bigger impact towards the end of the year. That is the new equipment markets, a little bit more detail on China. I turn to the services market, maintenance, development continued very much in line with last year. Slight growth in the market in Europe, Middle East and Africa, and North America, and strong growth in the Asia Pacific market. Modernization, where the markets have been growing quite well for a couple of years now, we continue to see slight growth in both Europe and Middle East and Africa, and in North America, and strong growth in Asia Pacific, although that's a slightly smaller market, but continues to develop very well.
That was development in the first quarter. As we are now in connection with first quarter result, we have also had now as a habit for many years to also look at our market share development in more detail for the last year and the market development in more detail for the prior year. When we look at the new equipment markets globally for the year 2016, we can see that the global new equipment market shrank by about 2% measured in number of units from about 840,000 units to about 825,000 units. In monetary value, the market declined last year by about 8%. If you look at the market development in the various markets, as we discussed already at the beginning of the year, the important China market, that declined by about 5% and was last year around 515,000 units overall.
In monetary value, the Chinese market declined last year in the mid-teens. We had growth in Europe, Middle East and Africa, growth in rest of Asia Pacific, as well as in North America. KONE's market share last year was stable at 19%. If we look at where did that come from, in China, our market share stayed stable at about 20%. As you know, our objective last year was not even to maximize market share in China. In a declining market as a clear market leader, we focused more on a solid development there, which we had. Market share wise, the best development last year was in Europe, Middle East, and Africa, where we clearly improved our market share. If you look at North America, our market share improved, in particular if we look at in monetary value.
Those were the markets where we had the best overall development. If we look at the services market, the services market globally increased again last year. Installed base of elevators and escalators was more than 14 million units globally. It's clear that it's China that already represents 31% of the market, is the key growth driver globally. KONE, we clearly improved our market position in maintenance last year. We can see that given the growth and the good improvement that we have had, we are already now on a shared number 3 position. In maintenance as well as in modernization, we clearly have a market leading growth rate, and that's why we are clearly catching up with our larger competitors in services. Modernization market continued to grow. It was a single-digit growth number for the market overall, and we grew at about 15%.
Again, here we improved our market position also quite significantly. Overall, stable market share in new equipment, but clearly improved market positions in services. If you look at what are our market positions at the end of last year. We can see new equipment. We have very strong market positions, particularly in the largest markets. Even though they have been more challenging now, China and rest of Asia Pacific, we know that those are the key markets for the future. Here we continue to be market leader in both. Europe, Middle East and Africa, we are the second largest player, and in North America, we are number 4. However, it's interesting we look at this number 4 position in North America. If I only go three years back, there was a very significant difference between our market share and that of our bigger competitors.
Today, when I look at it and we see the number 2, number 3, and number 4 players, they are within a couple of percentage points of market share. Here we can also see that we have clearly caught up with our larger competitors in that market. That shows that in new equipment, we have very strong market positions throughout the world. In maintenance, as we know, we continue to be the challenger. That is a position we are taking very seriously, and that's why our objective is to grow faster than our key competitors, and that we are doing. Market positions continue to strengthen.
What I'm very happy about is that in the, what is going to be in the future, the largest service market and the fastest-growing market, the Chinese service market, we are market leader, and also in rest of Asia Pacific, we have very strong positions. In other parts of the world, we are also strengthening our positions. Good overall development, I would say. That is, in summary, our performance, what we have done within KONE, markets, and our market share for last year. I will now hand over to Ilkka to review our financial performance and some other matters in bit more detail.
Thank you, Henrik. It's my pleasure today to go through more in detail our financials for the first quarter 2017, as well as then look at, as a heads-up item, more in detail the changes we have ahead of us in terms of our accounting standards. Let's first start with our financial performance and orders received development, in the first quarter. Although we saw very good development in number of areas, overall, we did see a decline in our orders received by 1.5% on a historical basis, and our orders received reached over EUR 1.9 billion in the quarter. If we look at the key drivers for this development, first of all, I would highlight a good performance in our modernization business, where we continue to see positive contribution to our orders received growth.
At the same time, I would also highlight new equipment in both Europe, Middle East, and Africa, as well as in Americas, contributing positively towards our orders received growth. At the same time, new equipment in Asia Pacific negatively contributed to our growth in orders received, and there, China playing a major role. We saw in China, for orders received, a decline of about 10%. As said, we were aligned with the market overall from a volume perspective, but prices, given the performance, although they stabilized in the quarter, we still saw a year-over-year decline by about 10%. If we look at the relative margins of our orders received, in the quarter. They declined slightly but remained at a healthy level.
Contributing to this development, we saw both the development in pricing, especially in China, contributing there, but also the increase in raw material pricing having a negative impact there. FX played a minor role this time, negative impact of EUR 7 million to our orders received. To sales. For sales, we saw solid development and really driven by services. We saw a growth of 3.5%, reaching slightly over EUR 1.8 billion in the quarter. If we then look at the key drivers on the right-hand side for this, what came out to be a 3.3% growth in a comparable basis. First, from a business perspective, both maintenance as well as modernization contributed positively. There, modernization at 9.5% as well as maintenance at 7.1% clearly were highlights for growth in the quarter.
New equipment was down 1.3%, really driven by the development in orders received that we saw in 2016 for that. Geographically, looking at the development, Europe, Middle East, Africa contributing at 5%, really good performance there, as well as Americas really as a highlight of the quarter at 19.6% growth there. Asia Pacific declining 5.8%, and there China playing a major role where our revenue in China, driven by the orders received development that we saw in 2016, declining over 10%. Looking at the operating income, where although we saw continued strong execution in number of fronts, despite that, several headwinds burdened our profitability. We did see a decline of 1.7% on our operating income, reaching EUR 218 million.
Clearly that's not something we can really be happy with, and we clearly need to accelerate the actions we have to improve our profitability going forward. If we look at the key drivers on the right-hand side for operating income, services growth contributing positively to our operating income, as well as the overall good execution in number of fronts in terms of driving profitability as well as product competitiveness forward. At the same time, we did see our accelerated investments to R&D and IT short term negatively impacting our operating income. Although we continue to see, as witnessed by the new launches that Henrik talked about, good potential going forward in these investments. As discussed, the raw materials in the quarter are a headwind already.
The margin pressure that we witnessed in the latter part of 2016 now is coming through in our P&L to operating income as well. Shifting gears and really looking forward a bit as a heads-up item on the upcoming changes when it comes to how we recognize our sales from 2018 onwards, while we're adopting the new IFRS 15 principle in our accounting. It impacts about half of our sales, so the volume new equipment sales as well as modernization business. If you look at on the right-hand side, at the top graph, you can see how we're accounting for our sales today. From the time when we start to manufacture the order, all the way to installing it, we are recording that as a work in progress in our balance sheet.
Once we actually hand over the project to our customers, we then record the responding revenue, the costs, and the relevant profit in our P&L. That's how we are doing the accounting for the volume business as well as the modernization business as of today. Going forward, starting from 2018, we will move to a gradual recognition of our sales. If you look at the right-hand side lower picture, you can see the difference in terms of how we're going to approach it. From a manufacturing all the way to deliveries of the first materials to a customer site is recorded as a work in progress. From there onwards, we're going to record revenue as we are progressing throughout the project lifetime, all the way to hand over to customer where we are at the same point actually cumulatively as we are today.
This change will not impact our major project unit, as we're already recognizing gradually the sales there. We will provide you with comparison data prior to release of our results for first quarter 2018. If we then look at the first estimate in terms of the impact of these changes to our financials, here are a few key items that we wanted to highlight. First of all, part of our profits from an ongoing project at the time of the cutover will be booked straight to equity. This will mean that there's an impact to our order book, and that decrease is roughly about EUR 1 billion, is our estimate as of today. Then also inventories will decrease by over 50% as we're starting to recognize the sales earlier than today.
The corresponding equity will increase as we book these ongoing projects there directly at the time of a change. This will also impact our working capital items, advanced payments will decrease by roughly 30%. Receivables will increase somewhat. There are also minor changes to how deferred taxes and tax liabilities are recorded due to the fact that we're changing the recognition. As a whole, there will be over 10% less of negative working capital as a consequence. There are also other changes that will be coming here. As we're starting to recognize the sales more as a function of the time and work being put into the projects, we are seeing less seasonality in both sales as well as in our profit recognition going forward.
It will also impact how our lead time from order to sales will develop, it will become shorter going forward. As said, as our equity increases also, our equity ratio will increase as well as impact our return on equity negatively. More importantly, from a cash flow point of view, there will be no change going forward. This is as a heads up, we'll continue providing you more information on the details during the year, we'll release comparable data before the first time of releasing our results with IFRS 15 standard. With that, I'll hand over back to Henrik on our market and business outlook for the remaining of the year.
Thanks, Ilkka. If I just wrap up with what we expect from our markets towards the end of this year and also our outlook. In new equipment, we expect that in China, the market will be flat or down -5%, somewhere in that range in units ordered. We also expect that the intense competition will continue in that market. Rest of Asia Pacific, we expect to grow. Europe, Middle East and Africa, and North America, in new equipment, we continue to expect slight growth over prior year. Maintenance, here we expect the trends that we've seen so far this year and during last year to continue, the slight growth in Europe, Middle East and Africa and North America, and continued good growth in the Asia Pacific market.
In modernization, overall market we expect to continue to grow, with slight growth in Europe and North America, and strong growth continued in Asia Pacific. Our outlook, KONE's outlook for the full year, which we have specified slightly. We now expect that our net sales will be between 0% and 3% growth, whereas we previously said between -1% to +3%. Because of the good start we had to the year, we have slightly improved it and taking one percentage point from the bottom end of the range. Operating income, here we have also slightly specified our outlook. We now expect our EBIT to be in the range of EUR 1.2 billion to EUR 1.29 billion. That assumes that translation exchange rates will stay at the average level of the first quarter of 2017.
Previously, we estimated our EBIT to be in the range of EUR 1.18 billion to EUR 1.3 billion. Here we have slightly specified and slightly improved our range. We say we have done this despite the fact that when we look at, for example, raw material headwinds, that they are slightly stronger than what we expected in January. We can see that because of what has been good execution beginning of the year, we expect that we can compensate an even higher headwind and get to this range. As Ilkka mentioned, I mentioned also earlier, it is clear that we are not happy with the fact that our results slightly declined in Q1. We continue to take action to improve that.
As always, some of the most important actions we take are improved customer activity and providing value to our customer, because that can be seen in pricing, and that is always the most important one. Our productivity overall, we continue to develop that, something we constantly do and accelerating some actions there. Of course, we are looking at efficiency throughout the organization all the time as we have done, so that we can continue to find opportunities. As we have seen in the past years, we have continuously had a very good development of our overall product competitiveness and cost. Clearly we continue with actions there to develop our competitiveness. There I also see continued good progress.
We have a lot in store to develop our competitiveness, although we can see that the headwinds from particularly raw materials, and others are going to be stronger in the coming quarter than in the first quarter. Still, we have good confidence for our full year outlook, as you can see from this specification that we have done. With that, if I just summarize our Q1, we had a solid start to the year in a mixed operating environment. We have both headwinds and tailwinds ahead of us. Headwinds are slightly going to be stronger now in the coming quarters than the first quarter, but also I believe that our execution continues to be strong.
What I'm very happy about is that the new strategic phase that we started this year has started with very good momentum, great feedback from both our employees and our customers. That is, of course, what is key to continue to develop positively going forward. With that, we again have good time for your questions.
Yes, we are now ready for your questions. Are there any from the audience? If not, let's start taking questions from the telephone lines. Please state your name and the company before asking the question. Operator, I'll hand over to you.
Ladies and gentlemen, if you would like to ask a question today, you can do so by pressing star one. We will now take our first question from Andre Kukhnin from Credit Suisse.
Yes, good afternoon. Thanks very much for taking my questions. I'll go one at a time, if that's okay. Firstly, on your comment on China orders received margin versus a year ago. That's very clear. Could you give us an indication where the margin of orders received is versus your current margin in Q1 now that we're 70 basis points lower?
Well, of course, the global margin is a function of many different things. In China margin, it's clear that when we saw during last year that prices came down throughout last year, and we started to see, particularly in the second half of the year, some headwinds to the margins, those are only what we started to deliver now. Clearly, as they slightly increased during last year, we continue to have those headwinds. That's what we continue to work on, our productivity, quality in delivering to our customers. Going forward, that's why we're very focused on pricing, where we're seeing that We see first positive signs, particularly in China here.
Okay, thank you. Can I ask on China revenues run rate now that we've had three quarters of consecutive double-digit declines, where are we in that run rate versus what's in the order book run rate? Do we need to take a further step down?
I don't know. I'm not sure I fully understand your question, we had now our revenues in China declined at around 10%. That's clear. That's a function of the fact that our orders received last year declined in China, and orders received in monetary value continue to decline. I think it's a very logical result of that.
Yeah. Maybe I just clarify it. We've seen your orders in China declining around 12% in 2016.
You're down 10% in Q1. We've had three quarters of double-digit revenue declines. That sounds like we're kind of two quarters away from stabilization, given what you're pointing to in terms of stabilization for units and pricing during Q1. Would that be the right logic?
Of course, very much depends on, you know that the orders can be quite fast turning in China. Depends on how we perform from here on. Otherwise, of course, logical, what you say.
Great. Thank you. Just a couple of questions. Firstly, on digital, could you give us some idea on how much of your install base or your maintenance base is connected now?
We have had already for a long time.
To the full IoT platform.
Well, I would say that we have two things. We have our new IoT platform, we have more legacy connectivity, which of course, we're going to move also into the new IoT platform. Total at KONE we are about some 150,000 connected units. Everything, of course, that we can move into the IoT platform. Where we see the fastest take-up and growth of these new services selling, it's clearly, well, some in Europe, but clearly China is the fastest take-up, and that's happening quite rapidly at the moment.
Great. Thank you, Henrik. If I may, just last one for Ilkka. On IFRS 15 change, if we just conceptually think about the change, the shape of it, will it be a one-off lift to one years of sales and profits? The pull-through happens and kind of the run rates stay the same, or is it lifts across the years from this earlier recognition, if you see what I mean?
If I understand your question, at the time when we actually implement the change, we will actually book the profits to equity straight. It doesn't influence our P&L in 2017. From 2018 onwards will then be in the IFRS 15, recognizing them as the projects progress. In that sense, it doesn't have a one-off impact. We'll come back more in detail on the impacts to P&L and with the comparable data later. In that sense, hold on and wait before we give you more details. We just wanted to give a heads-up on the changes to come, as well as the key impacts on the P&L to start with.
It's very helpful. Thank you. It lifts 2018, it doesn't come out in 2019.
Well,
If you see what I mean
From 2018 to 2019, they're comparable then thereafter. We'll provide the data for 2017 as well.
Got it. Thanks so much for your time to both of you. Thank you.
Thank you.
Our next question is from Guillermo Peigneux-Lojo from UBS.
Good afternoon, everyone. Guillermo Peigneux-Lojo from UBS. I had a question regarding raw materials, and then another two regarding M&A and the North American market. On raw materials first, on slide 17, seems that raw materials had a very limited impact. Even, I would say, a low single-digit number. I'm guessing just one or two million EUR. The rest is actually R&D, according to that commentary that you actually put out on the presentation and on your release. Is that meaning that, as per your comment, the raw material pressure is going to be a lot greater during the quarters to come, and obviously a lot greater in the framework of the EUR 50 million-EUR 100 million increase that you saw before or even higher as your comments recently?
Ilkka, do you want to answer that?
Yes. Let's start twofold. Our investments first to R&D and IT, they're ongoing and visible already now in, I would say, give or take, we said 0.2% both, either, and now we're roughly about 0.5 percentage points, which is a bit more seasonal than normal. We're not investing more as such. It just hit first quarter more. From a raw material point of view, we talked about this EUR 50 million-EUR 100 million impact earlier, and I think we were at the beginning of the year more on the EUR 50 side of that range. Now with the increase in raw materials, maybe we're at the higher end of that range as of now. At the same time, as Henrik said, our specified guidance takes that into account. Regardless of that, we see that we can raise the bottom end as such.
Perhaps just to add on what Ilkka says.
Of course. Yeah.
One of your questions, Guillermo, was that, yes, it had a smaller impact in Q1. We expect that the impact in the coming quarters will be bigger.
Yeah.
Despite that, as Ilkka mentioned, we still believe that we still slightly improved our guidance.
Well, of course, is it right to assume since you don't put the numbers in the bar in the waterfall chart, is it right to assume around EUR 1 million-EUR 2 million increase in raw material so far?
That would be a negligible number that we probably wouldn't mention, such a small number.
All right. Okay, understood then. Recently, ThyssenKrupp and also Toshiba have basically commented on how core their elevator businesses are to their strategy. I was wondering, in fact, actually some, Thyssen just said yesterday or two days ago that they don't see any further consolidation in the market. I was wondering what's your commentary on that?
We can, of course, not comment on other companies. That's, of course, their decision and their views. I have nothing more to comment on that. You know that in general, we are interesting to find further growth also by acquisitions. We have a strong balance sheet. We can do that. We see a great value-creating potential in all of them. Last year, we again acquired nearly 20 companies and our appetite for that continues to be there. That's what I can say about this.
Okay, fantastic. Thank you. One last question, I promise. Regarding some, again, your competitors are suggesting that the USA market is very strong for them. I only see a slight improvement on yours. Is this referring to the fact that maybe your critical mass already grew a lot during 2016 and probably is also a mixed comment rather than an overall market comment?
Well, if you look at our top line, it grew almost 20% in North America, which is a very strong growth rate if you think about how big role services play in that market. Our orders received in new equipment in North America grew very substantially.
Okay. Well, it serves the market comment. Okay. Thank you.
Okay, thanks.
Our next question comes from Klas Bergelind from Citi.
Yes. Hi, Henrik and Ilkka. It's Klas from Citi. A couple of questions, please. First on pricing and mix in China is minus 10%. You have said before that current tendering is roughly showing up in orders some 4 months later. I was wondering, when you talk about stabilization, I guess you mean that on tenders, pricing is now stable quarter-on-quarter, which means that price mix on new orders in the second quarter will only look better because of the easier year comp. Are you saying that pricing and mix is sequentially improving as well? I will start there.
Well, what we're saying is that within the quarter, we started to see a stabilization of the price and mix. Clearly then we look at both actual prices as well as what we can see in our tender book. That is what we see actual happening.
Okay. No sequential improvement so far?
No. Here we then talk about what's happened within the quarter.
My second question is on raw materials, the EUR 50 million-EUR 100 million guide, you say that you likely going to end up towards the higher end of that range. Some of your peers are now saying that the raw material drag at current commodity prices can also last into 2018. If we stay at current price levels, would you also see a cost drag next year?
Raw material prices, we know that they can be very volatile. It all depends on also what kind of negotiations we can have with our suppliers. We went into this year with prices locked at very favorable levels, and this is then impacting, of course, the headwind we see going forward. I think it's too early to say what we can negotiate, what actions we can take, and where prices are going to be. What we have seen in the material markets recently has actually been quite a high volatility. Most recently come slightly down, I'm not going to speculate where they're going to be towards the end of the year. If they would stay at the current level, yes, it would be a continued drag for next year, I think it's too early to draw any conclusions here.
Just to understand the orders there in Americas in modernization and also orders in Asia Pac ex-China. You're down a lot in modernization all of a sudden in Americas. Is this just a tough comp or is the market weakening there? In Asia Pac outside of China, is this only India that is coming down for obvious reasons, or is the weakness in other countries as well in Asia Pac ex-China?
I would say, again, we have to remember there's always going to be fluctuations quarter to quarter, both in smaller and larger projects. The market in North America continues to be quite solid. I wouldn't put this down to anything but quarter to quarter fluctuation. In Asia Pacific, the two largest markets there are India and Australia. Both of those markets are declining slightly, so those were the ones that had the biggest impact on our orders received there.
Okay. My final one quickly is on China and the demand and discussions with your customers. You keep the guidance for the year. Have you seen that the business has picked up towards the end of the quarter? Market is flat in the quarter. Was the market also flat in March? How is the market trending in April? Are you just being cautious given that we're early in the year? I'm just trying to understand the exit rate in terms of China elevated demand.
Right. Clear that in the first quarter, we were at the higher end of that range. Why do we still believe it can be as negative as 5%? That's because we expect that the restrictions in some of the bigger cities will start to have an impact on overall activity. I would say that we have to remember that Chinese New Year was quite early this year, so it was difficult to compare January and February to previous year. That has a huge impact on activity. I would say that therefore March was again, this year, very important and pretty good activity in March overall. Always first quarter is so much impacted by Chinese New Year when volumes are low.
Yeah. Okay. Thank you, Henrik.
Thank you.
Our next question is from Michael Kalikias from Bank of America.
Yeah. Hi, good afternoon, everyone. My first question, just clarification on all the raw material comments. Can you, now that you've done one quarter, you usually hedge two, three quarters ahead, so you should have a very precise view on what the raw material headwind going into it. I hear that you now point to the higher end of the guidance. Should we assume EUR 75 million-EUR 100 million, or is it EUR 100 million headwind? Can you just comment on that? Just looking on the sequential development, should we hit the highest increase in raw material build in Q4 and grow gradually into Q4?
Ilkka, you want to take that?
Yes, certainly. If I step back a bit and what we said about how we're locking our pricing. We lock our prices for our components, let's say, three to nine months forward, really depending a bit on the component. We also did say that we are about halfway locked in the beginning of the year, and now we have increased that somewhat, that locking. Pricing around us does play a role, obviously, when we have the negotiations on the prices. We are seeing more of an impact in the coming quarters. At the same time, it's maybe too early to call a fourth quarter impact yet. In that range, we are on the higher end, and mathematically, that means that it's more the EUR 75 million-EUR 100 million than anything else, I would say.
Okay. Maybe one for you, Henrik. When you adjust the guidance, you adjust a bit the volumes and you say it was a better start to the year. Can I ask you what was indeed better this year in Q1 that you originally expected? Where was the surprise from? The fact that you're able to compensate the bigger raw materials headwind in your guidance, what is helping you in doing that?
When I said it was a little bit stronger start to the year, it was not any specific area. We continued to execute quite well, which you can see in our services business. With a 7.1% growth in maintenance and close to double digit in modernization. These are things that you need to execute on every day and drive the growth every day. There we've done a good job. Overall impacted the growth rate and also good execution in installations. There was anything more specific into that. As Ilkka already mentioned, we went into this year, we had for first quarter quite well prices for our components locked, and at pretty good prices. That we knew already, and that of course helped manage that headwind in Q1.
Very clear. Last question on the new services concept.
You've been saying that you rolled out in several countries, and you've got thousands of clients signing to those new offering. Can you maybe give us some indication on, first, on the timing of the full rollout? You say that in the release that it will last into 2018, but in terms of how much of the countries your installed base would be offered those services by the end of the year, maybe. Maybe the potential benefits when those clients sign a contract with you. Is it, I don't know, 10% higher scope versus current contracts? What's the penetration of these contracts? Or is it a competitive balance factor? Give an indication on the benefits of these new services as you've seen in your launch.
What we're saying on both of these, both the new KONE Care maintenance offering, which we already have in several countries rolled out and continue to roll out, and these KONE 24/7 Connected Services, we are rolling them out country by country. Because when you roll out something like this, you want to make sure that you really have all the capabilities in place to deliver it in a really good way to your customers. That we'll be very focused on, and I believe we have done a very good job where we have rolled it out already. That is something we continue. You have to remember that in the maintenance business, you have a lot of customers, and each customer usually has a small number of units in service. The rollout also depends on how quickly you are able to bring those to your customers.
Usually it doesn't happen so that you have a big part covered immediately. The point is we will have it available in these markets, roll out for the benefit of our customers, and immediately, always when we have the capabilities in place, that's when we push the accelerator and roll them out. You still have to remember that in a maintenance business, to roll it out throughout the customer base takes actually quite a long time.
Okay, understood. Maybe on the cost side then, should we assume that the R&D and IT effort that you've put in place to support this initiative, they continue into 2018 as you continue on rolling those concept out? Maybe just in terms of the trajectory of this go, should we expect basically you to step up now and we keep those costs going into 2018, or now that you launched that in more and more countries, you can reduce a bit those investment, or you have to increase them as you go into more countries? Can you just give us an idea of the trajectory of those costs?
Well, we have to remember, now we just talk about one offering. Clearly, we have a pipeline of a lot of new products, solutions, and services that we are looking to roll out over the coming years. It's not only about you do one and then you're done. It's a constantly moving situation.
Right
where we all the time bring new things, innovative things that adds value to our customers, and that we will continue to do. Therefore, I continue to see quite high activity in overall development, R&D, IT, process development, and so forth, for the coming years. Because there are just so many great new things we are seeing that we can bring, really add further value to our customers. The good thing is that we can see when we bring them out, they actually do have good impact. I do believe we are on the right path here.
Also to add to that, we continuously evaluate the project we have ongoing and the impact it has to our financial return we have. In that sense, it's not a discrete, it's rather a continuous decision point that we have on the project. It's something that we validate every month, every quarter going forward.
Got it. Thank you very much.
Thank you.
Our next question is from James Moore at Redburn.
Yeah. Hi, everyone. Henrik, Ilkka, thanks for taking my questions. I'll go one at a time as well, please. Accelerating actions, you've talked about responding there. Could you perhaps put a EUR million number or a percentage of sales on savings and general productivity? I know you have it every year, but I sense that you feel you're going to put some additional action in place. Can you sort of quantify the change or what you're doing there, please?
I wouldn't put the number on it. I would say that, as you know, we have year-over-year get good through quality productivity actions. We improve our operations. That we continue to do. We continue to see also that some of the things we put in place over the past years are enabling us to slightly accelerate this. I wouldn't put a specific number on it, more that we are putting significant effort to make sure that we can even better counteract these headwinds. If you look over the past years, we have had very significant improvements, for example, in our overall product competitiveness. That, of course, is now a little bit more challenging given the raw material headwinds. Of course, on top of that, we continue to do a lot and have good progress there.
Then, of course, in field productivity, which is very important to us, through good quality measures, we continue to also make progress. I wouldn't put a specific number to that at all. We have very high attention to this.
Okay, thanks. On the raw material headwind, why has your expectation nearly doubled when Chinese steel prices have fallen quite a bit since we spoke three months ago?
I don't think it has doubled. We said that we were perhaps slightly at lower end, and now we're slightly at the higher end of range. If you look at now, maybe the recent week, it's come down. It's been extremely volatile. Where we see where we're able to lock down prices still in December, early January, were at better prices than today.
Okay. On your China slide, your macro charts-
Yeah
The right-hand one, you show the elevator units growing slower than investment. If I look at start stages, they're growing a little bit slower as we've perhaps grown more in line in the past. What do you attribute that negative gap to? Do you think it's something structural that persists or temporary?
Well, there are many things that go into that. Let me see if I find it here. Remember, in this real estate investment, you have infrastructure there, you have also land purchase cost there, and we know land purchase cost has come up a lot. I can't give you exactly a breakdown, but that has an impact why there's perhaps a slightly bigger gap between these two than in the past.
Thank you. On your service margin, I'm not entirely clear whether the language in the report relates to absolute EBIT or margin. I think it's margin. I think you say the service margin has lifted. Can you put a bit more color on that and say whether you're achieving new service margin highs? Is it pricing driven? How is pricing in service, and what do you see the outlook on service margin from here, further increases?
Main thing we are achieving in services, I would say, we know that there are certain markets that continue to be incredibly competitive. I would say that it's a picture that in some markets we are clearly improving our service markets. In others, it's more challenging. What we're seeing is that through the growth, we are gaining operational leverage. That is perhaps the key thing. In the slightly stronger markets, yes, pricing is more favorable, large markets such as, for example, South Europe, continue to be very competitive. It's a mix, but overall, the good growth we have there is translating into good absolute profit growth.
Just in terms of the absolute service margin, are we at a high level against history, and is there more to go? Where do you see that medium-term trajectory?
We are at the pretty good level, I would say.
Can you do more?
We can always do more. I don't think we're ever happy with where we are. We can always do more and always strive for doing more.
Brilliant. Thanks, Henrik.
Thank you.
Once again, ladies and gentlemen, if you'd like to ask a question, it's star one, or you can remove yourself from the queue if your question has already been asked by pressing star two. We'll now take our next question from Manu Rimpelä from Nordea.
Good afternoon. Just one question on the volume outlook. We're seeing a clearly improving trend in kind of industry leading indicators and also in construction leading indicators. Just wondering that you keep your outlooks for the end markets unchanged, are you seeing any sort of an improvement in the volume trends in Europe, for instance? Why are you not taking a more positive stance on that?
As you said, what we're seeing in Europe is an improving picture, but not strong growth. We see a slight improvement. It's particularly on the residential side where we can see a stronger market, but we're not seeing any strong growth. It, again, varies market to market. There are some markets that are growing really well, and then there are more challenging markets. I think the overall picture is slight growth, not more than that. I think it's in line if you look at overall, for example, for Europe, for construction outlook.
Okay. How do you see the relationship playing out between if you start seeing a pickup in volumes and pricing in both new equipment, but more importantly, I guess in the maintenance business? What type of a lag do you see there typically?
Well, usually it's clear that the higher volume in a market usually is favorable to pricing, as we all know. In the maintenance business, it can take quite a while because what is the challenge, for example, in Southern Europe? It's very small, the overall organic growth in the market, because of the low new equipment volumes over the past years. If you now start to see improvement in orders received, it does take time before it's ordered, installed, delivered, and past its first service period. There can be quite the lag before you start to see a stronger market overall. Clearly, it comes over time.
Okay. Finally, did you comment on what the organic growth rate in the Chinese maintenance was in the quarter?
It will continue to be in strong double digits.
Okay. Has that rate changed in terms of what we've seen last year? Because I think you commented that it was closer to the 20% range.
When your service base gets bigger, it's clear also that even though the absolute growth this year is higher than last year, the percentage comes slightly down. Also, you have to remember that maintenance revenue consists of two things, or actually several things. It's the contracted revenue, it's repairs, but also you have the first service revenue part. Clearly, the number of units we're converting, that is accelerating. Given a more stable or actually slightly decline in new equipment business, the impact on this first service revenue is that's more stable, therefore. When we look at how much we're converting, actually there we continue to have very good performance.
Okay. No further questions. Thank you.
Thank you.
Our next question is from Rizwan Qureshi from Berenberg.
Yes. Hi, good afternoon. Thank you for taking my questions. I have three, please, and I will take them one at a time. Firstly, I am wondering why you are not turning more positive on the outlook for China elevator units this year. If you look at house installs, real estate investments, they have been up strongly over the past 12-18 months. To your point on the government measures to cool the property market, if these were to have any effect, that would impact your units demand next year and not this year. If you could just clarify this, please.
I would think, as you say, there is definitely both positive factors such as real estate investments, how the overall volumes in real estate is developing and also inventories. On the other hand, we started to see these restrictions happening during second half of last year, and they are getting stronger. We think that they can have an impact and therefore can also then have slight impact on our market. Let us see where we end up. Now Q1, we were slightly at the better end of the range, but this is still our best estimate for the full year.
Okay, thank you. Just to follow up on, I think it was Andre's question initially. The margins in orders received declined slightly year-over-year. Can you say if these margins are actually flat or down versus the Q4 level? Do you see what I mean, in the backlog?
If I explain it as follows, if you think about during Q4, prices continued to decline. End of Q4 was lower than beginning of Q4. If we look at Q1, we now see more of a stabilization. Probably on average, we're probably still slightly below, but starting to see a stabilization now.
Sorry, is that a stabilization as well on the margin in the backlog as well on a sequential basis?
Probably still slightly down quarter-on-quarter.
Okay. Thank you. Finally, just on the negotiations that you're having with your suppliers year-to-date, I'm just wondering how these are going, if you could give us a little bit more color there. How open are they to actually absorb some of the pricing pressure? How easy is it for you to push these pricing pressures up to them, kind of into the value chain? How easy is it for you to switch from a supplier to another if they don't want to actually get the price headwind?
Well, as always, it's not a new thing. This is something we've been working on year-over-year. It's not only about pushing prices to your suppliers. Clearly, we continue to work with some of the key ones at how do we improve each of the components, how do we improve our setups and our competitiveness? I would say we are in a really good situation in that I believe we clearly have the most harmonized and modular product portfolio in our industry if you look from a global basis. We clearly have the largest volumes in China, which is very key for suppliers. We have a possibility, we have a very good situation in how we can concentrate and get great volume benefits from our suppliers.
This is something we, of course, have been working on over years, the fact that they're coming up now, if raw material prices are coming down, we continue to work with them to reduce costs. Now, of course, we need to work maybe even a bit harder, but it's nothing new. Clearly we need to have several suppliers usually to key components, and that's a normal thing, but I don't see a step change, because I would think that, and I would claim that our sourcing is quite well managed.
Okay, thank you.
Our next question is from Martin Flueckiger from Kepler Cheuvreux.
Good afternoon, gentlemen. Martin Flueckiger from Kepler Cheuvreux. Three questions, please. I'll take one at a time as well. Starting off with the capacity issue in new equipment in China, what's your current perception of the capacity situation in China for new equipment on the manufacturing side, and how does that compare with last year? If you could share your thoughts about what you think the trend or the development will be with respect to over or under capacities. I presume it's over capacities. I was wondering what kind of timeframe we're looking at. What kind of industry consolidation or degree of industry consolidation is required here to balance supply and demand back again? That would be my first question.
Okay. As we have discussed in the past, let's take a step back and think about the times when the Chinese market was growing over 20%, close to 30%. Capacity was never a bottleneck or an issue to growth. It was more installation resources and so forth. We have to remember, most of you have been to elevator factories, and you can see that they actually tie very limited capital, and they are very modular, the factories, how you set them up. While there probably is nominal capacity much more than is needed, this is clearly a factor, but I don't see that that's being the main factor for driving price competition. We have to remember that the amount of components and parts that each of the players in the industry make themselves in-house is quite limited.
Actually, you have to look at much broader than the elevator and escalator makers. You have to look at the supply chain and so forth. I think it's quite flexible and modular. In that sense, in my view, that is not the biggest reason. It's a reason, but not the biggest reason. That's not one of my key worries.
Okay, thanks. My second question would be on looking at your competitors' results over the last two, three days, and judging from your Q1 results, it looks like the majority of international players saw strong growth in new equipment in the U.S. I was just wondering why is KONE still guiding for only slight market growth in North America this year? Do you expect a significant slowdown for the remainder of the year, or what's the reason for your cautious view?
Well, when we guide the market, we guide it in number of units. If we look at the first quarter, I can't say for the competition, but my understanding is that, and what I've seen is that there's been quite a lot of larger projects that have been awarded now in the beginning of this year, and that probably has a positive impact on many of us. Not only we've had good growth in our volume and very strong growth then in our major projects business.
Okay, if I understand you correctly, that means that you don't expect a repetition of these larger projects as you've seen in Q1, and therefore, a slowdown going forward.
We have to put it in perspective that
Is that correct?
I would think that, yes, that's correct, because we have to put it in perspective. We're coming to the eighth year of growth in the North America, particularly U.S. market, which is clearly the largest market there. We are at a good and high level. Yes, we see solid development in all segments, I think what is actually restricting growth in the U.S. at the moment is availability of labor, not only in our industry, but the whole construction trade. There is clearly a limit of how much it can further grow. Therefore, I think Q1 was probably, from a market perspective, a very strong performance compared to probably what we see the rest of the year.
Okay, thanks. That's very helpful. My final question would be based on what I've heard from other companies, not necessarily in the elevator and escalator space, there's been a working days impact, and in some cases, rather significant. I was just wondering how do you see the impact or the effect of two to three more working days in Q1? If you could specify the number, that would be helpful. Given the fact that this will most likely be reversed in Q2, and the fact that Q2 has higher comp in terms of revenues, do you still expect to show positive sales growth for Q2?
We guide our full year sales and results. That is what's important. I actually haven't counted the days in Q1 and Q2. You always have various number of days, you have weather, you have various things that impact, we continue to have to run our business. We usually don't pay too much attention to those, just want to continue to stay focused on good execution. I would say about rest of the year, we have a clear guidance for the full year, as we always have. We don't specifically guide Q2, Q3, or Q4. What we can say is that we have a good order backlog, also what we have said is that when we look at the headwinds that we are facing, that they're probably stronger in the coming quarters than in the first quarter.
Even with that, we slightly improved our range. That's what we think about how we are executing at the moment.
Okay, very helpful. Thank you so much.
Thank you.
I think we have time for one more question, and then we need to close.
No problem, ma'am. Our next question comes from Glen Liddy from J.P. Morgan.
Hi. In light of the changes for IFRS 15, could you give us an indication of the duration of your order backlog for China and the whole business?
Yes. We haven't specified in detail the order backlog as such. There are differences market by market, also depending on the nature of the project. If you look at IFRS 15 perspective, so it really depends also on the size of the project, what the impact is. As of today, we complete the whole project, in most cases, and then at the handover then recognize the revenue. In that case, if you have multiple different equipment there, it could actually have a more considerable impact. All in all, from an order book point of view, it's more than one year to one year and a half, which is impacted here.
Perhaps to build on that.
Is China radically different to the rest of the world?
Perhaps before, what is clear is that when you recognize your revenue earlier, which we'll do in the future based on what Ilkka has explained, it's clear that the rotation gets faster.
Yeah.
Gets shorter.
Yeah.
The impact probably bigger in Europe and North America than in China.
Yeah.
Okay. On raw materials, you said that the lead time or the coverage you have is between three and nine months. Historically, in periods of rising input costs, how long have you been able to lock things in for historically?
Similar to what we do now. I think that one of the challenges, biggest raw material we have is steel. There are not that liquid markets. For example, copper, you have much more liquid market. You can lock the prices for longer. That's clearly the challenge, but there hasn't been a significant change to what's been in the past.
Okay. In Q3 and Q4 last year, you commented on the margin in the order backlog declining. Could you give us an update on whether it's getting a bigger decline this quarter to the previous quarters?
We're talking about pretty similar impacts.
Similar impact. Okay. Thank you very much.
Thank you.
I will now turn the call back for any closing comments from our speakers.
Thank you very much again for your questions. I would also like to remind you that we have now announced the date and location for our Capital Markets Day, which will be held in London on September 29th. We hope to see many of you there. With that, thank you very much, and have a nice rest of the week.
Thank you for participating.