Akzo Nobel NV

AEX:AKZA

Earnings Call Analysis

Q2 2024 Earnings Reflects Steady Growth Despite Challenges

Akzo Nobel's Q2 2024 results showed a 2% organic sales growth, driven by consistent volume increases. Gross margins improved by 160 basis points despite higher-than-expected operating costs. Adjusted EBITDA was EUR 411 million, matching last year's percentage. Net debt-to-EBITDA ratio slightly increased to 2.9x. Return on investment progressed to 13.7%, close to the 16%-19% target. Challenges included weather impacts in EMEA and higher operational costs. The company expects targeted price hikes and cost-saving measures to support second-half performance, aiming for full-year profit at the lower end of guidance.

Introduction and Financial Performance

Akzo Nobel's second quarter of 2024 reflected a mix of achievements and challenges. The company reported a 2% organic sales growth, signaling a third consecutive quarter of volume growth. Despite the positive sales figures, adjusted EBITDA growth was hampered by higher operating costs, peaking at EUR 411 million before hyperinflation adjustments, and holding the EBITDA percentage flat compared to the previous year.

Margin Expansion

The quarter saw continued gross margin expansion, up by 160 basis points year-over-year on an adjusted level. This growth, however, was mitigated by increased operating expenses due to unforeseen cost escalations and inflationary pressures. Measures are being implemented to manage these expenses and are expected to accelerate in the following quarter.

Debt and Return on Investment

Akzo Nobel's net debt-to-EBITDA ratio rose slightly to 2.9x from 2.7x in Q1, attributed to usual seasonal factors. Conversely, the company's return on investment improved to 13.7%, showing progress towards the midterm guidance range of 16% to 19%.

Operational Performance and Volume Growth

Volume growth continued albeit below expectations, primarily due to weak performance in Deco EMEA, hindered by unfavorable weather conditions. While Coatings showed a 2% volume increase, Deco volumes dropped by 1%. The company anticipates overcoming these hurdles with targeted price increases in the second half of the year.

Impact of Operating Expenses (OpEx)

The main deviation from expectations was due to a buildup in operating expenses. The company's efforts to mitigate these cost inefficiencies and handle inflation pressures include reducing corporate overheads and cutting costs linked to service issues already resolved. These efforts are expected to realign expenses by year-end.

Geographical and Segment Outlook

Geographically, Coatings businesses performed well in North America and Asia, with China showing double-digit growth. Despite challenges in the Deco segment, especially in EMEA, Latin America, and China, a mid-single-digit volume growth is expected for full-year 2024 from Latin America and Southeast Asia. The company is optimistic about a gradual recovery in Deco China with a low single-digit volume increase projected.

Future Projections and Strategic Actions

Looking ahead, Akzo Nobel expects third-quarter profits to be on par with Q2. The company aims to achieve a financial benefit of approximately EUR 25 million for 2024 and anticipates an additional EUR 70 million in 2025 from ongoing operational improvements and cost-saving measures. The industrial transformation strategy, including site closures and efficiency enhancements, aims to unlock further value and align with the company’s long-term goals.

Revenue and EBITDA Guidance

The company projects full-year profit within market expectations, albeit at the lower end of their guidance range. EBITDA-associated costs due to hyperinflation were significant in Q2 but are expected to stabilize moving forward.

Working Capital and Cash Flow

Akzo Nobel’s working capital as a percentage of revenue stood at 17.3%, with efforts underway to reduce inventory levels and improve free cash flow, which was EUR 77 million for the quarter. The company plans to normalize working capital to around 13-14% by year-end, reflecting typical seasonal patterns.

Conclusion

Despite the mixed outcomes, Akzo Nobel remains committed to its growth trajectory through continued focus on organic sales growth, gross margin expansion, and operational efficiency. With strategic measures in place to counteract expenses and price pressures, the company is set on steadying its financial performance and delivering value to its shareholders.

Earnings Call Transcript 2024-Q2

[Operator]

Hello, everyone, and welcome to the Akzo Nobel Q2 Results 2024 Conference Call. My name is Chach, and I'll be coordinating your call today. [Operator Instructions]

I'd now like to hand over to Kenny Chae, Head of Investor Relations, to begin. Kenny, please go ahead.

[Kyung Chae, executive]

Hi. Good morning, and welcome to Akzo Nobel's investor update for the second quarter of 2024. I'm Kenny Chae, Head of Investor Relations. Today, our CEO, Greg Poux-Guillaume; and CFO, Maarten de Vries, will take you through our results. We refer to the presentation, which you can follow by webcast or download from our website at akzonobel.com. A replay of the webcast will also be made available following the event. There will be a Q&A session after the presentation. For additional information, please contact our Investor Relations team.

On Slide 2, before we start, a reminder of our forward-looking statements disclaimer. Please note, this also applies to the conference call and answers to your questions.

I will now hand over to Greg, who will start on Slide 3 of the presentation.

[Gregoire Poux-Guillaume, executive]

Thanks, Kenny. Good morning to everyone on the call. Our performance for Q2 showed continued growth in our underlying businesses. Organic sales growth of 2% was driven by a third consecutive quarter of volume growth against the mixed market backdrop.

Margin expansion continued at gross profit level. Gross margin was up 160 basis points in Q2 year-on-year on an adjusted level and before hyperinflation accounting and 270 points for the half year.

But adjusted EBITDA growth in the quarter was muted by higher-than-expected operating costs. Q2 adjusted EBITDA before hyperinflation accounting was EUR 411 million, keeping EBITDA as a percentage flat compared to the prior year.

Additional measures to mitigate inflationary pressure on OpEx are ongoing and will accelerate through the current quarter. We'll touch more on this later in the presentation.

We finished the quarter with a net debt-to-EBITDA ratio of 2.9x, slightly higher than the 2.7x we saw at the end of Q1, reflecting usual seasonality.

Finally, at 13.7%, we are making good progress towards bringing return on investment within our midterm guidance range of 16% to 19%.

Moving on to Slide 4. Let's look at our Q2 adjusted EBITDA and the elements that drove a EUR 30 million impact compared to the midpoint of our expectations. Volumes continued to grow in Q2, but 1% less than anticipated. This was mainly due to Deco EMEA, where growth was held back by unfavorable weather conditions, which led to a weak June. July seems to be back on track. This cost us about EUR 10 million of EBITDA.

Price/mix was flattish compared to the prior year and in line with our plans. We anticipate an improvement through targeted price increases in the second half of the year.

Raw material benefits were in line with our expectations, providing a high single-digit tailwind in our P&L. And the trend is in line with our earlier assumptions as we enter Q3.

As I touched upon in the previous slide, the main deviation from our expectations was driven by a buildup in OpEx. Even though we have signposted Q2 as an inflationary quarter, particularly due to wage inflation, we ended up EUR 20 million higher than anticipated, in part due to cost inefficiencies, which we are now mitigating.

The combination of higher OpEx and softer growth resulted in a EUR 30 million impact. While this is frustrating after 5 successive quarters with absolute EBITDA expansion, the underlying businesses are healthy from both the volume and gross margin perspective, and we are in the process of reeling in our OpEx. That, combined with our plans on pricing actions, will yield positive results in the second half of the year.

Let's now turn to Slide 5. Organic volumes in the first half were up 1%, with a 2% growth in Coatings and flat performance in Deco. Let's look at our businesses one by one. In Deco EMEA, volumes were flat, largely due to adverse weather in the second quarter that delayed the start of the exterior painting season. However, we still forecast a multiyear progressive rebound and anticipate 1% volume growth for the full year. In Deco Latin America continued solid performance in Brazil was offset by weaker demand in Colombia and Argentina.

As for Deco Southeast Asia, Q2 trends largely reflected the trends we saw in Q1, with India and Indonesia as the standout performers. Overall, we expect the combination of these 2 regions, so Latin America and Southeast Asia, to deliver mid-single-digit volume growth for the full year. The market backdrop for Deco China in the first half of the year remained lackluster. With the market recovery pushed out and easier comps into the second half, we anticipate a low single-digit volume performance for the full year.

In our Coating businesses, the momentum was robust. Geographically, our businesses are doing particularly well in North America and Asia, including China, where most of our Coating businesses grew double digits.

Despite flat markets, our Powder business delivered a robust mid-single-digit performance, including growth across all segments. And Marine & Protective, our commercial successes and technical newbuild continued. Our full year outlook for these combined businesses is unchanged at mid-single digit.

In Automotive and Specialty Coatings, vehicle refinishes was flat, excluding the impact of weaker demand in Turkey post elections. In aerospace, we were held back by production delays at our aerospace OEM customers. This was offset by strength in our aircraft maintenance business.

In Industrial Coatings, packaging continued to grow, while volumes in coil and wood stabilized sequentially. Overall, we expect the combination of these businesses to deliver low single-digit growth for 2024.

In summary, despite an incrementally tougher market backdrop, our growth momentum supports our full year projection for low single-digit growth. And while markets are not providing a tailwind, we are encouraged by the progress of our initiatives to improve execution across our businesses. More on that on the next slide.

So moving on to Slide 6. On this slide, you will find details of some KPIs delivered to date as we accelerate our industrial efficiency actions across the portfolio. Back in May, we announced the closure of 3 Deco EMEA sites. The progress made in transferring volumes away from those sites means that we are on track to complete the closures before the end of the year. It also means that we can move up the next closures that we have earmarked, and they'll be announced in due course.

I'm particularly pleased with the progress we're making on improving the efficiency of our operations, measured through OTIF, on time in full. You can see that we're making great headway across a number of our businesses, both in Europe and in the U.S. This improvement in supply chain performance is especially important in sites where production constraints have reduced our ability to fulfill customer demand.

Our industrial transformation is indeed underway, setting the stage for enhanced operational performance and helping us achieve our midterm growth ambitions. Maarten will cover what this means from a financial perspective in the next slide. Maarten?

[Maarten de Vries, executive]

Yes. Thanks, Greg, and good morning, everybody, on the call. We expect a number of the operational improvements outlined in the previous slides to accelerate throughout the remainder of this year and beyond.

This means we are on track to achieve a benefit of about EUR 25 million for 2024. And for 2025, we now expect to see an incremental benefit of around EUR 70 million, with a skew towards cost savings.

The early success of the actions outlined by Greg give us the confidence in our ability to unlock value from our industrial base. Our learnings to date have also opened the potential to drive these recurring benefits beyond the EUR 250 million ambition.

We'll keep you posted on this in the coming quarters. In parallel to these efforts, we are also working on measures to combat the inflationary pressure in our OpEx. Corrective actions include corporate overhead reduction and removing costs related to service level issues that have now been fixed. We expect these measures to allow us to course correct by the end of this year. To be clear, these measures are above and beyond the industrial efficiency program.

Moving on to Slide 8. Organic sales in the second quarter were up by 2%, and reported revenue was up by the same amount. Q2 volumes for Deco were 1% lower, while Coatings volumes were 2% higher compared to the previous year.

Price/mix contributed 1% to organic sales, although underlying price/mix, excluding Turkey and Argentina was flattish. The impact from these countries was notably higher in the quarter. The 1% positive revenue contribution for M&A in our Deco business is primarily related to the Huarun acquisition in China, which completed in Q3 last year. Currencies remained a headwind, reducing group revenue by 1 percentage point.

Adjusted EBITDA after the impact from hyperinflation accounting was EUR 400 million. This result is marginally higher than last year, as the high single-digit raw material tailwind in our P&L was offset by higher OpEx and impact from hyperinflation accounting.

Our overall EBITDA margin was stable year-on-year. In contrast to our performance in Paints, we saw continued margin expansion in Coatings, thanks to a positive contribution from both volume growth and an increase in gross margins.

Turning now to Slide 9. Our return on investment showed a solid expansion to 13.7% and puts us in a good position towards our midterm ambition range of 16% to 19%. Working capital as a percentage of revenue was 17.3% in the quarter, an improvement versus Q1, reflecting the typical seasonal pattern in our business. We are continuing our efforts to reduce inventory to normalize levels beyond this year. Our free cash flow was EUR 77 million, which showed a return to normal level compared to higher prior year comps.

And now I'll hand over to Greg to cover our outlook on the next slide.

[Gregoire Poux-Guillaume, executive]

Thanks, Maarten. So Slide 10. In summary, we're pleased with our ability to deliver top line growth and continued gross margin expansion against the mixed market backdrop in Q2.

As with previous years, we expect our third quarter profit to land broadly in line with Q2. The profit delivered for the first half of the year as well as our actions to mitigate inflationary OpEx and the additional pricing actions launched for the second half of the year means we expect to deliver full year profit in line with market expectations at the lower end of our guidance range.

I'll now hand over to Kenny, who will close with information about the coming events, and then we'll start the Q&A session. Kenny?

[Kyung Chae, executive]

Thank you, Greg. Turning to Slide 11. Before we conclude the formal presentation, I would like to highlight the date of our third quarter results announcement, which will take place on October 23.

We are now pleased to open the floor to your questions. [Operator Instructions] Operator, please start the Q&A session.

[Operator]

[Operator Instructions] So our first question today comes from Peter Clark from Bernstein Societe Generale Group.

[Peter Anthony Clark, analyst]

I've got 2 questions. One is a joint one with Deco. EMEA Deco, you pointed out, obviously, exterior paint was delayed because of the weather. I understand it's quite high margin, just wondering confidence you catch that back because I think that's in your guidance.

And then in China, in terms of the double-digit decline you saw on organic sales, just a feel for how much is volume because I know it's very competitive on pricing.

And then the second question, just to be clear. On the labor inflation in the second quarter, how much higher than expectation was that out of the EUR 20 million that you sounded out for the Q2 number?

[Gregoire Poux-Guillaume, executive]

Thanks, Peter. I'll take the first 2, and Maarten will take the third. So Deco EMEA, you're fully correct. The exterior paint is higher margin than the rest of the portfolio. It's a professionally driven sector because, well, as the season opens, that's really when the professionals start buying these products and the market really kicks into gear.

We were actually doing well in Deco EMEA for the first 2 months of the quarter, April and May. And June was really bad. And I say that very openly because July is back on track. So it's -- we're not worried about anything structural in the European Deco market, but if we want to be able to catch up on the exterior season, at some point you have to have decent weather. So as long as it doesn't rain all summer, then we'll end up catching up because what ends up happening is that the professionals will focus on interior work in when it's raining, and then we'll switch with exterior afterwards.

It's just that if it rains for too long, then you run out of runway because there's only so many professionals and then you run out of tradespeople. But that's never really happened before in a significant manner. So we were confident that we'll catch up.

Once again, July is looking okay. China, your question on China is really a Deco question. I'll point out once again that in China Coatings, we're up were up double digits in kind of low teens in terms of volumes in our Coatings businesses. In our Deco businesses, we're down, and we're down in the -- in sort of the mid-single-digit volume range. And it's a market where volumes are under pressure.

But as you said, pricing is under pressure, too. So what do we expect on volumes? We expect that the second half of the year, I mean, we have easier comps, and we're seeing a little bit of momentum. So we expect the second half of the year to be better.

We also expect that pricing will stabilize soon. And who knows if we're -- we can even hope that it'll pick up a little bit because the raw material cycle thing has played out. China is an unusual market in the sense that most of the raw material benefit has been given back to consumers. And at this point, the people that are pricing down in China are eating into their profitability. And I think that it's going to stop at some point.

So not an easy market, but a market in which we see a little bit of upside in the second half of the year, both from a volume perspective for sure and maybe pricing. But at least we expect the drop to stop. Maarten, labor?

[Maarten de Vries, executive]

Yes. So as we said, OpEx in Q2 was EUR 20 million higher versus what we planned for the quarter. EUR 10 million is coming from inefficiencies, and that's really extra costs we have made. In fact, originally, we planned for higher growth in the quarter.

So we had -- we were also high on our cost run rate including inefficiencies to support the OTIF, the on time in full delivery, to our customers, which by the way, have been fixed right now. And the other component is indeed the higher wage inflation.

So the EUR 20 million is basically the inefficiencies and the higher wage inflation. And also if you look at the total OpEx in the quarter, as we said in the presentation, it's the wage inflation component of EUR 40 million and the inefficiencies of EUR 10 million. I hope that answers the question.

[Operator]

The next question is from Matthew Yates from Bank of America Merrill Lynch.

[Matthew Yates, analyst]

A couple of questions, please. The first one maybe for Maarten just on the working capital development. I recall at Q1, you flagged the timing of Easter had an unfavorable impact on your receivables. I'm guessing you've acknowledged that demand was a bit weaker than expected which perhaps leaves you with higher inventories.

But that free cash flow of minus EUR 134 million for the first half, is that disappointing? Is there any timing or strategic issue that's been driving that? Or I guess, put another way, where would you expect us to land when all is said and done at the end of the year?

And then the second question, maybe more for Greg, just on the industrial transformation acceleration. If I compare your Slide 7 on the timing with what you previously published, it does look like some savings have been pulled forward out of '27 and more into '25 and '26.

Can you just elaborate a little bit on how you were able to achieve that? Because I do recall a conversation when the plan was initially announced that it was surprising the savings were so long dated. So I guess, it's a pleasant surprise now that you've been able to accelerate that versus the original plan.

[Maarten de Vries, executive]

Yes, Matthew, on the first question, if you look at the free cash flow development, it really follows the normal seasonal pattern, and most of our free cash flow is really unleashed in the second half of the year.

To your point on the working capital and Q1 end of the quarter, in fact, we had exactly the same this end of the quarter. So the Friday was on the -- I think, it was the 29th. So the quarter end was in the weekend, which is always unfavorable from a cash collection perspective.

But overall, working capital-wise, we ended at 17.3%. We said that we will end at the year-end at 14% or just below 14%. So that is, of course, driven by further actions to reduce our inventories. And as I said, the unleash of free cash flow will be mostly driven in the second half as we usually see.

[Gregoire Poux-Guillaume, executive]

I'll take the second question on the industrial transformation, Matthew. Yes, there is a pull forward, and we said that we'd try to execute as fast as possible.

The effects that lead to this pull forward are the first one is that if you take the 3 closures that we've announced, they're actually proceeding quite well. Two of them are in Europe. Consultations are usually complicated and socially sensitive. But there's also a more active European job market currently.

And we're also -- we've done a lot of work upstream of the announcement in terms of getting ready to ship the products. So as we look at the timing, we're able to actually close earlier than what we thought, which then frees us up to kind of pull more closures forward. Because at the end of the day, we have to manage the integrity of our delivery network in Europe, and there's only so many of these closures that we can manage in parallel. So all of it is kind of shifting forward, which is positive news, and we'll continue putting pressure on the timing, so that only amplifies.

And then the second point is that as part of these -- the EUR 250 million benefits, there is a significant cost savings, but there's also what we're calling benefits, which is the debottlenecking, for example, of our existing plants where mostly on the Coatings side, where you -- by replacing certain pieces of equipment or changing the processes, you manage to squeeze more capacity into existing assets.

And as we do that, we -- that suddenly makes actually more rationalization possible because as we get more efficient in our existing plants, as Maarten pointed out, as we fix our OTIF issues, which we've largely done at this point, then we realize that there are assets that we can do without and then we can add those to the list.

So that not only brings things forward, but that also increases the quantum, which is something that we expect to be communicating on as this thing progresses. Anything else, Matthew?

[Operator]

Our next question is from Chetan Udeshi from JPMorgan.

[Chetan Udeshi, analyst]

Two questions. First, I think you're guiding to third quarter EBITDA broadly in line with second quarter, which means to get to the consensus full year EBITDA, it sort of implies we don't see that seasonal drop to the same extent that we normally see. So can you sort of help bridge that gap versus normal seasonality? What drives that better Q4, if you will, versus what you typically see versus Q3?

And the second question, just coming back to the working capital point again. I'm just curious because we've known Akzo has had a bit more inventory and working capital than normal for the last 2 years. So I think our expectations have been that this should be on a downward trajectory. So it's a bit surprising to see even inventory tracking a bit higher than normal. If I look at your guidance of 2.3x by end of the year, it suggests that you're working -- or rather your free cash flow in H2 will be more than EUR 700 million.

So just tying all the things together here, I'm just curious why we've not seen even, let's say, stronger progress already on working capital in H1. Any comments there?

[Maarten de Vries, executive]

Yes. So maybe start on your Q4 EBITDA question. A few points to mention. I think, first of all, if you compare to last year Q4, last year Q4, we had a massive hit, a hyperinflation hit of EUR 23 million. I think it's good to remind us of that topic. That's one.

Secondly, if you look at our view for Q4 this year, then as we mentioned, we are driving a number of targeted price increases, which will become visible in Q4 as well as the course correction of our OpEx, which also will start to be visible in Q4. So a number of actions are ongoing to drive these Q4 numbers. And then you can compare Q4 more with -- and Q1 plus I would say. So that is on that topic.

On your question on working capital and inventory, it's recognized that inventory still needs to be normalized. It's not yet normalized where we want it to be. We've also indicated that. And we've also indicated that from a working capital perspective, at the end of the year, we are more or less at the 14% or just below the 14%. But ultimately, we've said that normalized working capital should be more at a 13% or even just below the 13%. So we are still in a trajectory of normalizing our inventory levels.

In your conclusion that the free cash flow needs to be unleashed in the second half is a correct conclusion, absolutely.

[Chetan Udeshi, analyst]

Can I follow up? Where exactly are you targeting price increases? Have you already announced some price increase in any of your businesses, just for knowledge?

[Gregoire Poux-Guillaume, executive]

Yes, we have. If you take Deco EMEA, for example, 25% of our business, the way that market works is that you notify the price increases 2 months before they happen. So we notified in June -- we notified at the end of April, and the cost increases come into effect in July. So that's already been done. And therefore, that's already starting to be reflected in our business.

If you take the same Deco business in Latin America, we notified price increases in our Deco business. And then if you take the Coating businesses, it's a mixed bag. Industrial Coatings are still a lot of index contracts, so there's only so much you can do, but there are areas in which we have pricing opportunities, and we've taken those.

In Marine and Protective, there's also some opportunities. So this is more kind of value-based pricing and also looking at the health of our portfolio and highlighting areas where we might be under pricing versus our potential.

But long story short is that all the price increases that we're talking about, I mean the vast majority of the price increases that we're talking about are already in the pipe, and a lot of them are already in effect.

[Operator]

Our next question is from Geoff Haire from UBS.

[Geoffery Haire, analyst]

My question has already all been answered. I don't have any more.

[Gregoire Poux-Guillaume, executive]

Thanks, Geoff.

[Operator]

The next question is from Christian Faitz from Kepler Cheuvreux.

[Christian Faitz, analyst]

Yes. Two questions, please. First of all, what is your current order book visibility? And if there are stark differences between Deco and Performance Coatings, would you mind pointing to the differences?

And second question would be, is there anything new on the Australian pipeline litigation situation?

[Gregoire Poux-Guillaume, executive]

Thanks. Order book visibility, Paints and Coatings is not really kind of a backlog business. It's a transactional business. So businesses that have an order book are, for example, Marine and Protective, where you sign multiyear delivery contracts. And therefore, if you take the Marine and Protective business, where we're guiding for mid-single-digit growth, that growth is essentially already in our order book for the next 2 years, pretty much.

So -- but that's exceptional because it's the structure of that industry. Most of our other businesses, it's orders equals revenue. So then there isn't that notion of visibility as you would have in more projects businesses.

It's just the thing in Australia, nothing new. The court proceedings have started. We'll report if there's anything material to report, but we're not expecting anything substantial before the end of the year.

[Operator]

The next question is from Alex Stewart from Barclays.

[Alex Stewart, analyst]

I just wanted to probe a little bit on this hyperinflationary expense in the second quarter. Were you expecting to book a cost in Q2? Or were you expecting that to be flat, and the EUR 11 million came as a bit of a surprise?

And in the third quarter, when you talk about flat EBITDA, should we assume that hyperinflation we charge disappears again? In other words, are we looking at EUR 411 million as the base or are we looking at EUR 400 million as the base just in context to our math because it's been very difficult for us to predict that number in the past?

[Maarten de Vries, executive]

Yes. Alex, on the hyperinflation, in fact, in Q1, hyperinflation was lower. So to your point, hyperinflation in Q2 was higher versus what we expected.

If you now look forward to Q3, the assumptions around Q3, and it's good to look at it sequentially are very much the similar assumptions as coming out of Q2. And that is how we look at Q3.

[Alex Stewart, analyst]

So sorry, just to be clear, so you're expecting roughly low double-digit charge again in the third quarter.

[Maarten de Vries, executive]

You mean from a hyperinflation perspective? Yes, we look at more or less assumptions.

[Operator]

The next question is from Aron Ceccarelli from Berenberg.

[Aron Ceccarelli, analyst]

My first question is on Aerospace. I would like to understand a little bit the different moving parts here, please, because one of your key competitor in the U.S. reported based on performance last week with record backlog. And I would like to understand the main differences as there are not many Aerospace OEMs out there.

The second one would be really on vehicle refinish. So the performance was still quite resilient. I would like to understand if there's anything that's changed compared to previous trends.

And my last question, if I can, is on your freight cost. And I would like to understand when do you guys normally reprice this contract. And was there any kind of headwind already on your OpEx coming from logistics and freight costs?

[Gregoire Poux-Guillaume, executive]

Is the last question is on logistics or freight cost?

[Aron Ceccarelli, analyst]

Freight cost.

[Gregoire Poux-Guillaume, executive]

Okay. All right. Well, let me take the first 2, and Maarten will address freight costs. Aerospace, you're referring to the comments by PPG. I might as well call them up by name. They were more buoyant than we were in terms of the aerospace comment.

The difference between us and PPG is that we're actually the market leader in aerospace. So they're a niche player, and they're strong in defense and general aviation. And if I recall their comments, they point out to defense and general aviation as markets that are doing well. And actually, those are the markets they have strong positions in. But these markets are a small part of the aerospace market.

The larger part of the aerospace market is the structural and MRO market. Essentially, it's the market for the plant OEMs -- the plane OEMs. And MRO, new maintenance and repairs, is going well. But structural, the stuff that you sell to the Boeings and Airbuses of this world, is slower for the reasons that Airbuses and Boeing have communicated on.

Boeing has the issues that everybody knows and has slowed down its production rates significantly, or at least that in Q2. And Airbus also recently announced that it had some challenges with certain suppliers and was also slowing down to some extent. So we're just a reflection of what Boeing and Airbus say because, actually, both of them, we have high market share. So that's really all it is. We're leading that sector.

And what -- I guess, what our competitor is calling backlog is -- maybe it's also slightly misleading term because it's not like you're -- it's not like Marine and Protective where you're signing multiyear contracts.

The backlog is more the reflection of these are orders that you have that you haven't delivered for whatever reason. And if Boeing slows down production, then our backlog goes up because we've got stuff for which we have commitments that we're not delivering.

But it's not necessarily a healthy thing. So I'll wrap up on Aerospace by saying it's a really good market to be in for years to come because order books are full at plane OEMs. But if you have high exposure to Boeing as we do currently, it's a more challenging market in terms of growth because we can only go as fast as our customers are able to go. So that was the Aerospace question.

Vehicle refinish, vehicle refinish, there was a slowdown to some extent in Europe.

And also in the U.S., there isn't anything that has us particularly worried. But yes, the market was less dynamic towards the end of Q2 than it was at the beginning of the year. We'll -- I don't really have anything tremendously insightful directionally to tell you. There's no particular reason why that market should not be doing well, but we did slow down and the market did slow down in the second half of the second quarter.

Maarten?

[Maarten de Vries, executive]

On your question on freight cost, I think it's important to think about it in 2 ways. You have the inbound freight and the outbound freight. And the inbound freight is as part of our total raw material basket, so it comes into our contribution margin. And indeed, from an inbound perspective, we've seen freight costs going up. And that is then also translated in how we price in the market.

The outbound freight, in fact, the inflation we've seen in outbound freight is very much in line with what we planned for this year. So the challenges are more in the inbound freight levels.

[Operator]

The next question is from Jaideep Pandya from On Field Investment Research.

[Jaideep Pandya, analyst]

I have a few questions. So firstly, if I may ask around -- sorry to ask you again, Greg, on aerospace. But I'm going to be a bit direct here.

PPG claims they are #1, and they claim that their sales is well north of 1 billion. So could you give us some more meat on the bone, if you claim you're #1 because they also have sealants?

And I want to refer you to Q1 where you had some supply chain issues. So are those issues solved? And is this just a comp issue? Or is this the fact that Boeing has slowed? Or is this that there is some lingering supply chain effect that is holding you back? Because they're making a lot of noise that they are winning share. So I just want to put to bed this debate. That's my question number one.

Second question is really -- and second and the third question are really tied together. But the second question is really around where does Akzo grow, really? Because your leverage is around 2.3x at the end of the year, if I go by your guide. Last time you did a share buyback program, your leverage was sub-1.5. So are we ruling out a share buyback for the next one year or so, especially given the fact that your share price is sub-60?

And if I compare the period of 2008 to 2014 or '15 before PPG came, the average share price was 55. So you're basically back to post-ICI, pre PPG days. So really, you should be buying your shares. But I just want to understand what's the appetite from your side.

And the last question, sorry for this, is on the OpEx. When you go back to the beginning of the year and you do your budget, how disappointed are you that you couldn't handle, what in my opinion at least, is an internal KPI?

[Gregoire Poux-Guillaume, executive]

Thank you, Jaideep. I'll take the first 2, and Maarten will take the disappointing question, which I don't think is as disappointing, but certainly, it's something that we have to tackle aggressively, and we are. But Maarten will get to that in a second.

Your aerospace question, PPG is a great company, and I have a lot of respect for Tim, their CEO. This is not a pissing contest. It's -- we're #1 in aerospace in paints and coatings, and that is demonstrable. PPG has a much wider portfolio that they sell to aerospace. And therefore, overall, in aerospace, they do more business than we do.

So yes, they do sealants and adhesives, and we only do coatings. So on what we do, which is coatings, we're the market leader, but on the full kind of aerospace accounts, they have a lot more arrows in their quiver. And therefore, they do more business.

Supply chain issues, we had some supply chain constraints in Q1. Those are resolved. There's nothing holding us back whatsoever. Any slowdown in aerospace is really just a reflection of the slowing down of rates at the OEMs. We have high market share with both of the big ones. And right now, they're struggling with the various issues that I'm sure will get resolved, but it is slowing us down too.

And that's just -- we need to go with the flow from that one. But in -- on the flip side, the MRO market continues to be active, and we're pushing in other areas of aerospace, which I think will serve us well over the longer term.

Your share buyback question, I mean the comparison on the share price, pre PPG and Elliot and post ICI is kind of -- it's apple and oranges because you had specialty chemicals. We returned a bunch of billion euros to the -- to our shareholders. What's the exact number, Kenny?

[Kyung Chae, executive]

More than EUR 12 billion.

[Gregoire Poux-Guillaume, executive]

More -- we returned more than EUR 12 billion to our shareholders. But your overall point remains valid. I'm not trying to distract from that overall point, which is that our share price is low by -- certainly by my expectations and most people's expectations.

And the question is, is our leverage ratio a constraint to our considering share buybacks? And the answer to that is that we are prioritizing shareholder returns. And therefore, we are deemphasizing M&A. We haven't made a deal since we bought that -- the Sherwin China Deco business, which was a small acquisition. But essentially, in my tenure, we haven't done a deal apart from that Huarun deal. And we actually ended up walking away from Kansai.

So we're restoring the health of our balance sheet, but we're also a really cash-generative business. And therefore, it's a capital allocation discussion, and I will end this answer by saying that when we're trading at 9 or 10x EBITDA and acquisitions usually go for a higher multiple, it's hard for us to defend not buying our own shares when we have capital to deploy.

So it's not a 2024 issue because in 2024, we're focused on getting to that 2.3. That's in our guidance. But as we look into next year, clearly, share buybacks is something that we'll seriously consider and that will be part of our capital allocation. Maarten?

[Maarten de Vries, executive]

Yes. Jaideep, on your OpEx question. Now first of all, we acknowledge that we clearly need to course correct in terms of our OpEx development. That is one. And actions are in place to make sure that we do that. And that by the end of -- basically by the end of Q4, we are again at normal run rates, which are part of our plans.

I think it's also important to realize that going into the year, we planned with higher volumes and we have ramped -- we have been ramping up also cost to support the growth. And on top of that, as I said earlier, to support our service levels, we had also inefficiencies in our cost in terms of over time, extra shifts, et cetera, et cetera, which we're taking out. So costs are too high. Actions are in place, and they will be visible for sure by the end of this year.

[Operator]

The next question is from Georgina Fraser from Goldman Sachs.

[Georgina Iwamoto, analyst]

My first question is on China Deco. And please correct me if I'm wrong, I might have misunderstood. Did you say that you expect the volumes in China Deco to be better in the second half of this year because there's an easier comparable base? And if that is the case, could you talk about any other market indicators that you're tracking that are giving you confidence that the market has bottomed?

And then my second question, it's very clear Akzo Nobel's business model from a production and sales standpoint is very local for local. Could you talk about your raw material procurement model. I would particularly like to hear about your geographical split in terms of where you're buying your raw materials from and whether that matches your sales split. That would be very helpful.

And Greg, just picking up on a comment that you made in reference to the share buybacks. You said when you're trading on 9 to 10x EBITDA share buybacks or something that you might consider. On consensus estimates for 2025, you're trading on 8.4x. So I was just wondering if we should read something into your estimates for 2025 at the moment.

[Gregoire Poux-Guillaume, executive]

I'll hand over to your last -- I'll start with your last question, Georgina. You shouldn't read anything into that. I don't look at the consensus on a day-to-day basis, especially for 2025.

My point was limited to saying that we are not trading at a very high multiple. And historically, acquisitions in this space have been at a higher multiple. And therefore, the differential of buying something we know really well, which is our own shares at a lower multiple versus buying something on which we have to do due diligence and on which we have execution risk at a higher multiple, which is external acquisitions, is -- I mean that trade-off is not very hard to analyze currently. That's all I meant by it. I'm not trying to guide for 2025 yet, but we'll do that in due time.

Going back to your questions. Your local for local question is a good question, the raw material procurement model. Procurement at Akzo is a global function, so we don't procure from within the businesses. We have a global procurement strategy as most businesses of our type do.

I think it kind of ties into some of the questions you were asking in some of your recent publications, which is that we're in a world where there's an increasing appetite for tariffs. TiO2 from China and Europe, epoxy in the U.S., And you've raised valid questions as to how big an effect are these things.

If I take the example of TiO2, Chinese TiO2 into Europe, to try to give you a precise answer, I think the exact number of our TiO2 coming from China for the European market is 18% of our TiO2 1-8, of our TiO2 need. So essentially, if you've got a tariff, you got a 40% tariff from TiO2 coming from China, then your question becomes, well, what is the impact on that 18% of my European used TiO2s procured from China?

And if you take just that 18%, that's like a 5 million impact. Now if you say, well, all of the other European suppliers are going to raise their prices because they're taking advantage of this tariff, then that becomes for all our TiO2 needs for Europe aligned to an increased price level, that becomes a EUR 20 million impact.

So I'm giving you numbers to tell you that we're -- we look at these things. We've diversified our exposure. So we never put all our eggs in the same basket. I think I commented in the past that we could have gone for more China supply in the past, but we didn't. Because we felt that we had to not only protect our European suppliers, but also protect that geographical balance, which, in a world of macroeconomic uncertainty, it's better to be agile than to be optimized.

And then beyond that, there's no Chinese TiO2 tariffs for -- going into the U.K., for example, or going to Turkey. So it's -- there's more agility, more flexibility than what you may have in mind, and we have been careful not to put all our eggs in the same basket. That made us maybe less competitive at a point in time, but that makes us more resilient and also more agile at this point in time.

And then your last question on China Deco, China Deco is sequentially improving. So we're seeing higher volumes. And we also had easier comps in the second half of the year.

Now in terms of the market health, there isn't really any great indicator of consumer spending in China picking up for home renovations. It's actually quite depressed currently so we're not banking on anything tremendous. But when we look at our numbers, we do see volumes going up.

We -- there was an element of destocking, too, because I think everybody in China got cut out by the fact that the market is soft. And we saw inventories in the channels going up in Q1, and we saw those inventories in the channel being worked down in Q2. There's probably still a little bit of that ongoing. But essentially, our volumes are sequentially going up. Did I answer your question, Georgina? I think there was a third one? Or I was...

[Maarten de Vries, executive]

The third one was similar.

[Georgina Iwamoto, analyst]

No. You answered -- you got them all beautifully.

[Operator]

[Operator Instructions] The next question is from Laurent Favre from BNP Paribas.

[Laurent Favre, analyst]

I've got a 2-part question around fixed costs. The first one on the wage side. From [ memory ] this year, you had to catch up on multiyear agreements, where in the prior years, you haven't had any inflation on wage in particular in Holland.

When we think about '25, '26, should we assume that you have already set those multiyear agreements? Or is there a renegotiation to take place into '25?

And the second part to that, you're already guiding to EUR 70 million impact from the simplification plan. Maarten, you've talked about excess savings on top of the simplification plan. So should we be assuming that in '25, you have a clearly positive outcome on net fixed costs?

[Maarten de Vries, executive]

No. Laurent, on the wage bill, it's absolutely correct that this year is a pivot point as we have been in the negotiations with the unions, which all led to a catch-up of inflation coming into this year. Our wage inflation is really high single digits this year.

What we have done is, in the agreements, we have made some short agreements until the end of this year because we know that inflation would come down to make sure that '25 comes back to kind of much more a normalized wage inflation. So that is the focus. At this moment, no promises, but that is -- that has been the rationale behind the way we have set up the negotiations. So that is on wage inflation. As you've said, for next year, we are looking at EUR 70 million of benefits from our industrial efficiency program as well as getting back to a normalized OpEx level with the actions we are currently taking.

And above and beyond, there are also a number of other actions as we laid out in terms of looking at our OpEx, looking at our overheads, looking at our productivity, et cetera. But these topics, I think we'll come back when we give guidance for 2025. But clearly, there are a number of areas where we're looking at driving more productivity.

[Operator]

We have a follow-up question from Jaideep Pandya on On Field Investment Research.

[Jaideep Pandya, analyst]

Greg, it's a question for you, and I apologize for being a bit philosophical here. But you've come from the outside into the coatings industry. And there are only 2 companies, if I may say so, yourselves and PPG, who have a, say, global presence in the Deco market, where you're present in almost all continents.

And the market leaders and successful franchises, i.e., Sherwin-Williams or Asian Paints or whatever, they choose not to participate in this strategy. So do you think that maybe it's time to reevaluate the Deco strategy and become maybe a regional champion and shed assets in areas where you don't have a critical market share or critical mass or a cost disadvantage?

[Gregoire Poux-Guillaume, executive]

Jaideep, it's a fair question. There's different models that prevail out there. What's undisputable is that you don't have to be in Latin America to be strong in Deco in Europe. You don't have to be strong in China to be strong in Vietnam or Indonesia. So there's an element of regionality, and sometimes even really just a local element. So what we're convinced of is that we have a stronghold in Europe. We have good businesses elsewhere, but nothing is cast in stone. The markets are evolving, and there's always opportunities to either double down in certain areas or to potentially exit in some others.

We look at the portfolio dynamically, and we are not defending the global integrity of the Deco portfolio by arguing on synergies that do not exist. You do have some brand power and some brand mutualization at a global level.

We use some of the marketing campaigns that we adapt from one place to the next, and that actually works quite well. There's procurement synergies that you can realize in different ways. You can also realize that by having a large Coatings business or by being stronger in a given market in Deco. So there's a lot of ways to get to the scale effects that are favorable to our business. But yes, I agree with you that we don't have to be in every single continent.

Now if you take an area like Europe, it's one market with one supply chain. And therefore, you can afford. And, actually -- it's actually beneficial to be in multiple countries, even in countries where you might not have a #1 or a #2 position because essentially, you're piggybacking off the infrastructure that you're using for these countries -- for the other countries in which you're the market leader. But in Asia or Latin America, the supply chain is very much local for local, including the manufacturing. And therefore, your point is valid.

But I'd conclude by saying that you point out to -- you point to 2 models as the kind of the virtuous models, which is the Sherwin-Williams model and the Asian Paints model, and I think you are correct. These are 2 wonderful businesses. But as you're seeing currently with Asian Paints in India, Asian Paint is feeling the heat of aggressive muscling into that market. And that is a very concentrated exposure for Asian Paints into the Indian market. So it has a lot of virtues.

But also it has some downsides. And if you look at Asian Paints' recent communication, they are feeling the heat, and they are very much a single market entity. But once again, you can -- you've competitiveness in different ways, so your point is valid. Go ahead, Jaideep.

[Jaideep Pandya, analyst]

Yes. I was just trying to follow up and ask to your point about your own valuation and also the fact that you've cost M&A on the buying side, isn't it a good time for Akzo to be a seller of some of the noncritical assets, especially if your valuation as per the financial market is, call it, 9x.

I'm just trying to understand, is there an appetite from strategic buyers for some of these periphery assets for 12, 13, 14x? I'm just throwing numbers out there, sorry for that.

[Gregoire Poux-Guillaume, executive]

I get your question, but you also know that the M&A market was completely dead until recently and certainly well into the beginning of this year. And if you look at M&A in paints and coatings, there's been pretty much nothing.

So you guys are all sitting on these calls with my peers, and you're all asking the same questions about deleveraging and share buybacks. So you have to have buyers and sellers. And right now, there aren't a lot of external signs that it's a great time to realize maximum value.

But I think that as the debt markets have reopened up and people are getting closer to their leverage corridor, and I think that's going to resume.

[Operator]

We currently have no further questions, so I'd like to hand back to Greg for closing remarks.

[Gregoire Poux-Guillaume, executive]

All right. Well, thank you very much for your time and your questions today.

The second quarter was a mixed bag. We're happy with the top line. We're happy that we're continuing to grow, that we're delivering growth for the third quarter in a row, and we're doing that at a volume level, but also at our organic sales level. And we're happy that we're continuing to realize gross margin expansion, the 160 basis points that we talked about pre-hyperinflation and adjusted.

But what we're not happy with is that we went out on a little bit of a limb betting on higher volumes, and the volumes are a bit lower than what we expected. But that gives us an opportunity to take significant cost out and to get that part of the P&L back in shape.

And as we do that, then the virtuous elements that you're seeing in the top line and the gross margin will make their way down to the bottom line. So that's the plan going forward. And we look forward to executing it and sharing the results with you. Thank you again, and have a great day.

[Maarten de Vries, executive]

Thank you, thank you.

[Operator]

This concludes the Akzo Nobel Q2 results 2024 conference call. Thank you for joining. You may now disconnect your lines.