Welcome everyone to the presentation and discussion of the third quarter of 2016. With me here today, I have our CFO, Anna Ohlsson-Leijon, and our Head of IR, Catarina Ihre. Let's begin and turn to our presentation. Performance continued to improve across our business during the third quarter, supported by continued focus on active portfolio management, launches of innovative, higher margin products, and cost efficiency gains. Volume development across all major business areas were positive or stable, except for Latin America, where demand remained weak in the quarter. Our group operating income increased 20% to SEK 1.8 billion , and four of our six business areas achieved an operating margin above 7% in the quarter. For the group, the operating margin was 5.9%. On a rolling twelve-month basis, the margin is at 5%.
In Europe, we continued to show positive organic growth and gained market share. The overall market environment in Europe was stable, despite negative impacts from the Brexit votes. In North America, product costs and operational efficiency gains, combined with positive contribution from raw materials, were the most important factors for the improvement, more than offsetting price pressure and private label volume declines. Our operations in Asia Pacific posted a strong organic growth in the quarter, with a significant improvement in operating income. In Latin America, the Brazilian and Argentinian markets continued to decline and affected our top line and earnings negatively. Let's go through Electrolux market activities during the third quarter. I'd like to mention two important launches that occurred during the quarter. Our real brand has been revamped with premium products and a new visual identity that was launched at IFA 2016.
The products comprise new kitchen and new laundry ranges with world-first innovations. Our new kitchen appliances offer the most responsive cooking experience ever. For example, with an oven that allows you to easily set the expected results, just like you would order in a restaurant, rare, medium, or well done. Our new laundry ranges offer unprecedented care for all your garments at class-leading energy efficiency. The Frigidaire brand has updated two of its best-selling dish products with stylish new designs. Electrolux has taken market share in a market for dishwashers that is up nearly 25% since 2011, and we're eager to capture even more market share. The new products support the business areas focused on putting Frigidaire first, and research showed that 76% of consumers prefer this product over competitor offers. Let's look at our sales development in local currencies.
In the third quarter, we had a slight organic decline of minus 1.6%. The volume decline is mainly related to weak market environment in Latin America, in combination with the weak private label sales in North America. We've also taken proactive actions to exit from unprofitable segments and categories in small appliances. This was, to a large extent, offset by growth and share gains in branded sales in EMEA, North America, Asia Pacific, and professional. Let us now go through the business areas and start with looking at the development in EMEA. Major appliances, EMEA showed positive sales growth in the third quarter, achieving an organic growth of 2.1%. This was driven by positive volumes and improved mix. Demand for appliances was stable in Western European countries in total, while demand in Eastern Europe continued to grow in the quarter.
Electrolux sales volumes grew in most European markets, but slowed down compared to the previous quarter, primarily due to the volume decline in the U.K. and Spain and Italy. Product mix improved due to our focus on premium products in the built-in kitchen and laundry. Prices continued to be under pressure in Europe, but to a lesser extent than previously, due mainly to our price actions in the U.K.. All in all, we more than offset the price erosion through better mix and volumes. Operating income increased versus the previous year, and our EBIT margin reached 7.1%, surpassing 6.7% in the past rolling 12-month period. Higher volumes, improved mix, and benefits on cost efficiency contributed to earnings. Let's turn page and talk about the market development in Europe. The European market continued to be positive in the third quarter.
Total unit shipment increased by 1%. Demand in Western Europe was flat, with growth being impacted by lower volumes in the U.K. and in the south of Europe. However, growth was strong in the Nordics, Germany, and the Benelux. Following Brexit vote, the outlook for demand in the U.K. still remains uncertain. Demand in Eastern Europe was up by 2.4%, and most markets in the region showed positive growth. We expect the European market to continue to grow in 2016, and therefore hold to our outlook of 2%-4% growth for the full year. Likely, however, in the lower end of that range, reflecting the stable demand trend, but also the weakness in the U.K. In Q3, our operations in North America continued to focus on profitability and showed earnings improvements.
The North American market was stable in Q3 as growth picked up in the last month of the quarter after a weak summer period. Our branded business performed well with market share gains in core appliances and also of home comfort, including air conditioners, continuing to grow in the quarter. Our organic top-line declined, mainly related to the declining sales under private labels. That was to a large extent driven by a reduction in channel inventory, but also due to continued promotional price pressure. Earnings in North America were strong versus last year and also sequentially, achieving an operating margin of 7.4%. The higher profitability was a result of our focus on product cost and efficiency gains. Raw material savings also contributed positively. Let's turn to next slide and talk about the market development in North America.
Market demand for core appliances in North America was volatile during the summer period overall stayed flat in the third quarter. With three consecutive years of strong growth, we believe the market for appliances in North America still remains stable. We continue to see the consumer and macro environment to be supportive for the appliance industry. For the full year, we now expect the North American market to grow by 3%-4%. Let's move to Latin America. Demand for appliances in the region continued to deteriorate in the quarter. The macroeconomic situation remained weak. The challenging market conditions affected our sales negatively in the quarter. Volumes in Brazil and Argentina declined double digits, while demand in Chile improved slightly. In the quarter, a stronger Brazilian real started to contribute positively. This was offset by a more competitive pricing environment.
However, in market outside of Brazil, we increased prices. To compensate for the weak markets, our team is planning additional structural cost measures. This is to adapt our operations to expected continued low market volumes to mitigate the under absorption of fixed costs in production and overhead. Let's turn aside and talk about our operations in Asia Pacific. Market demand in all three sub-regions in Asia Pacific is estimated to have been positive in the third quarter. In Australia, market demand increased somewhat, while in Southeast Asia and China, the markets continued to grow. Our organic sales growth was boosted by increased volumes in Southeast Asia and China. New product launches and better product mix contributed positively. Higher sales of air conditioners in China due to exceptionally warm weather also contributed. Sales in Australia were stable in the quarter.
Earnings in Asia Pacific increased significantly, and margins reached 8.3% in the quarter and above 6% for the last rolling 12 months. Both Australia and Southeast Asia performed well, and China is developing positively. Going forward, we will continue to launch new products and roll out premium brands such as AEG to drive profitable growth in the Chinese market. Let's continue with small appliances. During the quarter, the small appliances business continued to execute aggressive portfolio management activities, primarily focused on North and Latin America and China. Our volumes in Europe continued to grow profitably. Premium products within floor care improved the mix, while sales volumes for small appliances in mass segments in North America and Latin America continued to decline in Q3. The business continued to be exposed to currency headwinds in the quarter, which impacted the EBIT negatively.
We have taken price actions to offset the negative impact. All in all, operating income was in line with the previous year, including additional costs related to the continued refocusing of the business on profitable categories. The cost reduction program is in progress, and the underlying earnings are improving. Let's turn to our professional business. Professional products continued to show solid performance in Q3 and posted an organic growth of 4%. Sales growth was positive in Western Europe, North America, and Japan, while the sales trend in emerging markets was weak. As mentioned previously, we have increased investments to support profitable growth in new segments and markets. Our professional business achieved an EBIT margin of 14.3% in the quarter, mainly driven by higher sales volumes and cost efficiency.
Now, I'd like Anna to go through our numbers and go through our financial and cash flow in the third quarter. Please, Anna.
Thank you, Jonas. Okay, let's start with the financial overview. Organic sales was down 1.6% in the quarter, mainly due to market-driven decline of volumes in Latin America and the active program of exiting some product categories in small appliances. In addition, volume in North America was impacted by lower private label sales. The currency translation impact was + 0.2%. This resulted in reported sales of 1.4%-. Total gross operating income, which is defined as net sales minus cost of goods sold, was up 7% versus Q3 last year, which translated into an improved gross margin by almost two percentage points, up from 19.6% last year to 21.4% this year. Earnings were significantly up compared to last year, driven by continued good underlying performance across most of our business areas.
In addition, the group benefited from continued cost improvements. Our EBIT margin increased to 5.9%, more than one percentage point up versus the third quarter of last year. Cash flow was strong in the quarter and on par with last year. Reported earnings per share were SEK 4.41, an increase of 25% versus the same quarter last year. Let's move to the sales and earnings bridge on the next slide. Let's start with organic growth, which comprises of price, mix, and volume. Volume price mix resulted in a negative impact of SEK 211 million on operating income in the third quarter. Price was negative due to price pressure in Europe and North America, partly offset by Latin America. Volumes were negatively impacted by the decline in Latin America and the portfolio management activities in small appliances.
Moving to the net cost efficiency, this shows the net impact from product cost improvements in a total of SEK 439 million. These include the cost savings from raw materials, which was about SEK 250 million in the quarter, and the impact of other productivity work and efficiencies throughout the group. In total, we had a margin dilution of 0.6 percentage points from organic parts and 1.4 percentage points in positive contribution from cost efficiencies. This means that the underlying leverage in the business continued to be good. The SEK 213 in the other column reflects the positive delta from GE costs and an inventory write-down in China of SEK 70 million, taken in the EBIT last year. Let's go to the cash flow and move slide.
The cash flow in the third quarter was similar to the same quarter last year and amounted to SEK 3 billion. Our EBIT number is up year-over-year, which generated a positive contribution from operations of about SEK 1.8 billion, which is approximately SEK 300 million higher than Q3 2015. Our net operating working capital, measured as inventories, trade receivables, and accounts payable on a 12-month rolling basis, continue to be below 6% of sales. The CapEx level was lower, but the full year expected run rate is not decreasing. Finally, let's take a longer perspective on the cash flow. Here you can see that the Q3 is generally a good quarter in the year, and it follows the even stronger second quarter. For the reasons explained before, the current quarter has been strong in terms of cash flow.
The strong cash conversion rate we've seen in the recent years leaves us with a strong balance sheet. With this, I would like to hand back to you, Jonas, for summary and conclusions.
Let's move on and summarize this presentation with the outlook for Q4 and full year 2016. Looking ahead into the fourth quarter and the full year, we believe a stable consumer demand will continue to drive growth in the appliance industry. We expect the stable growth trend in Western Europe to continue in most markets, but with the Brexit vote, uncertainty impacting. In Eastern Europe, Russia has been stabilizing, and we expect the region as a whole to show growth. We anticipate demand in North America to remain positive for 2016, supported by a favorable macro environment and stable consumer confidence. Of course, there is uncertainty related to the outcome of the upcoming presidential election. Latin America continues to be weak with low visibility, and we do not expect any short-term turnaround. We expect demand in Brazil and Argentina to deteriorate further before it stabilizes.
Demand in East Asia shows a mixed pattern with an overall positive outlook. Australia has shown positive growth for several quarters now, and we estimate the market to remain flat to slightly negative. To our business outlook. In terms of the organic part, which is volume, price, and mix, we expect a slightly positive net impact in EMEA, in Asia Pacific, and professional in the next quarter. In North America, we are likely to see continued sales holiday-related price pressures, but we also expect to see higher demand, market demand in the fourth quarter than in the third. In Latin America, we expect to see continued year-over-year volume declines and competitive price pressures in Brazil. We expect to continue our focus to increase net cost efficiency, including the impact from raw materials. This will strengthen and benefit our operations going forward.
We expect raw material costs to continue to have a positive net impact in the last quarter and about SEK 900 million for full year 2016. Spot prices on commodities have risen during the year, and if current price levels remain, this positive impact is expected to be a headwind into next year. With continued fluctuations in the currency markets and with the strengthening of the Brazilian real, we start to see less impact from currencies in the last quarter of 2016. The depreciation of the British pound has to have a negative impact, although the intention is to mitigate that through price increases. At current rates, we expect a positive transactional effect of SEK 120 million for the fourth quarter and a negative of SEK 1.1 billion for the full year. Our CapEx outlook remains stable in the range of SEK 4 billion.
With that, I'd like to pass it to Catarina to open up for Q&A.
All right, good morning, everyone. It's time to take some questions now from the audience. Please, operator, go ahead. Could we have the first question?
Certainly. The first question comes from the line of Matt Hedberg from RBC. Please go ahead. Your line is now open.
Hi there. Morning, everyone. Just have a question on the, on the U.S. outlooks, actually. How do you view that promotional environment in the fourth quarter, compared to the last year?
Yeah, it's more promotional price pressure compared to last year, but it's comparable to what it's been in Q2 and Q3.
Okay. Then I had one on Europe as well. You brought your outlook down to the bottom of the range, which sort of flagged mainly about the U.K.. I mean, looking at sort of U.K. stats and reading the news, I thought consumer spending in the U.K. held up reasonably well. I think it was up year-on-year.
Yeah.
What is it that's sort of specific to appliances? Is it just because it's a more of a capital item and therefore, likely to see that sentiment hit earlier? Then on your strategy in the U.K., I think U.K. is about 10% of EMEA, if I sort of calculate correctly.
Right.
What's your strategy there in terms of price increase? I think one of your competitors said that they put through price increases earlier, they saw a weakening demand. I'm wondering if you've seen that as well.
We have pushed through price increases, across the board, and those have been successful, are being, and they're being impacting the market as we speak. In terms of the market decline, the market was down a little over 4% in the third quarter, so it's not material weakness. I think the, it's less about the sellout, let's say, to retail consumers and more about the sell-in to retailers.
What we've seen retailers as well as the construction industry react quite cautiously to the Brexit vote, and it seems like, to your point, the consumers are less negative, and hopefully, that will balance out and we hope to see a less negative impact going forward in the U.K. I think the fourth quarter will still be impacted.
Okay, thanks very much.
Sure. You're welcome.
Thank you, Matt. Could we have our next question, please?
The next question comes from Kristian Koksbang from DNB. Please go ahead, your line is now open.
Good morning. I had a question on the price dynamics in Brazil. Earlier, when you had a headwind from currencies, it normally took one quarter before you start to see price increases and then offsetting that headwind. Now, when we are turning it to a tail, sorry, tailwind on currencies, it seems like the pricing environment is getting tougher immediately.
Yeah.
Can you explain, talk about the dynamics here and what the net effect of pricing versus FX actually will be here in Q4 going forward?
It's true that the price competitiveness in the market intensified quite significantly in the third quarter. It seems like the market is really trying to capitalize on the stronger AEG. There's also tremendous pressure from retail on price, of course, driven by the sharp reductions in sales volume that are continuing. In combination of a little bit more room to maneuver and very high pressure from our main retailers, I think has contributed to that quick, let's say, turnaround in terms of the price pressure. We do expect that to continue into the fourth quarter.
Okay. The second question is on, you mentioned air cons in China, that you had a very strong growth there. Can you maybe give some more flavor on that? How strong was the growth, and how much did it contribute with on EBIT or sales in Q3?
It was actually not a very substantial EBIT contributor, but it was very significant growth in the air care categories. I mean, it was close to doubling our sales in air conditioners in China in the quarter, that we don't expect to continue. Our other categories grew as well, more in, let's say, mid-single digits type range. Obviously, our overall, let's say, sales footprint in China is not big enough to have a significant impact on neither the sector nor the Group as of right now.
Okay. Just the final question on the U.S. Given what you did in Europe with the brand portfolio, and given that the Electrolux brand is underperforming in the U.S., can you talk about the future of the Electrolux brand in the U.S. going forward, and compare that with how you position Frigidaire, Gallery, and Professional?
The main focus in North America is on the Frigidaire brand family. It's a strong set of brands with a very high brand recognition and pool. Whereas we've spent a fair amount of money over the last several years to establish the Electrolux brand, which has a nice niche position, and I think that's where it's going to remain. Our focus now is very much to reinforce the Frigidaire brand, both on the marketing side and very importantly, on the product innovation side. That's our main focus going forward.
Okay. Thanks, and have a nice weekend.
Thank you. You, too.
Please, could we have our next question?
Thank you. Our next question comes from the line of Lucie Carrier from Morgan Stanley. Please go ahead. Your line is now open.
Hi, good morning. Good morning, Jonas, Anna, and Catarina. I have three questions. I will start with the first one on the U.S. business. Can you maybe give us a bit more granularity on, you know, where you have seen intensifying price pressure during the quarter? That's kind of the first part of my U.S. question. Secondly, you've spoken about your private label, you know, declining and your branded goods actually increasing. Is that a 100% offset? How do you think of, you know, offsetting the decline that, you know, will be continuing on the private label? Finally, also on the U.S., you've spoken about cost improvement contributing positively to the margin.
How far are you, in terms of raising the efficiency, of the operational base in the U.S.?
Great. Let's see if I can remember all those questions. In terms of categories, we don't see a specific distinction between categories in terms of price pressure. I think it's relatively across the board as far as we're as far as we can see. It's not necessarily more intense going forward than it has been. I think it's, you know, remaining more or less at equal intensity. On the question of our private labels versus branded, I think in the quarter, it was, you know, we ended up more or less more or less offsetting in terms of volume the private label drop. That certainly is our ambition also going forward.
That depends on the, of course, on the rate of decline in private labels. For us, the main focus in North America is profitability and retaining and strengthening our profitability. We're a little bit less focused on the top line for its own sake, and more about selling a profitable mix, with a good operating margin. In terms of our cost efficiencies, we are making very good progress. We had high operational cost efficiency in the third quarter, both on the product cost and on overhead cost. That's our main focus also, going forward. We see a lot of runway still in the coming years, actually, on operational cost efficiency.
That's something that the organization there is extremely focused on.
Okay, thank you very much. Then two question, which I hope will be more straightforward. The first one is on the capital allocation. I mean, the free cash flow generation is still very strong in the quarter. I think you well on track to be net cash by the end of the year. How do you think about the capital allocation at this stage?
Right. As usual, the normal disclaimer, which is that that's a board decision, and we don't have any, let's say, new things to announce from the board there. I would say, of course, we have, as we've said before, a stronger balance sheet than we need. We intend to use that excess capitalization wisely. We have several very interesting acquisition opportunities that we're pursuing, and we're also likely to propose a higher cash yield to our shareholders going forward.
Okay, thank you. Sorry, can I just ask one last question on the raw materials? It seems that the benefit this year on the raw materials has been increased from the second quarter. At the time, it was SEK 750, and now it's SEK 900. I just wanted to understand that maybe a bit better, considering that in the meantime, we've seen raw materials prices increase.
Yeah. Mainly, this is driven by two things. It's that you're probably aware that on plastics, we don't have an annual fixed contract in most markets. Plastics has developed better than we had initially forecasted. Of course, this is relative to a forecast, not relative to, yeah, to anything else. The other thing that's has a positive impact is the strengthening of the Brazilian real, which has helped us also on the raw material side with our purchases in Brazil.
Thank you.
Those are the two main, unforcasted changes that we've seen.
Thank you very much.
Sure.
Thank you. Thank you, Lucie.
Thank you for your five questions.
Could I just remind you all to please take one question at a time? Please, operator, could we go ahead for the next question, please?
Certainly. The next question comes from the line of James Moore from Redburn. Please go ahead. Your line is now open.
Yes, good morning, everyone. Jonas and Anna. I'll go one at a time. I'm thinking ahead to next year, and it's probably earlier than you want me to, but I'm going to try anyway. As we look into next year, I wondered if we could talk a little bit about net cost efficiency. Within that, I suppose, raw material, and within that question, in the bridge, currency. I could see a SEK 400 million-SEK 500 million positive currency, which seems to have really swung favorably in the last month or so. I wondered if you could help us think about that, ideally, in number terms.
Yeah. I'm gonna I'm gonna reframe from numbers at this stage. It's a little bit early, and to your point, some of the input factors in that are swinging, right? Currency is quite volatile. To your point, we see a more favorable outlook for that right now. I think, if currencies stay where they are, that will be a net positive, not a major net positive, but a small net positive compared to the SEK 1.1 billion negative we had this year. On the raw material side, as I mentioned, we do expect that to be a headwind next year, not a huge headwind, but a...
For sure, compared to the big positive we have this year, it will be a, it will turn into a, most likely, into a negative next year, but I don't expect that to be overly dramatic. On the our, let's say, controllable cost efficiencies, we are having a very good year on that this year, and we expect to continue with very good underlying cost productivity into next year, both on the product side and our on the SG&A side. We expect the net contribution from those three factors to be a clear positive to our performance next year.
That's helpful. Thanks. On the North American business, I wonder, my remaining questions around that. Could you help us a little bit think about the pricing dynamics between private label and branded? If X is your total price number, without putting a number on it, is there a significant difference? Could you talk about the difference in a numerical way?
In terms of price change.
The pure price effect, if we strip out mix and we strip out volume, just as a sort of year-on-year, say, the price was down 2.5%.
Yeah
... all in North America, is there a, is there sort of 0.5 % in branded and 8% in private label? How does that work?
No, no, it's actually relatively comparable.
As we go forward from here, do you think there are any temporary effects in the negative price in the third quarter that were related to things like anti-dumping, or other effects that could ease going forward? Or do you think this is the right run rate for the coming quarter or quarters?
I think it's more or less the right run rate for the coming quarter. The quarters after that are much harder to predict. Of course, the ongoing benefits from raw material will fade away here towards the end of the fourth quarter, and again, as we said, start to become a negative in next year. Particularly in North America, where currency is less of a factor, I think that is something that will, of course, be a factor for everybody, you know, when they make their promotional price decisions. We'll see how that plays out into next year. It's a bit harder to predict.
Really, that's the core of my next question, which is, as it goes into next year, if we lose the raw material benefit, and price pressure remains tough, when you have your sort of objective of pushing for margin and maybe some other large players have an objective of pushing for volume.
... where do you sit in the balance of saying, well, we're going to have to lift prices a bit?
Yeah, I mean, I think we have an overall, you know, profitability growth, profitable growth objective, of course, right? Profitability growth, let's say, in North America. I think we will remain competitive on pricing, absolutely. Our main focus is to grow our more profitable product categories, and that's what we mainly look at. If we lose a little bit of volume in our less profitable categories, that's not something that would concern us very much.
My last one quickly is if we were to strip out air conditioning and the service business in North America and looked at the core whites business, is the margin stable, or down, or up, or?
Up.
Brilliant. Thank you very much.
Thank you. You're welcome.
Thank you, James. Could we have our next question then, please?
Thank you. The next question comes from Andreas Willi from JP Morgan. Please go ahead. Your line is now open.
Yeah. Good morning, everybody. My two questions are. The first one on the Q4 outlook you've provided in the slides. You expect volume price mix to be positive, raw material to be positive, which you have upgraded the guidance. You expect currency to be positive. This indicates a material upside to, I believe, standing Q4 consensus. Is that the message that you want to give here? If we start with last year's underlying number, which I assume is your base for these comments, obviously these are all additives to the kind of SEK 1.7 billion or so adjust that we had last year in Q4.
The second question, if you could give us some information on, the mix in the U.S. between what is still private label and kind of Kenmore Sears-related business as part of your sales at this point. Thank you.
Yeah. So sorry, on the, on the, on the outlook, no, I wouldn't say that we're adjusting up our outlook for the, for the year, with the exception of the, of the raw material change. Beyond that, it's not intended to be an, let's say, a positive revision. And in fact, just to clarify, on Latin America, we do see negative volume and mix, with a quite significant continued impact. So on balance, I would say, no, it's not an upward adjustment of our, of our guidance. Sorry, the second question I missed a little bit.
No, the share of private label or Sears within the North American business.
How much that is?
Yeah.
Yeah, it's around 17%. Yeah.
That has come down quite a bit over.
Yeah
... the years. Yeah.
Yeah.
I think on the guidance, I still don't understand. If you had roughly SEK 1,700 last year in operating profit, and you expect volume price mix to be positive, raw materials to be positive, and currency to be positive, well, it needs to be quite a bit more than SEK 1.7 billion. Is that not what you tried to say?
That's not what we're trying to say, no.
What is the big negative, then, that's not on this slide?
It's on the slide, Latin America. Yeah.
Yeah, maybe the way you've worded it then doesn't fit with the comments about the divisions on the right.
Yeah, that's up to you to interpret, but.
Yeah
Yeah, that's not where I'm at. Yeah.
Okay. Thank you.
Thank you.
Again, if I may remind you to take, to take a question at a time, please, and we'll continue.
Thank you. The next question comes from Martin Wilkie from Citi. Please go ahead. Your line is now open.
Thank you. Yes, Martin from Citi. The first question is just to come back to your comments about Frigidaire and North America. A few years ago, you made a push into premium products in North America under the Electrolux brand. I just wanted to clarify, are you essentially saying that you've kind of reached the niches you want to in that premium range, or is this a retrenchment? We sort of understand how you're thinking about where you are with the premium ranges in North America.
Yeah. No, it's more a question of, let's say, cycles of investment. To establish the Electrolux both brand and product range, we've spent a lot of money to put those in the market. We are quite happy with the position we have, and we're not retrenching from that. Now the focus is to rebuild and strengthen the Frigidaire brand, which is the vast majority of our sales in North America, and that's what we're really focusing on.
Thanks. A second question was just on China. I mean, obviously, you had a push into China, and then, you pulled back a few quarters ago. Obviously, we can't really see it in the numbers because of the air conditioning. Generally, I mean, is your China business now sort of at the level that you expect if you X out air conditioning? Is it still more of a reset of that business or perhaps a reinvestment? Just to understand the underlying appliance business in China.
Right. Yeah. well, certainly it's more, it's stable now, let's say. you know, taking out the air care business, we do expect to continue to improve it. Of course, again, the size of the business is now to a point where it doesn't really have a significant impact on the overall.
Okay.
We do expect to continue to improve it.
Thank you very much.
Sure.
Okay. Thank you. Could we have our next question, please?
Thank you. Our next question comes from David MacGregor, from Longbow Research. Please go ahead. Your line is now open.
Yes. Good morning. Jonas, I wonder if you could just talk about retail inventory stocking levels and patterns right now. It seems as though retailers may be dialing back on the level of inventories that they're maintaining, both in North America and possibly in Europe as well. That may be structural in terms of, you know, their advancement in terms of systems and better ability to manage their inventory. I'm just trying to get a sense from you of whether you're seeing sort of a pattern here of destocking that maybe is negatively impacting your sales volumes now, but could also change sort of the way that these guys inventory going forward?
... Yeah, I think we, yes, to your point, we do see that in the U.K., and we see it again in our private label channel in North America. I think it's probably too much to say that it's a pervasive trend. For sure, retailers are getting more sophisticated in their inventory management, that allows them to carry less inventory. I would say, yes, there is a tendency for retailers to reduce their inventories. Beyond the two points I just mentioned, I don't think it's a significant impact in the third quarter. I would say in Latin America, one impact is that I think the market in general expected the sales trend to improve a bit.
There, I think, actually, retailers increased inventory a bit, and now they're adjusting that down. That's one impact here in the third quarter that we see a little bit of, let's say, adjustment to reality among our retailers in Brazil in particular.
Okay. Just a follow-up question. You mentioned exiting a couple of unprofitable businesses. Are there more businesses yet to be exited for you over the next few quarters, or?
Well, not, let's say, that we would initiate new initiatives, but the consequences of the initiatives that we have initiated will continue to have an impact, in particular, in small appliances. Yeah, mainly in small appliances.
Okay. Thank you very much, Jonas.
Sure.
Thanks, David. Good morning to you. Could we have the next question, please?
The next question comes from the line of Björn Enarson from Danske Bank. Please go ahead. Your line is now open.
Yeah, thank you. I'd like to go back a little bit to Frigidaire and your position there, and if, as you're saying, is Frigidaire the brand way to go ahead with? Do you have what kind of position you have in the upper end of the Frigidaire brand on more on the premium side? Is that developing along the line of expectations, or is the margin improvements basically in North America, driven by cost efficiency? Do you also see a mix-up within the Frigidaire brand?
Yeah, that's a good question. I think, yes, within the Frigidaire brand, we do see a positive mix development. The Frigidaire Gallery and professional sort of upper positioning of Frigidaire is developing very well. That's positive, and that's very much a focus going forward. Yeah, that's the main development that we're seeing.
The second question on cash flow and working capital development that have been developing very strongly for quite some time now, how do you look upon that, looking ahead?
We do expect to continue to generate strong free cash flow. I think a little bit, then we've incrementally added to our cash flow from working capital efficiency, and I see less sort of net contribution from that going forward, even though we're going to continue to improve our working capital efficiency. There's just less, let's say, room to gain net cash from that area. Of course, our operating performance is the main source of cash flow.
Thank you.
Sure.
Thank you. I think there are a few more questions on the line. Please continue.
The next question comes from David Vos from Barclays. Please go ahead. Your line is now open.
Yeah, good morning. Thanks for taking my questions. I have one that kind of looks back a little bit and hope that you can comment on if you have made any changes to what your predecessor was looking, Jonas, with respect to the European business. If I can remember correctly, he used to say that on the volumes being where they were, he would not be able to reach 6% kind of margin targets in Europe. We're now tracking significantly ahead of that. Is that something you feel has changed structurally, and if so, why?
Yeah, I guess a couple of things there. First of all, we actually have seen volume growth in the last two years in the market, which is very positive. Beyond that, I think we are getting a very, very good traction on our focus on our premium brands and our focus categories of built-in and laundry. That traction is continuing and really delivering good results in combination with high cost efficiency. I think those are the main drivers, the market has recovered substantially from over the last couple of years.
Okay, that's fair. If I can ask a follow-up on the LATAM business, please. You mentioned that you will be executing some structural adjustments there. Could you just elaborate on the financial impact of what you're doing there and specifying what you're actually doing and what the timing is of those plans?
The actual restructuring costs, if that's what you're asking for, will be there in the fourth quarter, but they will not be very material. In terms of the timing and the impact of it, we will have started to execute those, and we will see some positive impact already in the fourth quarter, but the main impact will come over the early parts of next year.
It's both on, let's what we call them, structural costs, which is, you know, SG&A and manufacturing over at R&D and those types of things, where we're taking a quite significant reduction activity, but also on product costs, because I think we have, with the mix down happening, both volume loss and the mix down that's happening in Brazil, we need to focus a lot on taking out cost of our, let's say, lower-end product offering to make sure that we can be price competitive in the lower end of the market. That's an area where we have maybe not put enough focus up until now that we're really strengthening. Okay, perfect. Thank you so much! You're welcome.
Thank you, David. Could we have our next question then, please?
Your next question comes from Johan Eliasson from Kepler Cheuvreux. Please go ahead. Your line is now open.
Yeah, hi, this is Johan at Kepler Cheuvreux. Just a question again, going back to this private label in North America. I understand the brand might be up for sale. Would that be an opportunity or a threat for you?
Yeah, I don't think I can comment on that. Sorry.
On this price pressure versus raw materials, could you help me understand a little bit? You talk about this promotional price pressure, in a situation where the raw materials are expected to increase, specifically in North America, will you be able to offset that through pricing? Is the market dynamics so tough right now, that will be difficult?
Look, I think our guide there is history, right? Typically, there may be a lag, but typically the market pricing does reflect the input cost that, let's say, the industry players are affected by. Based on history, I think I would say yes, but then the exact, let's say, sequencing and timing of that it varies a bit over time.
Is there a very big difference from 2011 and today, you would say?
Yes, I would say so, yeah.
The difference being?
First of all, I think we have very good control of our pricing, we're not gonna let that run away from us, and the swings are lower.
Yeah. Good. Then on the cost out actions, I think you mentioned at the Capital Markets Day that it will be less sort of from this, just moving to low-cost manufacturing. There will be more into manufacturing efficiencies like automation, et cetera, but the number per annum wouldn't be that high. Now I sort of sense you saying that the cost out benefits will continue to be a high level going forward. Can you help me out there a bit?
Yeah, if you interpreted at the Capital Markets Day that the cost efficiency will be lower going forward, then I think we miscommunicated, because we intend to keep them at a high running level.
Excellent.
Yep.
Thank you.
Thank you.
Thank you, Johan. I think we have two more questions on the line. Please, the next one.
Next question comes from Natalia Folling from Carnegie. Please go ahead. Your line is now open.
Good morning, Catarina and Jonas. Thank you for taking my questions, and congratulations on a good margin in Q3. I have a few questions. First, on net efficiencies. As you mentioned, you have a very good run rate. You hopefully can keep that even in the next year, but I guess it will be maybe different areas driving that. Could you please elaborate what will be the key driving areas for net cost efficiencies for next year?
Yes, absolutely. We do in terms of product cost efficiency, we have a very good run rate this year, and we intend to continue that into next year. There's no big difference there. Of course, raw material will impact a bit differently, but the underlying cost efficiency will continue on a similar trend to this year. On top of that, we are going to focus more on our structural cost into next year, particularly in Latin America and in North America, where we have well, both a need and an opportunity to reduce our overhead costs quite significantly going forward.
That's very helpful. Thank you. On Frigidaire, you mentioned that you have revamped the dishwasher product category, you have maybe more of your core in North America in cooking and refrigeration. When do you have any plans to update these categories in the near future?
Absolutely. You will see further updates into next year. Yeah, absolutely.
Just the last question on small appliances. Would you be able for us to get the steps of your restructuring program in small appliances and maybe also these timings?
Yeah, I can give you overall. I think that we have as I've indicated before, kind of a broad distribution of profitability among the different geographies and categories in small appliances. We have four very weak areas that we're addressing aggressively this year. It's our upright vacuum, mass vacuum cleaners in North America. It's small kitchen and small domestic appliances in Latin America, other than vacuum cleaners. It's China and it's Australia. Those are the four areas that we're addressing aggressively, and we're making good progress. The problem or the impact is that there are ongoing, let's call it curtailment and tail cutting costs that is holding the result down this year.
We're seeing very good progress, and we'll expect to see a good turnaround of our profitability already next year.
Thank you. Very helpful, Jonas.
Sure.
Thanks, Natalie. Yes, there's 2 more, now, on the line, so please.
The next question comes from James Moore from Redburn. Please go ahead. Your line is now open.
Oh, thanks. Yes, I've got three follow-ups. I just wondered if, given your comment about Latin America in the fourth quarter being one of the big drags, if you could help us with whether that's a positive number or scale it a bit more than that? Yeah, maybe one at a time. Sorry.
Yeah. Yeah, thank you for that. Yeah, no, I... To be fair, we see a tough fourth quarter in Latin America, and that, yeah, that could go negative. On the raw material, am I right to say that you've had SEK 725 million after the nine months, leaving SEK 175? From the oral comments I've collected. It was a little bit more, actually, the first three quarters. What is it? Around almost SEK 800. Yeah, it's SEK 800. SEK 800, okay. So SEK 100 to come. Yeah. Your gross margin, I see that was very strong compared to the EBIT margin. Is there anything inside the SG&A, R&D side, yeah, that's temporary or more structural? No, I would say it's relatively temporary.
It's mainly marketing expenses in Europe and in Asia Pacific. Hmm, interesting. Do you think the SG&A ratio can come down as we go forward, or is that gonna hold on for a bit longer? I think it, in the next year, will come down a bit. Great, thank you very much. Sure.
Thanks, James. I think now we have a final question from the audience before we hand back to Jonas for a summary. Please.
Final question comes from David MacGregor from Longbow Research. Please go ahead. Your line is now open.
Jonas, two questions. First of all, on North American margins, congratulations on the progress there. Clearly, you're investing in the product, you're investing in the brand, you've got to focus on reducing overheads here as we go forward. Now, does that just offset the kind of pricing pressure and kind of the pressure from private label that you're seeing? Is there an opportunity to sort of take these North American margins to an even higher level? How are you thinking, what's your most recent thinking about where you could eventually end up in North American margins?
Yeah, I think we do see some significant pressures, as you know, as you indicated. I think we will, for sure, attempt to offset those and hopefully get a little bit additional positive impact. We're not looking at the sort of a major upshift of our margins in North America in the short term because of those pressures that you mentioned, pricing and private labels. Over time, I think we can, as we kind of go through that cycle, I think we can further improve our margins there, yeah.
Just last question would just be with regard to some of the pricing pressure that you're seeing developing around the world. You know, you, you got a competitor from the, from Korea that has, you know, been very aggressive in terms of taking innovation to marketplace. Is the way you win in this business over the next few years to just, substantially increase the yield from your new product development, to increase your hit rate, so to speak? Is the only way to win this with innovation, or are there other ways to sort of win this?
I think the only way to win it is innovation and cost efficiency combined. I think that's, if you miss on either of those two, you're not gonna win.
How does that work from a new product development standpoint? You just have to increase the dollar value of your investment in R&D for product.
We already have, right? Quite significantly, and I think we're seeing the benefits of that. I don't think from here on, I don't see a major increase in our R&D spend, or actually not an increase at all. I think we are at the right level, more or less, and it's about focusing on really the key categories and the key consumer benefits, and making sure you have real impact from that. That's the main change we're doing. We're focusing on core categories and key consumer benefits, we're continuing to invest in cost efficiency.
Okay, got it. Thanks for addressing that. Good luck.
Thank you very much. You're welcome.
Thanks. Thanks, David. With that, we'd like to hand back to Jonas for a summary of the quarter.
Thank you, Catarina. See if I can find that here. Let's summarize the highlights from Q3. The group showed strong operational performance driven by EMEA, North America, Asia Pacific, and Professional, resulting in 4 out of 6 business areas achieving an EBIT margin above 7%. We focused on active product portfolio management, gross margin improvement, as well as continued impact from cost efficiencies and raw materials. Our European operations showed strong performance, with higher earnings and margins and as lower structural costs. Profitability in North America was also good, mainly driven by improved productivity and cost efficiencies. Operations in Asia Pacific showed good growth and strong margin improvement. The team in Latin America continued to focus on cost execution and to increase prices despite continued challenging market conditions. Actions to restore profitability in small appliances is ongoing and on track.
In summary, the financial performance for Electrolux continued to improve. Thank you very much, and looking forward to talk to you again after our Q4 results.
Thanks, and have a good weekend.