Good morning, and welcome to Electrolux third quarter 2022 results presentation. My name is Jonas Samuelson. With me today, I have Therese Friberg, our CFO, and Sophie Arnius, our Head of Investor Relations. I'd like to mention that this session is recorded and will be available on our website as an on-demand version. Let's look at our performance in the third quarter of 2022. We have slight organic growth in the quarter and an operating income at break even, excluding the one-time cost to exit the Russian market. The reduced earnings was due to a combination of weaker market environment and supply chain imbalances resulting in operational inefficiencies. The decrease was mainly driven by business area in North America that reported a significant loss.
Volumes declined mainly as a result of the lower market demand, driven by high general inflation and low consumer sentiment, coupled with high retailer inventory levels. The supply chain constraints improved sequentially in the quarter, but still impacted operations, predominantly in terms of additional costs. We delivered mixed improvements in the quarter, also in this weak market environment through successful product launches. This was across our business areas, though primarily in Latin America and Asia-Pacific, Middle East, and Africa. Our strong price realization continued, and we offset the significant cost inflation, mainly in raw material and logistics. In general, promotions continued to normalize in the quarter, essentially getting back to pre-pandemic levels with seasonal promotions. In addition, the high inventory levels at retailers increased promotion in certain product categories, especially in North America and Latin America.
In light of the weakening market environment, as previously communicated, we have this quarter initiated a group-wide cost reduction and North America turnaround program. The group-wide cost reduction element of the program will primarily focus on three areas. One area is to eliminate cost inefficiencies in our supply chain and production by adapting sales and production plans to what can be supplied in a stable manner and to right-size the workforce in our factories. Another area is to leverage the organizational changes which took effect on July one this year. Through these changes, we have created stronger global organizations for operations, sales, administration, R&D, and IT, which is also enabling efficiency gains. Finally, we're optimizing in R&D and marketing investments. This includes leveraging recent global investment programs in R&D and prioritizing the highest ROI opportunities, as well as centralizing marketing and brand-building activities.
In addition to these three areas mentioned, the North America turnaround requires additional measures to return to stability and then profitability. This, as the production transformation with the two new facilities in Anderson and Springfield, includes several new product platforms in combination with the particularly challenging supply chain conditions, which have resulted in significantly elevated cost levels. Specific for North America, key activities will be to stabilize and improve operational planning and to significantly improve cost efficiency in Anderson and Springfield to ensure cost competitiveness in these new production facilities. We remain highly confident in the consumer appeal of the new product ranges, which also the sales execution in the quarter resulting in year-on-year market share gains proves. The turnaround will be conducted under the leadership of Ricardo Cons, who has been appointed new head of business area in North America.
Ricardo has led business area Latin America since 2017 and has a strong track record of navigating in a dynamic environment and improving margins. The initiated program is for the full year 2023 expected to result in a positive year-over-year earnings contribution of SEK 4-5 billion from a combination of cost efficiency and reduced investment in innovation and marketing. The activities implemented under the program will gradually contribute to earnings over the course of 2023 and into 2024. The full cost reduction from the program is estimated to be in excess of 7 billion. The majority of the targeted savings will be realized in business area in North America. For the sake of clarity, the cost reduction from the program includes and replaces the previously communicated benefits from the SEK 8 billion global re-engineering program.
The program is expected to lead to a restructuring charge in the fourth quarter of 2022 in the range of SEK 1.2 billion-SEK 1.5 billion, which will be reported as a non-recurring item. More or less the entire charge will have a cash impact throughout 2023, and 3,500-4,000 positions will be affected by the program. If we go back to the third quarter, Therese will now walk us through the main drivers behind the change in operating income.
We have strong organic contribution to earnings in the quarter. We continue to have very good price realization from our list price increases implemented during the year, while the promotional activity essentially normalized from a previously low level. Our attractive product and brand offering generated a positive mix despite some remaining supply constraints on specific premium products. Volume declined significantly, mainly as a result of the large market decline in our main markets in the quarter. Our investments in consumer experience, innovation, and marketing increased, mainly in product development and innovation that is harder to impact within a short time frame. Cost efficiency was very negative. The supply chain constraints resulted in considerably increased cost for logistics and components, as well as large inefficiencies in production.
The higher cost was both inflation-driven and due to use of express freight and spot buys of components. Price did offset the continued significant cost inflation, mainly in raw material that is included in external factors and in logistics that is part of cost efficiency. Worth mentioning is that we had a contribution from currency translation in the quarter, where our method for calculating the currency translation is based on earnings last year and not this year. Let's take a deeper look at our price and mix development. The EBIT margin accretion for the group from price and mix in the quarter was 14.3 percentage points. This was mainly from price as we continued to have a strong price execution across all regions, driven by the list price increases implemented both during this year and in 2021 to offset the significant cost inflation.
Promotional activities is now essentially normalized, which we mainly see in North America and Latin America. Mix also continued to improve in the quarter for the group. In Europe, mix was favorable, even though the lack of specific electronic components has still had a hampering factor. Our clear focus on our premium brands, Electrolux and AEG, as well as on our high mix products, showed a positive mix also this quarter. In North America, we continue to mix up based on the new product ranges. In Latin America, mix was positive, where the product launches enabled by our reengineering program are well received by our consumers, and significant growth in aftermarket sales also contributed to the mix improvement. In Asia Pacific, Middle East, and Africa, mix also increased, partly driven by successful product launches. An attractive product and brand offering is essential for our profitable growth.
Jonas will now give you some concrete examples of what we do.
Yes. At this year's IFA in Berlin in early September, several new product launches were announced. The most significant ones were our new 75-centimeter wide built-in fridge freezer and the new AEG laundry range. The new built-in refrigeration ranges are a result of our new product architecture investments in Susegana, Italy. The new products are extremely well received with a 4.8 out of 5 consumer star rating. Technology innovations enable reduced food waste and increased capacity while significantly reducing energy consumption and energy costs as well as the carbon footprint. With regard to the new laundry range, we know that washing clothes too often and at too high temperatures can affect the color and fabric and have a negative impact on the planet. Despite this, we've learned that nearly two-thirds of Europeans still wash at 40 degrees or higher.
This is why we in Europe now have launched a new range with a water saving steamer function and programs which automatically adjust time, water, and energy usage based on the load. The range has features such as a ProSteam technology, getting rid of odors in 25 minutes using 96% less water than a regular washing cycle, and a power clean program that cleans your clothes efficiently and removes stains at only 30 degrees. The new range of tumble dryers has been developed to minimize energy use and uses 3DSense technology to identify humidity levels inside the items, ensuring that even layered garments are evenly dried. I'd like to highlight an accessory, an add-on filter for washing machines that catches up to 90% of microplastic fibers released by synthetic clothing.
This new range provides us with a great platform to continue driving premiumness within laundry and to further strengthen the AEG brand position in Europe. These were some examples of how we drive profitable growth.
Operating cash flow for the third quarter amounted to SEK -1.5 billion. From a year-over-year perspective, the decline is mainly related to the lower EBIT, but also higher capital expenditure. We also paid the charge now in Q3 related to the tariff case in the beginning of the year, for which we received the settlement payment in the second quarter. Underlying, the working capital level stabilized during the quarter. Inventory remained at an elevated level, partly related to inflationary pressure, but in the quarter, primarily due to market demand deteriorating faster than anticipated, coupled with continued extended lead times and irregular supply that is generating a generally high component stock. Our main focus remains in optimizing the inventory level going forward.
To note here is that the exit from the Russian market in the quarter had a negative net cash impact of SEK 367 million that is reported separately in the cash flow statement below cash flow after investments.
Let's now go into our business areas performance in Q3, starting with Europe. The European market declined significantly in Q3, resulting in lower sales volumes. This was partially offset by strong price realization and continued mix focus. We continued to launch new premium products at a high pace as just described. The lower volumes was the main driver of the reduced EBIT, but strong price and cost management mitigated the effects of the market. We continued to experience high inflation and supply challenges in the quarter, even if the supply constraints sequentially improved. EBIT includes a non-recurring effect of -SEK 350 million from the exit from the Russian market. Let's look at European markets. In the third quarter, overall market demand in Europe declined by 15%, excluding Russia.
Since we have exited the Russian market, we will from now on present European market demand excluding Russia, and the graph is reflecting this as from Q1 2020. In the quarter, Western Europe declined by 15% and demand in Eastern Europe by 19%. Market demand is now also at a lower level than before the pandemic and declined by 8% compared to the third quarter of 2019. Consumer confidence levels were low, with consumer demand being negatively impacted by the higher general inflation, increased interest rates, and geopolitical tensions. This trend accelerated sequentially. In addition, high inventory levels at retailers amplified the decline in market demand. There are some signs of consumers mixing down, mostly in the lower price points, though, which increases the polarization in the market.
Let's continue with business area in North America, which reported a substantial EBIT loss with slight organic sales growth. The loss was the result of significantly elevated cost levels due to supply chain imbalances in combination with a weaker market environment. To be more specific, the challenges related to significant supply chain congestions and costs, high production inefficiencies, and planning and ramp-up instability altogether caused very high cost inefficiencies and unstable output. Despite this, market share increased in core appliances year-over-year, even though volumes declined due to the weaker market. The strategic decision to move away from certain sourced product categories with low profitability contributed to the lower sales volumes. Mix developed favorably, confirming the consumer appeal of our new product ranges. The price offset the significant cost inflation, mainly in material logistics.
As previously mentioned, turnaround measures aiming at taking North America back to stability and profitability were initiated in the quarter under the leadership of Ricardo Cons. Looking at the U.S. market, industry shipments of core appliances in the US decreased by 9%, but still increased slightly compared to the third quarter of 2019 by 1%. High general inflation and increased interest rates impacted consumer sentiment negatively. The drop in consumer demand was amplified by high inventory levels at retailers. Market demand for all major appliances, including microwave ovens and home comfort products, decreased by 13% year-over-year. We've not yet seen a clear shift in demand towards lower price points, but expect to see a shift towards mid or value price points based on the economic outlook. Let's move on to Latin America.
Consumer demand dropped substantially in Brazil and Chile, while increasing in Argentina. Electrolux continued the strong price execution, supported by a high number of successful launches in laundry and food preparation. Aftermarket sales continued to grow, partially compensating for lower market demand. EBIT increased despite the challenging market conditions, driven mainly by the strong price and effective cost controls. Finally, turning to Asia-Pacific, Middle East, and Africa, market demand remained solid in key markets, which in combination with improved product availability led to improved volumes. Mix continued to develop favorably, driven by product launches, also supporting solid price execution. The strong profitability was driven by solid top line in combination with efficient cost control. Price almost offset significant cost inflation, including currency headwinds, in the quarter. Further list price increases were implemented in the quarter. Let's turn to our market outlook.
The market environment has, since 2020, been highly volatile, and it continues to rapidly change. Inflation is soaring to historically high levels, increased interest rates, and supply constraints exacerbated by uncertainty regarding the coronavirus pandemic and the war in Ukraine result in limited visibility. We maintain our regional market demand outlook for the 2022 full year. In the first half of the year, global supply chain constraints impacted the industry's ability to fully meet underlying demand. In the third quarter, the slowdown in consumer demand was the main constraint for our industry shipments, while the global supply chain situation improved. This was in line with our expectations, and we anticipate this to also be the case in the fourth quarter. Let's look at our 2022 full year volume demand view year-over-year for the specific regions. In Europe, we expect market shipments to be negative.
High general inflation, rising interest rates, and Russia's invasion of Ukraine have resulted in a sharp drop in consumer confidence and hence also in consumer demand. Replacement is to some extent mitigating this demand decline. In North America, market shipments are estimated to be negative for the full year compared to 2021, but above pre-pandemic levels. The year-over-year decline is mainly driven by a slowdown in consumer demand as soaring general inflation and rising interest rates negatively impact consumer sentiment. Lately, we've seen a slowdown in new home starts and expect that to continue into 2023. However, on the positive side, we expect support from existing home remodeling as home owners are expected to remain in their homes and utilize equity to drive home improvement and kitchen remodeling. In Latin America, we expect consumer demand for 2022 to be negative, driven by Brazil and Chile.
In both Brazil and Chile, higher general inflation and increased nominal interest rates, combined with reduction of government aids and uncertainty on the political situation, contribute to the negative demand view. In Argentina, consumer demand growth is expected to continue in 2022, but we have to bear in mind that it is from a weak baseline from several years that is starting to catch up. Finally, we estimate market demand in the Asia-Pacific, Middle East, and Africa region to be positive for the full year 2022, mainly driven by our two largest markets, Southeast Asia and Australia. In general, underlying consumer demand has been solid across most markets in the region so far, even if we have seen some signs of slowing growth lately. The uncertainty going forward is mainly around potential pandemic restrictions and impact from higher general inflation on consumer demand.
Looking at the full year 2023, we estimate industry shipments of core appliance to be negative in Europe and in North America. This, as consumer sentiment also next year is assessed to be negatively impacted by inflation and higher interest rates. A complete market outlook for full year 2023 will be provided in the 2022 year-end report. Let's look at our business outlook. In 2021, the combined contribution from volume, price, and mix to operating income was nearly SEK 9 billion. We expect this organic year-over-year contribution to be even higher in 2022, mainly driven by price increases that already have been implemented. Through strong price execution, we have in the first 9 months of the year offset significant cost inflation, primarily in raw material and logistics.
We remain confident to do so also for the full year as we have done for the past four years. In an inflationary environment, price increases are more accepted in the market. This, combined with an attractive product range, makes us well-positioned to continue to be successful in raising prices if needed. If we shift focus from price to the other two levers within organic contribution, we expect the combined contribution from volume and mix to be negative for the full year. This is fully driven by volume, given the current demand situation, and also as a consequence of the supply chain constraints we experienced mainly in the first half of the year. We still expect a strong earnings contribution from mix for the full year, and 2022 is our most launch-intensive year ever, partly enabled by reengineering investments.
I'm very pleased with how well received the product launches have been so far, also in this more challenging environment that we've experienced lately. This gives us confidence that we have a great platform to drive mix improvement. In recent years, mix improvements have contributed an average of SEK 1 billion annually to operating income. Investments in innovation and marketing are for the full year expected to increase. In light of the weaker market environment, though, we're optimizing on our R&D and marketing activities and started in the third quarter to reduce discretionary spending, primarily within marketing. The constrained global supply environment has resulted in cost inflation, especially for logistics, in particular ocean freight, but also for electronic components.
Global supply chain constraints are expected to sequentially improve also in the fourth quarter, with continued risks of disruptions related to the resurgence of the coronavirus, as well as consequences of the war in Ukraine. The increased geopolitical tension has so far mainly impacted logistics through higher fuel prices, and lately the availability of and price for both gas and energy that have emerged as an area of that is high on our agenda.
Looking at the line cost efficiency, we expect this to be negative for the year. Main drivers are cost inflation on logistics, finished goods, and components, as well as operational inefficiencies related to constrained environment, especially in North America. As already mentioned, we in September initiated a group-wide cost reduction and North America turnaround program. We expect to see some traction of these activities already in the remaining part of 2022 in areas such as air freight and spot buys. As we continue to start up additional production lines and new product platforms in our factories that are part of our SEK 8 billion global reengineering investments, we will also see an increase in depreciation.
With one quarter left of 2022, the estimated negative full year headwind for external factors is narrowed to be in the range of SEK 8- SEK 9 billion from previous estimate of SEK 8-10 billion. The year-over-year increase is mainly driven by raw material, especially steel prices. Investments to strengthen our competitiveness through innovation, automation, and modularization continue in 2022, and total capital expenditures are expected to be in the range of SEK 7- SEK 8 billion. The increase compared to 2021 relates mainly to some timing of investments from 2021 and raw material inflation on equipment.
To sum up the quarter and the strategic drivers we've delivered on, needless to say, this has been another very tough quarter with a further weakening market environment and cost challenges. There are also highlights. I'm very pleased with the way we continue to drive mix through successful product launches, also in this environment with lower consumer purchasing power and confidence levels. It shows how well our new innovative products are being received by consumers, which is a key driver for us to deliver profitable growth. Our strong price realization continues in all regions, making me confident the price will fully offset the significant cost inflation for the full year. I'm also particularly happy with the robust performance in our business areas Latin America and Asia Pacific, Middle East, and Africa, delivering solid results with increased earnings through successful product launch execution and efficient cost management.
We have now initiated group-wide cost reductions and North America turnaround program, instrumental to reestablish stability and profitability while simultaneously progressing on our long-term strategy. On the next Capital Markets Update, we will share more of the progress on the program, especially in North America, which we will have a deep dive on. The other focus area for the Capital Markets Update will be on how we're strengthening the relations with consumers and of course the benefit, including aftermarket sales. You're very welcome to join on March 20, either in Stockholm or digitally. More information will follow. With that, I'll leave the word to Sophie.
Thank you, Jonas. We will now open up for questions. Usually there are a lot of questions, so let's continue with just asking one question at a time per person. Then if there are time, please enter the queue again and for more questions. With that, I leave the word to our operator.
Thank you. If you wish to ask a question, please dial zero one on your telephone keypads now to enter the queue. Once your name has been announced, you can ask your question. If you find your question is answered before it's your turn to speak, you can dial zero two to cancel. Once again, that's zero one to ask a question, zero two if you need to cancel. Our first question comes from the line of Johan Eliason of Kepler Cheuvreux. Please go ahead. Your line is open.
Yeah. Good morning, Jonas, Therese, Sophie.
Good morning.
Tough days, obviously for you right now. I was wondering about your net debt, obviously coming up now in the quarter. I think it was SEK 2.6 or something like that.
Mm-hmm.
You have a new dividend policy. Previously, you said dividend at least 30%. Now you say around 50%. How should we think about dividends going into next year? I mean, the share buybacks you've already put on hold. Is there a risk?
Mm.
On dividend falling or is it still the ambitions that dividends should be stable and one hopefully growing? Thank you.
Yeah, no. So clearly the debt level has increased to a higher level than what we'd like it to be over time. This is a temporary effect of the high inventory levels that we've been running, you know, with the supply chain inefficiencies and then following that, the rapid decline in consumer demand. But these are, you know, very current in inventory. So we will sell through in the fourth quarter and beyond and realize that sort of trapped cash in working capital over time. So the debt levels are very manageable, and we'll get through that hump that we have here.
When it comes to the dividend, I unfortunately can't give you any type of update on that right now because that's a, as you know, a board decision, and we haven't had that discussion with the board yet. I can only refer to our dividend policy at this point.
Okay. Thank you very much.
You're welcome. Thanks.
Thank you. Our next question comes from the line of Andrej Kukhnin of Credit Suisse. Please go ahead. Your line is open.
Good morning. Thank you very much for taking my question. I'd like to talk about North America and try to segregate the kind of internal issues impact versus the external factors. Could you help us with maybe what kind of the impact was from the ramp-up issues in the quarter within that SEK 1.2 billion loss? When we think forward about the cost saving program that
Mm.
You've now quantified that SEK 4 billion-SEK 5 billion contribution. Does that include dealing with the ramp-up issues? Or is it purely kind of a cost saving from reduction of employees, and we should think about kind of ramp-up issues disappearing and savings coming through? I just want to make sure we don't double up-
Mm.
double count.
Yeah. Right. Thank you. I think good questions. First of all, in the quarter here for North America, we had very good price realization, which did offset the, let's call it, the ordinary inflationary pressure that we had in raw materials and logistics and so on. On top of that, we had massive inefficiencies in our supply chain as well as in our production during the quarter and as we've had now for the last few quarters. This is driven by the fact that we still, even though it's, you know, now improving, still have very irregular supply in North America, which.
That in combination with the fact that we are ramping up these new product platforms, and we're very keen on increasing the production rate of those, that has resulted in really tremendous inefficiencies in the quarter with overstaffing with high cost of logistics and so on. You know, part of what we're doing is, of course, reversing that and stabilizing our operations in North America. If we go then to the impact of the cost reduction and turnaround program.
First of all, the SEK 4 billion-SEK 5 billion, just exactly because there are so many ins and outs of that, for example, you know, the timing of when logistics cost increases hit this year versus the timing of when we expect to negotiate them down next year, the impact of, you know, coming into last year with lower valued inventories versus coming into next year with higher valued inventories and so on. Rather than trying to piece all of those pieces apart, we've chosen to communicate what we see as the net benefit next year in the two areas that we report, which is investments in innovation and marketing and in net cost, right? Those are the two buckets that we report externally.
The combined net year-over-year, full year impact of that should be SEK 4 billion-SEK 5 billion. I realize this is complex, and it's frankly somewhat complex for us because there are so many moving parts. Just to provide that sort of clarity to you, we decided to say, you know, this is the overall net year-over-year effect. Coming to the final part of your question, and I choose to recognize it as one question by the way, but is that.
Thank you.
is that the ramp-up issues that we've faced this year really has two consequences. One is significant cost inefficiencies. The reversal of that is part of the 4 billion-5 billion. Then, of course, our ability to drive mix and revenue through our new products have also been hampered. We continue to ramp up these fantastic new products that are very well received. As that gets more free flow with less disruptions, uncertainty, and which, you know, has resulted in difficulty to place these new products in an effective way in retail. As that starts to roll through, we have fantastic new products that will generate higher margins. That's outside of the SEK 4 billion-SEK 5 billion.
Great. Thank you, Jonas. I have a follow-up, but I'll go back in the queue.
Thank you.
Thank you. Our next question comes from the line of Akash Gupta at J.P. Morgan. Please go ahead, your line is open.
Yes. Hi, good morning, Jonas and team.
Morning.
Thanks for your time. My question is also on the SEK 7 billion or more than SEK 7 billion cost-saving program.
Right.
Because when I look at your restructuring cost of that you guided for Q4 and the savings, it looks quite high number. Maybe if you can break down into how much of the savings do you expect to come from this 1.2 billion- 1.5 billion charge, which could be more structural than some of the other savings, where some of that could be discretionary and some of that could be. Maybe if you can help us.
Yeah
Understand the various state of this 7 billion. Thank you.
No. I mean, obviously it's your point is accurate that, you know, the headcount reductions of 3,500- 4,000 people, that is specifically what drives the charge of 1.2 billion- 1.5 billion. That of course is a very significant cost reduction element. Then on top of that, we are working very hard to eliminate areas such as express freight, freight and logistics, air freight, spot buys, and other significant inefficiencies that we have had in our supply chain that are not sort of inflation-related, but that are real inefficiencies that we've had. That's another, you know, significant part of the benefit.
Of course, we're expecting to negotiate better freight rates and so on next year. That's not the largest part of this saving because we've you know, the way our freight contracts work is that they run over several years. You know, the impact is staggered over time. Again, there are so many different factors, as I mentioned in the prior question, that we've chosen not to break out the different elements here, rather than just describing them the way I've just done, because otherwise everybody would be completely confused about what goes up and what goes down.
That's also why we have indicated that the full implementation run rate of this, all of those ins and outs are washed out, is then 7 billion. And that in turn includes that we are, you know, just as we've said before, ramping up our new factories in North America to full productivity, you know, as we were targeting in our re-engineering programs, and that we get full, sort of run rate impact of all these benefits in supply chain logistics and so on. I think we'll have to leave it at that level of breakdown because otherwise, we'll have a very confused discussion unfortunately.
Thank you.
Thanks.
Thank you. Our next question comes from the line of Olof Cederholm of ABG Sundal Collier. Please go ahead, your line is open.
Good morning, everyone. If I may follow up on the program again.
Yes
Maybe a bit on the timing of things. How much is reasonable to expect to come through already in Q4? If you could also maybe, I know it's difficult, but shed some light on the phasing of savings throughout
Mm-hmm
2023.
Sure. Some of the activities that we're taking here will have impact already in the fourth quarter, particularly the ones that relate to eliminating excess freight costs and logistics and so on, and really trying to stabilize what has been a very, very unstable manufacturing and logistics situation. That, you know, we expect to be favorable sequentially Q3 to Q4. The benefit of that is not part of the four-five. That's still full year-over-year benefit. We expect to improve sequentially just by stabilizing, and then the headcount reductions and so on then happen, of course, gradually.
You know, starting union negotiations and the like here in the quarter, and then as we go through next year, first half of next year, we start to see more and more of those benefits. You know, to the point of some of the earlier questions, specifically for Q1, we had last year a situation where we were still operating off of fairly attractive cost levels in our inventories, whereas this year, as we roll into Q1, we will still have high, fairly high cost levels in our inventory. That means that Q1 is a bit more challenging to really realize significant net gains. As we go into Q2, there's significantly more opportunities, and then we really get the traction in the second half of the year. That's kind of how to look at it.
Thank you.
Sure.
Thank you. Our next question comes from the line of Gustav Hageus of SEB. Please go ahead, your line is open.
Thank you, operator. Good morning, guys. Thanks for taking my question.
Morning.
Back to North America then, you referenced that some improvement to be made already sequentially into Q4. Obviously we're approaching discount season with Black Friday and whatnot, and a lot of players holding inventory, as I understand, in several layers. Could you shed some light a little bit on where you think net pricing and competition and so forth, how that will develop into Q4, and if you're already seeing now sort of price slippage in the market?
Yeah. I think to your point, we do expect the sort of Black November to be quite promotional, I would say back to pre-pandemic levels. We're ready for that. The benefit though of the significant price increase, list price increases that we've already made, means that we will have continued good net price traction also in the fourth quarter. That's not something that is of concern to us.
In fact, I think the flip side to that is that, you know, volumes are holding up, relatively speaking, better in North America than in, for example, Europe, because households still have money to spend, and a more promotional environment also is pulling more consumers into the market. It's a bit of a mixed bag. You know, net-net, we will continue to have strong net price realization in the fourth quarter as well in North America.
Just a short add-on, if I may. We see destocking now in several layers.
Mm-hmm
Throughout different industries. How do you feel about sort of channel inventories for your business into Q4? Do you expect sell out to be similar to sell-in in Q4 in retail?
I do expect retail inventories to come down in the fourth quarter, as well as our own inventories, you know, as we pull back quite significantly on production plans, both in the sort of latter part of Q3 and then into Q4. I think the quarter will be a kind of destocking type quarter, which also makes sense because it's also typically the highest consumer demand quarter. It's the right quarter to do the destocking, let's say, from a total value chain perspective, supply chain perspective.
All right. Thank you. That's helpful.
Sure. You're welcome.
Thank you. Our next question comes from the line of James Moore at Redburn. Please go ahead, your line is open.
Yes. Good morning, everyone, and thanks for taking my que-
Morning.
I wondered if I could just ask a little bit more about raw materials within the external factors. Obviously, the majority of external factors is raw material. I thought it might have been a bit less this year with the metal prices coming down, and I understand that you're hedged, and I understand that you have contracts, but the nature of that hedging and contract structure can vary from year to year.
Mm-hmm.
I wondered if you can in any way help us think about what the carryover might look like into next year at current spot rates for both raw materials and energy, which I believe you're moving into across the bucket.
Yeah.
Anyway flavor, 'cause it's quite difficult from the outside.
Mm-hmm
to understand what your structures look like at the moment.
Yeah. No, I think that's fair. It's difficult and it's frankly quite challenging from the inside as well to have clarity on raw material costs going forward. The dynamic, I would say, both on steel and on plastics has been that we had a very significant pricing bump in the spring of 2022. We saw a run up, let's say, from over the course of 2021, from 2020 through to end of 2021, and then from that level, we saw a big spike in the spring. That has now leveled back down, and in many cases, specifically in steel, we're now kind of below the spot levels that we had a year ago, right?
We've cycled through that bump. If you then look at our cost impact this year, you know, compare them to 2021, that was mainly driven by that cost run-up in 2021, which we then contracted for 2022. On top of that, there are certain, you know, portions of the cost that are unhedged always, and there we took some additional cost in the middle of the year. Now, as Therese indicated, we're seeing some of the benefits, so we reduced the range a bit for raw material cost headwinds as a consequence of that, of those prices coming down on the unhedged part of our exposure.
Now, looking into next year, to your point, both prices for many raw materials are currently at or below 2021 levels. Hopefully that will give us an opportunity to negotiate good contracts. Of course, we don't buy at spot, but it's a bilateral agreement, and we'll see how that plays out. The extent we do fixed versus variable price contracts for 2023, that's yet to be finalized. Then finally, your point about energy, and it's correct that, you know, historically we've reported energy costs as part of our, let's say, net cost efficiency.
Since it is such a big and volatile element right now, especially in Europe, we've said it's better to move that to external factors because it is truly a commodity price impact that we have there. Again, the volatility of it, plus the fact that we have to price for it, you know. Because this is something that every actor in the industry will be exposed to and that is producing in Europe and we have to price for it. That will be, you know, the way it looks right now or even though that's very volatile, that will be headwind for next year.
On top of that, we also have this excess inflation on labor cost, which we have historically not had that much of outside of, let's say, Latin America, which is now becoming a real factor in Eastern Europe, for example, in North America and in other places. That we also have to price for. When you look at it, I think there's a good chance that we'll see tailwinds benefits from steel and plastics, and it's also likely that we'll see headwinds from excess labor salary inflation and energy. How that's going to play out, we'll have to come back on.
Thank you very much. If you could scale the EBIT for the current year, just so we know the size of the EBIT that's moving would be helpful. Thank you.
Yeah. The reduction you mean right now, or?
Just the absolute annual cost of energy for the group.
Oh, for cost of energy. Yeah. No, we haven't called that out exactly, but it's historically a relatively minor cost. With you know, if we talk about you know, tripling or quadrupling, then suddenly it becomes a meaningful number. We'll see how that plays out now throughout the winter.
Thank you very much.
Mm-hmm.
Thanks.
Thank you.
Oh, by the way, sorry, operator. I needed to fill out one thing, and that is that energy cost is, you know, really two elements of it. One is that it's our own manufacturing resources requiring obviously energy consumption. But also, and this is potentially actually quite significantly more important for us, is that some commodities have a very, very high energy content in the production. Here we are potentially looking at additional cost and surcharges, which then we would reflect in the external factors. Also, here, very significant uncertainty, but for things like glass shelves manufacturing and so on, obviously that requires a lot of energy and we have to kind of take heed of the likelihood that that's going to be challenging for our suppliers going forward.
Sorry about that. Back to the operator.
Thank you. Our next question comes from the line of Uma Sandelin at Bank of America. Please go ahead. Your line is open.
Hi. Good morning, Jonas. Yes, Sophie. Thank you for taking my question. My question is on your inventory levels. I mean, as it's at a current historical high,
Mm-hmm.
You had mentioned a few times during the call that the pricing of those inventories are high into next year versus the year before. How should we think about the impact, you know, when you start to do some destocking on your inventories, and I mean, what impact do you have on your profitability into the next few quarters? And how do you plan the destocking in relation to your production level in North America just when you're ramping up the, you know, in the new factories?
Can I pass it on to Therese to speak into that?
Yes. As Jonas indicated, we are planning to reduce inventory already here going into the fourth quarter. Already, I would say, in the third quarter we have had quite large production cuts compared to what we planned going into the quarter. Unfortunately, they're not enough, let's say, to compensate in terms of inventory levels during the quarter due to an even more rapid market decline than we anticipated. Let's say we have already taken action during the quarter and of course, I mean, also with the weaker market outlook, we've already also taken action in reducing our purchases and so forth of incoming goods. Of course, also for the fourth quarter, we have already planned for a lower production than previously.
I would say it's not about doing destocking through kind of heavy promotions to come through in that way, but we have been anticipating that we need to reduce inventory since some time, and this has been an active plan on our side. Of course, as Jonas indicated, we are going into a promotional season now, so we will take advantage of that in certain categories where we think we would be too high to, of course, be more aggressive in those types of categories where we see it's needed. We should remember still in terms of the size of inventory, we also have an effect of the inflationary pressure that we have seen.
Hence, also that will take some time going into next year of getting benefits from the cost reduction, since we have also from a high value base in inventory. It's several different components. I think we have an active plan to bring them down, not through crazy promotions, but through yeah, active replanning that we have done since some time.
Thank you very much.
Exactly.
Yes, that's very helpful. Would you be able to quantify the production cut you just mentioned?
No. We typically don't do that, because again, it's always related to a plan, and we don't have a published plan, so it becomes a meaningless number. It's a significant cut compared to what we were originally planning. Yeah.
Thank you.
Sure.
Thank you. Our final question comes from the line of Andrej Kukhnin at Credit Suisse. Please go ahead. Your line is open.
Oh, thank you very much for taking the follow-up.
Sure.
Can I ask please two quick ones? One is, back on North America, what I was asking, and what you started saying about Q4. Could we see a meaningful improvement in that loss kind of run rate that you saw in Q3, or is it kind of more around the edges at this stage, and as you said, primarily really Q2 next year onwards?
I mean, we're pushing very hard, but of course, the challenge is that what we already, you know, have in inventory at high cost and so on means that it takes time for that roll to roll through. The activities are at full speed, and we do expect substantial, significant benefits also sequentially from reduced spot buys and express freight and things like that. A reasonable amount of that will come through in the quarter. Of course, still a volatile environment, so challenging. You know, the benefit of North America is that we can take quicker actions than in Europe when it comes to-
Mm.
Employment levels and things like that. We will get quick impact, but it still takes time to roll through fully in the P&L.
Great. Thank you. If I may, just on demand environment in-
Mm.
Middle of September or early September when you pre-announced, you clearly indicated, look, this is accelerating downwards.
Mm.
Two times the speed of the prior quarter. Now that we're six weeks forward, are you seeing any signs of that demand drop starting to level out given that it's sort of fifth quarter in a row? Or are we still in a more kind of freefall environment?
Yeah. No, I would not call it a freefall environment. I would say the run rates that were established in Q3 are, I would say, kind of the run rates that we're seeing also going forward. But of course, the year-over-year impact of that is still.
Mm.
Is still quite negative. The question mark is then, you know, what will happen this winter in Europe in particular, given the high energy prices and so on. I think that's the high uncertainty level that we're seeing.
Very helpful. Thank you very much.
Sure. Thanks very much.
Thank you. With that, I'll hand the floor back to our speakers for the closing comments.
Thank you, operator, and thanks, everybody, for very good questions. Yeah, we recognize that this is a very tough quarter, but nevertheless, I'm very pleased with our continued strong price and mix execution. Going forward, we will most likely continue to experience a challenging market, with high levels of volatility and uncertainty. However, with the program that we're now initiating and with strong agility short-term, combined with a solid long-term strategy for profitable growth, I'm confident that we remain very well positioned to create value over time. Thank you very much, and look forward to talking to you soon again. Don't miss out on our capital markets update next spring. Thank you.