Good day, and welcome to the SKF Q1 report 2017 conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Patrik Stenberg. P lease go ahead, sir.
Good morning, and welcome to this conference call on the Q1 results. We expect it to, to last about an hour. Present today are our President and CEO, Mr. Alrik Danielson, our CFO, Christian Johansson, Theo Kjellberg, who's heading up the media relations, and myself, Patrik Stenberg, of Investor Relations. We'll start by presenting the results, and after that, we will, as usual, continue with the Q&A session. And with that, I leave the word to Alrik, please.
Thank you, Patrik. Welcome, and let's go and start with the second slide, where I talk about a busy quarter, and it has been a busy quarter, as is usually in SKF. And during the quarter, we have continued to work, of course, on our distinct value propositions around the Rotating Equipment Performance and our product offerings. And just recently, we have invested in a new global software development center in Gothenburg. In the quarter, we launched a number of interesting products connected to our offering around digitalization. And I will talk more about that, in a minute. We've also, also officially opened our new, fully automated production channel of spherical roller bearings here in Gothenburg, with already more than 200,000 bearings produced and delivered.
We are also making good progress in our ongoing investments in new factory technology and increased automation in our production facilities in the US, Germany, and in Malaysia. At the annual general shareholders meeting at the end of March, we presented SKF's new climate targets, where we set out to reduce the CO2 emissions per ton of bearings sold and per ton of products shipped to customers by 40%, respectively. Our customers, investors, and society as a whole, all benefit from the concrete actions we are taking to increase efficiency and reduce emissions. Every percent of friction we save, every gram of weight we remove, and every drop of lubrication we avoid, contribute to helping customers to reduce their costs and their environmental impact.
Being at the heart of the rotating machinery and equipment means that we are in a unique position to work together with customers to provide the solutions needed. In the quarter, we announced the consolidation of our technology function and our business and product development organization into one organization, which will further accelerate customer-driven innovation at SKF. With those words, I move to the next slide. We have launched a number of interesting digitalization products in the quarter. The SKF QuickCollect has been pre-announced, but we launched it this quarter. It's a versatile, portable, and affordable sensor that connects wirelessly. It can be used standalone with a smartwatch, a smartphone, or tablet, or connected wirelessly through the SKF Cloud, enabling more advanced analytics.
All in all, the QuickCollect enables Internet of Things before all things have the internet, and it's our first real move to massify the possibility to use condition monitoring. Also, the new SKF Multilog IMx-1 or SKF Enlight Collect IMx-1 provides a complete system for early fault detection. It helps to improve reliability, availability, and performance of rotating equipment, with automatic advice for correcting existing or impending conditions. This compact device can connect to mobile devices as well as laptops for easy configuration and monitoring. Machine intelligence from IMx-1 data will help you avoid unplanned downtime, prolong machine availability, and minimize maintenance and repair costs. IMx-1 integrates easily to other IMx units and can connect you with the SKF cloud for storing and sharing data, enabling SKF remote diagnostic services for expert reporting and recommendations.
With the new SKF Enlight Centre for Marine, we present the most valuable information for defined user roles in a simple interface with one single web login. Chief engineer, superintendent, fleet manager, remote monitoring specialist, class surveyors are ideal to use this tool. We can provide all relevant information for a successful condition-based maintenance program. By doing so, we help the customers to improve maintenance work, enhance operational safety, and reduce downtime. The result is cost and time savings. Moving to the next slide, Q1 summary. Looking at the financial performance of the Q1, we saw continued growth and improved operating margin and continued debt reduction. The increase in demand was broad-based across all regions and most of our customer industries, and strengthened gradually during the quarter.
Net sales rose by 11% to SEK 19.6 billion, with the strongest development in North America and Asia. Sequentially, sales increased by 4%. During the quarter, we managed to ramp up production in a cost-efficient way to meet the increase in demand. We were also successful in managing our fixed cost, which contributed to an adjusted operating profit of SEK 2.357 billion and an adjusted operating margin of 12%. Our industrial business delivered an adjusted operating margin of 14.2%, and our automotive business delivered an adjusted operating margin of 7.2%. Cash flow generation of SEK 64 million was impacted by increased working capital as a result of our growth in the quarter.
We continued to strengthen our balance sheet, and our debt decreased by about SEK 900 million in the quarter, taking our net debt ratio to 76%, which is below our target now of 80%. Turning to the next slide, and our sales development by region compared to last year. SKF is, since the Q4, growing organically again. The trend has accelerated during the Q1, when SKF grew both within industrial and automotive in all regions. In Europe, organic sales increased by 5%. In Asia, we experienced strong growth in both automotive and industrial, and in total, organic sales grew by 12.8% in the quarter. Our organic sales in North America grew 7.8% compared to the Q1 of last year, and we saw growth for both industrial and automotive.
Organic sales in Latin America were 11.4% higher, and organic sales in Middle East and Africa grew by 9.5% in the quarter. If we move to the next slide and talk a little bit about development by customer industry. Sales to the automotive industry grew by 8.4% in the Q1, and we saw good sales growth for both cars and trucks, especially in Asia, but also in Latin America and in Europe. In the U.S., we were growing again in cars and light trucks, as well as in the vehicle aftermarket. Sales within the industrial segment grew by 7.9% in the quarter compared with the Q1 last year. Sales to our industrial distributors were significantly higher, driven by strong volumes in Asia and North America.
Sales to the energy industry were significantly, sorry, higher in Europe and in North America, while sales in Asia were significantly lower. Sales to the rail industry grew in Asia and in North America, while it was slightly lower in Europe. Sales to the aerospace industry grew in Europe, but were slow across most other markets. And with those words, I hand over for more detail to Christian. Thanks, Christian.
Thank you, Alrik, and good morning to all of you. So if we start with, on the next slide, with the sales development, we see that total net sales increased with 11% in the Q1. As already mentioned, we experienced a broad-based recovery in most markets and across most customer industries, both within industrial and automotive. In total, organic sales increased by 8% in the quarter. When it comes to currencies, both the U.S. dollars, other U.S., related currencies like the Brazilian real, and the euro strengthened. And we had a positive currency effect, sales-wise, of close to 5%. Last year's two divestments we did in the Q2 last year, which means they are still in the numbers here, and that's behind the structural component of -2%.
We turn to the next page, and, and you have seen this before. This slide clearly shows that the business cycle actually strengthened during the quarter with 8% organic growth. We should note, though, that, calendar-wise, we had a long Q1, this year compared to last year. We move to next page. Adjusted operating profit in the quarter was, as you heard, 2,357 million, some SEK 385 million higher than in the Q1 last year. Our results included items affecting comparability, as we call the one-time items nowadays, of SEK 62 million, versus, 97 last year. And it's mainly related to the restructuring and cost reduction activities of our manufacturing footprint in Americas and China, that we also have communicated to you earlier.
Adjusted operating income, excluding items affecting comparability for the rolling twelve months, was SEK 7.9 billion. If you look at the operating profit bridge, and starting with the i- items that affects the comparability, we had a delta of positive SEK 38 million when we calculate in last year's exchange rates. Related to that, we had higher restructuring charges last year versus what we had this quarter. The two divested operations, like Orion and Velocity Control, contributed SEK 50 million to the bottom line last year, and the currency impact in the operating profit was SEK 202 million positive this year compared to last year. If we look at the operating performance, we increased year-over-year with SEK 230 million in total.
Organic sales, including volume effects in manufacturing, was positive by 572 in the quarter. The positive contribution we had from increased organic sales, in terms of sales and manufacturing volumes, was partially offset then by continued negative price mix effect in the same level as we have had in the previous quarters. As we mentioned several times before, we launched our new ERP system, Unite, on the fourth of January this year. We had a high activity level in the Unite program organization after the go live, to support users to learn the new way of working and to ramp up to normal productivity. So in total, we had SEK 130 million higher cost in the profit and loss compared to last year.
If you look at the next quarter, we expect to have about SEK 80 million higher costs for Unite, compared to quarter two last year. Considering rising inflation in general, increasing raw material cost and the usual, what we usually get, some extra cost when you ramp, we ramp up production, I'm very pleased with our cost management. As you know, our cost base is about SEK 16 billion in a quarter, and year over year, we saw in this quarter, a negative impact of SEK 213 million on that cost base. We saw increased raw material costs in the quarter, but we have, other commercial activities. We have design specification changes that have compensated for this raw material increase. And in the Q1, we also had positive material mix and consumption.
So I would say, all in all, the net effect on the material cost line came out around about flat versus last year. And also, if you look into the Q2 on this item, I would say that I expect this to, with the raw material increases, coming through here, I would say that we will worsen here about SEK 100 million in quarter two, as a year-over-year effect. So if we turn to the next page, performance by customer group, and starting with the industrial side, organic net sales increased by 7.9%, versus last year, significantly higher in Asia, North America, and higher in Europe and in Latin America. Adjusted operating margin was 14.2%, compared to 12.9% in last year.
Positive contributions from increased sales and volumes in manufacturing, to some extent, and offset by the negative price mix, and also, margin-wise, somewhat negative from the divestments that, where both divestments done last year belong to industrial. Automotive organic sales grew 8.4%, good sales both in cars and light trucks, as well as trucks. Strongest automotive markets continue to be Asia. However, we started also to see good development in Latin America in this Q1. Adjusted margins for automotive was 7.2 in the quarter compared to 7.1 last year. If you look at the income statement for the group, gross profit margin improved 0.5% versus last year, supported by its cost contribution. Selling and admin expenses decreased to 13.7% from about 14% last year.
Financial net in the quarter was negative under SEK 70 million. Exchange rate fluctuations had a positive effect this year compared to a negative last year. If you go to the tax line, we had a tax rate of 13.8% compared to 31% last year. Cost management, and I've already commented on our cost management, but a few more words to it here. We used to talk about this fixed cost index, and in the Q1, this decreased to 98 versus our baseline in the end of 2014. And this includes the higher cost for the Unite program versus the baseline. If we exclude that, the index was down to 96.
So this means in practice, that we have managed to with our different cost reduction activities, to offset more than two years of inflation. And we are continuing to do this, to work to reduce our fixed cost base by productivity, by optimizing our footprint, and by simplifying our organization. When it comes to headcount, in the Q1, we increased 660 people, including 130 permanents, and the rest is temporary and agency personnel. But we should though note that when it comes to staff employees, we reduced also in this quarter with around 90 employees. Cash flow, we achieved a cash flow after investment before financing, and excluding acquisitions and divestments of SEK 64 million compared to SEK 510 million last year.
And if you, if you take a twelve-month rolling rate, we are at SEK 4.6 billion. Cash flow in the quarter was impacted by an increase in working capital, which is natural in this phase of the business cycle. It was also so that we, we have now we are now seeing the increase in the investment programs coming through the cash flow. As you know, we have increased our ambitions to invest in our manufacturing technology, and we also had a negative impact by SEK 130 million in the cash flow related to that. We have offered our retirees in Germany to manage the pensions themselves. So we have, you can say, we have bought out some of our pension obligations there.
Net working capital, 13.9% of sales in the end of Q1, which was higher than last year, excluding currency effect, is around 0.5% higher. I would say we do progress when it comes to terms and conditions with our suppliers. I've already mentioned that we have increased our inventory slightly in the quarter in order to improve the availability and service level, which, as we see, it is key in an upturn market. Receivables have been impacted negatively during the downturn quarters, and we are now put very high focus to reverse this now when the market is improving. We look at the net debt. We decreased the net debt by around SEK 900 million in the quarter.
We continue to make good progress in delevering the balance sheet, and, if we take the net debt, excluding pension, we were at the end of the quarter, 32% of equity. Provisions for, pension, decreased by SEK 800 million, mainly then as a result of, of, discount rate changes upwards in Germany and U.S., but also what I mentioned, this buyout of retirees in, in, in Germany. Guidance for, Q2, financial net, to be around SEK 275 million negative. Currencies based on end of March rate is a positive impact of SEK 170 million. If we take the rates we had yesterday, it's slightly less. It's, SEK 140.
Tax level, we remain at the 30%, as a guidance, and on investments, we also remain what we've said before, SEK 2.2 billion for the full year. So with that, I leave the word back to you, Alrik.
Thank you, Christian. When we look at now the demand outlook for Q2, in the Q1, we saw a broad-based recovery in most markets, we grew by 8% organically. Entering the Q2, we expect to see growth in all major regions, as reflected in our new volume outlook. Demand compared to the Q2, 2016, demand for SKF's products and services is expected to be higher for the group and for industrial. Demand for automotive is expected to be significantly higher. Demand is expected to be slightly higher in Europe, significantly higher in North America and in Asia, and higher in Latin America. Demand compared to the Q1, 2017, demand for SKF products and services is expected to be slightly higher for the group, including industrial and automotive.
Demand is expected to be relatively unchanged in Europe and in Latin America, slightly higher in North America, and higher in Asia. With those words, I leave over to Patrik.
Thank you, Alrik. And finally, before we enter into the Q&A session, a couple of words about our upcoming events. Next week, we will be in Stockholm, meeting investors, and we hope to be able to meet with some of you there. We will also attend some of the upcoming conferences later on here during the spring. The next report, as you know, is due in the middle of July, the twenty-first of July. Until then, we will be available to meet with you here in Gothenburg or elsewhere in the world. With that, we move into the Q&A session. Operator, please?
Thank you. As a reminder to ask a question, please press star one on your telephone keypad. Please limit yourself to two questions. We will now take our first question from Klas Bergelind from Citi. Your line is open, please go ahead.
Yes. Hi, Alrik and Christian, it's Klas from Citi. The first one on industrial distribution accelerating in Europe and North America, can you help us understand how much was underlying improvement versus pre-buy ahead of the price increases effective May? Do you expect distribution to slow down a bit into the Q2? And I guess higher distribution also gave you a bit better mix in the quarter, but you say still negative price mix, similar to what you've seen before, maybe down 1%. Did underlying pricing then get weaker? I'll, I'll, I'll start there.
So this is Alrik. You know, I wish I knew exactly in this with this exactitude. What happens is the following: There are two effects I think we need to... Or three effects you can talk about. One is that there is an underlying improvement of demand. That triggers that for a long time, our distributors have been destocking. If you remember, we've been talking about that for quarters on end, and, and, and when there is a slowdown, everybody's trimming, trimming their inventories, and they don't feel that there's any problem to deliver, so they are trimming their inventories.
As this turns, of course, there's a tendency of saying, "Well, now I need to stock up again because I need to be able to follow the demand of my customer." And then there is a possibility, of course, when SKF goes out and says that we are going to increase the prices, that some people say, "Well, then, you know, let's be a little bit opportunistic here." My assessment today, the way we work, is that in the U.S., for instance, that due to the fact that we work with many of our customers now on a COGS basis, in the sense that it's what they sell, it's not what they buy, that gives the year-end bonus and so forth.
We have been talking about that, how we have been trying to transition, and successfully so, with many customers. I believe that's a smaller figure of these. But there is a sweet spot right now, and it's a classical sweet spot. So please understand, it's nothing special for this time around. When the underlying demand starts to increase—do you see these kind of changes? And it's always been like that. Just as much as when it goes the other way, in the beginning, you have sort of a much steeper downturn in deliveries than underlying demand. So from that point of view, this is a classical, in my view, a classical turn of the environment.
And then when you talk about price mix, we have started to increase prices in the marketplace. A situation with a price mix difference is, of course, that there are contracts, there are old pricing still in the marketplace. And as that plays out over time, in the beginning of the turning cycle, you can still have these kind of situations. But right now we are in a price increasing mode.
Mm-hmm. And maybe one more sentence to that, Klas. I mean, you're right, that distribution isolated is positive to the mix. And as you know, we have two-thirds of our sales, which is other stuff also, which impacts the mix. But I would say the net effect of that, we talk margin, marginal, you know, the level of P&L developments or price mix developments we talk about. So if it's a tenth of a percentage that moves, you know, towards more price than mix, but it's not a big... It's nothing in the market that is of importance for you to notice, huh?
My second question is on the EBIT bridge. How did inventory move year-over-year and quarter-on-quarter ex-currency? If you could help us there, Christian, on the raw materials. You said SEK 100 million more year-over-year in the Q2 on the cost line, and you were flat on raw materials this quarter. Do you expect a similar impact year-over-year development in the second half, i.e., which will take total raw material headwind to SEK 300 million negative for the year? Or will the raw material headwind grow in the second half, or you get worse?
I mean, if you take them one by one, year-over-year, inventory is adjusted for currency and structure, year-over-year was positive SEK 400 million. And if you take it sequentially, it was SEK 600 million up. I mean, we usually, as you know, build inventory after the year end. So, and then when it comes to raw material, I think we have, we have been very successful, and then, and we've talked a lot about that on the Capital Markets Day , that the underlying raw material, I mean, if you look at the indexes and scrap and so on, that has stepped up, and we see those effects, and that's what I said that will come through stronger in the Q2. But as I said, I mean, we are quite successful in working on compensating activities.
We have, you know, working on our design and, you know, our other parameters we can impact. And there, we have, you know, offset the whole raw material in the quarter. I mean, I would say, and so that's the net, what I see. I mean, if I should guide anything, it's SEK 100 million worse than in the Q2. What happens in the second half of the year, I cannot comment on that. I mean, we have also seen, I mean, on the indexes, that they are not continuing upwards. At least the last time I looked at it, it has stabilized a little bit on the level where we are now. So, we will continue to work in the way we do. We think we work in a good way.
So, for the moment, I don't have any signals that we will, you know, see any dramatic change to what we see now on.
I would like to a little word of caution there, of course. There is inflationary pressures in the economy, I'm absolutely sure, and that's why we are so clear on that we think it's absolutely righteous of us to demand price increases at this moment.
Thank you.
We will now take our next question from Ben Uglow from Morgan Stanley. Please go ahead.
Thank you. Morning, Alrik, Christian, Patrik. Alrik, can you just talk a bit about working days and how much that boosted growth in the Q1? And then what reversal do you expect in the Q2? And is that reflected in your guidance for higher growth, which I guess is faster than you guided for the Q1? Thank you.
I mean, I can take that, Ben. I mean, it's 1.5 days that you can say swaps between the quarters, so we have 1.5 working days, year-over-year, more in Q1 and less in Q2. So I mean, how much-- If you see the calendar effect, I mean, we just conclude that. I mean, as Alrik said on the previous question, the net effect of all things, I mean, if on one hand, now we have calendar effects, on the other hand, you have now more of a, you know, robust feeling that the economy is coming back, and, you know, that impact on the restocking and so on, that is very difficult to know.
I mean, we are not, as we have said before, when we do forecasts and so on, we are not on the decimals of the working days, you know? So we see it as it is, and I cannot, you know, say that this is... But I mean, you've seen our guidance, and I would say we have some cautious in that related then to that we've had a longer Q1.
But I guess that's what I'm getting at, you know. I mean, you guided for slightly higher growth in Q1, and then you did 8, you know, and you're guiding for higher in the Q2. So, I mean, are you saying that, you know, you can do higher growth than 8% in the Q2? Is that how we should read your guidance? It's a bit unclear.
No, you should not read it. You should read it for what it is, huh?
... Okay, thanks. And then on the inventory build of SEK 600 million sequentially in the Q1, can you talk about what you plan to do with inventories in the Q2? You know, do you expect a further significant sequential build ahead of the summer? Thanks.
Yeah, I mean, we will most likely have a slight increase in quarter two versus quarter one.
Okay. Thanks,
And I said, this is, of course, not because we don't know what we're doing. This is conscious, in a turnaround situation like this, it's imperative that we do what we can to supply, yeah. And as soon as, let's say, we come out of this ramp-up phase, we will, of course, diligently work to get our inventories down again, and I am absolutely confident that we will do that.
Got it. Thanks, thanks, gentlemen. Thank you.
We will now take our next question. Andreas Koski from Deutsche Bank, your line is open. Please go ahead.
Thank you very much. Yes, so I am coming back to the outlook as well, and specifically on Europe. You grew organically by 5% in the quarter, and now you guide for slightly higher demand in Q2, which corresponds to a volume increase of 2%-4%. But do you expect daily sales to improve both quarter-on-quarter and be in your higher level range year-over-year? And should we see this guidance as fairly cautious because of the effect of Easter?
Well, I think firstly, you have to realize that you're talking about the quarter, and knowing our business, we are not—we don't have that visibility, and we are not working on that detail level and in the in this in the planning, yeah. So, I mean, we don't talk about the forecast on daily sales or so. I mean, that's not where we are. We are giving you our best possible guidance from where we are and where we see in the Q1, considering, you know, calendar as it looked in the Q1, considering that we have some restocking in the system, in this type of the cycle and so forth. So, we cannot give you more speculation on that.
I mean, what's where we are in the range between in the guidance range we have.
What you can say about SKF is that, of course, we are global, we're in most industries, et cetera. So as you listen, if you put your ear to the rail, so to speak, during the quarter, that's probably the best advice I can give you to sort of judge whether or not we're right.
Yeah. Okay. And then on cost savings and restructurings, despite very strong demand, you continue to take restructuring costs of SEK 62 million in the quarter. What should we expect from here in the coming quarters? And could you also explain how the fixed cost index can jump around 5%-10% between different quarters?
I mean, one by one. Yes, I mean, if you take restructuring and what you can expect, I mean, what we take now is... And, you know, some of these projects, I mean, we call them activity-based cost activities. So, I mean, that's footprint stuff and so on, which takes a couple of years to implement. And I mean, that we have communicated to you, and that's what we execute on. So, and that will continue, obviously, that we will carry through now this footprint in the U.S., we will close the site in China, that we took cost for this quarter. So that will continue, and we have other such activities also that we are working on. So that will be there.
The cost index, I mean, it's an attempt to show you how we develop versus a baseline. So you could, of course, say that you—since it's a quarter now compared to a quarter, it's not the year-over-year, it you can have some seasonality in that, of course. You could have some, but I mean, it, it's not, it's no big swings, I would say. I mean, if you, if you go-
5%-10%.
Sorry?
5%-10% of the fixed cost. For me, it looks like fairly big swings, but I was just wondering whether there was a good explanation for that.
Yeah.
I mean, sometimes you have also, like, like we have talked about before, we have some of these activities, we do warehouse moves, we get some extra costs that we don't classify as, you know, items affecting comparability. So of course, you might have, I mean, customer events, you might have other things that impacts a certain quarter.
Yeah. It's a long-term trend you should look at, and you should look at how the profitability falls through into the income statement. That's what you should focus on, in my mind. This is what's relevant.
Yeah.
I think this, what we wanted to, and I hope you appreciate that, is that, I mean, we try to have a clean, you know, transparent way of talking about what we do on fixed costing, excluding currency, and so on. So you get a feeling of this? It's not a way to do your, you know, quarterly estimates based on that graph.
The-
And then I want to give you a last explanation also on these extraordinary items. In the old days, you could sort of take a project, and you took it all at once, and you used that to sort of smooth out. Now, when we take a certain restructuring, we take it, and then as it comes, it falls into this column, huh? And that's why sometimes you see this coming. And we will continue to work on our footprint.
The difference is, of course, that some of capabilities that maybe we had planned for this year will partially have to be postponed, and that's positive because it means, of course, that we need the manufacturing footprints to supply to our customers. So some of the programs that we have maybe planned to announce and we are working on had to be postponed, but we will continue to work as we have announced previously, and there's no change.
May I just clarify on a question earlier on the call? Did you say that the inventory buildup didn't have an impact on EBIT this year compared to last year in the EBIT bridge?
No, that we didn't say.
Okay.
We said-
What was the EBIT impact from the inventory buildup?
No, but I mean, what you have to realize that, I mean, if you see it from production point of view, production is producing. And I mean, for fixed cost coverage in a plant, it doesn't matter if this is you know, something that stays in inventory somewhere or if it goes to part of a sale. So the effect of fixed cost contribution is there independently of if it's an inventory, you know, change or if it goes through the costs. So for sure, you have the same fixed cost coverage from inventory buildup as you have on sales volume.
Yeah. True. Okay, thank you.
Thank you.
We will now take our next question from Andre Kukhnin from Credit Suisse. Please go ahead.
Yes, good morning. Thanks very much for taking my questions. Just a quick follow-up first on inventory buildup that you cited of 400 on like-for-like basis year-on-year. Was that kind of proportionate across the two divisions?
I don't have that number.
All right, but it
But you can assume that. And it's marginal differences, if not.
Right. Somewhat related to that, in the automotive view, obviously grew very nicely, but margins stay flat. Could you just help us running through the key drivers of that there, please?
Well, in automotive?
Yes, please.
Yeah, I mean, in automotive, you have also, I would say, one mix effect impacting also is the seasonality of the aftermarket, huh? Which is, you know, quarter one is, you know, not the VSM quarter. It's more of a Q2, Q3. I mean, those things comes in the quarter. If you take year-over-year, I don't have any... I don't recall if we had some special effects last year that brought it. It was a good progression we did last year, if I recall, during Q1. But, I mean, we don't see any underlying... It looks good. I mean, we do what we should do there. We don't have any particular effects.
The positive thing in the automotive, I think, is that we, as we have been guiding and talking about, is that we, for a long time, have been trading below market in the U.S. on the automotive OEM side, and that we are now back, trading, I would argue even ahead of market.
Right. Yes, I was just thinking year-over-year, the growth is clearly there, but margin is on underlying basis, is stable at 7.2. So, that answers the question.
As we've talked, it's a tough market to be in, huh?
Got it. Thank you.
But we have, we are not. We have our target, and we're set on delivering our target. So, we still have that ambition clear, and we think we can achieve it.
Thank you. And just a quick one, if I may: How has April developed for you so far?
We cannot comment on that.
Okay, got it. Thanks very much.
We will now take our next question from Daniel Schmidt, from SEB. Please go ahead.
Yes, hello, can you hear me?
Yes, loud and clear.
Great. I think most of my questions have been answered, but just then more sort of reflecting on your profitability in the quarter, you lowered your EBIT margin target a while back from 15 to 12, and now you're at 12 in this upturn. And if you exclude the ERP extra cost, you're at 12.6. Could you in any way sort of shed some more light on what you think is possible in terms of margin progression? And I think you've said that the 12% should be seen as a sort of mid-cycle target in a, in a cycle, basically.
Yes, uh-
So you have price, price mix against you, as well, and I guess you're working on that to change that.
But I mean, as Alrik said before, and don't forget that we have a bit of a sweet spot situation now, huh? When volumes come, we have worked, and we will of course continue, but we have worked focused on costs. We don't really see... I mean, the peak, at least not what we can, from history, believe is a peak when it comes to inflation and price pressure from downwards, let's say. So we have a—I mean, this is a sweet spot, as we call it, that quarter. Yes, I mean, price mix is negative, some other things are positive. I mean, there will not, you know, always be headwind on everything or always be, you know, on the opposite. So, and then, I mean, where we could margin-wise...
So, I mean, yes, I think we are happy with the quarter. It's a decent quarter. I mean, seeing a relatively strong business cycle quarter, but as we say, there will be other effects coming in other, you know, quarters of the cycle, huh?
Like always, you know, we want to see this consolidate now and see where we are. What will happen with the long-term demand? What will happen with inflation? How will it develop? It's early to talk about this. From my point of view, it's good that we have reached the target, so to speak, and now we need to see how we consolidate this level, and that is our ambition.
All right. Okay. Okay, thank you.
We will now take our next question from James Moore from Redburn. Please go ahead.
Hi, everyone. All right, Christian, my first topic, price raw material. When you talk about raw material, SEK 100 million, Q2, are you talking about the inflation on the SEK 1.6 billion raw material buy, or just the scrap buy, or including the SEK 9 billion component buy? And what sort of price mix do you need to see to pass this on? And what list price increases are you putting into the market at the moment, and are they even regionally?
Yeah, I mean, it's a few, few things. I mean, raw material and how you measure that in, in a, you know, in a mixed basket of what you're buying in terms of, of, of pure raw material or more, you know, value-adding components, it's a mix. What we try to, and I understand we, we, we might have to clarify that a bit more in what we write in our annual report on the sensitivity, we have translated—we have tried to translate this raw material impacts into a scrap-related index, huh?
Yeah.
So that's on the whole basket of what we are buying, which is call it raw material related. So I don't know how we can explain that more. So it's the, you know, the material inflation or the pressure we see then related to raw material price changes so-
But you are, you are absolutely right in the sense that there are other. When you buy scrap, you have other kinds of in the process, where inflation can have an impact on your cost. One is, of course, when your component suppliers need to increase their price or have pricing leverage towards you, and the other one is, of course, transport. If transport prices, when you take some components sometimes from a distance, if they increase, you have an increase there. So this is, this is right now in the making. Honestly, just as much as I don't know exactly what kind of success we will have in the short term with our price increases, we don't exactly know also what kind of costs are coming in from that sense, because it's in the making.
These discussions are taking place as we speak, as you can understand, huh? And they're driven by two factors, and this is a little bit the same as we have with our customers. One is what kind of true cost increases are coming from the factor side of the economy? What kind of demand situation do we have? So it, of course, for us, we see it becoming more of a seller's market than it has been, previously, which gives opportunity for us. But also there are, of course, some of our component suppliers that are looking at a similar kind of situation, and we're trying to push back. So it's...
I wish we had a planned economy in the sense that it was so easy to just give you this, but it's actually in the making. And my assessment is, long term, this is gonna work fine, you know, in the end, that SKF has pricing power and has the possibility to defend our place or our margins in the market and our reason to be in the market. We are making excellent products and providing a lot of value to our customers. In the short term, it's difficult for us to exactly know how this is gonna play out.
The list prices you're putting in the market, what percentage are they?
Yeah, we are putting list prices out to distribution, and I think we talked about that last time. They are different in different market, depending on many issues, but it's a significant drive for price in the marketplace right now.
Can you put a percentage on the average global list price increase?
No, I can't.
No, we are-
I can't, I can't. I wish I could, but I can't because it's a complex thing, and you know, you know how... Probably, you have the same in your own business, huh? It's too complicated for me to give you, unfortunately, because I... It's happening now, now, right now. It's playing itself out at this moment.
That's great. And the second one is much quicker. Unite, you talked about SEK 210 million in the first half. Can you give us some thoughts as to what the year-on-year change could be for the full year, or basically, how does the second half look?
I mean, the guidance that we have given remain; otherwise, I have given you a new number. So, that means, of course, that versus last year, we should be somewhat better, huh?
Yes. Okay. Thank you.
It remains what I've said before.
That's what I was just checking. Thank you. Thank you very much.
Yeah. Thank you, thank you.
We will now take our next question from Andrew Wilson, from JP Morgan. Please go ahead.
Hi, morning, everyone. Just a quick one on the sequential development that you talked about through the quarter improving. Can you just give us an idea of how that varied across the different regions, and if there was a difference between sort of your major regions of the acceleration you saw, kind of March versus January, please?
What you're after, sequential development, quarter four, quarter one?
No, sorry, just the development as you went through the quarter. I think you mentioned in the presentation that demand had strengthened as you went through the quarter. Can you just talk about-
Yeah, that's true.
What you saw across the different regions in that context?
Yeah, yeah, that, that one. No, I don't think we have seen a regional difference in that. Not what I stomach-wise have been able to spot.
As the quarter progressed, we saw an improved demand. It's different, of course, in different business segments as it is. I can tell you, it's the interesting thing is that we see the underlying business is strengthening in all of our major segments. Some with relatively modest figures and some a little bit more stronger figures. But we of course saw a stronger sales as the quarter progressed, which is also a little bit the normal that you see in the Q4, Q1 normally in anywhere, huh?
Okay, that's great. Thank you.
We will now take our next question from Erik Golrang from Nordea. Please go ahead.
Thank you. I have one question on the automotive side, perhaps harking back to the question on the margin development year-on-year. But on the investment level in automotive, if you could talk about what's happened there and your plans over the last couple of months, we've seen an acceleration in the drive towards electric vehicles. Has that in any way sort of pressured your business cost-wise, leading to more specific investments? Thank you.
Yeah, well, you know, what we have, part of this growth that you see now coming in, and that we have been talking about, not the least in the U.S., where we have said also in Asia, where we have talked about the fact that we are working hard in the U.S. to get back, and that we have been trading below market, and that we see that we are now doing the activities necessary to change that. That has, of course, been followed with investments to be able to cope with that kind of increase in demand.
The automotive side, especially on the car side, has been doing fine for a long time, which means also that the relative leverage is such that you need to increase your capacity to be able to make through investments, to be able to follow the market. But there is no specific in the automotive, it's almost always specific investments. You know, you use the existing capacity, and when there are certain items that come outside the capability of your machines, you sometimes need to invest. Or if in a region, there is a certain business that you have taken, it means that you afterwards have to invest.
So I don't see in the automotive any different trend in this way.
Thank you.
We will now take our next question from Daniel Sheridan from Liberum. Please go ahead.
Hi. Thanks, thanks, Christian. Question on the buybacks. You sort of published a 76% net debt, including pension debt, so well below your 80% target. I guess the question is, in your annual report, you sort of state that as you go below this 80%, historically, you returned cash to shareholders. You've certainly done so in the past, sort of, although not for a while, I think 2007/8 was the last time, given your targets being well above 80% for many years. So what's the priority here as the debt falls further? Buybacks, cash returns, as you sort of state in the annual report, step up M&A, just a color on capital allocation over the coming 12 months. That's question number one.
And the second question is really a quick one, just your confidence level on price increases sticking here. Thank you.
If I try to elaborate on the first, I mean, this is obviously not a topic for a quarterly call. It's, you know, a board discussion, and as you say, it's not a management decision what to do here, and I cannot answer for the historical thing. I mean, we believe it's good with a strong balance sheet, yeah, and we will continue to work on strengthening that. And, I mean, it gives, of course, opportunities to act when opportunities come in terms of strengthening our competitiveness, in terms of M&A and other things, and organic development.
I mean, this has not been up on the agenda here as a big issue, huh? But I mean, 76 versus 80. I mean, we paid dividend here the other day. So, I mean, this is, you know, we are not miles ahead, huh?
But anyway, of course, we will be able to find some interesting acquisitions, we will be able to invest in organic development, or we will return money to shareholders, there are no other alternatives. So from that point of view, I think we should be happy with the fact that we have been managing to deleverage the balance sheet, as we have.
Great, and then just, just the confidence that-
As I said before, I'm absolutely sure there's been some discussion. I'm absolutely sure that the bearing industry has pricing power to defend its position in the value chain. And the fact that we have been doing so good, so relatively well during the downturn shows that there is pricing power. Of course, there's a difference between in a negative deflationary environment, where you sort of resist price decreases, where you suddenly go in and you actively have to increase prices. But I would argue that there's no difference that I see in the events occurring at this moment than in previous cycle turns.
Okay. Thank you very much.
We will now take our next question from Peder Frölén , from Handelsbanken. Please go ahead.
Yes, thank you. A question on the bridge again, and as the savings programs have rolled out, that specific part in the waterfall is obviously gone as well. But you-- maybe we should... I mean, you talk about maintaining the cost level, the fixed cost, the ramp-up production well. Is it possible to help us understand how much sort of savings that actually hit the quarter from a rollover effect, sort of?
No, I mean, I can talk in general, and you know, and we talked about that also, that we have, I mean, roughly, we have some SEK 600 million just in salary inflation that we need to work with, you know, on a yearly basis. So this is a continuous work on productivity, and it's a continuous work to, you know, to simplify our organization and so on. So, so I don't have a number for you. Since this is not big programs, we don't sit centrally and micromanage that. We, you know, we have targets, we have how they do it out there, I mean, it's up to them, how they execute on these things, huh? So it's difficult to give you a number on what is, you know...
It's part of the business, huh? And I think we should be happy that we are able to do it.
Yeah, I agree.
I cannot-
But how do you control the ramp up and manage the fixed cost base? I mean, do you have sort of a general efficiency improvement target across the board? Or how do you as managers-
I can give you one more thing on that. I mean, if you take now what we report as fixed cost contribution, that, that obviously, we have, you know, some baseline for what is, what should a volume give, which is, you can say, a standard cost. In a, in a ramp-up situation here, when, when you know, things starts to move, you obviously, you get over time, you get, you have to bring in agencies that are, on average, more costly than what you have in the base. You get somewhat more maintenance. You need to, you know, things that goes over the off effects. So I think this is, this is natural in it. So of course, we have productivity and all these things, on, on our dashboards, but, I mean, this type of cost that comes is quite natural in this, in this cycle, huh?
And this is a little bit also what we're talking about, about the sweet spot. You know, this is coming. In the beginning, you do, you see some of it, but you don't see all of it, and then as you, you move forward, these costs come in on a more regularly basis. So, you know, there's no difference. We're not running our factories different. They have already cost efficiency targets, and they have technology step-ups. They have everything of this already clearly defined, and it doesn't change with the ramp-up.
So this is happening all the time, so from the management point of view, the trick is, of course, to even though we are now doing better and we're having a better loading situation, that we truly keep on the pressure. And I think that at least from the group management point of view, we have shown that during the quarter when we've further simplified our structure and made the management smaller. So I think this is also a signal to the rest of the organization, that we're looking for them to do the same. Because this is a change in the business climate, but it - there's no change in sort of the world's how the world developed.
The things we said during our Capital Markets Day about how we see the future, the need for digitalization of our interfaces with end users, how we see the necessity to drive productivity and automation in our factories, it has not changed. It continues exactly the same.
So the follow-up here would be then, given your previous guidance, and they come out with a strong 8% growth, I suppose being a bit better than you dare to hope for, although I think you were a bit positive also in previous guidance. Would you say that you're also positively surprised on how those volumes have been translated into earnings, given that you sort of demand quickly became better than expected?
Yeah. Again, you know, I don't think it's not about a surprise. What if you talk, if... When we talk at the last call... And we talked about the guidance that we had in the last call. I didn't think at that point that we were going to have this strong quarter as we did at that point, if you understand, when we were in the beginning of this quarter. I am pleased, we are pleased with the fact that we've been able to leverage well on our manufacturing. But we must also understand that there is a certain sweet spot where when you have this turnaround, it has to be realized, and it is always like that.
If you look back in history, you will always see this happening. So we're just only trying to give you as transparent situation as we can. Then, of course, I also hope that things will be better than our guidance, but this is how we see it.
Yeah, that's fair. Thanks a lot.
Our next question comes from Andre Kukhnin from Credit Suisse. Please go ahead.
Oh, yes. Thanks very much for taking the follow-up. Can, can I just check on the math on the benefit from inventory buildup? I know you can't quantify it exactly for reasons of just how the factories operate, but if we conceptually just take that SEK 400 million year-on-year and apply normal operational gearing to it at 30%, and then look at what was happening in the bridge the year before, which in Q1 2016, I think you were still reducing inventory, so that had a small negative effect, and take basically the balance of that, the benefit from build and reversal of the previous burn. Would that conceptually be right, in your view?
I have left Q1, 2015 is long, so I don't know what you are- when you-
Yeah, but when you-
Q1 16 to 15, so I cannot comment on that. But as a principle on the leverage, depending, of course, on product mix and what factories, you have different, let's say, value add, depending on products and so on, and you say you use 30. I will not comment your 30, but I mean, as a principle, if you take the inventory delta and you apply a normal factory leverage, that's correct.
Thank you. Just on the fixed cost index, does that get rebalanced or restated historically, as you go through quarters? I'm just comparing the chart in your current presentation versus the one in Q4 from Q4 2016. Some of the levels of the index historically look quite different. I just wondered what changes the history or change the history.
Yeah. I mean, what we do yearly is that we change the fixed currency.
Right.
So we do a yearly restatement and backwards with, in order to have a more accurate, let's say, currency base when we do it. So, so that that could, with changes in currencies, impact a little bit on the history.
Right. So the-
As we said on previous questions, see it more as a long-term trend than, and rather than, you know, a short-term guidance, then.
Right. So the currency gets historically adjusted on for... Okay. And
And also structure changes. We take away structure changes.
Yes, that shouldn't have changed from Q4 2016, from what I could see. And do you have a cash generation or cash conversion target for this year you could share with us, even in rough terms?
No, we don't, we don't have a target like that. I mean, we, we have obviously a, our own, what we have indicated on. I mean, you have our working capital target, you have our additions to, to plant and property target, and, and then. So, I mean, I cannot give you another additional dimension on, on the cash flow side.
Internally, we are driving, of course, our unit very hard on these issues, but the targets that we have for the group are the ones that you see here, that we have communicated.
Got it. Thank you. And maybe just as a follow-up on that, do you think your cash conversion this year will be similar to, to last year, despite the, as you say, sort of cash consumption requirements due to the, inflection business cycle?
I think you know this, as well as we do, that you have cycles are impacting in terms of absolute amounts on cash flow. I mean, it's obviously harder to have the same cash flow generation in an upturn than what you have in a downturn. I mean, I cannot give you more on that.
It will depend, of course, you know, how this plays out. But of course, as the speed curve of the turnaround changes, our ability to deliver cash has not decreased. So the cash flow that has always been a forte with SKF is still the same.
Got it. Thank you very much, both of you.
Thank you.
Okay. Thank you, thank you, all. I think we are a couple of minutes overdue, so we'd like to thank you for your interest in our Q1, and we hope to speak to you soon again.
Thank you. That will conclude today's conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.